VideoCorporate America needs to do a much better job of communicating with shareholders, a senior Treasury official has warned.
"To improve corporate behavior and to reward corporate performance, companies must improve the quality and utility of the information that all corporations disclose to investors," said Peter R. Fisher, Under Secretary for Domestic Finance, in a speech earlier this week at an American Enterprise Institute conference. "Our existing disclosure framework is not adequate."
Fisher expressed his hope that nonfinancial indicators of business performance can succeed in providing investors the information they need and deserve, where GAAP has failed. But he said it is just as important to improve the state of financial disclosure and, by doing so, provide stronger incentives for companies to disclose business performance measures.
"To succeed, I believe that we must acknowledge the insufficiency of the accountant's mindset, which animates our existing disclosure framework, and focuses on identifying facts (about the past) that are precisely comparable between firms," he elaborated. "Investors have a different mindset and focus on comprehending the probabilities of likely and unlikely future deviations from particular desired or expected outcomes. We need to remedy this mismatch between what investors are looking for and what our disclosure regime provides."
Fisher also called for resolving the historical imbalance between the information available to corporate insiders and to outside investors. He added that this gulf widened in the past two decades due to the computing, communications, and data management revolution, which has given insiders access to timely and detailed data about near-term company prospects in customer order flow, cost management, revenues, and other indicators of performance.
"This information needs to be organized and presented to investors on a systematic basis," he insisted. "Some companies are doing this. More need to do this. To provide stronger incentives for companies to make these business value disclosures we need to improve the clarity of financial disclosures."
How can this be accomplished? Fisher said we need to move beyond what he calls a false dichotomy between on-balance-sheet and off-balance-sheet.
"Shareholders and creditors need to know the real economic leverage being employed, whether through on- or off-balance devices," he elaborated. "We need a measure of all the contractually obligated liabilities — both on and off-balance sheet — and a parallel measure of all of the firm's contractually obligated revenues. Tying these together will give us the firm's contractually-obligated net-present value, a true indictor of the firm's leverage." (Read more in our January special report on off-balance-sheet financing.)
Clearly disclosing this number — which will not include hoped-for or anticipated revenues, but only those for which there is a customer contract — would create a strong incentive for companies to disclose more clearly how they plan to generate the cash flow to close the gap between expenses and revenues, added Fisher, and to disclose the measures of business performance that will indicate the extent of their plan's success.
To move in this direction, Fisher maintained that there are two challenges deserving attention. One, "the nonlinear nature of contingent claims, particularly reflected in options, poses a significant but manageable technical problem for financial disclosures. A more general challenge, affecting both financial and non-financial disclosures, is to squarely confront the subjective nature of risk," he added.
"To measure accurately the present value of the future contractually obligated cash flows we need to deal with the contingent nature of various assets and liabilities, particularly options exposures," he continued. "Simply put, investors need different facts about an option at different stages in an option's life cycle. This does not come naturally to the accountant's mindset — of looking for discrete facts directly comparable between firms — but properly understood it need not be at odds with it either. However, this information is vital for investors." (Find out more in CFO magazine's May cover story "Better Options.")
Default Rate Rises for Speculative-Grade Corporate Bonds
There's a reason they call it "junk."
While many signs point to a gradually improving economy, last month the global speculative-grade corporate-bond default rate increased, month over month, for the first time in more than a year, according to Moody's Investors Service. The default rate rose to 6 percent, up from 5.8 percent in July.
In August, eight corporate bond issuers defaulted on a total of $2 billion in debt; since January, 73 issuers have defaulted on a total of $38 billion. Compare that, though, with the 108 defaults on $120 billion over the same period in 2002.
U.S.-based issuers accounted for seven of last month's eight defaults. The largest: Horizon PCS Inc. — $470 million.
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