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As the financial crisis makes companies water down their guidances, analysts and investors hit CFOs with a new level of adversarial probing.
David McCann, CFO.com | US
November 5, 2008
Shocked by the suddenness and depth of the economy's free-fall, many companies are choosing to provide less guidance on future financial performance in their earnings releases and conference calls, investor relations experts say.
Some companies that had been giving quarterly guidance are shifting to annual guidance, others that offered quarterly guidance a year out are limiting their forecasts to the next quarter, and some are withdrawing guidance altogether, according to IR consultants.
An analysis of second-quarter earnings releases by the Corporate Executive Board's Investor Relations Roundtable showed that while 64 percent of S&P 500 companies provided guidance, only a third of those were doing so on a quarterly basis. Data on changes to guidance following the third quarter, after the autumn financial meltdown had begun, couldn't be obtained at presstime, but the trend is nonetheless clear.
Simply put, many companies don't have the wherewithal right now to make meaningful earnings or top-line projections. "This has hit them very hard and very fast, and they're just in the beginning stages of trying to understand how it's going to affect their customer, market, and business," said Elizabeth Saunders, head of the capital markets group at FD Ashton Partners, a business communications consulting firm. "Most of [the financial meltdown] happened in a four-week period, and few companies are nimble enough to figure out right away that, for example, demand for product is going to drop 18 percent in Japan."
To be sure, there's significant risk in eliminating or watering down guidance — namely, that analysts' estimates may become more varied, which in turn may cause extra volatility in share prices. But Saunders, who helps clients with their earnings releases and call scripts, said that if a company can't see into the future as well as the Street expects, it should put guidance on hold.
If CFOs don't give detail on future performance during an earnings call, what should they talk about instead?
The best thing, if it's justifiable, is to portray the company's risk profile in a positive light compared to its competitors. "You've got an incredibly skittish buy-side community out there," said Saunders. "They're trying to figure out how to reallocate stocks in their portfolio and probably thinking that top-line growth is somewhat less important than lower risk."
So the CFO should explain, say, that the company doesn't need access to the credit markets because it's in cash-generation mode, has no significant capital expenditures to make, or has a credit facility that isn't slated to be renegotiated for two years. Such things aren't normally brought up in earnings calls — but times are hardly normal.
Another possible area to highlight is any expectation that the poor economy actually might produce new customers. In a recession consumers will be "trading down" — shifting to lower-end products — so it's a good idea to point out pricier competitors. "Articulate where you expect to gain ground in tough times, because everyone knows you're going to lose ground in some segments of your market," advised Cameron Doolittle, senior director of the Finance Leadership Exchange practice at the Corporate Executive Board, which provides research and other support for corporate executives.
Above all, the experts counseled, don't go into an earnings call armed simply with an updated version of the previous quarter's script. Analysts and investors will want to know what you're doing differently in the face of the financial crisis, particularly with regard to strategic planning.
"This is something new — nobody ever cared about the strategic planning process before, except the companies," said Saunders. "Now portfolio managers are asking whether you're working on a 2009 plan that reflects what you saw in the business three months ago, or are relooking at the plan in light of what's going on now."
Analysts too are trying to verify that "you're not just trying to stamp out the same formula and hoping for adequate results during the tough time," said Doolittle. "Before, analysts were just trying to fill in items on their spreadsheets, like what your tax rate was. Now they want to figure out what about a company is different, or what it might be doing to position itself to thrive in this market rather than just survive."
And they're not necessarily asking nicely. "We're seeing analysts asking more probing questions in a more adversarial posture about what's going on in some of the line items. The intensity and ferocity of the questions is something we haven't seen for awhile," Doolittle noted.
Not only do they want to know about what short-term assets you might be able to unload to meet your cash obligations, he said, they're also digging deeper into long-term investments as well, asking how accessible those are.
In fact, it behooves CFOs to boost their level of preparation across the board. In an analysis of earnings calls between September 23 and October 16, Doolittle's group identified 10 categories of questions that came up again and again, with analysts and investors seeking very detailed responses:
• Impact of market slowdown. A typical question: "Are you seeing a dramatic deterioration in export conditions in your conversations with manufacturing clients since the end of the third quarter?"
• Industry-specific environment. "Is the decline evenly split between sectors, or is it one of them that pulls everything else down?"
• Short-term growth plans. "In terms of the magnitude of these investments, will you be maintaining this level throughout the year?"
• Currency fluctuations. "What percentage of year-over-year increase is attributable to the weaker U.S. dollar?"
• Market liquidity and leasing. "Do you see any threats of ongoing purchases of capital equipment, given the economic environment and the tightening of the credit and lease financing markets?"
• Loans. "Gross impaired loans increased in the quarter. Can we expect relatively full recovery or resolution of these?"
• Supply-and-demand environment. "Are you seeing major slowdowns taking place, maybe with retailers pushing back some orders or putting projects on hold?"
• Customer credit. "Are you considering any programs to help customers with long-term payback to the company instead of them having to achieve financing on their own?"
• Product pricing structure. "How did this pricing increase come about late in the year, what was retailers' reaction to it, and how is it going in terms of implementation?"
• Sales growth expectations. "Is it fair to assume that your Q4 factory sales growth rate year-over-year will pick up, so that this will be the lowest sales growth for awhile?"