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The SEC's new corporate disclosure rule has CFOs saying more and talking less.
Stephen Barr, CFO Magazine
April 1, 2001
Gregory Geswein feels a bit like a jilted lover. The reason: In recent months, the CFO of Diebold Inc. hasn't been getting as many calls as he had from Wall Street analysts who follow the North Canton, Ohio, maker of automated teller machines. Sometimes Geswein will even get up the courage to call one he hasn't heard from lately. Not for a heart-to-heart, just to see if there are any questions.
"It's hard to get used to not hearing from some sell-side analysts on a weekly basis," he confesses.
As Geswein sees it, his phone isn't ringing as much, because of Regulation FD (Fair Disclosure), the new Securities and Exchange Commission rule that prohibits executives from feeding market-moving information to select individuals. It's not that Diebold has tried to freeze out analysts or major investors, as some companies have done. Rather, Geswein surmises, it's that Diebold is giving the Street more information than ever before.
Since October, when the regulation took effect, the company has disclosed additional performance data
in its quarterly earnings releases and conference calls. More significantly, it has begun to provide explicit forward-looking guidance, spelling out management expectations in bullet points: an earnings range for the upcoming quarter and full year, for example, or a revenue growth rate.
And one more thing: A disclosure policy statement on Diebold's Web site notes that executives will steadfastly refuse to review analysts' models, comment on estimates, or indicate whether the company is on- track to meet its targets--except in a public forum. "We're shoving out more information, but the Street knows that it won't get any more than is already out there," says Geswein, who joined Diebold in March 2000. "Our approach [to FD] has been to disclose our guidance to everybody: Let's guide the Street, rather than let the Street guide us."
In other words, the curious effect of FD has been to make Diebold more open and more tight-lipped at the same time. Just as telling, CFO spoke with a dozen finance chiefs and investor-relations officers and found that they all have responded to the new rule in similar ways.
Reg FD is perhaps the most closely watched and hotly debated new securities rule in years. A pet project of former SEC chairman Arthur Levitt, FD was a response to his concern that executives would freely tip off analysts about the company's earnings prospects without disclosing the news publicly. Before he retired in February, Levitt deemed the rule a success. "You are now privy to the same information, and at the same time, as analysts, investment bankers, and every other professional on Wall Street," he told attendees at his 43rd and final town hall meeting for small investors.
There is no question that Reg FD has spurred companies to issue more press releases, file more 8Ks, and increase Web-casting of earnings calls in recent months. But while critics of the SEC rule acknowledge the increased volume of disclosures, they are skeptical about the quality of the information. "More dreck," says Boris Feldman, a securities lawyer at Wilson Sonsini Goodrich & Rosati, in Palo Alto, California. "Is the market better informed? Of course not. There's more transparency, but less meaningful information."
Others have gone so far as to blame the new regulation for a record number of negative preannouncements of earnings--nearly 800 in the fourth quarter. Because analysts are less likely to be told on the QT to shade their estimates, companies must go public when their earnings are off-target. Such surprises tend to make stocks move more dramatically.
"Analysts will tell you that companies are much less forthcoming," says Stuart Kaswell, a senior vice president of the Securities Industry Association (SIA), a trade group in New York and Washington, D.C., for Wall Street firms. "The chill has occurred exactly as we predicted."
If that can be proven--the SEC and the SIA are conducting research on the effects of FD--such fear-mongering could become the basis for efforts to lobby Levitt's successor to rescind the new rule. "There is no assurance that the people who lost the battle to stop FD will not try to roll it back," says Jay Perlman, associate general counsel of The Motley Fool, a Web site for individual investors that has rallied its members in support of FD.
In the meantime, Reg FD has been subtly reshaping the disclosure landscape in ways that will likely be permanent, no matter what happens in Washington. Here's how.
Guidance. Finance chiefs and IR specialists have found FD to be strangely liberating. Like Diebold, many of the companies contacted by CFO have started to comment in their public disclosures on future quarters. Doing so permits executives to reiterate these projections in conversations with analysts and investors, yet avoid the verbal sparring about the accuracy of the Street's expectations.
"The more you can release, the more you can talk about that information," Geswein observes. "Before, analysts would ask us if we were comfortable with their range [on Diebold's estimated earnings]. Now we give them our range."
Nevertheless, finance chiefs continue to face that dreaded end-of- the-quarter question: How are things going? "Analysts still ask that question constantly, but the safest approach is to say nothing," says Kevin Michaels, CFO of Powerwave Technologies Inc., an Irvine, California, manufacturer of wireless equipment. "It cuts down on the reasonable flow of information, but the fear is that the most innocuous thing might be construed as a selective disclosure."
But there is a difference between being more cautious about what is said and using FD as an excuse to clam up. Most notably, Gillette Co.'s board told executives to stop providing short-term forecasts in order to shift investor focus to the company's long-term strategic goals. In light of FD, the board's concern, as Gillette president Edward DeGraan put it during a conference call in January, "was moving us off of a quarterly beat and getting too involved in the guidance process." That Gillette has come in below analyst expectations for several quarters may have also been a factor.
Private Meetings. CFOs say they remain willing to speak privately with analysts and investors, but are scrupulously refraining from saying anything about the current quarter. (FD gives companies 24 hours to put out a public statement if there is an accidental release of market-moving facts to a few.)
"We still do individual visits," says Michael Lehman, CFO of Sun Microsystems Inc., based in Palo Alto, "but now we can say, 'You know, we can't talk about the quarter.' [FD] gives us a legal means for not having those discussions."
Making presentations at investment conferences has also become less troubling, because of the growing number of these events that are Web- cast. But participating in breakout sessions with individual analysts and investors still causes consternation for some. FedEx Corp., for one, has deliberately cut down on meetings with the more-established analysts who follow the company. "If someone is new to coverage, I would tell them where to find information and talk about our long-term strategies," says investor relations vice president James Clippard. "But I'd be hesitant to do a one-on-one, because you may want to know only how the current business is, which is not where I want to go."
A number of companies have gone so far as to establish a quiet period to restrict access to executives for the weeks prior to the earnings release. That way, nothing accidentally slips out.
Preannouncements. According to First Call/Thomson Financial, negative preannouncements were up 85 percent in the fourth quarter, the first since Reg FD took effect. Was the weakening economy to blame, or was it a sudden unwillingness on the part of executives to walk the Street down to an earnings expectation that could be met? "It's now safer to preannounce than to jawbone analysts if estimates are too high," says Chuck Hill, First Call's research director.
Indeed, many companies that now give more explicit guidance on earnings also have a stated policy that they will issue a public disclosure as soon as that outlook changes. And they find this new approach empowering as well. Management is more in control of the flow of information, good or bad, rather than in a position of having to curry favor with analysts. And such control, says Geswein, bodes well for management credibility.
In his case, it wasn't easy watching Diebold's shares fall 15 percent after a preannouncement in mid-January that fourth-quarter earnings would be about 49 cents per share, below the 52-to-56-cent range set in its third-quarter release in October. But it meant keeping a promise to issue a public disclosure when the company's performance wouldn't meet the previous guidance. "We'd given an earnings range and detail around that, and once we knew we wouldn't be in the range we'd given the market, we put out a preannouncement," Geswein says. "My view is it's coincidental that you have FD and so many preannouncements. The issue is credibility, and openness helps build credibility in the long run."
Information Updates. The advent of FD has spurred many companies to use the Internet to provide broader and more frequent disclosures that, in many instances, go beyond earnings guidance and include key nonfinancial performance metrics.
"We're now releasing more timely and useful information so investors can build their models and make a reasonable judgment about the company," says Steve Warnecke, CFO of Denver-based Frontier Airlines Inc., which began posting monthly data on load factors and revenues and costs per seat-mile last November. "Those are the three numbers that matter if you want to figure [out] our monthly earnings."
Others that have gone in the same direction include San Francisco based Chevron Corp., which in December released interim performance data on oil and gas production for the first two months of the fourth quarter. Similarly, Xilinx Inc., a San Jose, California, semiconductor firm, now posts a monthly business update on the first two months of the quarter that indicates which projections may or may not be on track.
But certainly the most unusual approach to expanding disclosures is that of Expeditors International of Washington Inc., a global logistics firm based in Seattle. Since FD took effect, any questions about the company must be submitted in writing; the written responses to inquiries about the quarterly results are available on the company's Web site within 48 hours, while answers to other business questions are posted on the first business day after the 15th of the month.
"Rather than give ad hoc responses in a conference call, we are able to do research and put out substantive answers to everybody at the same time," says Expeditors CFO Jordan Gates. Comments posted in January cover such topics as derivatives accounting, competitive pressures, and the impact on the business of normalized trade relations with China. "Our goal is not to be more talkative, but to provide more meaningful information."
Volatility. None of the CFOs or IR directors we contacted attributed any volatility in their stocks to Reg FD. But critics insist that it has been a factor in recent market swings. "It's creating considerably more volatility in share prices, because management cannot give guidance on earnings estimates as it did in the past," says James D. Parker, a growth-airline analyst at Raymond James & Associates, in Atlanta. "We don't have less access, but executives are much more cautious with the information they provide."
Parker notes that this past December, some of the airlines he follows experienced weather-related disruptions. Concerned about the impact, another analyst lowered his earnings estimate on Atlantic Coast Airlines Holdings Inc., and the stock fell. As it turned out, earnings came in within the company's previously established range, just one cent below the Street consensus, and the shares have since rebounded. But Parker sees a painful lesson. "Volatility is caused by uncertainty," he argues. "In the past, they might have talked to us about their assumptions and I could have said that [the lower number] was incorrect. They're one cent off the consensus, but the stock gets clobbered in the interim."
The Imperative to Communicate. For the most part, CFOs find it hard to dispute the notion of fairness that's at the heart of the new SEC rule. "Talking the Street up or down was always unethical," says Ken Goldman, CFO of Siebel Systems Inc. "All FD does is clarify that these selective disclosures are not allowed."
But for many, it also puts an enhanced premium on communications. "It's in our best interest to be visible--to visit with analysts and investors and to put out as much information as possible," says Thomas Ryan, CFO of Scottsdale, Arizona-based Allied Waste Industries Inc., which in November expanded the disclosures on its Web site, and in December Web-cast a conference call to discuss its 2001 outlook.
"We're driven by the premise that our securities will trade better if people have more information," adds Ryan. "FD makes for a fairer marketplace, and I would endorse the notion that communications takes uncertainty out of your stock. It's a good thing to keep investors informed in good times and bad. If that happens, then FD will have a positive effect."
Stephen Barr is senior contributing editor at CFO.
In January, Thomson Financial/Carson Global Consulting surveyed its corporate clients about what policy changes or other adjustments they have made to comply with Reg FD. Below is a sampling of the results:
WHAT CHANGES HAVE YOU MADE DUE TO REG FD?
HOW HAS REG FD AFFECTED YOUR RELATIONSHIP WITH BUY-SIDE AND SELL- SIDE ANALYSTS?
HAVE YOU ADDED INFORMATION TO YOUR QUARTERLY EARNINGS RELEASES, SUCH AS GUIDANCE?