Cardinal Rule: Do Your Own Analysis
There are many rules to follow in order to create a world class IR program, and one of the most important is to properly and candidly assess the business for investors. We call this doing your own analysis.
We often listen to conference call remarks that may be well written and articulately delivered, but are lacking any true self-analysis by the company. What this means is that they have surrendered complete control over the interpretation and assessment of their results to the research analysts. The analysts will, in turn, create their own narrative and there may be several competing narratives depending on how many analysts cover the stock.
Don’t “Data Dump”: When a management team simply discloses a bunch of sales and margin metrics and allows analysts to interpret what they mean for the business in the near and longer term, it creates problems ranging from confusion and frustration to continual earnings disappointments to management appearing like it has no control over the business. We call this “data dumping,” and it is the shortest path to a sub-par valuation, shareholder activism and management turnover. Some may contend that management does not always have clear visibility into the factors driving the business and needs to be careful in what it communicates to investors should they be proven wrong in the future. The fact is that someone is going to interpret your results for investors and management clearly has significant interest in shaping that narrative and ensuring it tracks as closely to their assessment as possible.
And why would a good, long-term investor – the ones that every company wants in their stock– want to own a business where the management team won’t or can’t demonstrate a firm understanding of current trends and/or communicate where it believes it is heading?
Go Back to Basics: When a company goes public or addresses the equity market for the first time, management talks about the company’s history, its current competitive advantages and areas for potential improvement, and its long-term growth plans and goals. It also tells investors what the historical financials represent and how they will evolve over time – hopefully in a conservative manner. All this is done because the company recognizes the need to generate interest in its stock for the first time.
So why do so many companies stop communicating in this manner over time? Many fail to recognize that their investor base is not a static group, and that they should be continually courting investors (and even the ones they already have). Management teams need to regularly present their stories to some degree as if it were the first time investors have heard it – in many cases it will be. And even in existing accounts, teams turnover and the company benefits from regularly re-grounding its narrative in the original investment thesis for all investors.
Taking it a step further, why would a company not offer financial targets off of which it can be judged and valued, rather than let sell-side analysts who are often not objective create the financial outlook?
The formula should pretty simple: communicate longer-term (e.g. three years out) goals or benchmarks that are supported by a detailed analysis of the current business and plans and initiatives for the future. The more credible the goals are, the higher the valuation that will be placed on them. And the more a management team can state goals and then achieve them or at least work toward them, the more credibility they will generate with investors over time.
Why would a company decide not to communicate long-term goals?
- It can’t talk about the future because the business trends are too weak to allow for any visibility. We would argue that the goal in this case should be stability, and there should be plans to achieve stability combined with a continued, candid assessment of the business.
- Management, or more often the board, is afraid of the consequences of not achieving the stated targets. In this case, we would argue that this represents fundamental misunderstanding of the operation and expectations of the market. The reality is that financial goals should be conservative and are not expected to work out perfectly every time; and as long as there are well-communicated updates, the market will cooperate and value the company appropriately. And if the goals are properly set, there should be much more of a chance to exceed the shaped expectations than to miss them.
- Management, or more often the board, doesn’t think the internal forecast is compelling enough to be communicated as a long-term plan. As the popular saying goes, “it is what it is” and it is far better to take ownership of a less-dynamic story than to leave the matter of setting expectations to outsiders. Furthermore, we are in a very low interest rate environment and U.S. equities are expected to return less than 10% annually going forward. So a total shareholder return (TSR) of even 10% could actually be compelling to investors if the assumptions used to achieve it are conservative enough. How about 7% net income growth and a 3% dividend yield for example? That might not sound like an exciting plan to a management team, but if that is the reality of the business then it might as well be effectively communicated; and when the team achieves these goals it will be in a position to have even more investors trust its message in the future.
Control the Narrative
In the PR industry, controlling the narrative in the press is always the top priority: never leave the media to define your position if you can influence it yourself. Well the stakes are just as high if not higher with analysts and investors, and quarterly earnings results and other normal events cannot be avoided; so companies must always be prepared to control as best as possible the message that analysts will deliver and investors will hear.
Conclusion: If you want to be a public company, make sure you have the right strategy and the proper resources with deep industry knowledge to analyze your business on a regular basis and deliver a clear view of your current situation and future potential. Be in control of how your company is viewed and what is expected of it going forward.
