‘How to win investors over’ by Baruch Lev, Harvard Business Review, November 2011

Ben Crowley2 Blogs Leave a Comment

This article is an interesting counter to the messages coming over from CEOs like Paul Polman of Unilever and Warren Buffet of Hathaway, that producing too much information to the outside world, particularly about future performance, is not in the company’s or shareholders’ interest. This is because it encourages short-termism and adds no value to the business. Thus Polman and Buffett have ceased to provide formal quarterly earnings guidance.

It is interesting that the author is a professor from New York University, better known previously for his theoretical work on accounting issues. He disagrees with Polman and Buffett; he argues that failure to disclose information will destroy value. His views are based on the economic theory of information asymmetry, which I confess to not having heard of before. It says that when one party to a transaction has more information than another, one of the two suffers. The author compares the buying a share to buying a house; if you don’t have full information, you are unlikely to pay as much for it. I was not entirely convinced by the analogy because, if the seller of a house gave a forecast of future house prices, I am not sure that either party would benefit!

The article’s other argument in favour of forecasting sales and profit levels is the more conventional one of providing early warning systems and avoiding nasty surprises; this is more easy to relate to, though not necessarily more convincing. All depends on the accuracy of the forecasts and the quality of the results. If the results are bad it almost doesn’t matter whether there have been previous forecasts; it is just a question of how the pain is spread.

Another argument for disclosure is that it encourages a two way dialogue, that regular communication with shareholders will encourage responses from them and there will be greater understanding of their expectations and what needs to be fixed. If this dialogue takes place, it is more likely that changes to forecasts will be understood and that share prices will be less volatile.

This sounds valid in theory but it assumes the ideal that all CEOs would like to see; shareholders who are in it for the long-term, who are prepared to enter into dialogue and who will take a reasoned view of the company’s strategy. But, as was mentioned in a previous blog which featured an article on Paul Polman, the majority of share transactions are short-term and the share price is often driven by those who are constantly changing their portfolio. It is difficult to have a reasoned dialogue when – as the earlier article suggested – 70% of shareholders are changing every year. Polman’s view was that he wanted to encourage more long-term shareholders who did not care too much about this quarter’s earnings.

In the end each Board has to decide how it wants to communicate with its shareholders and it is difficult, with different corporate histories and shareholder profiles, to generalise. This article is an interesting, if rather theoretical, contribution to the debate. But I am not sure that Paul Polman and Warren Buffet will be convinced enough to change their mind.

Click here to read the article in full


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