Social Media, the SEC and Corporate Disclosure – a Wobbly Three Legged Stool

I’m always surprised by it, but it turns out that some people actually read what I write. In my last post I wrote about the practical implications of the SEC’s recent Netflix social media investigation. In a nutshell, here’s what I said:

“…the release basically establishes a safe harbor for the use of social media which investor relations departments should waste no time in establishing as a prudent risk management tool. The SEC has said that companies should take steps to alert the market about which forms of communications a company intends to use for dissemination of material, non-public information. Therefore, adding language to a company’s web site and press releases to the effect that the company may from time to time use social media sites to disclose important information would seem to be the prudent thing to do.”

Shortly thereafter I received an email from Broc Romanek at TheCorporateCounsel.net (www.thecorporatecounsel.net) explaining his take on the issues at hand. I have a great deal of respect for Broc and will readily admit that he knows more about the ins and outs of how the Securities and Exchange Commission works and thinks about issues than I do. On the other hand, I’ve spent the bulk of my career inside public corporations and have a pretty good feel for that particular viewpoint.  I’ve reproduced (with Broc’s permission) the email exchange below because I think it is a good illustration of the two points of view on this subject.

John – on your blog about the SEC’s guidance, the CYA approach actually is problematic. As borne out on my webcast on this topic last week, I hear that the SEC Staff is not happy with those companies announcing a bevy of SM channels for which they have no real intention of using them as investor communication venues. And investors probably don’t want to be forced to track a bevy of channels for which the company doesn’t intend to provide useful info for them. It’s a loser on both fronts.

thx, broc

Broc:

I recognize that it's problematic, but it is a problem the SEC created. If I was a general counsel, and I had the opportunity to create one more layer of insulation from Reg FD claims, I would grab it. Fear of Reg FD retroactive enforcement is a giant bugaboo for many companies, so doing everything you can to lower the chance that the SEC will open an investigation makes sense.

From an investor's standpoint it is a real headache to follow multiple feeds, but most investor relations departments will take the view that it is not their job to make the analysts' job easier.

I think the CYA approach only works if the social media site is widely followed and qualifies as a recognized channel of distribution, but as more companies use social media, and CEOs become more comfortable with blogging & posting, there has got to be a way to facilitate open communication without constant fear that you will wander into the Reg FD quagmire.

John

John: I believe there is way too much paranoia about Reg FD compliance. Just because a statement may be Reg FD compliant – because a CYA channel was created – it isn’t insulated from a 10b-5 claim that the statement was misleading or omitted something, which will be the more likely result – and much more serious result – when something “material” is posted on a SM channel, particularly Twitter since it is limited to just 140 characters.

Broc

I’m not sure what all the implications of this social media stuff are, but this is probably a good illustration of the law of unintended consequences relating to governmental regulation. The SEC says its OK to use social media to disclose material non-public information if it qualifies as a “recognized channel of distribution” for communicating with their investors, but then is not happy when companies announce they intend to use them. Companies on the other hand, see this as a way to add a layer of protection so they don’t wind up in the SEC’s crosshairs when their CEO either gets carried away when writing a blog or Facebook post or writes something that they genuinely believe is not material as Reed Hastings of Netflix did.

The point of all of this should be to enhance and facilitate the flow of information to investors and allowing social media to serve as a recognized channel of distribution will help accomplish this. 

The Practical Implication of the SEC’s Netflix Social Media Investigation

Investor relations Musings has been on hiatus over the past five months as various items from my personal life – selling a house, moving back to the Chicago area, buying a new house, finishing my teaching at the Jones Graduate School of Business at Rice University – have conspired to keep me from doing much writing. However, now I’m back to add my two cents to whatever investor relations topics catch my fancy.

In the period during which I’ve been silent, perhaps the most interesting investor relations development has been the SEC’s report of investigation regarding Netflix. You may recall that Reed Hastings, the CEO of Netflix, used of his personal Facebook page to disclose that Netflix had exceeded 1 billion hours of viewing during a single month and the SEC investigated whether this constituted a violation of Regulation Fair Disclosure. The case presented a number of interesting issues. First, there was the  threshold question of whether an internal company metric such as viewing hours should be considered material, when company revenue was based on fixed subscriber fees, not viewing hours. Second, the case presented a great example of how a company, by talking about an internal company metric such as viewing hours in both public documents such as press releases and shareholder letters, and in less public documents such as blogs and Facebook pages, builds a case for the SEC that the information is in fact material. (This is a great example of how trying to be transparent can get you into trouble with regulators, but that is a topic for another day.) 

However, the SEC sidestepped these issues by giving Reed Hastings and Netflix a pass on any regulatory sanctions and using the investigation to issue guidelines on the dissemination of material non-public information through social media sites. In a nutshell, the SEC said you can do it, as long as you tell investors where to look and your social media sites qualify as a “recognized channel of distribution” for communicating with their investors. 

From my point of view, the release basically establishes a safe harbor for the use of social media which investor relations departments should waste no time in establishing as a prudent risk management tool. The SEC has said that companies should take steps to alert the market about which forms of communications a company intends to use for dissemination of material, non-public information. Therefore, adding language to a company’s web site and press releases to the effect that the company may from time to time use social media sites to disclose important information would seem to be the prudent thing to do. For example, here’s what General Electric said in its first quarter 2013 earnings release: 

“GE’s Investor Relations website at www.ge.com/investor and our corporate blog at www.gereports.com, as well as GE’s Facebook page and Twitter accounts, contain a significant amount of information about GE, including financial and other information for investors. GE encourages investors to visit these websites from time to time, as information is updated and new information is posted.”

For most companies the point of this statement would not be to establish social media as their principal points of disclosure, but rather to insulate them in the event some important piece of information slips out in a twitter, Facebook or blog post. Remember, what is considered material, non-public information is determined with the benefit of 20/20 hindsight.

Lawyers Gone Wild

To a certain degree, we are all governed by our experiences. In the case of Wal-Mart, that experience seems to include getting sued – a lot. While I was unable to get exact, recent numbers, a 2001 USA Today report had Wal-Mart stating that they were sued 4,851 times during the year 2000. Another source on the web reported that Wal-Mart was sued 845 times in federal court alone during 1999. The point here is not the preciseness of the numbers, but rather the magnitude, and the simple fact is that Wal-Mart finds itself on the receiving end of lawsuits with great regularity.

Having to deal with plaintiff’s lawyers on such a regular basis would warp the sensibilities of almost anyone and it appears that a bunker mentality regarding being prepared for lawsuits has crept into Wal-Mart’s investor relations pronouncements. How else can you explain the safe harbor language for forward-looking statements contained in their most recent earnings call?

A transcript of Wal-Mart’s third quarter earnings call shows that their safe harbor statement runs 1,316 words, or about 4 1/2 pages of dense, lawyer drafted prose. By my calculations using the transcript available on Seeking Alpha, this was slightly more than 10% of all the words spoken during the call. Interestingly, this was almost 300 words longer that their second quarter safe harbor statement, which came in at a mere 1,038 words. To get an idea of how things have escalated, their fourth quarter 2005 earnings call used a safe harbor statement containing 455 words. At this rate, pretty soon Wal-Mart’s entire earnings call will consist solely of a safe harbor statement.

I am fortunate enough that I don’t get sued with great regularity, so I may not be as sensitized to this issue as Wal-Mart is, but to me it seems like lawyerly overkill. Here’s an example:

“This call will contain statements that Wal-Mart believes are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, as amended, and intended to enjoy the protection of the safe harbor for forward-looking statements provided by that Act. These forward-looking statements generally are identified by the use of the words or phrases anticipate, are anticipating, are expecting, assume, could be, expect, forecasting, goal, guidance, guided, is expected, is planning, may affect, plan, will accelerate, will add, will be, could save, will drive, will ring, will be growing, will come, will continue, will cost, will experience, will generate, will grow, will improve, will not continue, will remodel, will see, will spend, will take, would represent, or a variation of one of those words or phrases in those statements or by the use of words and phrases of similar import. Similarly, descriptions of our objectives, plans, goals, targets, or expectations are forward-looking statements.”

The lawyer seems to have parsed through every verb that was going to be used in the call and labeled anything that could possibly be construed as future tense as forward looking. Of course, then for good measure, they throw in the phrase “or a variation of one of those words or phrases in those statements or by the use of words and phrases of similar import” which is legalese for “I can’t think of anything else, but if you can that’s excluded too”. Similarly, it appears as though a lawyer was determined to parse through every statement that Wal-Mart proposed to make during its earnings call, call out anything that could be deemed even slightly a forward looking statement, and specifically disclaim liability for it if things didn’t turn out as represented. That goes on for almost four pages. This is deadly stuff, and I don’t mean that in a positive way. I can’t image what Wal-Mart’s lawyers would do if the company actually took questions from analysts during the call.

All of this points out one of the central tensions of investor relations; the desire of IR practitioners to point out the road the company intends to pursue in order to earn future profits, versus the desire of lawyers to insulate the company from liability in a dangerous world where securities class action attorneys wait to pounce on any slight misstep. I’m not sure where the proper balance exists between these two desires, but management needs to recognize when lawyers are getting in the way of the message and tell them to cut back on the excess verbiage.

Certainly, if the lawyers are taking up over 10% of the message, things have gone too far.