How Not to Run a Conference Call

Yesterday Al Lord, the CEO of SLM Corporation (Sallie Mae) held a conference call to reintroduce himself to the analyst community (He had previously served as SLM’s CEO and CFO). The purported purpose of the call was to bring some transparency to his role as CEO and to talk about some broad issues and goals for SLM. He certainly brought transparency to his role as CEO. What the Street saw was an executive who was by turns vague, defensive, arrogant and profane. Investors’ reactions were what you might expect – the stock traded down 20%, the worst one-day drop in the company’s history. As this is an example that we can all learn from, I thought I would dissect the call in more detail for our edification.

There were many issues that needed to be addressed on the call – a failed buyout bid and ensuing litigation, lowered credit ratings and the need to shore up capital at the company, the CEO’s recent sale of 1.2 million shares and steps needed to return the company to a growth mode following the nine months the failed buyout bid was pending. To the CEO’s credit, he raised all the issues in his prepared remarks. Unfortunately, he didn’t clearly explain any of the issues or set out concrete steps to achieve his goals. Then he acted surprised and defensive when during the Q & A session analysts tried to get a bit more specificity out of him.

Take for example, the issue of shoring up capital. According to the transcript, Al Lord said: “My goal, first goal, probably my first goal and second goal, is to strengthen our balance sheet. The deal, the unfinished deal, cost us a single-A rating. We're now BBB. First objective is to solidify that BBB, next goal is to improve it from BBB to single-A. It is very much my first priority. In order to do that, obviously, we're going to add capital …” There was nothing said about how capital was going to be added. Predictably, the first question during the Q & A session was about how the capital was going to be raised. Here’s a portion of the exchange:

Analyst: “I wanted to ask -- you're going to shore up the balance sheet. Does that mean you're going to be selling equity?”
Al Lord: “The most preferred type of equity is common equity. At this point, I'm not going to get very precise with you. The idea is to strengthen the equity, the capital count with financing somewhere beneath the long-term credit line.”
Analyst: “Do you think you would need to raise to get back to the credit rating you would like? And what are your thoughts about the dividend?”
Al Lord: “This is the last question I answer that's more than one part. We will look at the dividend in the second half of the year.”
Analyst: “Okay. And you didn't mention how much equity you were going to need to get back up to the single-A rating.”
Al Lord: “You're talking to the wrong guy. I don't know that answer.”

This exchange is a microcosm of what went wrong with the call. The first answer is vague and indirect. A simple yes would have sufficed, as the answer seems to imply that SLM will be selling equity and would prefer to sell common equity. The answer to the last question is simply a stunner in its arrogance. Here the CEO has stated that his first (and second) priority is to add capital, yet he can’t be bothered with the details. This guy used to be the CFO, so it’s not as if he came out of sales and marketing and doesn’t know his way around a balance sheet. This is not the way to inspire confidence in the market place. There are lots of ways to answer that question without giving specifics, such as “We’ve just started studying the issue, so we’re not prepared to comment on exact amounts yet”, or “There as so many variables that can come into play as we work to improve our capital structure that it would be premature to comment on amounts of equity required just yet.”

I could go on, as there are plenty of other examples of what not to do in a conference call, from failed humor to profanity, but it’s a bit like shooting ducks in a barrel – it’s way too easy, and besides, this post would be too long. The fact that the market removed $3 billion from SLM’s market cap probably says more than I can.

So, it makes for great theater, but what can we learn from the call? Here are a few thoughts:
1. Broad, rambling statements of goals don’t cut it with an audience of equity analysts. These are people whose job is to parse the details to construct models of future earnings. General statements coupled with a refusal to go into specifics will drive them nuts. If you can’t be clear and concise, it’s better not to say anything at all.

2. Tone, attitude and preparation matter. Al Lord clearly did not want to answer questions from pesky analysts and wasn’t prepared. This sends a message that he doesn’t care about his investors and is a shoot from the hip sort of executive.

3. Never, ever, use an expletive on a conference call. Before this, Jeff Skilling of Enron fame held the award for dumbest thing ever said on a conference call when he called an analyst a particular body part. Al Lord has clearly taken the award from Skilling, by ending his conference call with “let’s get the [expletive] out of here.”

On that note, I will get the heck out of here.

Investor Relations Year in Review

Like Jimmy Buffet, I sat down last weekend just to try and recall the whole year; all of the faces and all of the places, wondering where they all disappeared. Unfortunately, unlike Jimmy, I didn’t run into a chum with a bottle of rum, so I wound up sitting right here. Writing this post, I may add. Herewith a quick review of some of the more notable things I noticed in the world of investor relations this year coupled with Palizza’s Predictions for 2008:

The World is Going Electronic: The SEC ushered in the era of more aggressive electronic delivery of proxy materials in 2007. Previously, shareholders could opt-in for electronic delivery of the proxy statement and annual report. Relatively few did. Now, companies can force them to opt out of electronic delivery. The first big annual report season for this new delivery method will occur in the Spring of 2008, and given the cost savings in printing and postage involved, most companies will make economically rational decisions and force shareholders to take action if they want to receive a paper copy of the annual report. After all, investor relations reports to the CFO, not marketing. Annual report printers everywhere have to be very concerned about the disappearance of the traditional printed annual report. Companies will like the cost savings and designers of annual reports should be neutral on the subject.

Hedge Funds and Activist Investors have a Bifurcated Year. The first half of the year saw lots of activity by hedge funds and activist investors. Deals were easy to come by and the credit markets were loose. Company managements were always looking over their shoulders to see who was sniffing around. All of this came to a screeching halt in the second half of the year as the sub-prime mortgage crisis caused the credit markets to lock up. Companies that have been underperforming or that are particularly subject to financial engineering because they have underleveraged balance sheets have gained a bit of breathing room. If they’re lucky, investor relations officers will be able to focus more on the longer term fundamentals and less on the short term trading trends in 2008.

A Corollary to the Credit Crunch: Look for the M & A pendulum to swing back in favor of strategic corporate purchasers over the next year or two, until the credit hangover eases. Of course, corporate purchasers will have to try and overcome the heightened price expectation of sellers who have seen the multiples financial buyers paid over the past few years. That should make for some interesting investor relations spiels from IROs as they attempt to justify the price being paid.

The U.S. Dollar weakened throughout the year against the British Pound and the Euro. U.S. equities must look like relative bargains to investors in Europe. On the other hand, whatever gains European investors had in U.S. equities this year were probably wiped out by currency conversions back into the Pound or the Euro. (The market giveth, and the market taketh away.) Look for more interest in U.S. equities from European investors in 2008 provided they start to think the U.S. dollar is at or near the end of its slide.

Four predictions is about all I can handle, so I will close out with best wishes for a happy holiday season for all and a prosperous new year. May the markets be kind to you in 2008!

What the World Equity Markets are Telling the U. S.

Last week I conducted a workshop on investor relations in Singapore for Asian companies. It has underscored for me the fact that we live in an increasingly global village. Yes, there are cultural differences. There are also time and distance differences that sometimes make communication difficult, but the process of transferring information from companies to investors seems to be remarkably similar worldwide.

We now have publicly listed companies in spots such as China and Vietnam. These are economies that did not even acknowledge the benefits of capitalism just a short time ago. I don’t know why, but it came as a revelation to me that companies in these countries worry about much the same things that investor relations officers do here in the U. S. – being undervalued relative to their peers and the index, managements that expect everyone to love their stock, how to measure the effectiveness of IR, and hedge funds, to name a few topics. There are differences – some of the companies I spoke with had relatively low levels of public float and a number of markets were heavily influenced by speculative individual investors, leading to volatile stock price movements. My impression, however, was that many of the differences related to the equity markets being younger, and that as the markets mature and deepen, with greater levels of liquidity and professional investors, most of the differences will work themselves out of the market.

One fact came through loud and clear however – none of the companies I spoke with were listed on a U. S. exchange, and further, none of them had any remote desire to list in the U. S. The reason universally cited was Sarbanes – Oxley. None of the companies wanted to voluntarily undertake the regulatory burden imposed by the legislation. Not so long ago, it used to be that listing in the U. S. was a sign that a company had truly arrived. Today, there are growing alternatives to the U. S. markets, including Hong Kong and London, which have more attractive regulatory environments. According to the Wall Street Journal last week, more IPOs have been filed this year in London than in the U.S. (although the U.S. is slightly ahead in dollar volume of deals).

I’m not in favor of a regulatory race to the bottom, but if seems to me that the U. S. has priced itself out of the equity listings market through the increased cost of compliance with our regulations. Clearly, the rest of the world is telling us that the increased security achieved through the oversight and controls required by Sarbanes – Oxley does not justify the increased cost. To put it another way, there would have to be a tangible benefit, shown by a premium to stock valuations for companies subject to Sarbanes - Oxley in order to justify the increased cost of complying with the regulations. Companies are not seeing it, and are taking their listings elsewhere. If the U.S. intends to remain a leader in the world equity markets, it needs to take a hard look at Sarbanes – Oxley.

Road Shows and Hedge Funds

I had the pleasure last week of attending a meeting of The Conference Board’s Global Council of Investor Relations Executives. It is an organization I used to belong to when I was on the corporate side of the equation and I think they do a good job of focusing on areas of concern for large cap corporations. The meetings are a great opportunity to hear what your peers are working on, network and listen to some interesting presentations. It is in this latter role that I was attending, having arranged to have Christopher Middleton, CEO of Atlantic Equities, discuss the merits of European roadshows for U.S. companies. Atlantic Equities is the only European based sell side shop covering U.S. equities exclusively and as a result each year they also wind up arranging a fair number of European roadshows for U.S. companies. Chris did a great job laying out the rationale for going to Europe, and every large and mid cap U. S. company should give thought to visiting with European investors as a way of broadening their shareholder base and getting away from the hedge fund merry go round that so many U.S. roadshows have turned into. (Disclosure note: the author has a relationship with Atlantic Equities and therefore is not an entirely disinterested observer.)

All of this prompted me to start thinking about why it has become such a fight to see long only investors on U. S. roadshows lately. After a moderate amount of thought (you don’t want to overdo these things), my thesis is as follows: 1. The funding for sell side research has changed, 2. You (the company) are not the client of the sell side, and 3. Follow the money.

1. The funding for sell side research has changed. It used to be that investment banking paid for much of the budget of sell side research departments. When that was happening, there was every incentive for the research analyst to maintain a good relationship with the potential investment banking client and to help facilitate meetings with the type of investors the company wants to see – long only, low turnover investors. If it didn’t result in many shares being bought or sold, well, investment banking was picking up the tab, and commission structures were higher then. Of course, Elliot Spitzer has changed all that and eliminated the inherent conflicts of interest. He’s also eliminated a strong incentive for sell side analysts to help you see the kind of investors you want to see.

2. The Company is not the client of the sell side. I think corporate IR officers often lose sight of this one. The sell side has placed more emphasis than ever before on getting management access for the buy side. The major sell side shops have entire departments that can set up road shows for you, soup to nuts, on very short notice, with only a phone call from you. As a result it feels as if you are their client. After all, they’re doing all this nice stuff for you and eliminating a major administrative headache. But you, the company, are not the client, but merely a means to an end. That end is commission flow, coming from the true client, the buy side.

3. Follow the money. Today, sell side research budgets are heavily dependant upon commission flow. And because commission rates keep falling, the most important clients of the sell side are the ones that trade the most – the hedge funds. Think about it this way – if you are visiting a city for one day, you have at most, 6 one hour time slots to see investors. When the analyst and the sales desk start to talk about which investors to see, their interest is in making their 6 biggest commission generating clients happy. You might have a top 20 investor in the city that has held the stock forever, but if they don’t generate a lot of commissions they won’t be getting a call from the sell side unless you insist upon it.

So what’s a poor investor relations officer to do? There are some things that a company can do to that can make things work for both sides. First, know the investors you clearly want to see on any give roadshow, especially if they are existing shareholders, and make your desires known at the outset. Second, recognize that the sell side will have some clients they will want you to see, and reach a happy medium. Remember, the sell side is not going to the trouble to arrange the roadshow for you without the expectation of some form of compensation, which is coming from the buy side. Third, pray that the hedge funds you do agree to see do not include the obnoxious, 30 year old who thinks he can tell your CEO how run the company.

Or, alternatively, you can go to Europe, where there are far fewer hedge funds. (For more on this topic, see my article in the September, 2007 National Investor Relations Institute Update magazine entitled “Things to Consider When Contemplating a European Investor Relations Roadshow”.)

The Academic Side (or Lack Thereof) of Investor Relations

I’m happy to report that I have recently been appointed a lecturer in management to teach a class on investor relations at the Jones Graduate School of Management at Rice University. Teaching is something I’ve wanted to do since leaving the corporate world about eight months ago, so I’m delighted to have this opportunity, especially at an institution of the caliber of Rice.

Once the first blush of enthusiasm wore off, I started thinking about how to teach the class. Naturally, I immediately decided to do what all investor relations people do, which is to engage in peer comparisons. (Gale Wiley, the teacher of this class at Rice in previous years, has been generous in his advice, but I also wanted to try to get a larger picture.) I freely admit that if I could find good classroom materials and case studies, I would use them, as I had no desire to recreate the wheel. (I prefer to think of this as good research, not copying or plagiarism.) It turns out that the course on investor relations taught at Rice is the only class taught to MBA students that I could find. Northwestern, where I went to business school, chooses to teach investor relations out of the Medill School of Journalism, but beyond that I have found no other graduate school programs. There are certificate programs at several universities and a number of stand alone seminars in the subject, but no other graduate school programs that I could find.

Naturally, this started me thinking, why does this subject sit in academic limbo? Every publicly traded company has to deal with investors and is intimately concerned with its stock price, yet most business schools assume that if you just sort of throw the accounting numbers out there, the market will price the stock efficiently. What this ignores is that the stock price is a discount of future cash flows, and much of the future depends on management and their plans for the future. It is very difficult to figure much of that out without seeing management, hearing what they have to say and placing it in context. To put it another way, past performance coupled with the perception of future performance translates into stock price. The role of investor relations is to provide information both about why past performance was the way it was and what the expectations are for the future. Any finance professor will tell you that lack of information or asymmetric information leads to inefficient markets, so to put an academic spin on it, the role of investor relations is to make the market operate more efficiently by providing more information.

So perhaps this is the start of a campaign to bring more academic respectability to investor relations. When you think about the total value of stocks traded every day, it might make sense to pay a bit more attention to how information gets from companies to investors and the effect that has on investor behavior. On the other hand, it just might be the start for me of a long slide into academically obscure topics. Perhaps “Multidimensional Aspects of Asymmetric Information Flows Between Companies and Investors in the Equity Markets” would be a starting point.

WAG the Investor

A few years back there was a film called “Wag the Dog” starring Robert De Niro and Dustin Hoffman that was all about using misinformation to distract people from the real issues. I was reminded of it last week when Walgreen Co. (WAG) announced that it was reporting a down quarter. (A note of disclosure here – by virtue of having worked at Walgreens for 23 years, Walgreen stock forms a significant portion of my net worth. I am not a disinterested observer here; in fact, I am quite interested.) Walgreens reporting a down quarter is big news. You have to go back to the November, 1997 quarter to find a down quarter, and that was for a change in accounting. My data base only goes back to 1994, so I have to rely upon memory and some old notes, but in 1993, there was a down quarter caused by a charge for early prepayment of debt. It is possible that the last down quarter Walgreens reported for operating reasons was in fiscal 1987, the year the company acquired 88 Medimart drugstores in New England, and I only say that because EPS was only up $.01 for the year and it stands to reason that one or more of the quarters reported was down. You would think I would remember, as I was the investor relations officer back then, but it’s been twenty years. The point here is not my memory, however, but that it has been a very long time since Walgreens reported a down quarter for operating reasons – at least twenty years.

To further compound the bad news, it wasn’t a small miss; the Street was expecting EPS of $.47 and Walgreens reported EPS of $.40 (actually $39.65, but it rounds up to $.40). At $9.125 million per penny of EPS, that means that Walgreens missed the Street’s profit expectation by $69.39 million. Wall Street reacted in a predictable manner by trashing the stock, sending it down 15% over 3 days. So I thought that I would use this as a case study from an investor relations viewpoint: what did Walgreens publicly say, was it intelligible and could it have been done better.

Investor relations is like exercise or writing – the more you do of it, the better you get at it. Walgreens has had lots of practice talking about good news, but sad to say, they are sorely out of practice when it comes to handling bad quarterly results. Uniformly, the analysts and investors of Walgreens that I have spoken to express puzzlement and frustration with the information provided about the quarter. I also had trouble trying to understand what they were trying to say and I used to work there.

The lead statement by the Chairman concerning the problems in the quarter was: “This quarter was negatively impacted by lower generic reimbursements, combined with higher salary and store expenses, and higher advertising costs.” The release then discusses lower generic reimbursements in five of the first six paragraphs of the release, specifically using simvastatin (generic Zocor) as an example. A quick read seems to suggest that simvastatin was the chief culprit for the down quarter. After I’d spent some time working my way through the numbers, I think the generics discussion obscures the real issue.

Interestingly, when you look at the press release for the third quarter, Walgreens cites generics as having a negative 3.4% effect on total sales, more than the 3.1% they call out in the fourth quarter. So the overall impact on sales is not new. If you assume that reimbursement rates are what is being recorded as the sales price of the drug, this is an issue that existed in the third quarter, but does not appear to have affected profits. Additionally, my estimates, based upon publicly available information, of percentage of total prescription sales dollars at Walgreens represented by simvastatin is that they are less than 1.5%. So my conclusion is that this is the lesser issue, although it gets much more ink in the press release.

The second part of the statement seems to imply that higher salary, store expense and advertising were confined to the fourth quarter, but if you look at Walgreens fiscal year, growth in expense dollars has outpaced growth in sales dollars in 3 of the last 4 quarters. Clearly, that’s something they don’t want to direct you attention to in the release, but it would go a long way to explain what happened if they did. In essence, what has been happening is that over the course of the past year, Walgreen has been benefiting from a surge in prescriptions due to Medicare and a surge in gross profits per prescription as some “blockbuster” drugs have come off patent. They have been using that surge to mask the fact that they have gotten away from their traditional expense controls. Now the tide has gone out and they find themselves somewhat exposed.

Many analysts have chosen to characterize this as an expense issue and on the surface it is. But further down, this is also a management issue. Let’s consider the following: 1.) This was not the first generic drug to come off patent and become available to multiple manufacturers. Walgreens is the nation’s largest pharmacy chain and has been dealing with this issue for decades. They should have seen this coming, and been ready for it. 2.) Salary schedules are approved at the very top in this organization. If salaries have risen, it’s because that directive came from the top. 3.) Store expense is something that is reviewed at least weekly at the district level and monthly at the corporate level. If store expense was going up, people knew about it well in advance of the end of the quarter, yet it looks like nothing was done about it. 4.) Advertising dollars are not spent in a vacuum at Walgreens. The overall spend is approved right at the top by senior management.

So overall my conclusion is that full and accurate disclosure was not achieved in the Fourth Quarter earnings release. I’m not saying that Walgreens is intentionally attempting to mislead investors; it’s just that it is always easier to focus the blame on external issues than to point the finger at yourself.

The Road Show Blues

Last week’s post about the essential life skills of the investor relations professional put me in mind of roadshows, another of the great travails of anyone who has to speak with investors on a regular basis, be it sell side analysts or investor relations officers. (Believe it or not, the sell side is actually going to get some sympathy here, so read on.) The public in general, and my children in particular, tend to think of a career on Wall Street as being glamorous and exciting, but when it comes to the process of transferring information to investors, the reality is far grittier. To paraphrase Bob Dylan, I’ve often felt as if “I’m stuck in New York with the road show blues again”.

Consider the following as it relates to investor roadshows:

1. A schedule only a marathon runner could love. Your typical roadshow day may involve a breakfast meeting, 3 – 4 morning meetings, a luncheon meeting and 3 meetings in the afternoon. This is followed either by dinner (possibly a meeting) or a sprint for the airport to get to the next city. Drag yourself into your hotel room by 10:00PM. Get up the next morning and do it again. Repeat as necessary.

2. Mind numbing repetition. All road shows revolve around either a powerpoint presentation, a pitch book or a set of talking points. This means that after the first two, or at most, three meetings you’ve got your routine down and there’s not a lot going on to hold your interest as you speak. Presentations go into autopilot mode after that. I’ve done presentations where I get to the end and I honestly don’t remember much about the middle part of the presentation. Fortunately, no one was giving me a funny look at the end, so I must have stuck to the prepared remarks.

3. Answering the same questions multiple times. I talked about this in the last post, but it bears repeating: 95% – 98% of all questions asked by investors are the same, whether you are at Fidelity or a small specialty research shop. During road shows, I have, on more than one occasion, found myself beginning to answer a question only to stop and ask the investor, “Have I said this before?” That’s because, less than an hour earlier, I actually was giving exactly the same answer, only to a different investor.

4. Incredible boredom. Take all of the above and add to it the fact that you’re escorting senior management around to visit investors. That means that you don’t get to talk, because investors are there to hear the big kahuna, not some investor relations officer. So you sit there and you listen to the same presentation and the same questions over and over. If you’re lucky, you might get to answer one or two questions on topics that senior management doesn’t like to handle, such as pension accounting. They don’t make coffee strong enough for this process.

So, is there a better way? Unfortunately, probably not. In spite of the advances of technology, investors still want to have the personal touch; they want to look you in the eye and judge the integrity and veracity of what you are saying. Teleconferencing and conference calls just don’t accomplish the same thing. Institutional investors are committing millions of dollars with each investment decision and their duty to their clients demands that they meet personally with management. They just shouldn’t expect the meeting to be particularly original.