The Readers Vote

I’ve been writing this blog for about 18 months now and being a trained MBA, thought it would be a good exercise if I went back and reviewed the statistics around what people preferred to read.  After all, “If you can measure it, you can manage it”.  Besides, I thought some of my readers might find it interesting as well.  Additionally, if you are relatively new to the blog, there might be something I’ve written in the past that may be useful.

After 18 months of building up a readership base, Investor Relations Musings draws between 800 – 1,300 readers per month, which when you consider that there are only approximately 6,500 publicly traded companies in the U.S., isn’t bad.  More surprising to me, is that during those 18 months, I’ve had visits from 77 different countries, with any given month drawing from 30 – 35 different countries.  Although the vast majority of readers come from the U.S., 5 of the top 10 countries visiting the blog come from India, China and the Far East.  

When I examined the most popular posts, I found that the interests of readers were evenly split between humor, practical advice and the disaster of the moment.  Herewith a look at the top 10: 

1.  Essential Life Skill for the Investor Relations Professional, September 18, 2007.  A humorous look at what you need to survive in the profession, with tips about how to learn to talk with your mouth full.

2. Starbucks Grande Mistake, January 31, 2008.  My take on Starbucks decision to stop disclosing same store sales.  It turns out that people love to read about brand name companies.

3.  Why Not Just Tell Us Why You Fired Him?, October 14, 2008.  When Walgreens CEO was dismissed by the Board but it was gussied up as a “retirement”, my thought was that investors deserved better information about why he was fired and what it meant for the future of the company.

4.  Road Shows and Hedge Funds, November 12, 2007.  A look at the practicalities surrounding why sell side firms set up road shows with lots of hedge funds on the guest list.

5.  How Many Investor Relations Officers Does It Take to Change a Light Bulb?, June 8, 2007.  This one combines humor with thoughts on what it takes to be good at investor relations.

6.  How Not to Run a Conference Call, December 20, 2007.  Commentary on Sallie Mae’s disastrous conference call.

7.  What is Investor Relations Worth?, August 20, 2007.  The first of a series of posts pointing out the research that attempts to quantify the value of investor relations.

8.  Principle Based Disclosure for Investors, September 5, 2007.  Some thoughts on how to simplify the maze of regulations surrounding disclosure.

9.  How to Read 10K and 10Q Reports, September 10, 2008.  CVS Drugstores was a poster child for how investors can use the year over year change in language in 10K and 10Q reports to raise interesting questions.

10.  Blogging and Investor Relations, June 16, 2008.  Every IR officer wants to know about blogs, but nobody wants to do one (except Dell). 

If you haven’t had a chance to read these posts, I hope you’ll give them the once over.  As always, I will strive to be interesting, informative, opinionated and occasionally humorous. 

Starbucks and Disclosure of Same Store Sales

Last January, Starbucks announced that it was no longer going to provide same store sales numbers to investors as it executed its turnaround strategy.  At the time I said it was a mistake (see my post “Starbuck’s Grande Mistake” January, 31, 2008) and I still continue to think so.  But it’s been almost a year and I thought I would go back and see what Starbucks has done on this single, but important, disclosure item.

On a quarterly basis, they’ve been true to their word.  In the third quarter of 2007, before the ban on disclosing this metric, Starbucks’ press release mentioned comparable store sales 11 times, including citing the percentage increase as a highlight.  The 10 Q report for the same period mentioned comparable store sales 16 times.  (Lest anyone out there think that I am a geek sitting here counting words, let me assure you that my computer performs this task much better than I can.  It’s extremely useful when comparing one period’s reporting to another.  See my post “How to Read 10 K and 10 Q Reports, September 8, 2008.  I may be a geek when it comes to investor relations, but I’m not a total geek.)

Now move forward a year to the third quarter of 2008.  Starbucks’ press release only mentions comparable store sales twice.  The first time, in discussing sales results, they say: “The company’s lower than expected revenue growth was driven by continued slow traffic trends in the U.S., which resulted in a mid-single-digit decline in U.S. comparable store sales, and was a slight deterioration from the second quarter.”  So now Starbucks has taken away a lot of discussion and precise numbers from a year ago and replaced it with ambiguity.  If I’m an analyst and I hear “mid-single-digit”, my reaction, fair or otherwise, is that the decline is in the upper end of that range.  In the same release, of even more interest, is the way Starbucks phrases things when discussing their targets: “These targets reflect the company’s current assumption that fourth quarter company-operated comparable store sales trends will remain relatively stable with the third quarter.”  As someone who has written his share of press releases, I’ve got to admire the way Starbucks took a trend of mid-single-digit declining comparable store sales and made it sound stable.  In a fashion similar to the press release, the 10 Q report for the same period only mentions comparable store sales 3 times without citing a specific amount.

So when I went to this year’s Fourth Quarter Press Release and Annual Report on Form 10 K, I expected to see a similar dearth of discussion surrounding comparable store sales.  To my surprise, I found that this year’s 10 K actually has more mentions of comparable store sales this year (22 vs. 20), while the Press Release saw a moderate decline in mentions from 13 a year ago to 9 this year.  Not only that, but both the release and the 10 K filing mention specific numbers when discussing comparable stores sales. It was one of those moments when you lean back from your computer screen and go, “Huh”.  It also meant a lot more work, because now I had to go through the 10 K filing in detail to try and figure out what was going on. What I found was that this year’s Management’s Discussion and Analysis contained slightly more mentions of comparable store sales than in last year’s report, while everything else in the filing was pretty much the same year over year.  It was as if Starbucks had never changed its mind on disclosing the metric.

Obviously, I’m not privy to the internal discussions Starbucks has when preparing their securities filings, but, in my opinion, one of two things happened: either the accountants and the lawyers simply marked up last year’s 10 K and nobody else paid any attention to the filing (unlikely given that the 10 Q reports had significantly fewer mentions of comparable store sales) or the lawyers finally got some backbone and said something along the lines of, “Look, this number is so important and the trend is so significant, that you have to disclose it and talk about it.”  I wish I could have been a fly on the wall during those discussions.  Whatever the reasons, I am glad to see that the company is disclosing such an important number.  It would also appear that the company is continuing to discuss comparable store sales, as they discussed them at an analyst conference yesterday.

The takeaway for investor relations professionals for all of this is that you can’t hide important metrics about your company when the trend turns bad.  When Starbucks stopped disclosing same store sales numbers it was just as the numbers were headed south after many years of strong positive sales growth.  If the numbers were important when they were good, they are important when they are bad.  All Starbucks did was postpone the inevitable to the end of the year.  It was very short-term thinking on their part to think that they could spin the issue when it revolved around such a key number.

Some of My Favorite (IR Website) Things

Now that Thanksgiving is over, I thought that I would get in a Christmas holiday mood by listing some of my favorite (IR website) things. (Obscure fact of the day: The song “Some of My Favorite Things”, was sung by Julie Andrews in the movie The Sound of Music during a Summer thunderstorm, although it is now mostly associated with the holidays due to its optimistic lyrics.)  I’ve been working on a project lately that scores investor relations websites and it’s given me the opportunity to view many companies’ efforts in this area.  Overall, it seems as if investor relations web sites are becoming more robust.  I’ve been impressed with the variety and ingenuity exhibited on some of the sites I’ve seen.

As you might expect, not every site does everything, so for the benefit of those investor relations officers that don’t have time to conduct a review of other web sites, I thought I would list some of my favorite features:

Charting – there are lots of charting sites available, but some things can be done better on the company page.  For example, interactive charts with links to events and press releases are very helpful.  Many times I’ve stared at a stock price chart with a big dip or rise and wondered, “What happened here?” An interactive chart that leads you straight to the event saves a lot of time and effort.  Another helpful feature is being able to specify an exact time frame for your chart.  After all, most investors don’t invest on the exact day necessary to fit into the standard time range specified on most web sites.  I also found that charts that let you specify other companies to chart against very useful, although I’m sure many companies are not thrilled about having their competitors charted on their site.

I also found sites that provided a glossary helpful.  Every industry has its acronyms and special catch phrases and to the extent these can be explained and accurately defined, a lot of questions and head scratching can be eliminated.  In retail, for example, a common measure is same store sales, but many companies calculate it slightly differently.  A clear definition of how the measure is calculated can save IROs a lot of heartburn.  Along similar lines, another interesting feature I came across was a page that discussed other, non-company indicators as they may affect the company.  An obvious example, (I live in Houston) is the link between the price of oil and the performance of the oil companies.  Other companies have exposure to things such as inflation, commodity prices and consumer spending to name a few, and a page where companies gather the data and discuss their outlook on these trends is quite useful not only as a data source, but also as an additional insight into how the company thinks about how it is linked to the greater economy.

Finally, while most companies today provide links to their recent earnings conference calls, very few provide a transcript of the call.  Although you miss the tenor of the speaker’s voice when you rely upon a transcript, it is a more time efficient way of reviewing a conference call.  It would be fairly simple for most companies to post a transcript and save us all the additional hassle of going over to the Seeking Alpha web site to get it.

There are still plenty of IR sites out there that look as if the task was simply handed off to a third party provider with the lowest price option selected (frequent readers of this blog will know that I am generally incapable of writing a post without saying something critical), but overall my assessment is that the amount of data being presented is increasing and the ease with which investors can use the information is getting better.  So, from an investor relations standpoint, things are improving.  Now, if we could only say that about the economy…

Putting a “Hook” into Your IR Message

In the music business, received wisdom is that a song needs a “hook” if it’s going to be a number one hit.  In other words, a song has to have a memorable thought, idea or catch phrase so that listeners will remember it.  The idea translates well into much of what we do in investor relations.

Yesterday Robin Tooms of Savage Brands and I put on a Webinar entitled, “Attracting Investors with a Strong Financial Brand".  For me, it was an opportunity to step back and think about some of the more strategic aspects of investor relations. In IR we are often consumed with the tactical issues; the latest earnings release, the next investor conference, the endless minutia of analysts’ questions and the like, and we fail to put things in a framework that help investors understand what our companies are all about.  Thinking of your company as a financial brand helps to put your company in a context where many of the things your firm does fall into place and help explain one another. 

Some companies have such strong cultures that their financial brand is easy to see. The example I spoke about on the Webinar was Wal-Mart.  Everything Wal-Mart does is predicated on delivering the lowest possible price to their customer.  Their philosophy is simple – if you deliver low prices to customers, they will shop in your stores in large numbers and you’ll make lots of money.  Once an investor understands that this low price philosophy permeates everything that Wal-Mart does, they have a much better understanding, not only of the financial implications (gross profit margins low, SG&A even lower), but also how Wal-Mart gets there through its relationships with suppliers, cost containment and even their passionate anti-union stance. 

Sometimes it’s not quite as obvious and it takes a little thinking about how you should be positioning the “brand”.  When I was at Walgreens, the stereotype of the company was that it was just a drugstore chain, which as all the analysts knew was vulnerable to: (pick one, depending on the decade) combination supermarkets/drugstores, deep discount drug stores and Wal-Mart and hence could not possibly be competitive on price. In addition, nobody could understand why the company was building so many stores so close together, as there were already plenty of drug stores in America in retail shopping centers.  (As an aside, allow me to add that Wall Street analysts are notoriously bad at strategic thinking about companies.  Companies that allow Wall Street to set their strategic agendas are almost certainly doomed, as they will be buffeted by the latest trends taught in business schools unrelated to the hard facts of the marketplace and the company’s underlying culture. (See my post, “When Culture Meets Financial Theory” from September 24, 2008.)  It’s even worse than when the company brings in a bunch of consultants to help set the future course of the company.)  The response, or “brand message” to all of this was simple: Walgreens sells two things – healthcare and convenience.  When put into that context, much of what Walgreens was doing became more understandable.  The competitive response to the various retail formats, all of them big box retailers, was to be more convenient.  This explained why price, which Wal-Mart has used so effectively on most competitors, was not as effective on Walgreens, because Wal-Mart, with their giant stores, just wasn’t convenient.  It also explained why Walgreens was building so many stores – you needed to be close to the customers in order to be convenient.  And it explained why Walgreens wasn’t buying a lot of the existing drug stores, as those stores sat back in shopping centers right next to the supermarkets and were not as convenient as the new stores Walgreens was building on busy street corners.  The list goes on, but I think you get the idea.  Walgreens stated what made it unique and used it to explain many aspects of its operations and philosophy. 

We operate in a time when our message to investors is at risk of becoming ever more fragmented as the means of delivering it proliferate.  Think about Twitter – how do you convey a coherent message in 144 characters or less?  Either that or we run the risk of becoming increasingly bland as Reg. FD forces companies to be relentlessly on message.  If you can go beyond the tactical considerations of what the regulations require to be disclosed and whether or not something is material to provide a coherent context to your company – a financial brand – you will help your company and increase your value to investors. 

Either that, or you’ll be ready for a career in marketing…

The Curious Effect of Falling Stock Prices on Diluted EPS

As I’ve watched companies report earnings for the quarter that ended September 30^th, I’ve noticed a strange phenomenon – companies are getting help to their Diluted Earnings Per Share line from falling stock prices.  It’s no secret that the stock market has been brutal over the course of the past six months, and company equity values have taken a beating.  But there has been one small side benefit to the decline in stock prices.  Of course, companies won’t come out and tell you what it is.  You have to be a pretty savvy investor and know your way around a company’s financials in order to figure it out. 

Here’s how it works:  many companies have issued a large number of options over the last decade and have a large number of options that go into the diluted earnings per share calculation.  To grossly oversimplify things, the more options a company has outstanding and the deeper they are in the money, the greater the number of shares in the denominator for purposes of calculating diluted (as opposed to basic) earnings per share.  So far, so good, as long as the stock price moves in a smooth fashion.  However, when you get a steep drop in the stock price, many of a company’s options go under water.  When an option’s exercise price is above the fair market value of the stock, the options are excluded from the diluted earnings per share calculation, and they are anti-dilutive.  (This sounds to me suspiciously like anti-matter, but I don’t think accountants are that imaginative.) The result is that companies with large numbers of stock options and steep price drops in the stock price wind up with fewer fully diluted shares in their diluted EPS calculation and hence a higher diluted EPS number.  Good luck getting them to fess up to that however, they do their best to bury the calculations deep in the 10K or 10Q.

Sometimes the numbers can be startling.  A few years back Microsoft had 649 million shares excluded from the calculation of diluted EPS because they were anti-dilutive.  Talk about a big overhang on EPS if the stock price ever recovers.  More usually, the anti-dilutive effect is smaller, say one or two cents per share in each quarter.  The point here is two-fold: first, in Wall Street’s eyes, one or two pennies per share per quarter is a lot; when companies miss by that much, they get punished; and second, this is a non-operational benefit that companies are getting due to the bear market.  Companies are quick to tell you when non-operational issues hurt the EPS line, so why do they stay so quiet when it runs in their favor?

Finally, as long as I’m on my soapbox, where have all the highly paid Wall Street analysts been on this issue?  I have not seen a single analyst report that mentions this.  So here’s some advice to all my sell side friends – when diluted and basic EPS suddenly start looking the same where in previous years diluted was lower than basic, the company is probably getting some non-operational help from anti-dilutive options. Things aren’t as good as they seem.

Now, just like anti-matter coming into contact with matter, I will disappear.

Greek Classics Revisited

For those of you who may think that the current financial crisis is unique, I would submit that this type of drama goes all the way back to ancient Greece.  In many ways, what we are seeing resembles the Iliad (minus the blood, gore and interventions by the gods, but otherwise pretty close).  Before you claim I’m totally off my rocker, consider the plot of the Iliad:

Agamemnon and Achilles quarrel over the distribution of riches; Achilles goes off to sulk in his tent; the war goes on without Achilles; Patroclus, Achilles friend, goes off to fight pretending to be Achilles; Hector slays Patroclus; Achilles slays Hector; Achilles and Priam, Hector’s father, weep together at Hector’s funeral.

Now consider the current financial crisis:

Congress and the Treasury Department quarrel over the distribution of the $700 billion rescue package; the House of Representatives goes off to sulk and refuses to pass a bill; the crisis goes on without Congress, with the equity markets declining by record amounts the day after Congress fails to pass the package; Paulson and Bernanke attempt to quell the financial markets without the backing of Congress; the markets collapse worldwide; Congress passes a rescue bill that limits some of the damage done and finally, Congress holds hearings and weeps over the failure of Allen Greenspan to warn of the dangers of the deregulation in the financial markets.

It almost makes you think that there may still be Greek gods out there staging all of this for their own amusement.

Just to top this analogy off, students of Greek literature will remember that the Iliad was followed by the Odyssey.  This means that we will still have to deal with the Sirens (think about all those pitches for alternative investments that could diversify your portfolio), witches that turn men into pigs (think about what’s happened to your 401(k) account lately) and navigating between Scylla and Charybdis (found any good place to put your money yet?).  Oh, and by the way, it took Odysseus ten years to get back home.

On that happy note I will bring this post to a close before I sound like a Greek chorus.

Looking at Fact Patterns

The image investor relations people have of investors is that they sit at their computer monitor all day long and review spreadsheets.  The reality is more complex, but many of the most astute investors I know rely as much on tangible fact patterns as they do on crunching the numbers.  A portfolio manager that I have great respect for once told me, “When you hang around this industry long enough, you come to recognize certain fact patterns as red flags that merit greater scrutiny”.  Here are a few that I have encountered over the years:

Sudden Departure of Key Executives

This is most visible when the Board replaces the CEO (See last week’s post, “Why Don’t They Just Tell Us Why They Fired Him?”), but it’s probably just as important when it involves the COO or the CFO.  If a COO leaves unexpectedly, it usually signifies either that the CEO thinks he could run the operations better himself, feels threatened by the COO or there is a strong divergence of opinion between the CEO and the COO on the direction of the company.  None of these is usually good for the investors.  If a CFO leaves unexpectedly, it raises questions about internal controls and accounting systems.

A Sudden Influx of New Executives from Outside the Company

Usually this means trouble as new executives struggle to fit into a corporate culture, or worse yet, try to replace the culture with their own.  For example, one only needs to look at the people Bob Nardelli brought into Home Depot.  They were all performance driven in a GE way, whereas the Home Depot was centered around customer service and decentralized management at the store level.  The result was stores that dropped the ball on customer service and a stock price that went nowhere for a decade.

Constant Turnover in the Executive Ranks

Almost every company will try to tell investors that they have a stable of executive talent that has long tenure with the firm.  These statements usually run along the lines of “Our executive management team has an average of X years with the company.  What they won’t tell you is that they are the ones defining the measurement pool.  What this means is that they can make the measurement pool as large or as small as they want in order to shade the numbers in their favor. It also ignores the people that have been terminated, hired away or even retired.  What investors need to do is to pull out an annual report from a few years ago and see how many of the executives from then are still around.  I did this with a company I’m familiar with and found that of 47 executive positions listed four years ago in the annual report, 19 had left the company, including the COO and the CFO.  That’s a turnover rate of 40%.  If you were an investor that bought that company’s stock four years ago, it could be argued that it’s not the same management team.

A Big New Initiative With Lots of Consultants Directing Events

This usually signifies a large transfer of wealth from shareholders to the consultants.  These projects are usually accompanied by statements from management to the effect that the consultants are only at the company for a brief period of time after which the company will take over the project from the consultants.  About the time the company takes over the project is when the company stops talking about it. (See my September 24, 2008 post, “When Culture Meets Financial Theory”.)  Good luck trying to figure out if the company made a return on their investment.

International Expansion

Usually, when a company makes a big announcement about pursuing international markets, it’s an admission that they are almost out of room in the United States.  Given that international markets are almost always either 1) slower growth (think Western Europe) or 2) higher risk (think emerging markets) and 3) more difficult from a regulatory perspective, this means that shareholders will suffer in one respect or another.  In addition, it may mean that the Chairman and his spouse like to visit Europe a couple of times per year at the shareholders’ expense.

A Sudden String of Acquisitions

Acquisitions are, by their nature, disruptive, both for the acquired company as it attempts to fit into a new corporate system, and for the acquiring company as it siphons off resources to try and integrate the newly acquired company.  When you do a string of these, it has a compounding effect and the risk goes up that management takes their eyes off the ball of the main business. Or worse yet, the combined operations will make the numbers so confusing that rational year over year comparisons can’t be done, leaving investors scratching their heads while they try to figure out what’s really going on.

So if you’re an investor relations officer and are frustrated because you think analysts and portfolio managers don’t understand the underlying value of your company, you might look outside the numbers at some of the surrounding fact patterns to see some other reasons that investors might be leery of your stock.