Regular quarterly earnings guidance, in many cases, costs more than it is worth and companies should consider whether it is in their best interest to provide it. An extensive research review, led by Daniela Saltzman, Gabriel Karageorgiou and I, has found little evidence supporting its claimed benefits; that it lowers stock volatility, promotes higher analyst coverage, and efficiently spreads information around the market. In contrast, it has uncovered many costs associated with it. A Financial Times article discussing the implications can be found here and a Harvard Business Review article can be found here.
The practice, which has grown since the mid-1990s, focuses executives’ and investors’ thoughts on the short-term, potentially at the cost of the long-term success of the company. We estimate that about 40-50 percent of companies in every country provide earnings guidance. In some countries it reaches 70-80 percent. Several major companies have pulled the plug on quarterly earnings guidance. Coca-Cola and Unilever stopped issuing guidance in 2002 and 2009. Google never provided it.
Here are a few clearly defined steps a CEO that wants to refocus the business on the long-term can take (and she or he should not do that as an excuse to hide bad management and to ‘buy’ time). It is vital that the message comes from the CEO, to express the company’s conviction and explain how it fits within the overall long-term strategy of the firm:
1. Clarify that the end of guidance is not a sign of increased uncertainty or economic conditions. It’s an effort to focus the company on the long-term.
2. Reinforce that conviction by confirming current earnings guidance numbers. Say you will issue one last set of projections to help ease the transition.
3. Highlight that you got ‘the board on board’ showing that this is a strategic, well-thought-out decision that has received broad support internally.
4. Present a five-year strategic plan that defines and defends financial and nonfinancial milestones.
5. Explain that in lieu of guidance, you’ll be moving toward ‘integrated reporting,’ which provides more holistic disclosure about how the world is changing around it.
6. Replace earnings guidance with ‘integrated guidance.'
This new form of guidance will provide insights about material issues broader than earnings and their effect on future competitiveness. This guidance should be sector-specific and examples include guidance around how carbon regulations might affect the quality of the assets (highly relevant for the energy sector), how changes in bribery regulations affect ability to compete in areas of high corruption risk (highly relevant in the construction sector) or how more women entering the workforce changes the competitive dynamics of the industry (highly relevant in the professional services sector).
These steps should help you attract and retain the right investors to support your strategy. The report clearly articulates how firms that issue more frequently earnings guidance and revise such guidance more frequently tend to have a more short-term oriented investor base. Short-term investors who speculate on volatility and short-term performance are unlikely to support the abandonment of earnings guidance. But they are also not likely to support a company’s efforts to decrease short-term profits by investing in efforts to future-proof the profitability of the organization, which might range from efforts in employee attraction and retention, water use, or community-relations strategy.
There are instances when it might be perfectly legitimate and valuable to release earnings estimates to inform the market about, say, in cases where market expectations are diverging to a great extent from company fundamentals, or in cases of future mergers and acquisitions. But that is not enough to justify guidance as a quarterly exercise. A company’s own investors should be stewards of its long-term interests, not hitchhikers along for a short ride.