By Contributor,Shivaram Rajgopal

Copyright forbes

The move confuses corporate investing myopia with the frequency of reporting

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One of the new policy initiatives that has garnered much attention is to cancel quarterly reporting by publicly listed firms. The motivation appears to be the need to get out of “quarterly capitalism” or CEOs focused on beating quarterly estimates of EPS, instead of worrying about beating overseas firms that have a much longer horizon of decades when they make investment decisions.

1.0 This was tried in the UK

Before we do anything, it is useful to learn from the experience of other advanced markets that have tried this before. The UK, in 2014, banned mandatory quarterly reporting and went to a six-monthly cycle. My co-authors, Suresh Nallareddy, and Bob Pozen, and I studied the observable consequences of that change. Here is what we found:

Less than 10% of UK firms stopped quarterly reporting. CEOs were presumably worried that switching to a six-month regime will signal to analysts that they have something to hide.

Firms that did not provide earnings guidance when the mandatory quarterly reporting rule was in force and firms in the energy industry are more likely to stop quarterly reporting after the rule change.

The 10% of firms that stopped quarterly reporting lost analyst coverage as analysts tend to report to their clients around earnings announcements. Moreover, the job of forecasting a firm’s future prospects, all else constant, became harder.

Investment patterns, measured as R&D, Capex and M&A, did not change for firms that stopped quarterly reporting.

2,0 Will less frequent reporting curb the real causes of investment myopia, if any?

Part of the confusion stems from the real causes of investment myopia. In my mind, the real policy problems, underlying investment myopia, are as follows:

2.1 Expensing investments in intangible assets

Capital market participants pay attention to earnings numbers. Earnings numbers, in the US, co-mingle signals about current operating performance and investment outlays. That is, investment in R&D and human capital in SG&A lines are expensed as per US GAAP. This leads, all else constant, to cutting investment outlays in intangibles to make the earnings numbers look good. Expanding the reporting window to six months will not improve investments, as we found. Why? Most investments have a three year or a five-year payoff horizon. Are we willing to allow firms to report once in three to five years? Most likely not.

2.2 A company’s investors are rarely that company’s frequent traders

In my class, I often show students the list of a firm’s top 10-25 owners relative to funds that traded the most quarter. The largest owners for big companies are predictably the large index funds such as BlackRock, Vanguard and State Street. Traders are usually hedge funds. Going to half yearly reporting might potentially lead to even more trading by hedge funds who are more interested in predicting near term stock price changes rather than long term fundamentals. This may even lead to greater opportunities for managers to exploit inside information to time their trades or the firms’ financing activities.

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2.3 CEO and CFO tenure is down

CEO and CFO tenure in the US are at historic lows, at six and four years respectively, for all sorts of reasons other than reporting frequency. If your expected term with a firm is 16 quarters, of course quarterly reporting matters. Many CEOs I have chatted with complain that it will take five to six years for any of their investment initiatives to bear fruit. Half of them will be gone by then. Unless we can somehow change CEO and CFO tenures, tinkering with reporting frequency will do little.

3.0 Other mitigating factors

3.1 Compliance costs are coming down

If the concern stems from compliance costs, things are only becoming easier. With AI and back-office automation, we can get to even more frequent reporting than a quarter, should we want to.

3.2 Markets lose a check in point for the company

Quarterly reports validate or refute short term narratives that investors or traders have in a stock. Losing that avenue for checking on the progress or lack thereof of such a narrative will only increase return volatility. Return momentum on imprecise or simply wrong narratives will run for longer. As and when evidence against that narrative comes out, either via six monthly reports or from some other source, the crash in the stock price will be more vicious than otherwise. Frauds will take that much longer to discover when the firm can legally perpetuate radio silence.

In sum, I worry that the debate confuses investment myopia with reporting frequency. Going to six monthly mandatory reporting is not a silver bullet. Instead, we must get to grips with the changing nature of capital markets, traders and managerial incentives.

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