Among executives of public companies, few topics generate as many legal questions as communications with securities analysts - especially quarterly conference calls with analysts. That's not surprising. Successfully handling analyst conference calls requires the nuancing abilities of a diplomat and the patience of a saint. A slip of the tongue can send a company's stock price into cardiac arrest, or years later become the basis for a multi-million dollar class action settlement.
There is no substitute for advance planning and thorough scripting to try to avoid trouble, but these events remain a tense process for most companies. Two developments in recent years have heightened the sense of uncertainty. The first was passage of the Private Securities Litigation Reform Act of 1995, which encourages companies to disclose forward-looking information, such as financial projections. The act protects companies that do so by establishing a 'safe harbor' against shareholder suits in the event the projections prove wrong.
The second factor is the rise of independent research into companies by prospective investors, principally via the Internet. As the hunt for the next meteoric stock has become a national pastime, investors in Net chat groups have come to believe that those calls with analysts sound intriguing, and they have begun to demand access. Are they legally entitled to it?
THE CALL ROLE
This question is just one of many commonly voiced by executives involved in corporate investor relations. Before turning to these, it's worth exploring the role of the analyst conference call in today's capital markets.
For most public companies, the quarterly analyst call is a routine part of the disclosure process. Public companies typically follow-up issuance of their quarterly earnings release with a scheduled call with the Street. Although the precise participants vary, most invite both sell-side and buy-side analysts, many invite portfolio managers; and some invite large - or even all - individual investors to listen in as well.
As for press access, practices vary widely: some companies permit reporters from the trade and financial press to join the call; others schedule a separate press conference call; others deal with the press one-on-one, rather than in conference calls.
But whoever's in attendance, nearly all the calls begin with a summary (or verbatim recitation) of the earnings release, which will have been faxed out earlier on the afternoon of the call, after the close of market.
Typically, analysts are then recognized for questions about the just-completed quarter, with the CEO or CFO providing detail deemed not important enough for the press release, but of interest to analysts in preparing their models for the company.
Beyond those basics, the content of calls varies dramatically. Some companies discuss their own expectations for coming quarters, with varying degrees of detail. Others are reluctant to provide any guidance except about overall conditions in their markets.
Regardless of the specific contours of a given firm's call, teleconferences serve two important purposes. First, they enable management to address analysts' concerns efficiently. Many of the questions answered on the call would otherwise be raised by analysts in one-on-one conversations so it saves time to deal with those issues on one call, instead of 20.
Second, conference calls minimize the chance of selective disclosure to a particularly incisive (or persistent) analyst. By providing the information at the same time, with all the analysts on the same call, the odds are that disclosures in the call will be disseminated fairly to the entire market. By the time the market opens the next day, the analysts' reports likely will be widely circulated, and the stock's opening price will reflect that information. Thus, although individual investors who do not participate in the call may feel short-changed, the reality is that analyst calls enhance the operation of the efficient market and promote full disclosure by companies.
WHY & WHEN?
Given those benefits, many companies opt to hold regular conference calls, usually at least once a quarter, after the release of earnings. But there is no obligation for them to do so. Indeed, there is no legal requirement that a company speak to analysts at all. It can fulfil its disclosure obligations merely through timely press releases and SEC filings.
However, the reality is that virtually every public company feels a need to respond to analysts' questions. And those that don't hold a conference call may see their research following reduced; and be viewed as less professional by the Street.
Analyst calls are also common following the dissemination of highly material information, good or bad. But whatever the nature of the call, its timing is critical. Absent extraordinary circumstances, it should not be held during normal trading hours. Waiting until trading has closed minimizes the risk of selective disclosure, since the information is likely to have spread throughout the market by the time trading next begins.
For some stocks, nowadays, trading never stops entirely, given emerging after-hours electronic exchanges. So do the best you can. For example, if you are putting out very surprising news and anticipate a major stock reaction, you might want to have trading in your stock on Instinet suspended. In that way, you can reduce the risk of seeing huge swings on very low volume, which will be reported the next morning based on the after-hours trading.
Analysts, brokers and even individual investors are highly attuned to the timing of conference calls. For regular quarterly calls, your company should announce the date early in the quarter, so that observers do no try to guess whether your results are good or bad depending upon when you've schedule the call. Most companies have established a pattern of issuing the earnings release, and holding the call, the same number of days after the end of each quarter.
For calls held to discuss surprise news, the mere fact that one has been scheduled can send your stock into wild gyrations. So you should avoid announcing the call until the market has closed. In most instances, this means sending out a broadcast fax to analysts at 4.15 pm EST to publicize a call to be held at 5.00 pm that day, or the following morning before the market opens.
One company recently saw its stock go wild because a broker tricked the conference call service into telling him that the company had reserved time the following afternoon for a conference call. Given that the call was occurring just a few days after the end of the quarter, the broker correctly guessed that the company was about to pre-announce disappointing results. He passed his tip to his customers, and rumors pummeled the stock.
The lesson? Make sure that you keep the fact that an extraordinary call will occur strictly confidential within the company; and make sure that your conference call service maintains approximate security.
You should prepare for an analyst conference call as thoroughly as you prepare your press releases and SEC filings. You should draft scripts for the CEO's and CFO's comments and these should be reviewed by senior executives to ensure that they are accurate and do not contradict other information in the company's possession.
For example, the sales and marketing departments should examine statements about market acceptance; and officers involved in product development or engineering should review any statements about upcoming products.
It's also sensible to prepare a list of questions and answers on topics that are likely to be raised by analysts during the call. This discipline will help avoid an off-the-cuff response that could get the company in trouble further down the road.
You should carefully think through what impression your statements will convey to analysts about the state of the company's business and your expectations going forward. Is it the message you want to convey? Is it accurate?
And one final point on preparation: beware what you say when announcing bad news. There is always a temptation for management to provide detailed explanations for missing a quarter. You need to balance the desire to inform the market promptly and fully against the danger of providing preliminary information that may appear less accurate after you've finally closed the quarter and analysed all the relevant data. Spot analyses often lead to subsequent (embarrassing) corrections. Better not to speculate about what you don't yet know.
SELECTIVE OR EFFECTIVE?
Whether your news is good, bad or indifferent, there is a question about whether statements on the call constitute selective disclosure or not. The answer is that it depends whom you ask.
The SEC historically has been hostile to dissemination through analysts of information not previously disclosed in press releases or shareholder filings. But the Commission has not fared well in persuading the courts to adopt its philosophy. On the contrary, the courts have recognised that disclosing information to analysts can be an effective way of disseminating it to the broader market. And individual securities lawyers have wildly divergent views on this topic, so check with yours as to their views.
Despite this uncertainty, guidelines may reduce the risk of the SEC chasing you for selective disclosure. If information is provided after the market closes to the bulk of the sell-side analysts (that is, those who publish on the company), then the disclosure becomes functionally close to a press release.
By contrast, tipping one or a few favoured analysts, especially during trading hours, greatly increases the risk of an enforcement action. If the information discussed is especially sensitive - a large shortfall in earnings, for example - then it should generally be accompanied by a press release.
Sometimes there are situations in which information about a potential shortfall is not ripe enough for disclosure in the form of a press release, but in which cautionary statements to analysts about a potential disappointment may be an appropriate way of reducing the Street's expectations.
More and more companies find themselves besieged by people who want access to their conference calls. As mentioned, this reflects the proliferation of investor chat groups on the Internet. The Motley Fool online forum, for example, has insisted on being included in some companies' calls. Other active individual investors often learn from CNBC when a company's call is scheduled and then call the company demanding access.
Legally, you have no obligation to let any of these individuals or entities onto the call. You can decide to limit a call to sell-side analysts; to sell-side and buy-side analysts; to the press; or to various other combinations. Typically, the purpose of the call is to make sure the analysts understand the company's results so you should not feel uncomfortable limiting the call to them.
However, you may conclude that it's easier to let someone listen in on the call to avoid a confrontation. For example, faced with flame-mail on The Motley Fool for refusing to allow it access to a call, one company recently agreed to let it listen in. And even among those companies that provide relatively broad access to the call, none that I know of allows persons other than analysts to speak. You control who speaks by telling the conference service which participants should be recognised for questions.
Many companies tape their conference calls, so that a wider audience can get to hear what was said after the event. The decision to do this is often based entirely on the communications benefits. But there are legal considerations to take into account as well.
There is no legal obligation to make a tape-recording of your conference call but, if you do, you may not destroy it when you're sued by an angry shareholder. Defence lawyers differ as to whether it makes sense to record the call. Some believe that a tape or transcript gives a plaintiff's lawyer something to distort in a lawsuit. Others believe that the recording may be useful in winning a shareholder suit. Whichever course you decide to follow, it makes sense to keep a copy of the final script used for the call, along with the questions and answers prepared in advance to guide the presentation.
Most public company executives are now familiar with the safe harbour created by the Securities Reform Act. In a nutshell, the Act says that if a company issues information about expected future results, those predictions are protected from shareholder lawsuits provided they are accompanied by certain cautionary disclosures.
The safe harbour is fully applicable to analyst conference calls. That makes it imperative that the company spokesperson follow the required course on every such call. That means: identifying any forward-looking information as such; stating that actual results could differ materially; and either listing the factors that could cause actual results to differ or directing the listeners to published disclosures by the company reciting such factors.
Note that, in many situations, a company may have learned of risk factors other than those disclosed in the prior 10-Q; for example, margin erosion may have appeared in a particular country. In that case, it might be appropriate to supplement the reference to prior published disclosures with an oral update to more recent events.
Although the safe harbour should provide quite potent protection against 'missed forecast' lawsuits in federal court, its applicability in state court lawsuits has not yet been established. Companies contemplating providing more guidance than in the past on analyst calls need to take the risk of state suits into account.
Deciding exactly what, and what not, to say is a balancing act that requires fine judgement. But just remember: you are in charge of the call; you decide whether to disclose particular details or not.
Boris Feldman is a partner in the litigation department of Wilson Sonsini Goodrich & Rosati.
The views expressed in this article are those of the writer, and do not necessarily represent the views of the firm.