New safe harbour protection is there for the taking. So why not take it? That is the view of a select number of companies eager to join the bandwagon, who are now tucking forward-looking statements comfortably in between cautionary wads of legal-speak.
But most listed companies, and their guarded IROs, prefer to watch reservedly from the sidelines, according to the National Investor Relations Institute. And, as financial analysts eagerly point out, of those companies currently invoking the safe harbour, most have yet to up the ante with more and better forward-looking information.
The Private Securities Litigation Reform Act, which squeaked by President Clinton’s veto at the end of 1995, reduces the risk of companies being sued on the basis of their forward-looking statements. This is accomplished by including a disclaimer that lists the various risks and uncertainties that could have an impact on the stated future prospects. The hope is that giving companies more leeway in offering relevant information will improve the quality of press releases, conference calls, annual report letters and proxy statements, thus allowing investors a better opportunity to make their valuation selection.
So far, the response by companies coming forward with new and revealing information has not been overwhelming. Perhaps this is because some managers were glad to have an excuse for avoiding making forward-looking statements, and see no reason to start doing so now.
Other IROs believe they already have the bases covered when it comes to detailing variables, factors and risks. ‘I have to catch up on my reading about the new safe harbour rule,’ admits one healthcare IRO.
Either way, the ability to communicate on a whole new plane has been opened up with the ruling, and IR professionals will be shirking their duty if they do not learn how to stretch the boundaries.
A survey of April’s crop of quarterly reports yields hundreds of examples of invoking the safe harbour rule by companies of all sizes and sectors. Technology and small cap companies figure heavily in the new information wave, largely because stock price volatility and focus on future developments have set them up for more than their fair share of shareholder lawsuits in the past.
Among the many technology companies using safe harbour statements in their communiqus are the likes of Intel, Compaq, Digital Equipment Corp and LSI Logic. Safe harbour usage in telecommunications is well represented by GTE, AirTouch Communications and Motorola. Even apparel maker Fruit of the Loom is covering up with safe harbour protection.
AirTouch is one of the more interesting examples. At a March meeting of the Securities Analysts of San Francisco, the company’s CEO Sam Ginn seized the opportunity to expound on AirTouch’s strategy and future growth expectations in the notoriously fast growing and competitive wireless phone industry.
Suitably cloaked in safe harbour armour, Ginn bullishly predicted a million new customers this year and pegged operating cashflow – a key financial measure in wireless – growing 40 per cent to around $1 bn in 1996. Similarly, Intel’s 1995 annual report letter from management features a special section on business outlook covering various benchmarks, from worldwide PC unit growth to tax rates and capital spending.
So some companies are indeed stepping up to the plate. Yet many may be striking out with investors. ‘Companies are just not taking advantage of the safe harbour,’ attests Charles Phillips, software industry analyst at Morgan Stanley & Co and chairman of the AIMR Corporate Information Committee on software and services. ‘If anything, they are all reading the same dry, monotonous disclaimer provided by the law firm. They do not say anything different from what they have always said. Most still behave as if they think the rule provides no new legal protection. It hasn’t made management open up to the investment community yet,’ laments Phillips.
AirTouch’s disclaimer probably exemplifies Phillips’ complaint and certainly uses a pretty standard form of wording. It describes the company’s forward-looking statements as representing a ‘reasonable judgment on the future’; and it notes that they are ‘subject to risks and uncertainties that could cause actual results to differ materially.’
The disclaimer goes on to enumerate examples of such risks, including a change in economic conditions; greater competition than anticipated; better-than-expected customer growth, which could require heavier investment; fraudulent activity; and so on. The release then covers AirTouch further by making reference to specific ‘readily-available’ documents discussing risk factors, in this case to its 10-K, under the section on Investment Considerations.
As for the statements themselves, Phillips says that investors could benefit from more forward-looking information to make better informed valuation judgements. ‘I like to see objectives on growth, profitability and goals for specific product lines,’ he states. ‘Knowing management’s plans tells me something about likely spending, and profitability in slower times.’
Phillips says that companies are not currently suffering from their failure to provide forward-looking information because no-one is yet really doing it. But that could change: ‘If a few leading firms start to provide such data, other companies could suffer a depressed stock price as less information would be available on them.’
Robert Wilkes, communications analyst at Brown Brothers Harriman & Co, reports safe harbour disclaimers proliferating in conference calls by GTE and several of the Baby Bells. ‘The telecom companies seem to be a little more open with their projections,’ he remarks. ‘Safe harbour gives them a better comfort level, and there is a modest, but not dramatic, willingness to look forward. Big companies are still not making forecasts with any precision, and they guardedly talk in generalities about what they think the future will hold.’
However, Wilkes is not discouraged by the lack of crystal-balling. ‘If the pile on my desk is any indication, there is no shortage of information. Analysts probably get enough of management’s insight already,’ he notes. ‘Management may know what is going on internally, but many external factors impact on how they eventually perform. The job of the analyst used to be to dig out information that others might not find. Today, the telecom industry offers a blizzard of information, so the analyst’s job is basically to separate the wheat from the chaff.’
If anything, the safe harbour ruling has brought lawyers scurrying to stay in the communications loop. At companies where counsel once warned loudly of loose lips, lawyers are now devising reams of complicated language to describe every possible risk impacting the future. The Wall Street Journal poked fun in a piece playfully titled ‘Next quarter looks pretty rosy, then again, the world might end’. Attorneys are concerned that disclaimers could be too general, and seem to feel safer with lengthy disclaimers than brief boiler-plates.
In April’s International Financial Law Review, opinion leaders in the legal community direly warn, Beware of forward-looking statements and disclosure. The article noted that the safe harbour ruling creates new obligations and dangers for companies in dealing with analysts. While broadening protections, safe harbour has a narrower definition of what can be protected. The most notable exception, they claim, applies to IPOs.
Robert Ferris, president of the corporate and IR group at Ruder-Finn in New York, believes that companies in general have become more forward-looking, with or without the safe harbour. ‘With the increasing sophistication of capital markets,’ Ferris says, ‘companies recognise they have to provide more of a perspective on the future to attract the interest of the financial community. They cannot just rehash historical information. This is not a matter of whether they are using safe harbour or not. It is the recognition that effective communication is prospective communication.’
Where is the company going, and how is it planning to achieve its targets? How does senior management see the economics of the industry, and what are their ongoing financial objectives? These are the questions Ferris believes have to be answered for effective communications with the Street. Safe harbour is a no-brainer, Ferris affirms, and companies should always use it as a basic protective device. ‘There is no downside to using it, and a big downside to not using it,’ he says. ‘Still, it’s no guarantee against lawsuits. What it does do is provide checks and balances on what the company can say about its future.’
Lexmark, a profitable IBM division that was spun off as a separate company last November, is a good example of a company using the new safe harbour. It is not a big deal, insists Ferris. Lexmark, a Ruder-Finn client, had little choice but to be forward-looking about its market for computer printers from the start. The company soon fell into the habit of using the safe harbour provision for extra protection. Lexmark’s safe harbour statement is pleasingly brief. It encapsulates just four lines of small print – set apart in a box after the end of the main text – compared to GTE’s three beefy paragraphs, for instance.
There is little doubt that companies in certain industries need the safe harbour more than others. Software, explains Morgan Stanley’s Phillips, is more volatile than other sectors due to rapid product cycles and a leveraged operating model where as much as 70 per cent of the business can come in the last two weeks of the quarter.
Al Tobia, a principal and the technology analyst at Montgomery Securities, says that he has seen and heard a flurry of safe harbour disclaimers from the companies he covers. ‘Technology companies have to be more forward-looking than companies in cyclical industries where earnings don’t matter as much,’ according to Tobia. ‘Also, technology stocks are more volatile, making companies more vulnerable to lawsuits. It just makes sense to slap on the safe harbour rule to protect themselves.’
Tobia concludes that safe harbour protection is good for investors, providing a degree of comfort in today’s litigation environment. ‘I wouldn’t want to invest in a technology company which has to worry more about a lawsuit than how to develop the next product,’ he states. ‘Companies can become targets for lawyers who sue on behalf of shareholders in the hope of a large pay-out. Safe harbour is good for shareholders if it cuts down on litigation.’
Still, Tobia has yet to notice a major change in the way companies position themselves using forward-looking information. And, surprisingly, he declares himself pleased with the status quo. ‘There has not been any change, and I don’t want there to be,’ he says. ‘As an analyst, I’m supposed to make buy and sell decisions based on information I receive. I’d rather companies leave a little more on the table for analysts to find out – that’s what makes the market work.’
As analysts like Tobia and Wilkes wade through mounds of information, preferring not to receive too much more, investors in small cap companies should find a genuine improvement in the level of information. With volatile stock prices, and the most to lose from a major lawsuit, small companies have traditionally kept a tight reign on future gazing. The new safe harbour gives them much more leeway, notes David Frank, senior account executive at DF King.
‘Small companies have to work harder for the attention of Wall Street, and they are under great pressure to avoid costly litigation,’ Frank comments. ‘Most are under-followed, with little or no analyst coverage, and valuation can be a guessing game. Before, these companies had to be cautious, build a track record, and hope investors would see the bright future for themselves. Now they can come right out and predict the bright future. It helps open up a higher level of investor communications for small companies, particularly those with inconsistent earnings or litigation problems in the past.’
Frank cites the Cooper Companies, a California healthcare products and services group, as an example of a small cap company gazing on a new horizon. Plagued by litigation at one-time, Cooper’s lawyers used to keep a tight lid on forward-looking information at all times. With safe harbour protection, however, the lawyers allowed management several paragraphs on business outlook in a recent press release, easing up on their vigilance.
Indeed, Cooper’s statement made specific predictions for its 1996 earnings per share (expected to be above 75 cents) and revenue growth (double digit). And it said that its CooperVision business was forecast to grow at mid-teens percentages. As for the CooperSurgical division, following completion of the acquisition of Unimar, income there should reach 10 per cent of sales in the combined businesses.
While some small caps like Cooper boldly come forth with this unprecedented candour, exploiting the new-found freedom to help rebuild, most companies are merely treading water. ‘More forward-looking information may be the intent of the legislation,’ says Susan Hardy, vice president of investor relations at Houghton Mifflin Co, which incorporated safe harbour language into its latest quarterly release. ‘Whether it will result, I do not know. We are already fairly direct with the investment community about our prospects, and we want to be prudent in making future predictions.’
So companies, for the most part, are stalling on implementing the new safe harbour, while others are reluctant to increase the level of forward-looking information using the protection. It seems IROs would still rather be safe than sorry. Yet, in the race for new capital, safe harbour raises the information stakes substantially, and companies hesitant to communicate their expectations for the future may suffer.
As for shareholders, it is expected that they will speak up in support of using the new safe harbour. After all, investors rarely miss an excuse to get more information about the companies they invest in, and now companies have one less justification for failing to give them what they want.
In time, there is little doubt that if the protection from shareholder litigation promised by the new provisions holds good, companies will be bound to come forward. NIRI’s Words of Wisdom
If you’re keen to start using the safe harbour provisions but confused over best practice, don’t worry you’re not alone.
Despite a number of organisations rapidly issuing their own explanations of the new legislation, Niri says that there has been virtually no guidance for companies to use in interpreting the law or a model demonstrating use of the safe harbour. A wide variety of interpretations has been the result.
In an attempt to rectify that situation, Niri issued an Executive Alert last month with a briefing on use of the safe harbour and laying down some ground rules for its use. The briefing notes that ‘as long as a forward-looking statement is accompanied by sufficient cautionary language – even if the projection misses the mark – it would not violate the anti-fraud provisions of the federal securities laws.’
So, how best to make use of the provision? General rules are to make sure that any forward-looking statement is clearly identified as such and accompanied by meaningful cautionary language. This should point to the factors which might cause results to differ materially from those being projected.
Ensure that investors are made aware that forward-looking statements involve certain risks which might make them inaccurate. As long as sufficient cautionary language is used this may protect the company from litigation even if the factors which cause a projection not to be realised are not listed. Niri notes that ‘boiler-plate warnings that are not specifically related to the forward-looking statement will not suffice as meaningful cautionary language.’
For written communications, issuers are advised to identify specific statements as forward-looking or place them in a special section in a release, annual report or other written document. Clear identification and meaningful cautionary language are the name of the game here. But, Niri adds, do not rely on references to documents filed with the SEC for cautionary material. Most individual investors don’t have access to these sources.
For oral communications, the same ideas apply. Make it clear that something is forward-looking and add appropriate cautionary language. If any new forward-looking material is released then identify it as such and prepare an extra news release concerning that information upon conclusion of the conversation.
If in doubt, consult your lawyer.
