Last week the issue of public companies having to do quarterly reports popped up in the news in a big way with the President tweeting and then speaking on the possibility of ending quarterly reporting. There are a lot of opinions out there on whether this is a good idea or bad idea. Some people believe this would help companies think more long term rather than operating quarter to quarter. Others believe it is too long and it allows companies to be less transparent. I see pluses and minuses on both sides. For example, I previously worked for a Fortune 500 company and I saw firsthand that companies do operate to an extent knowing they have quarterly numbers to meet. On the other hand, investors want to know what is going on and there could be much bigger surprises if investors are only updated every six months.
I am not hear to argue that either way is better but talk about how this could impact D&O insurance if it were to be implemented. I think the first thing to be concerned about is guidance, the further out you forecast and provide guidance for the more inaccurate you become. Another danger is that a CFO or CEO that has a longer time horizon could inevitably fall behind where they projected they would be but believe they can right the ship because they have more time. As we saw a couple of weeks ago with the Sonus Networks case (CFO Magazine), CFOs can do creative things to meet the quarter end (I am not saying CFOs blatantly mislead or act in a criminal way but the article demonstrates how numbers can be moved around to appease analysts). I am not sure why that would change with extending the reporting period out to six months, in fact it could exacerbate the issue because they feel they have more time to make up for lost revenue or cost savings.
Conversely, there is a lot of merit to the idea that meeting quarterly deadlines can lead to practices that might not be to the benefit of long term growth. We can look at companies that had founders/CEOs that controlled enough shares that they did not have to be bound by the share price nearly as much and could think long term. A great example of this would be Amazon, they have historically operated at a loss but that was because they invested in the business and now they are one of the most valuable companies in the world. They reported courtly earnings but were far less concerned about the volatility around the stock if they failed to meet analysts’ expectations. They were playing the long game.
How this could impact the public company D&O space is uncertain. If companies are still required to report quarterly earnings but not provide guidance I think that would result in the D&O insurance marketplace remaining stable. A company’s balance sheet is one of the most important drivers of D&O insurance pricing and terms; if this information was still available quarterly it would eliminate some uncertainty. I think carriers would take a deeper look at corporate governance and also compare past guidance to the actual results, essentially underwriting the CFO. In the end, insurers like certainty and the less there certainty there is the more cautious they are resulting in higher premiums, more restrictive terms and higher deductibles.
You can find a couple of good write-ups on the implications both broadly and in the D&O insurance marketplace here and here.
MattCorc 