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Managers shy away from communicating with the investment community for all sorts of reasons. Some fear that what they say may be misinterpreted or that their competitors will use the information against them. Others are concerned about legal liability, and some just feel more comfortable talking to customers or immersing themselves in the operations of their companies.
But neglecting the investment community—particularly the analysts whose opinions often shape the market and whose recommendations may make or break a company's share price—can knock the most carefully conceived and brilliantly executed strategy off the rails.
Consider the industrial conglomerate Tyco International, which grew rapidly in the late 1990s through a series of well-executed acquisitions. In October 1999, the company tumbled almost overnight from market darling to market pariah with the publication of a damaging report by David W. Tice & Associates, an influential Dallas-based investment firm and the publisher of Behind the Numbers, a newsletter read by more than 200 institutional investors. The report called into question Tyco's accounting practices and claimed that the company had misrepresented its profitability.
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| The companies that struggle the most with providing good information to the investment community are those in rapidly evolving industries… | |
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| —Amy P. Hutton |
The day the report came out, Tyco's stock fell 16%. By early December, it had fallen 50%, and the company had to request an investigation by the SEC to clear its name. Worse, Tice's report threw the company's acquisition strategy off course because Tyco usually paid for acquisitions with its stock. Although Tyco's stock is recovering, the company likely forfeited several deals because its dramatically reduced share price had put them out of reach. Tyco's problem was not that it had misreported its results but that it had not taken enough care to make sure that investors could easily interpret those results. Tyco had grown through mergers and acquisitions, and the M&A accounting treatments it used were dictated by the specifics of each deal. The Tice report claimed that the substantial acquisition-related charges taken over the years by Tyco and the companies it acquired had obscured the conglomerate's true operating performance. At the very least, it had become difficult to compare current to historical results. To do so effectively required an enormous amount of specific knowledge about Tyco and its deals, as well as a detailed understanding of the complexities of M&A accounting. Without that knowledge, investors had little choice but to believe what management told them.
But there have been too many disasters for investors to feel comfortable relying solely on what a company's managers tell them. They want to hear from an impartial expert. That is why investors were so quick to believe Tice & Associates, which had a reputation for canniness and was generally recognized as an authority on accounting issues. By not making its results transparent, Tyco had left an information vacuum that others rushed to fill—after all, being first to identify the next CUC, Sunbeam, or Rite Aid crisis is exactly how experts like Tice advance their careers. Even though, unlike those companies, Tyco's performance was solid, its impenetrable accounting methods made the company just as suspect in the eyes of investors. The companies that struggle the most with providing good information to the investment community are those in rapidly evolving industries, where the gap between traditional performance metrics and economic realities is widest. In these industries, a company's strategy and the variables that govern its performance can change radically in a short time. Consider AOL, which in just eight years has grown from a small Internet start-up, competing with the likes of Compuserve and Prodigy, into a media conglomerate. On the way, the drivers of its profitability and growth have shifted from subscriptions and usage time to advertising and e-commerce deals.
Yet despite such dramatic change, one of AOL's distinguishing features has been its care in making sure that the market understands its business model. Since 1996, when it began its transformation from computer-networking company to media giant, AOL has consistently signaled changes in its strategic direction to the investment community, even when doing so might have seemed perverse or damaging. The market has registered its strong approval. AOL's stock price has increased 1,468% since October 1996, compared with a 100% increase in the S&P 500, which AOL joined in December 1998.
AOL's communication strategy follows four simple but often neglected rules. First, the company takes care to ensure that its financial reporting reflects its strategy as closely as possible: accounting policies are chosen to be consistent with what managers claim to be the drivers of the company's success. Second, AOL takes the lead in popularizing the nonfinancial metrics that best predict—and flatter—the performance of its businesses. Third, when it makes a change in strategy, AOL appoints top managers with recognized credibility in the new arena. Finally, AOL assiduously cultivates the capital market experts covering the industries in which it competes. In this article, I will explore each of these rules, and I will show how AOL's communication strategy has kept pace with its evolving business strategy, making it easy for investors to interpret—and reward—its results.
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