The Short-Termism Debate
January 11, 2021
A curious feature of the past three years has been the intertwined controversies over earnings guidance, corporate “short-termism” and the quarterly disclosure system. The discussion has been illuminating, and, while further regulatory attention now seems unlikely, the perils of neglecting the long-term will likely continue to color how analysts, regulators and investors view public companies and their disclosures.
Back in 2018, prominent voices were heard lamenting the short-term focus of public company management, arguing that earnings guidance creates a vicious cycle in which public company strategy focuses on short-term earnings targets rather than long-term, sustainable growth. Among these, Jamie Dimon, Warren Buffet and the Business Roundtable called for public companies to reconsider the practice of quarterly EPS guidance, with its “unhealthy” consequences for long-term growth.
Around the same time, discontent over the SEC’s quarterly disclosure regime also started to make headlines. Inspired by a conversation with former PepsiCo CEO Indra Nooyi, President Trump surprisingly expressed (on Twitter) an interest in quarterly disclosure practices and asked the SEC to look into shifting from a quarterly to a semi-annual disclosure regime.
The SEC took notice of both themes, and in December 2018 it published a request for comment “on the nature, content, and timing of earnings releases and quarterly reports.” After receiving extensive comments, the SEC convened a roundtable in July 2019 bringing together academics, regulators and practitioners to debate the burdens of the SEC’s quarterly disclosure requirements and the perils of short-termism.
In the December 2018 request for comment, the SEC took a deep dive into how regulatory changes could potentially ease the burdens of quarterly disclosure without sacrificing quality, and whether they could help promote a shift in focus from short-term results to long-term growth. It asked, among other things, whether Form 10-Q is too burdensome and whether a semi-annual disclosure system would be preferable. It also discussed the relationship between periodic reporting (10-Ks and 10-Qs) and earnings releases. And on short-termism, the questions boiled down to these: Is it real? If it’s real, is it bad? And if it’s bad, is it fixable?
The July 2019 roundtable elicited a wide range of views, including some strong support from the investor side for the rigors of Form 10-Q and for the virtues of guidance. The participants generally converged on the view that while there is room to lighten the load of quarterly disclosure requirements on public companies, it will not be an antidote to short-termism. In fact, some proposed disclosure reforms that promote a long-term focus (on climate change and human capital, for example) would surely increase the disclosure load for public companies.
As with so many other things, the COVID-19 pandemic put these issues in a different light. Suddenly faced with pandemic-fueled uncertainty, a large number of public companies began to suspend or withdraw earnings guidance. Between March 16 and June 10, 2020, 851 companies withdrew annual guidance and 71 companies withdrew quarterly guidance. Meanwhile, the SEC sharpened its focus on the quality of quarterly reporting and the importance of forward-looking disclosures. In particular, the SEC issued Disclosure Guidance Topic No. 9 on March 25, 2020, encouraging companies to include discussions in their quarterly earnings releases and reports that addressed the impact of COVID-19 on future operating results, near-and-long-term financial condition, overall liquidity and outlook. Shortly thereafter, SEC Chairman Jay Clayton and Director of the Division of Corporation Finance William Hinman issued a joint statement on April 8, 2020, in which they stressed that companies should focus on the quality of quarterly disclosures in light of the challenges posed by the pandemic and asked companies to “strive to provide, and update and supplement, as much forward-looking information as is practicable” in order to increase transparency in understanding the impacts and effects of the COVID-19 pandemic. It did not come as a surprise when the SEC recently downgraded the quarterly disclosure reform project by removing it from its fall 2020 short-term agenda.
As the initial months of the pandemic passed, many public companies resumed earnings guidance. Of the 285 S&P 500 companies that historically provide earnings guidance, 138 (48%) did so in the second quarter, which was a 37% increase over the first quarter earnings season. This increase was mainly the result of companies resuming guidance after withdrawing or not providing guidance during the first quarter of 2020. During the third quarter, even more companies resumed providing earnings guidance, and the trend looks like it will continue.
The future of quarterly disclosure reform is now uncertain, and quarterly earnings guidance will soon be as prevalent as ever. The immediate effects of the COVID-19 pandemic were to sharpen the SEC’s focus on quarterly reporting and forward-looking disclosure, but the debates over burdensome quarterly disclosure, earnings guidance and the perceived unhealthy focus on short-term results are sure to continue.