Restoring Credibility and Winning Stakeholders Trust

Restoring Credibility and Winning Stakeholders Trust 1 Critics are questioning key components of the U.S. capital markets: • • • • The rules of disclosure, The actions of the analysts, The responsibilities of outside directors, The ability and the will of the accounting profession to protect investors, • The integrity of our capital markets. 2 Issues important to the efficacy of the financial markets and the protection of the investors: 1. How investors determine and assess “value”. • The market is valuing companies at huge multiples of GAAP-determined figures. • Too little time is spent assessing the continued relevancy of this model in today’s technologydriven, Internet age. • We must find ways to provide to the investor information that is more relevant in an environment of large market cap-book value differences. 3 2. How we reduce stresses on the financial report process. • The root of the problem is a system based on making and meeting short-term earnings forecasts that generate continuous pressure on company management to deliver earnings consistent with the analysts’ expectation (“the earnings game). 4 Key Elements of Public Trust 1. Spirit of Transparency. Corporations have the obligation to provide willingly to stakeholders the information needed to make decisions. Failure to do so is often based on the mistaken belief that playing “the earnings game” managing and beating the markets’ expectations about next period’s earnings - will increase shareholders value. 5 Key Elements of Public Trust (cont’d) 2. Culture of Accountability. The accountability is collective - every member of the corporate reporting supply chain must be held accountable and must commit to collaborating with all others. 3. People of Integrity. Transparency and accountability are not enough to establish public trust. In the end, both depend on people of integrity. 6 The Corporate Reporting Supply Chain 7 The Three-Tier Model of Corporate Transparency Tier Three Company-Specific Information Tier Two Industry-Based Standards Tier One Global Generally Accepted Accounting Principles The model’s three tiers include: 1. A set of truly global generally accepted accounting principles (Global GAAP). 2. Standards for measuring and reporting information that are industryspecific, consistently applied, and developed by the industries themselves. 3. Guidelines for company-specific information such as strategy, plans, risk management practices, compensation policies, corporate governance, and performance measures unique to the company. Criticisms of GAAP Today 1. Fosters “The Earnings Game” played by both management and the markets since earnings has long been the single most important measure of performance. 2. Does not account for or disclose certain types of information about intangible assets. 3. Does not communicate adequate information about value creation because it is a mixed model that includes historical cost, amortized cost, written down cost, and fair value for certain financial instruments and other assets in some countries and industries. 9 The Case for Tier-Two Standards • GAAP-based financial statements are important, but they do not cover all of the value drivers, many of which are non-financial in nature. • The complete set of value drivers differs significantly across industries. • Different industries often define and measure the same value driver differently. • Most important, different companies within a single industry often define and measure the same value driver differently. 10 Key Value Drivers for Executives in the Pharmaceutical and Telecommunications Industries Pharmaceuticals Telecommunications Earnings Earnings Performance by business segment Cash flow by business segment Market growth and potential by therapeutic area Revenue metrics by driver Market growth and potential by geographic area Significant operating costs by category Market share by therapeutic area Capital expenditures R&D pipeline Competitive landscape Product focus strategy Market growth Product innovation strategy Network reach, quality, and capability Effectiveness of product launch Pricing strategy Reputation with prescribers Sales and marketing strategy Regulatory issues Customer churn rate Quality of management Regulatory environment 11 Executive Perceptions of Eight Value Drivers * Value-driver category Important for creating shareholder value over the long term Has a high impact on future financial performance Use the measure in evaluation and decision making Product and service quality 89 86 83 Customer satisfaction and loyalty 83 86 73 Operational efficiency 75 75 72 Current accounting results 71 62 81 Product and service innovation 62 60 54 Employee satisfaction and turnover 47 44 38 Alliances with other companies 20 22 17 Community involvement and environmental performance 11 8 11 12 Reporting Gaps by Industry 13 Conclusions The elements of public trust and the information requirements to materialize them rest on a very simple concept Demanding and rewarding good management. 14