A Tale of Two Reports: Research Suggests That Corporate Reports Are More Likely to Generate Rewards in the Capital Markets If the Reader Can Visualise a Link between Strategy and Areas Such as Employees, the Environment and Corporate Performance

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Investors care only about the financial numbers. They are short-termists with models based upon the latest quarterly report. Right? Results from a recent experiment conducted in the UK by PricewaterhouseCoopers and Schroders suggest that this traditional portrayal of the investment process is far from accurate. Indeed, it appears that while the models generated by investors may be geared towards exposing the future earnings potential of any given company, the confidence that they have in this forecast--and thus the value that they place upon the stock--is based upon a far richer set of data than merely financial.

To explore this, PricewaterhouseCoopers approached Coloplast, a Danish company that is recognised as a leader in the presentation of total corporate--not just financial--performance. Whereas most companies supplement their financial reports with a simple statement of strategic intent backed up with a few, well-chosen metrics to illustrate performance, Coloplast goes that extra mile. It identifies--and where possible, quantifies--all the key activities that need to come together within the firm to implement strategy and then links these activities to their expected financial outcome. The information set presented is impressive, far outstripping anything that regulatory reporting models require. Such efforts have recently been publicly acknowledged by the Borsen and FSR (the Danish Association of State Authorised Public Accountants) which presented Coloplast with their award for best intellectual capital reporting. But does this corporate transparency make any substantive difference to the information user? Is Coloplast rewarded for its effort?

To test this, a PwC corporate reporting specialist dissected Coloplast's 2001/02 report and accounts. Through careful editing, a new version of the document was generated omitting all the quantified, nonfinancial, data that Coloplast elects to report. The result was a document that complied with regulatory accounting standards and that included the narrative typically provided in the front end of the report, but deliberately excluding the supporting metrics that relate Coloplast's operational performance to its strategic objectives and/or economic outcomes.

So armed with two versions of Coloplast's report and accounts--the original, complete document and the financially compliant document--the PwC team descended on the offices of Schroders, one of the UK's most successful investment management houses. Each member of the research team was presented with one of the two versions of the report and asked to use the information provided to develop a forecast of revenue and earnings for the next two years, to provide a recommendation for the stock, to support that recommendation with their key reasons and to provide their estimate of its beta relative to its peer group--a measure of their perception of the riskiness of Coloplast's return relative to its peers. They had two hours to complete their task--no conferring or external sources allowed!

The findings were quite startling. The average revenue and earnings forecast prepared by those with the full set of accounts were actually lower than that prepared by those who only had the financially-based document. This might be a little discouraging for advocates of greater transparency were it not for the fact that despite the lower forecast, members of the group with the complete information set were overwhelmingly in favour of buying the stock. This stands in stark contrast to those with the less complete information set. Although the average estimate that they generated was higher, nearly 80 per cent of this group recommended selling.

This outcome may be understood through a closer examination of the earnings estimates generated. From Figure 1 it can be seen that the degree of consensus surrounding the forecasts generated by the two groups varied greatly. Those with the full set of supporting non-financial measures, with the more complete picture of corporate performance, generated a much tighter range of estimates than those using just financial performance. …