Winning Investors Over. Baruch Lev
press releases and conference calls, and is potentially very useful. So, what is the impact of soft information on investors and how can you enhance this impact?
As Mitchell Petersen points out, there is more to the distinction between hard and soft information than numeric versus narrative (text).18 After all, any soft information, like a discussion of the company's competitive position, can be transformed to a numeric score, say, on a one-to-ten scale, based on the receiver's assessment. The main difference between hard and soft information lies elsewhere. Truly hard information is uniform—has the same meaning to different persons—like a company's annual sales number, whereas soft information, like the subjective scores of customer or employee satisfaction, is rarely uniform and will be interpreted differently by different people. The reason is that “with soft information the context under which it is collected and the collector of the information are part of the information.”19 This “information baggage” (context and collector) limits significantly the usefulness of soft information and the ability to delegate decisions based on soft information (one collects, another decides, a third oversees execution). To fully appreciate a customer satisfaction or a social responsibility score, you need to know how and by whom the underlying surveys were conducted. Hard information, on the other hand, like a company's earnings or liabilities, can be interpreted without context or knowledge of the collector.
Another important advantage of hard information, particularly a forward-looking one, is its verifiability. A management forecast of 25 percent gross margin next year can be easily compared later on with the actual gross margin, whereas a soft statement such as, “We remain confident that AOL is on the right track,”20 is largely unverifiable. The verifiability of a message effectively disciplines and keeps the communicator honest, mitigating manipulation and hype, thereby enhancing the credibility of the message. Effective communication strategy should therefore strive to harden soft information as far as possible, such as the use of an industry-standardized methodology for measuring the all-important book-to-bill ratio (order backlog in the semiconductor industry) and the use of a common data collector (a major accounting firm) for this indicator, disposing of the need to specify the context (methodology) and the collector of the information in each book-to-bill communication. Or, accompanying a reassurance such as, “the company is on the right track,” with measurable and verifiable milestones, such as an expected 12 percent return on equity next year. Hardening soft information is critical to effective communication.
Hard information is not a panacea, however. In the process of transforming soft to hard information, certain valuable knowledge is lost, adversely affecting decisions based on the information.21 And when decisions are entirely based on hard data, it's easy to distort them by manipulating the information. Thus, for example, when the creditworthiness of a loan or credit card applicant is solely determined by a hard, numeric score based on several attributes (e.g., income, age, place of residence), considerable relevant information, such as the applicant's wealth, family resources, or social network, is lost. And when some of the attributes of the score are known to applicants, they can easily misrepresent them (e.g., claim a higher income, say, as was frequently done during the mortgage boom preceding the 2007 to 2008 subprime debacle). The choice, therefore, is not between hard or soft information, but rather finding the right combination of hard and hardened soft information.22
The important role that soft information plays in investors' decisions is evidenced by the startling finding that the key, hard corporate data—earnings and book values (net assets)—account statistically for no more than 10 percent of stock price changes around the financial report release.23 Clearly, the soft information conveyed in the financial report (in the management, discussion, and analysis section, for example), as well as in managers' press releases and conference calls, drives many investors' decisions. The key issue for managers then is how to effectively communicate soft information to investors suffering from limited attention and constrained information-processing capacity. Let's start with the ubiquitous earnings conference call.
Analyze This … Earnings Conference Calls
Managers' conference calls with analysts and investors that are held soon after the release of quarterly earnings are now routine. Almost all large companies and many medium-size and small firms conduct quarterly conference calls. But are these interactive and impromptu communications with investors an idle ritual, like most annual shareholder meetings, or a vital channel of communication? And even more important, how can managers turn the conference call into an effective tool for changing investors' perceptions, particularly in the wake of a dismal quarter? Research has lots to say about these questions.
The Secrets of Effective Conference Calls
The evidence is unanimous that, by and large, conference calls impart useful information to investors. Studies have documented, for example, an abnormally high volume of stock trade and price volatility during and immediately after the calls, indicating that new information was released in the calls.24 Such findings aren't really surprising. Why else would analysts and investors continue to attend conference calls? The important question for managers is how to enhance the effectiveness of calls. For this, you have to actually listen and analyze the content of the calls, not just record their impact.
Although Marshall McLuhan famously claimed that “the medium is the message,” the conference calls' narrative and tone are crucial to their impact on investors. The Children's Place conference call I described earlier disappointed investors because of largely irrelevant content—particularly managers' refusal to provide meaningful details and prospective guidelines. Two studies, using advanced linguistic-analyzing software, delved into the content of conference calls, providing important insights.
Dawn Matsumoto, Maarten Pronk, and Erick Roelofsen analyzed over ten thousand transcripts of earnings conference calls held between 2003 and 2005, considering the two segments of the calls—the management presentation and the subsequent Q&A.25 The researchers focused on the length (word count) of the call and on two content dimensions: financial (earnings, sales) versus nonfinancial (e.g., competitive position, economic outlook) information, as well as retrospective (e.g., past earnings) versus prospective (sales guidance) information.26 The findings indicate that the worse the company's performance disclosed before the call, the longer the discussion will be in both segments of the calls. Either managers attempt to distract disappointed investors with hot air, and/or poor performance requires more explaining than good performance. Similarly, when performance is poor, managers' presentations are less financially oriented (more bullshit?) and more focused on the future. Not unexpectedly, in the Q&A segment of the call, which is initiated by analysts, the worse the company's performance, the more the discussion is financially oriented and focused on the past. Clearly, analysts and investors are less interested in managers' “castles in the air” and more concerned with hard, financially oriented information about the things that went wrong.
But what exactly makes a conference call click? To answer this question, I performed (with a group of doctoral students—Karthik Balakrishnan, Richard Carrizosa, and Alina Lerman—all young professors now) an intensive content analysis of a large sample of effective versus ineffective calls. What's our definition of an effective call? One that creates a buzz and triggers an abnormally high volume of stock trade.27 Better yet, a call coming in the wake of a disappointing quarter, yet results in a stock price increase during and immediately after the call. Using conference call transcripts from the Thomson StreetEvents database, we identified thousands of quarter-end calls conducted from 2001 to 2007, all following disappointing results—a miss of analysts' consensus earnings estimates. Since corporate earnings are released before the conference call, our measure of the reaction to the call—the stock price change from the start to the end of the call, or to the end of the call day—reflects the call's message rather than the disappointing earnings.28 We focused on both the stock price change and the trading volume generated by the call, the latter, reflecting its buzz.29
We examined the following attributes of conference calls: (1) participation—the number of analysts participating, number of questions asked, and number of managers' answers