Let’s return to our recent reflections on how an entity might manifest “character” in its financial reporting.
The Canadian National Instrument 51-102F1 says in the second paragraph of its introductory section that the issuer’s objective when preparing an MD&A includes “openly reporting bad news as well as good news.” Of course, in corporate reporting as in life, it may be hard to assess when someone isn’t doing this, because how can you assess the significance of something that’s being artfully avoided? But for example, I recently looked at an MD&A that in each year sets out the issuer’s strategic priorities for the coming twelve months, and at the same time reports back on its performance against last year’s priorities. On the face of it, this looks like a commendable framework for accountability. But when that report on performance consists entirely of a large number of positive bullet points, doubt must surely arise about whether the issuer is providing a balanced discussion.
Warren Buffet is often cited as a leader in corporate reporting straight talk, for example through his annual shareholder letters. Take this example from the most recent edition:
- A few (investee businesses), however – these are serious blunders I made in my job of capital allocation – produce very poor returns. In most cases, I was wrong when I originally sized up the economic characteristics of these companies or the industries in which they operate, and we are now paying the price for my misjudgments. In a couple of instances, I stumbled in assessing either the fidelity or ability of incumbent managers or ones I later put in place. I will commit more errors; you can count on that.
Out of interest, I searched for instances of the term “blunder” in recent Canadian disclosure, and found only two in the last three years – one in the context of a proxy battle, and the other as part of a reflection on “Why Can’t Investors Get Ahead” included by Cymbria Corporation in its 2015 annual report. Cymbria seems to be carving out a bit of “straight talk” space of its own:
- Historically, capitalism has worked and historically our investment approach has managed to outperform over material amounts of time. Our biggest threat isn’t the noise and fears we’ve discussed, but how many mistakes we make as investors. We’ve made some doozies in the past eight years. Since inception, we held and sold 12 stocks in Cymbria that lost money. Fortunately, we’ve been well-diversified so these mistakes were more than offset by the winners…
Unsurprisingly, this is also the only use of ”doozie” in Canadian corporate disclosure in recent years (it follows then that I could not find any incidences of “asshole” or “pissbrain”).
Cymbria’s distinctive voice continues into its most recent MD&A:
- We believe our historical returns have been pleasing. Many investors extrapolate historical returns into the future, meaning they believe the positive returns they’re seeing today will continue into the future. The investment industry has conditioned many to think this way.
- The industry bombards you with advertising which highlights their historical returns in the hopes that you’ll be motivated to get rich and invest with them. This is poor behaviour on their part but regrettably we don’t see any of them changing their practices any time soon. When it comes to your investment in Cymbria, you shouldn’t assume that we’ll be able to deliver the same returns in the future as we have in the past.
- Why are we confident that future returns will be lower than the past? Mainly because overall valuations in the world are higher than they’ve ever been since we started the firm in 2008…
Now of course, there’s a possible trap in such forthrightness (and I’m just expressing this generically, not implying anything about Cymbria) – that as I mentioned before, once you can fake sincerity, you’ve got it made. That is, a plain-spoken admission of past failure over here could be helpful in distracting from a current ongoing failure over there. Every straight-talk-seeking company has to consider how to promote confidence that this isn’t the case. But how can it realistically do that…?
The challenge is perhaps related to that of implementing one of the content elements in the integrated reporting framework:
- An integrated report should answer the question: How does the organization determine what matters to include in the integrated report and how are such matters quantified or evaluated?
This includes providing a summary of the process for determining materiality, including “the role of those charged with governance and key personnel in the identification and prioritization of material matters,” and of the significant frameworks and methods used to quantify or evaluate material matters. In plain language terms, the intention might be to anticipate and respond to the question: “How did we decide what to put into the report and what to leave out, and why do we think you’d be comfortable with our decisions?” The <IR> framework notes “To be most effective, the materiality determination process is integrated into the organization’s management processes and includes regular engagement with providers of financial capital and others.” Very simply, it’s hard to know what stakeholders want out of a report unless you ask at least some of them, and then take seriously what they tell you, and try to get across to other stakeholders in your disclosure how you did that, and then keep doing it, so that the voice that people hear in your corporate communications becomes an expression of that engagement and commitment. Put another way, perhaps, it’s hard for users to believe in your commitment to “open reporting” unless the doors and windows of your reporting function are, actually, open…
Well, more on this in the future I expect…
The opinions expressed are solely those of the author