Quarterly Reports Are Not the Problem, Research Finds
A soon-to-be-published study finds no evidence that requiring companies to report earnings every quarter leads to short-term thinking, despite criticism of the practice.
BlackRock CEO Larry Fink, famed Wall Street lawyer Marty Lipton, and even former presidential candidate Hillary Clinton are among the high-profile critics of quarterly corporate earnings reports, which detractors contend lead companies to focus too much on the short-term. But a forthcoming report finds there is no evidence that quarterly study push company executives to think in terms of short-term profits at the expense of longer-term initiatives.
Critics of so-called quarterly capitalism say it leads to companies failing to plan for the long-term — giving short shrift to research and development, the building of new plants and factories and developing employees. These critics say a move to semi-annual reporting would lessen profit pressure from shareholders.
Robert Pozen, senior fellow at the Brookings Institution and former president of Fidelity Management and Research, will soon publish the results of his recent research, co-authored with Suresh Nallareddy and Shivaram Rajgopal, that disputes the notion that quarterly reporting leads to short-termism. The research will be published in an upcoming issue of the CFA Institute Financial Analysts Journal.
Pozen, who is also a senior lecturer at MIT Sloan School of Management and a former executive chairman of MFS Investment Management, saw what he calls a natural experiment on earnings in Europe. In 2007, the European Commission required public companies to report earnings on a quarterly basis, rather than semi-annually. In the U.K., the country Pozen studied, 515 companies started reporting earnings quarterly, joining 224 that had already been voluntarily providing this information to the market. The European Commission dropped the requirement in 2014. Pozen found that companies that started reporting earnings more frequently did not change the amount that they spent on capital expenditures, research and development, property, plants and equipment.
Pozen studied the companies’ activities for three years after the change and then again after six years and found no statistically significant modifications to their long-term spending.
“There is so much clamor against quarterly reporting, as if that is the thing that is forcing companies to take a short-term approach and not a long-term one,” says Pozen. “We looked pretty hard, but couldn’t find evidence of all these bad things that were supposed to happen because of the move from semi-annual to quarterly reporting.”
This is not to say that companies don’t prioritize short-term profits at the expense of long-term goals, Pozen acknowledges. “There is probably a legitimate short-term, long-term issue, but you’re kidding yourself if you think you’re going to solve it” by letting companies extend reporting by three months, he adds.
Pozen thinks the focus on quarterly reporting obscures more important steps that companies could take to promote long-term thinking. Among them: compensating executives based on the performance of the previous three years, rather than the most recent year, which is the tack taken by most companies.
“We did that at Fidelity and MFS. I figured anybody could be lucky for a year, but I wanted to see a longer term approach,” he says. “It’s not easy, but it makes a big difference.”
The study also found that quarterly reporting was associated with an increase in analyst coverage, and more companies published more qualitative than quantitative reports and gave guidance about future company earnings or sales. At the same time, analyst forecasts of company earnings became more accurate. In 2014, when the quarterly requirement was dropped, less than 10 percent of companies stopped issuing quarterly reports by the end of 2015.
Pozen and his co-authors also found that there was a “general decline in the analyst coverage of stoppers versus companies continuing to report quarterly.”