All companies find a time when they need to deliver bad news – this could be on a myriad of topics: clinical trial data that falls short of expectations, litigation rulings that go the other way, product recalls, manufacturing problems, and many other possibilities. In addition, and what draws most attention on a quarterly basis, are financial results and guidance. For the purposes of this article, we will focus our commentary on how to convey a financial shortfall, whether it be in revenues, earnings, or forward guidance.
After 20 years on Wall Street and over a decade of working with companies on their investor relations strategies, one thing rings true for me across almost all management teams. When they set guidance, they intend to hit or beat it. Companies don’t set out to report a disappointment. When revenues fall short, it generally doesn’t mean the business is fundamentally flawed or that we are headed for Armageddon. Dealing with the Street can be difficult, painful, and (frankly) frustrating – especially when faced with the need to report a shortfall which is an aberration to an otherwise compelling trajectory, or worse, when underlying performance is incredibly strong but guidance was just set too high at the beginning of the year.
5 Questions: Guidance in Communicating
Below are five questions to consider when faced with the need to message a shortfall:
1 | How, When, Where Should this be Communicated? Once companies know that results are falling short of expectations, they are invariably faced with the question of how to convey the information. Do we wait for the earnings call, issue a standalone press release, or have a separate call to discuss the issue? At a high level, we would prefer the information to be disseminated on a regularly scheduled earnings conference call and press release. This way, we can also talk about forward-looking expectations and the assumptions behind them, and we can answer questions in a public forum. That said, the honest answer is that sometimes we don’t immediately know what is best. Often how we decide to proceed is to write the press release – inserting color in the quote to shed some light on what happened. Then, we draft language in the script where we explain in a bit more detail and talk more about the financial implications. During this process, we are amassing a list of anticipated questions and inserting the not-for-public answers (with the public disclosure still in process). Often, it is through an in-depth Q&A preparation process that we ultimately circle back to what language is included in the press release and the earnings call script – both in describing the shortfall, as well as communicating expectations. And again, most often in our view, it’s preferable to communicate the information on a regularly scheduled earnings call.
2 | How Much Information to Share? This is always a difficult conundrum because it often seems as if Wall Street would like the reason for a shortfall to be packaged up with a neat wrapper and a bow – it’s a salesforce issue; an execution issue with a product launch; competition; or a challenging market environment. In reality, each quarter is filled with many puts and takes across the business within Operations, R&D, Sales & Marketing as well as personnel changes across the entire organization. There are also nuances among customers, which for our client companies, are typically clinicians that have their own lives and situations. And then there are factors simply out of control of the company – weather, vendor challenges, the political environment, etc. At the end of the day, there are a host of things that will never be publicly communicated, as they don’t reach the bar of materiality. In addition, when delving into the root cause of any issue – say, a salesforce challenge – its multifactorial. So, how do we package this in a neat little box? We start with the premise that transparence is imperative, but to also keep the message at a fairly high level and not confuse matters by oversharing. There are anecdotes which can help illustrate the situation, but in general, we would save these for Q&A session on the conference call. Most important to the Street is that you (a) have identified the problem; (b) have identified a solution and are on a path to fix it; and (c) that you realistically understand how it will impact your financials for upcoming periods.
3 | How Much Optimism to Convey? More often than not, weakness within an individual quarter is not indicative of the underlying fundamentals of the business, which in all likelihood, remain strong. And while it’s important to be transparent and honest, it’s also important to convey confidence in the business. What we want to avoid is sending one of two messages that tend to evoke anger among Wall Street: (1) that this was expected and planned; or (2) that these results don’t matter, rather other aspects of the business are more important. For the former – companies have ample opportunity to set expectations, and they have full knowledge of analyst estimates. It is the management team’s responsibility to help provide guideposts and information if expectations are unreasonable. For the latter, there are indeed other aspects of the business that might be better indicators of future success, but we want to avoid the perception of calling out, “Look over here…look over here!” in an effort to distract the Street from the issue at hand. So, again, our advice is to strike a balance.
4 | What to do with Guidance? When quarterly results miss by a small amount, or it’s the result of something transitory, the natural temptation is to think, “hey – we will make it up in the next quarter.” As most of you know, that’s easier said than done. But even if it is possible – should you maintain guidance, or even consider raising it? While we don’t have a blanket answer to this question, our philosophy to setting guidance is simply to err on the side of conservatism. The Street will be disappointed in the shortfall, but once they get over their disappointment, they care about (a) why did it happen and most importantly, (b) will it happen again. Your best path at this time is to offer an explanation with transparency and credibility and then look to convey why your future expectations (whether they be raised, lowered, or maintained) are reasonable. When companies raise guidance in hopes of keeping the Street optimistic in the business, it not only sets the bar higher for the next quarter, but it’s unnecessary. Said differently, you generally won’t get credit for it as they are digesting the bad news de jour. So, in the interest of saving your good news for when it counts, as well as keeping credibility strong, we would take a hard look, and either leave guidance as-is or (potentially) lower it to what is more reasonable and attainable.
5 | What Matters Most? To sum up what matters most to the Street, it’s that you, as a management team, maintain credibility. In our view, this is achieved through transparency and balance. Specifically, through a balance of high-level commentary with anecdotal examples as well as through a balance of owning the shortfall with conveying confidence in your strategy. It’s especially important that you articulate the implications on future expectations and how assumptions underlying your guidance may be impacted. To accomplish this, preparation is imperative. Crafting the language in the press release and conference call script can be tedious, but well worth the effort. Similarly, anticipating questions and drafting answers is probably the most important part of the preparation process. It is here that we suggest offering more details and anecdotal evidence by either explaining the issue, or in conveying confidence in the solution.
And lastly, give yourself as much time as you can to learn more internally, to spend time with the message, and to practice providing answering to the Street. We have worked with hundreds of healthcare companies as they handle communications on a variety of topics, which are sometimes shy of expectations. Between our Street backgrounds coupled with our immersion in the sector, we are uniquely positioned to share our experiences with similar situations, as well as to anticipate the thorniest of questions. We will roll up our sleeves to help both strategically and logistically to ensure the message as cleanly as possible. Our ultimate goal is to maintain and build credibility to create shareholder value. For more ideas and help in communicating a shortfall, contact us.
Lynn Lewis, Founder and CEO