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“Our markets thirst for high-quality, timely information regarding company performance and material corporate events. We recognize the importance of this information to well-functioning and fair capital markets. We also recognize the need for companies and investors to plan for the long term. Our rules should reflect these realities.”
Those are the remarks of Securities and Exchange Commission Chairman Jay Clayton at the kickoff for the Commission’s request for comment on the United States system for earnings releases and quarterly reports. The SEC was asked to study the decades-old system by President Donald Trump, after tweeting that a top business leader suggested that the U.S. should “stop quarterly earnings and go to a six-month system” to “make business (jobs) even better.”
Chairman Clayton surely has one thing right: markets thirst for high-quality, timely information. Yet it’s difficult to see how moving to less-frequent information slakes that thirst.
More at Stake than Meets the Eye
Private companies get a free ride from the public markets in a very important regard: they provide a reference point for valuations. Public company valuations are used in private company reporting to investors, and for exchanges of whole companies among private equity players. If more information makes public markets more effective at letting capital go to where it’s best served, the same information keeps private equity markets robust as well.
Ironically, the private markets need the public markets – while they simultaneously attract companies away from public listings. Eliminating public company quarterly reporting to make them more like private markets is a race to the bottom, and it may weaken both.
Quarterly Reporting vs. the Long Term
Private companies’ freedom from quarterly reporting is oversold. Managers of private companies often revel over their liberation as a perk of private equity ownership, yet private companies often internally report quarterly earnings. More likely, what they really don’t miss about quarterly reporting: doling out fair and equal guidance to Wall Street analysts.
Quarterly reporting gets a bad rap for causing short-term thinking. Luminaries such as super-lawyer Martin Lipton of Wachtell, Lipton, Rosen & Katz have called for scrapping quarterly reporting to encourage long-term thinking. Automotive legend Bob Lutz, an executive at all three of Detroit’s Big Three, told an interviewer he wishes it would all go away — the quarterly earnings, the guidance, analyst reports, all of it. Hillary Clinton trashed “quarterly capitalism” during her 2016 presidential campaign. And Tesla CEO Elon Musk recently told employees the quarterly earnings cycle puts “enormous pressure on Tesla” and may distract the company from the long-term picture. But is quarterly reporting really the root of all evil?
It’s Corporate America’s intricate, non-stop guidance dance with Wall Street that makes the entire reporting process exhausting, and the quarterly reporting issue becomes conflated with the long-term issue needlessly. There is absolutely no SEC requirement to provide earnings guidance; companies make that choice.
Companies can immediately simplify their reporting by forgoing the election to provide earnings guidance. There is support in the business community for that idea. With the backing of the Business Roundtable, Jamie Dimon and Warren Buffett argued in a Wall Street Journal op-ed for abandoning quarterly earnings guidance – but not quarterly earnings reporting.
When Did Quarterly Reporting Become Burdensome?
The SEC mandated quarterly reporting in 1970, when many companies had already elected to do so because of exchange listing requirements. Without so much as electronic spreadsheets to help with the chore, companies were able to generate a 10-Q in 45 days after the quarter’s close. Even with a reporting window that’s now five days shorter (for large companies), it’s incredible that quarterly reporting has become so onerous. Today’s software and data processing capabilities are far superior to what CFOs were able to muster in 1970.
Companies point to added quarterly and annual disclosures as an added burden, but that information wasn’t added overnight. It arrived in increments, as companies engaged in increasingly complex business combinations, derivatives transactions, equity compensation plans, and tax strategies. New accounting and disclosure requirements arrived incrementally, not suddenly.
Obscuring Information Benefits No One
Business has evolved through increasingly complex transactions, and market participants need information about them to be “well-functioning and fair,” in the words of Chairman Clayton. Obscuring information from investor view by limiting reporting frequency does not reduce complexity; instead, it fosters misinformation and volatility, and can raise the cost of capital. Inside information, staying inside longer than three months, creates a larger window for compliance and legal departments to police, with attendant risks. None of this benefits the public markets.
Instead of working to limit earnings information, the SEC should call for companies to file their quarterly reports when they release their earnings, while keeping the same reporting deadlines. That would give investors information about a company’s performance and financial condition in a comprehensive package. Many companies do this, and the flexibility is already built into the reporting framework.
Our country’s entrepreneurs are smart enough to make groundbreaking scientific discoveries or devise brilliant delivery logistics — yet can’t figure out cost-effective solutions for dealing with reporting requirements despite powerful tools to help them. Removing reporting requirements is not the answer, especially if the darkness it creates makes for higher costs of capital. Companies should be careful of that they wish for — emulating private companies might not provide the result they want.
—Jack T. Ciesielski is an accounting analyst and portfolio manager at R.G. Associates, Inc. in Baltimore, Maryland.