Corporate disclosure is a little like government spending: Nearly everyone agrees there's too much of it, but it's almost impossible to get anyone to agree on where to make the cuts.
We all know that the entire system of financial reporting and disclosure is overwrought, burdensome on U.S. companies, and fraught with pages and pages of meaningless, time-wasting material. There are several disclosure items that companies hate putting together, generally don't provide meaningful information, and that investors and analysts don't bother reading anyway. Just skim through the risk factors that companies report on their quarterly financial statements, for example, to see the boilerplate disclosures.
The problem, though, is that most people have very different ideas about where the waste lies. Financial statements are increasingly called on to serve many masters: regulators, long-term investors, analysts, financial journalists, and political activists. (Conflict minerals, anyone?)
Last week Securities and Exchange Commissioner Troy Paredes sounded the latest alarm that investors are drowning in a sea of information. Mandated disclosures have “continued to pile up,” he said. The result, according to Paredes, is that reporting can have the opposite of its intended effect. Instead of enlightening investors, too much disclosure can obscure the meaningful information and make it difficult for them to cut through the clutter.
“Disclosures, after all, need to be understandable,” said Paredes. “Ironically, if investors are overloaded, more disclosure actually can result in less transparency and worse decisions, in which case capital is allocated less efficiently and market discipline is compromised.”
Requirements by the SEC, the Financial Accounting Standards Board, and others are just part of the problem. Companies often feel the need to guard against litigation and err on the side of providing more rather than less. Companies “acting defensively, disclose more information to reduce the risk that they could be challenged in litigation for not having disclosed enough,” said Paredes.
A great example of this point is the rash of lawsuits challenging proxy disclosures by large companies in the run-up to shareholder votes on executive compensation. The lawsuits claim that some companies aren't providing enough compensation information for investors to make sound judgments during “say-on-pay” votes, despite the requirements for detailed data on everything from the slightest perk to how companies benchmark pay decisions with peers.
The plaintiffs' bar bears much of the blame here. “The law firms bringing most of these lawsuits appear to be putting virtually no time into researching the merits of their claims before filing,” asserts Michael Melbinger, a partner at the law firm Winston & Strawn and chair of its employee benefits and executive compensation practice. “In fact, one lawsuit had the name of a different company—one sued previously—in the complaint. They seem to be using the search and replace feature and running these off.”
Compensation disclosures are important and no one is arguing for less information about how companies pay their executives. But care should be taken when new information is demanded. A Dodd-Frank Act requirement that companies report CEO pay as a ratio to the average worker salary, for example, is forthcoming, but it's not clear if legislators have really thought through the incremental benefit of the data versus the cost and trouble to companies of assembling it.
Determining the average pay of all employees sounds simple, but isn't. Calculating the median pay of a global, fluctuating work force with complex schedules and incentives will be difficult to do and hard to compare between industries. Many have suggested that the fruit of this massive undertaking will be meaningless.
The “pay ratio will not be comparable among companies within or among industries: A retailer will have a wider ratio than a hi-tech firm; a company that decides to maintain manufacturing or service centers in-house may have a less attractive pay ratio than one that outsources that work altogether,” says Tim Bartl, general counsel for the advocacy organization Center on Executive Compensation.
In 2011, the President Obama issued an executive order asking the SEC, the Commodities Futures Trading Commission, and other agencies to review regulations with an eye toward eliminating outdated, redundant, or overly burdensome rules. It got very little attention because most people saw it for what it was… an empty statement. It's hard to take seriously a call to reduce regulation when, at the same time, more and more regulations are piled upon the corporate plate.
The SEC and FASB have talked about efforts to take a holistic view of disclosure, with an eye toward streamlining requirements and eliminating burdensome, useless reporting. Like Obama's executive order, these projects are doomed to the same fate of efforts to reduce government spending. They'll be some debate, but in the end no one will be able to agree on what to eliminate and the status quo will prevail.
In other words, I'll believe it when I see it.