The pace and magnitude of change in the Australian cash equities business is causing a tectonic shift for sell-side equity research firms. The exponential rise in passive investing, growth in automated trading, recent regulatory changes (MiFID II) and ultimately a reduction in the pool of Australian cash equities revenue are reshaping this brave new world.
For ASX listed entities and their investor relations teams, this change in sell-side equity research has driven reductions in analyst coverage, less frequent publishing and a trend to ‘juniorise’ bulge bracket equity research teams.
It has created complex and unexpected challenges for listed entities when managing sell-side equity research relationships especially when measuring and managing consensus forecasts against internal estimates/earnings guidance. Alongside listed entities, the ASX has been following these developments very closely and the recent revisions to ASX’s Guidance Note 8 Continuous Disclosure provide further clarity when managing analyst forecasts and consensus estimates particularly around dealing with stale analyst forecasts.
What are the changes?
On 23 August 2019, the ASX released an update, inter alia, to Guidance Note 8 Continuous Disclosure: Listing Rules 3.1–3.1B. The update provides listed entities with more fulsome guidance in dealing with stale analyst forecasts impacting consensus and the ability to exclude stale forecasts from analyst forecasts published on its website or in a market announcement where an acceptable explanation is provided.
If a listed entity excludes a particular analyst’s forecasts from the published information, that fact should be clearly disclosed in the published information, along with an acceptable explanation as to why it has been excluded. Examples of an acceptable explanation for excluding an analyst’s forecast include the forecast does not reflect a material announcement or the most recent financial statements published by the entity and is therefore materially out of date, or it contains a manifest error.
The other key change incorporated into Guidance Note 8 (Annexure B: Relevant provisions of the Corporations Act) relates to heavier civil penalties and criminal sanctions for breaching those provisions enacted earlier this year in the Treasury Laws Amendment (Strengthening Corporate and Financial Sector Penalties) Act 2019.
Why have they been implemented?
These amendments and updates to Guidance Note 8 are aimed at further strengthening market integrity for all participants through better information, increased transparency as well as appropriate penalties for misconduct. It will also further assist listed entities when measuring and managing consensus forecasts mainly for internal purposes which is an area of growing complexity.
How will this impact listed entities?
At a practical level, these changes are unlikely to materially change the approach from listed entities towards providing earnings guidance and/or disclosing consensus earnings estimates.
In fact, we may see less listed entities providing earnings guidance going forward due primarily to boards taking a more cautious approach to disclosure and greater risk aversion. This is highlighted in the latest biannual Director Sentiment Index where 70 per cent of director respondents either agreed or strongly agreed that Australian boards are too risk averse1.
If the recent August 2019 reporting season is anything to go by, less S&P/ASX 300 entities provided guidance (60%) than in the same period last year (66%) and February 2018 (73%) according to FIRST Advisers2. This is a concerning trend which may leave investors less informed than they may otherwise be should guidance and/or consensus earnings be published by listed entities.
We may also see a continuing trend towards elevated levels of share price volatility ultimately impacting market integrity. To put this into context, more than one-third of larger ASX listed entities (37%) in the August 2019 reporting season saw their share price move more than five per cent on the day of reporting their results. This figure has more than doubled since the August 2003 reporting season (16%), according to JPMorgan Securities3.
It seems that the growing level of shareholder class actions, recent landmark judgments on continuous disclosure and increasingly high-profile activist short-selling reports will inevitably lead ASX listed boards to become even more cautious when providing market disclosures including earnings guidance.
So if the aim of these recent governance changes is to improve market integrity, then we need to ensure that boards are incentivised to disclose more rather than less relevant information where possible to market participants, especially retail investors.
An opportunity to revisit, reflect and reset
Many of these recent developments have triggered renewed debate around Australia’s continuous disclosure regime and what it means for listed entities and market participants.
Whilst these changes have been well received by industry, they provide an opportunity for listed entities to revisit and reflect on their approach to continuous disclosure and any areas for improvement reflecting changing market dynamics.
It is also a timely reminder to review and reset existing continuous disclosure and market communications policies and practices to ensure they are providing a strong, sustainable and progressive foundation for listed entities.
In this brave new world, investor relations functions alongside their governance colleagues within listed entities are now front and centre in these complex and increasingly critical market communication discussions.