Strategy & Operations » Governance » Predicting the future is a job for soothsayers, not directors

Predicting the future is a job for soothsayers, not directors

There is too much volatility in world markets for predictions more than 12 months hence to be anything other than guesswork

TODAY, I’d like everyone to gaze into a crystal ball and predict their own future. Not a week or a month ahead, but really stick the boat out – be bold and give me your predictions of how your world will look in two to three years. Tough ask, isn’t it?

We all have to make provisions for the future but defining that future inevitably gets more fuzzy and uncertain the further ahead we have to make our predictions – and in a complex, fast-moving global environment, things (as we know) can change very rapidly and often without warning.

But it would seem that long-term predictions are something that investors will now expect from the directors of the UK’s premium listed companies following the FRC’s recently announced changes to the UK Code for Corporate Governance.

Before I go any further let me say that the announcement contained many welcome changes. The rationale behind the revisions is to “strengthen the focus of companies and investors on the longer term and the sustainability of value creation”. Exactly the ethos that the IoD believes is needed to continue to improve business performance and help mend its reputation in this country.

Two alterations stand out for particular recommendation: first, strengthening the link between executive performance and pay. This will help increase confidence among UK stakeholders and the wider public. Second, it’s right that companies should explain how they intend to engage with shareholders if and when a significant percentage of them have voted against any resolution. It’s a drum we’ve banged loudly following a string of shareholder rebellions this year, including at Sports Direct, Burberry and Standard Chartered.

The code also now requires directors to provide more details to shareholders around their risk management and internal controls. Again, we don’t see this as too much of an issue.

However, we do have concerns about another amendment which essentially requires directors to guesstimate how long their businesses will be able to continue as a going concern under the current financing arrangements and to take this beyond the generally agreed accounting principle of 12 months.

It’s part of this greater push towards ‘long-termism’ for companies and boards which in itself is positive, but must still operate within the bounds of realism and practicality.

Investors are demanding more scrutiny and greater transparency around areas such as risk management, in the wake of the banking crisis, the blame for which, fairly or not, was largely levelled at boards, their audit committees and auditors. The question is whether, when it comes down to it, they will really believe the longer-term predictions placed in front of them?

Just as importantly, will it be helpful? The certainty that many investors are looking for may still elude them, even under these revisions. Equitable Life? Who knew? It wasn’t just the scale of the collapse, but also the unexpectedness that caused such huge shockwaves.

We’ll have to see how boards respond to the impact of the changes. It would be hard for many to avoid the lure of looking over at competitors to see what predictions they are making. The concern is to what extent they will allow this to influence their own forecasts. Will boards feel that they need to somehow match or better the estimates of others on the basis of the influence that it could have on the investment community? Or will investors question the legitimacy of lengthy projections, and dismiss those extended beyond a particular time period as mere conjecture?

The greatest likelihood is the majority will hold sway and hopefully good judgment will carry the day. There is too much volatility in world markets for predictions more than 12 months hence to be anything other than guesswork.

The notes that accompany the going concern will be of interest, and investors will no doubt want to read details of a company’s long-term plans to raise capital, its investment strategy and future plans.

Al in all, however, we believe this attempt to look beyond the horizon is simply going to stretch credibility too far. We can only hope that common sense will prevail.

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