Investor relations: Proving its worth

Ahead of the forthcoming Investor Relations Society’s Conference, Mark Johnson looks at the tricky issue of measuring the value of IR

Does investor relations really have a financial impact on company performance? This is to be the subject of the Investor Relations Society’s 2005 Conference taking place in London in April.

At the event, leading lights from the industry will tackle such subjects as ‘how to manage the shifting balance between buyside and sellside’, ‘how to make your corporate governance report interesting and meaningful’, and the outlook for equity markets. But perhaps the most challenging subject of all is the theme of the conference itself – The Return on Investment of the IRO.

The question ‘Does IR provide a return on investment?’ has the industry in a tail-spin.

Clearly, the IR department is tackling exactly the same battle as corporate affairs, media relations, or any other PR function, in that it is seeking to prove its own value to its paymasters.

The founder of a leading IR consultancy puts his view fairly and squarely in one camp. He says: ‘Investor relations is a crucially important function. But in a strictly financial sense, it is impossible to make a return on investment in an IR function in the same way that it is impossible to measure the ROI of a financial team.

‘In its crudest sense, having an IR function, for a quoted company, is purely a cost of doing business. It’s just an obligation you take on when you become a quoted company.’

He is a firm believer in IR’s proven ability to achieve an efficient share price that reflects fairly the prospects of the company, and that it can help develop appropriate share ownership and aid in lowering the cost of bringing in capital to the firm either through equity or debt issues.

However, he adds: ‘No one could say the IR department at any company has delivered a cash return of such-and-such a percentage.’

Those in the other camp argue there is a return but are nonetheless left in a quandary over ways of proving it. Financial return is not a phrase that Gallaher Group director of IR Claire Jenkins uses readily. She argues that IR offers ‘value’ to the company.

‘It is critical that the IR department is able to demonstrate to the executive management and board of directors that its activities that go beyond the statutory are added value to the plc. The issue is: how do you demonstrate it?’

One of the most obvious ways of measuring it would be to look at share price as a tangible asset.

Jenkins argues, however, that this is an insufficient measure. ‘Share price is a function of the financial performance of the company, stock market conditions and the performance of the company’s peers,’ she says.

‘You can, as a company, have an internal view of current financial performance and future prospects. You can also run your own discounted cash flows to have an idea of what a fair share price might be in relation to its sector, and judge whether you’re close to it or far away.

‘But that’s the only factor about which you can be specific and it’s a clumsy tool by which to judge the performance of your IR,’ she adds.

Perception audits provide a more accurate way of measuring the impact of IR, argues Jenkins. Scottish & Newcastle IR director Bridget Walker agrees. ‘It is very difficult to measure the impact of IR because there is a lot of white noise in the market,’ she says.

‘Share prices get knocked about by many factors – sometimes you are in a sector that is out of favour or the market itself is in decline. One way of measuring performance is by winning awards. But we regularly ask analysts and shareholders in research studies to explain whether or not they understand the issues faced by the company and ask what we need to do to improve their understanding,’ she adds.

Measuring IR

Sainsbury’s head of IR Linda Ashton agrees: ‘It is difficult to measure the value of investor relations as a service because different companies have a different commitment to IR in terms of resources and team size.

‘But the easiest way of measuring its impact is through a perception study with analysts and investors, a qualitative study to look at how the company’s message is being told.’

A further measure (not necessarily a measure of the return on investment) is the reaction of the share price to company announcements.

An overreaction could be construed as a failure on the part of the company to explain strategy and underlying performance.

Jenkins says that apart from a perception audit to examine trends among investors and analysts every 18 months, share price reaction is a fairly reliable indicator.

‘If something happens financially or commercially that is to the detriment of the group, and the share price reacts in accordance with the differentials, that demonstrates a good dialogue with shareholders,’ says Jenkins. ‘If it overreacts, this shows poor shareholder support.’

She adds: ‘One of the objectives of IR is to have an enthusiastic and supportive body of investors.’

Ashton points out that IR departments are being asked increasingly to take on a broader remit, including CSR, debt and governance, and this is expanding the size of their audience, so the role of IR and the ability to demonstrate value will increase as time goes by. However, adding pressure to the situation is the raft of EU directives that could increase the duties of IR officers, such as the Transparency Directive proposed and currently under discussion by the Council of EU Economics and Finance Ministers.

If introduced by April next year, the directive will effectively introduce quarterly reporting.

Jenkins says: ‘There is ever-increasing regulation. Remuneration reports are becoming longer, governed by an awful lot of statutory obligations that are increasing. On those areas, you can’t judge ROI because they’ve got to happen, and therefore a whole chunk of one’s job is statutory.’

This means that to avoid the IR team becoming subsumed by statutory requirements and fulfilling the sole purpose of merely meeting those requirements, companies will need to invest more in their departments.

Or else, risk losing the ability to deliver value. This all adds up to a further challenge to those who believe IR does deliver a return on investment.

Whether a true return on investment in IR can be measured remains to be proven, but one thing that should not be overlooked is the fact IR does not work in isolation.

Limited capabilities

Few IR specialists would disagree with the views of another leading IR consultancy head who says IR ultimately has only limited capabilities.

‘Qualitative studies indicate whether you are a bad or a good communicator with investors and analysts.

That will have as much to do with whether or not the chief executive or the financial director is a good communicator.

‘But if either of those people are poor communicators, no IR head can do anything to change that,’ he adds.

This also looks like a good argument for having a senior communicator on the board of directors.

The client view

Bridget Walker, IR director, Scottish & Newcastle ‘Most companies now invest significant sums of money in investor relations so ensuring a return on that investment is important. But it is not so easy to do this in practice.

‘In principle, clear communication that helps investors and analysts to understand and predict company performance should lead to less volatility in the share price and, therefore, a better value for the company. But it is almost impossible to split out the impact of good communication from all the other issues that affect the share price.

‘At Scottish & Newcastle we conduct two or three feedback studies each year to find out what analysts and investors think the key issues are, what extra information they need and the level of service they get from the IR team.

‘From this we take away lessons about how we can improve our communication and reduce misunderstanding without using up too much senior management time.

‘It is a thankless task as there is always something we can do better and analysts and investors always want more information.

‘But in a bear market, which assumes the worst first and asks questions later, it is important to be as transparent and proactive as possible.’

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