Guidance
This week’s Thought Leadership tackles a topic that always generates significant interest and discussion among our clients as we round out 2023 and look to kicking off 2024 in a few weeks — guidance.
Providing Guidance is Best Practice
(But Beware of Pitfalls)
At Corbin, the question is not “To provide or not to provide guidance?” but rather, “What kind of guidance should we provide?”
Having developed an expertise in guidance strategy, including setting, updating, and communicating — based on primary research, empirical data, and company experience — we fully understand the dynamics associated with issuing guidance and appreciate that the ‘what’ and ‘how’ is not a one-size-fits-all approach.
Indeed, our experience shows that determining both what guidance to issue and how to communicate it is both science and art and should be thoughtfully developed in the context of company reality and broader market conditions and delivered leveraging best practices.
Notably, there have been meaningful changes in company practices since COVID — including more companies providing both annual and quarterly guidance, an increase in the level of disclosure provided, including assumptions and scenarios, and the spread, which has largely increased. These have provided companies with greater flexibility in guiding the Street and more opportunities to land the plane.
As I always say, it’s Super Bowl Sunday every earnings season, but guidance is not a game of gotcha. We want the Street to fully understand our performance outlook and provide enough color to adroitly manage expectations during the quarter. Over time, quarter by quarter, trust is built with the Street, resulting in deeper leadership credibility.
Buy Side Perspectives and Guidance Considerations
According to our research on this critical topic, over 90% of investors and analysts report that companies should issue some form of quantitative guidance.
Further, at least half of investors report a preference for companies to guide on revenue, EPS, EBITDA, margins, and FCF, with nearly 70% favoring companies that provide both annual and quarterly outlooks.
Beyond indicating a clear preference toward companies providing guidance, the feedback we hear from the investment community tends to center around several key principles. Below, we outline the most prominent reasons for why companies should issue guidance with supporting representative quotes from our ever-growing repository of investor insights, Corbin Analytics, which comprises over 22,000 buy side and sell side interviews and surveys.
Reasons to Include Guidance as Part of your Financial Communication to the Street
Frames and Reigns in Sell Side and Buy Side Estimates, and Supports More Reasonable Market Expectations
“As much guidance as possible to model is helpful. More disclosure is useful from the standpoint of being able to have a measuring stick that we can use to hold management accountable. Part of what the Street is looking for are numbers and guidance that management reliably meets and is a gauge for sentiment.”
“The first milestone I am looking for the company to do is provide annual guidance. I would like to see a more granular view of the business rather than a very opaque one. Their business historically has had a lack of transparency, so the more transparent they can be, the better. Then, hold them responsible for the goalposts and targets they presented to the shareholders.”
“The company’s goal should obviously be investing in the highest return they can get on their capital for themselves, but it is important for them to understand that whatever guidance they do provide they make sure the Street is incorporating that into consensus because people will anchor off those numbers.”
“Laying out near-term and longer-term goals is always good and helpful to have a roadmap for investors. The company has found the right balance between giving the investment community some parameters and guidance to dig their teeth into but then also not giving so much that they are backed into a corner.”
Establishes and Builds Leadership Credibility
“The company’s core strength is purely execution. They have done a fabulous job in this challenging time of continuing to put out guidance and achieving it.”
“I am looking for execution. There is not a lot of confidence in this management team, so they just need to execute. The way they do that is to put out guidance that is achievable and meet their numbers.”
“The management team has a tailwind of low expectations. If they give out healthy guidance and execute on it, give full disclosure to the market as much as possible and engage in the investment community, it is an easy win.”
Attracts Higher Quality Buy Side Interest and Sell Side Coverage
“There is very little analyst coverage plus there is no guidance. Those two together may keep some investors at bay.”
“Analysts tend to like a lot of guidance because it helps you model a company.”
Helps Minimize Stock Price Volatility
“The lack of financial guidance creates unnecessary volatility around the stock at times, such as around the quarters.”
“Hindsight is 20/20, but it seemed like they had solid quarters. Then investors were very scared that they stopped giving guidance and that caused headwinds for the stock.”
As we show below, providing guidance is not only a preferred practice by investors, but also correlated with outsized share price appreciation and Street awareness.
We analyzed a sample of 100 North American companies with market capitalizations of at least $1B distributed evenly across all sectors and company sizes. We then split the group into two cohorts of 50 — those that provide quantitative guidance and those that do not. What we found is that companies that provide guidance consistently outperform over the long term compared with companies who do not.
Interestingly, when analyzing the sell side coverage of small-cap constituents (<$2B in market capitalization) for each group, those companies providing guidance averaged 8.2 analysts versus just 4.9 for non-issuing companies, suggesting the practice of providing guidance encourages, and is most likely a prerequisite of, attracting sell side coverage.
Still, we’d be remiss not to mention that pitfalls to providing guidance do exist, and companies must be fully aware of these factors. These considerations range from the potential of setting unrealistic market expectations, which can erode investor trust if forecasts are consistently unmet, to the risk of encouraging a short-term focus that leads to investor distraction.
Reasons That May Support Not Providing Guidance and Watch Outs
Inherent Company Cyclicality and/or Volatility, Which Makes It Difficult to Accurately Predict Performance, Especially Annually
“Most investors understand the last couple of years have been challenging, so do not give guidance if you cannot hit it. If you are giving guidance, you can give next-quarter and then full-year guidance, but there is no value of giving guidance unless you have the visibility and confidence you can achieve those numbers.”
Overly Optimistic Forecasts, Often Enabled by Weak Finance Organization and/or Senior Executive Overrides
“They had issues in the past with managing expectations. When they communicated their targets to the investment community, they were sometimes too optimistic and then did not make the numbers. Management is aware of that and does not intend to make these mistakes again, but that is a risk.”
Potential for Damaging Credibility by Providing Too Much, Which Can Create Unnecessary Complexity and “A Lot of Moving Pieces”
“You can go too far in terms of out-guiding yourself. No business is perfectly predictable, so if you give guidance, and even though you may have been conservative, but one line is off, then everybody focuses on the one line that is off despite beating top-line guidance or whatever it might be.”
Guidance Practices Have Evolved from Pre- to Post-Pandemic
Here’s How…
To garner insights into the latest trends, we analyzed the guidance practices of the S&P 500 and tracked the most commonly issued guidance metrics — Revenue, EPS, EBITDA, Capex, and FCF.
A Snapshot of 2023 Shows Broad-Based Proclivity Toward Guidance, Though Sector Variances Emerge
In terms of sector splits, there are some notable distinctions. Tech is most likely to provide quarterly guidance only, followed by Consumer Discretionary, while the remaining sectors are more inclined to issue annual guidance.
Next, we drilled into the specific cadence by metric for the same group, along with highlighting the most common sectors associated with each guidance practice.
Our analysis reveals Revenue and EPS are among the top three most utilized guidance metrics on both an annual and quarterly basis, whereas Capex and FCF are more commonly issued on an annual-only basis.
Defensive sectors such as Utilities and Consumer Staples are more likely to provide annual EPS, Revenue, and Capex outlooks, and Industrials constitute the lion’s share of annual FCF forecasts. Separately, the Tech sector dominates quarterly cadences across Revenue and EPS, while Consumer Discretionary companies are more apt to disclose quarterly EBITDA.
Evolving Guidance Practices Indicate More are Issuing Quarterly Guidance Following the Pandemic and Spreads Have Widened
The year 2020 was anything but normal and that also applies to public company practices around transparency and guidance. Indeed, in the face of abject uncertainty, executives turned to increased disclosure to quell tsunami-sized waves of market concern and manage expectations. From issuing press releases and presentations detailing safety protocols, to communicating weekly order trends, to sharing scenario analyses of epic proportions, companies embraced providing increased guidance — specifically, more companies began issuing quarterly outlooks — and what an effect it had on the markets.
Quarterly guidance, largely adopted as a tactical response to the uncertainty brought on by the Pandemic, has since gained some traction. This is notable, as prior to 2020, spurred by headline-grabbing arguments made by Warren Buffett and Jamie Dimon that providing quarterly guidance was enabling short-termism, many companies moved away from this practice. My view is, so long as the sell side exists and is pumping out quarterly estimates — the complexity of which has been compounded by the advent of multiple estimate aggregators and consensus providers — we need to care, be aware of, and prepare for a quarterly touchdown and to do this, we need to control our own narrative through helpful financial disclosure and transparency.
We analyzed S&P 500 constituents on pre- and post-pandemic trends, specifically 2018 vs 2023 calendar year revenue and EPS guidance issuance. Notably, more companies overall issued some form of quarterly guidance in 2023 versus 2018, specifically an increase of +7%.
Not only that, but average annual EPS guidance spreads have increased for this group amidst the now seemingly inherent uncertainty — from just $0.23 in 2018 to a whopping $0.41 in 2023! Average top-line spreads, while also increasing over the same 5-year timeframe, widened 0.3% and have held steady over the past three years.
The keys to an effective guidance strategy reside in accuracy of the data, transparency with investors, and being strategic and consistent about communication practices that may be unique to your company’s industry and investor relations story.
As we get ready to close out 2023 and set our sights on 2024, below we’ve provided a slate of actionable recommendations and best practices on guidance strategy and communication to leverage on the upcoming Q4 and FY 2023 earnings call, where guidance will be set.
Guidance Guideposts (And Other Best Practices)
If issuing guidance, below are selected strategies to consider:
Ensure consistency across all earnings materials and communicate fulsomely:
Ensure guidance is clear, concise, and consistent across the earnings press release, prepared remarks, presentation, and supplementals. When communicating updates to guidance, use clear language that reflects what you are doing, specifically raising, maintaining, or lowering; said another way, avoid making it difficult for the investor to understand what is happening by using cryptic language (e.g., we are changing guidance) or making them search in prior documents to find the “to from” information. Further, if you provide guidance for multiple metrics and are updating one or more in a different manner, provide granularity into the specific actions (e.g., maintaining revenue while increasing EPS). Even in times of adversity (i.e., lowering guidance), you can build trust with the Street and leadership credibility by being open, honest, and transparent.
Best in Class Example:
Earnings Press Release
Best in Class Example:
Earnings Presentation
Best in Class Example:
Earnings Prepared Remarks
Provide a wider range and include assumptions:
As our analysis above demonstrates, annual guidance ranges, EPS in particular, have widened over the prior 5-year timeframe. As such, offer ranges (e.g., 3% to 5% growth) rather than specific points (e.g., 3%) when communicating with the investment community to accommodate uncertainties more effectively. Importantly, provide bottom-up baseline assumptions that go into building the top and bottom ends of that range, which could include metrics such as business segment analysis, pricing and volumes, gross and operating margin levers, depreciation and amortization, foreign currency impact, FCF conversion, tax rate, and expected interest expenses. Also, avoid creating ultra-conservative ranges that are so wide that investors can “drive a truck through it”. This can counteract the point of providing guidance in the first place, which is to establish and continually reinforce leadership credibility. That said, if one has to choose between being a “serial misser” or a “sandbagger”, opt for the latter! This can counteract the point of providing guidance in the first place (which is to establish and continually reinforce management credibility).
Best in Class Example:
Ranges and Assumptions
Best in Class Example:
Ranges and Assumptions
Provide scenario analyses:
Present macro-oriented upside and downside scenario analyses that can aid shareholders in understanding potential financial outcomes. This might involve outlining how different market conditions, regulatory changes, customer compositions, or strategic decisions could impact the company’s growth, financial health, or capital allocation priorities.
Best in Class Example:
Scenario Analysis
Best in Class Example:
Scenario Analysis
Provide robust qualitative color and trends:
Think in terms of Porter’s Five Forces here, whether it be sharing insights about end-market buyers and suppliers, industry and regional dynamics, or the competitive landscape and how the company is actively staying ahead to address potential or even perceived threats. Tactically, this can be represented by simple green, yellow, and red dots next to end markets or providing progress against key milestones.
Best in Class Example:
Qualitative Color
Best in Class Example:
Qualitative Color
Regularly monitor analyst forecasts and consensus estimates to identify any significant deviations from internal projections or guidance:
If a notable disconnect is recognized in consensus estimates, properly address within Reg FD confines. While it is generally not advisable to speak directly to consensus estimates, webcasted conferences are the perfect way to recalibrate market expectations through carefully crafted positioning statements. Common strategies include:
- Reiterating/reminding the investment community of previously stated guidance
- Highlighting specific operational metrics, demand trends, or relevant industry indicators
- Emphasizing key strategic initiatives or changes that may impact future performance
This approach allows for subtle yet effective alignment of market understanding with the company’s current situation and future outlook, without directly challenging or confirming specific consensus figures. And, it is absolutely appropriate to offer to walk through an analyst’s model and help provide context and/or answer any questions based on what has been publicly disclosed.
Amid a mixed or worse guidance track record, deploy forecasting best practices:
- Utilize reality-based triangulation methodology: Combine 1) bottom-up evaluation of your business lines that rolls into an initial forecast; 2) top-down industry view to more realistically fine tune your bottom-up lens; and 3) macro-economic driven analytics to assess and assign upside or downside risks to the combined bottom-up and top-down views
- Do not allow senior executives to override forecasts: Prevent senior executives from inserting too much optimism into and overriding otherwise well-founded financial forecasts; this helps avoid the common trap of skewed forecasting due to hierarchical influence
- Analyze historical demand forecast variation: Examine several years’ worth of historical demand forecast variation for each business unit and calculate volatility levels; this can also be valuable if coming out of an abnormal period (e.g., a pandemic)
- Build a buffer into to the forecast: Hedge initial calculations to ensure that the guidance forecast provided is achieved 80% to 90% of the time (but, ideally, 100%)
- Avoid end-of-quarter fire drills: Prevent practices that lead to end-of-quarter rush decisions, which often bleed into the first month of the next quarter
- Address accounting surprises with greater oversight: Elevate the importance of controllership in the finance function if accounting surprises or one-time items are contributing to perennial misses
Guidance Say What?! Nuh Uhs
In addition to best practices, our experience has shed light on a variety of guidance mishaps.
Beware of the following guidance worst practices:
- Using undeterminable language when updating guidance (e.g., “changes” to guidance)
- Only addressing guidance in the prepared remarks rather than transparently publishing throughout all materials, especially the press release, which is the first dose of information and “read immediately” by 89% of investors we survey
- Frequently revising forecasts
- Including guidance in investor presentations without including the original date it was issued, which serves to reaffirm as of the presentation date
- Providing guidance and disclosure in the Q&A portion of the call versus in writing, which can very easily get mis-transcribed or overlooked
- Failing to update guidance in a timely manner when presented with material information
- Prematurely speaking in absolutes (e.g., “We will meet our guidance”)
- Poorly explaining the reasons behind changes in guidance or providing limited transparency
- Being short/overly defensive with investors and analysts when questioned about guidance
- Fostering unrealistic expectations by continuously setting guidance targets that are either too high to be achievable or too conservative, both of which can lead to investor dissatisfaction and/or discounting over time
In Closing
As we have shared many times, our proprietary research points to leadership quality as the leading investment factor among buy-side professionals, with credibility identified as the number one trait of best-in-class executives. And, as our research shows time and time again, executive credibility is directly correlated with transparency, which is a critical factor in stock performance and multiple expansion over time.
As such, building strength and recognized prowess around guidance setting, updating, and communicating not only allows you to take greater control over your equity narrative, it also establishes trust and accountability with investors.
As always, we hope you find our research timely and insightful. Next week, we’ll be returning with our Year in Review piece.
- “Initial” guidance is defined as the first available guidance provided for the calendar year, whereas “final” guidance is defined as the last guidance estimate for the same period