Scripted Earnings Calls Can Be a Red Flag for Investors

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Terry Sheridan
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Anyone who frequently listens to earnings conference calls can probably, in a subliminal sort of way, sense when the speaker is on or off script. But a new study reveals that listeners do indeed pick up on that scripting. The result is that it serves as a warning to investors and analysts, and affects a company's market performance.

In Can Investors Detect Managers' Lack of Spontaneity? Adherence to Predetermined Scripts during Earnings Conference Calls, published in the January/February issue of the American Accounting Association journal, The Accounting Review, Joshua Lee, assistant professor of accounting at Florida State University, used linguistic software to analyze differences in speaking styles. He compared the management discussion of the earnings conference call when the CEOs or CFOs read from prepared text to when they answered questions from analysts and investors.

In his study of 40,820 quarterly earnings conference calls by 2,863 companies over 10 years, Lee found that speaking from written text during one portion of the call differs significantly from speaking spontaneously during the Q&A.

And that had consequences. The study revealed “a negative current market reaction to Q&A scripting, suggesting that investors discern the lack of spontaneity and view it as a negative signal, thus calling into question the usefulness of this strategy as a means of delaying the disclosure of bad news for investors.”

Companies that most often used scripting faced a two-day drop in market returns on the day of and after the call, the study found. The mean two-day market-adjusted return for the overall sample was a gain of 0.1 percent, but the highly scripted companies lost 0.2 percent – putting them 0.3 percentage points below.

Companies that used little or no scripting rose 0.3 percentage points above the mean. The finding suggests that scripting “signals negative information about the firm,” the study states.

“I also find a negative association between scripting and the size- and book-to-market-adjusted returns over the 90 days following the conference call, suggesting that investors do not fully incorporate the negative implications of Q&A scripting at the time of the call,” Lee states in the study. “In additional analysis, I find that sell-side equity analysts make downward revisions to their earnings forecasts in the 30 days following calls with scripted Q&A, corroborating the market-return tests.”

What's more, the most-scripted firms had 12.5 percent lower-than-mean unexpected earnings of the full sample in the two quarters following the call, “suggesting that the heavy scripters had more bad news to hide at the time of the conference call,” the study states.

Despite the red flags, the study indicates there are reasons to script.

“A CEO or CFO who is not especially fluent may simply prefer to have answers laid out in advance, so one can't be sure that some kind of concealment is going on without knowing the chief's normal modus operandi,” Lee says. “A better bet is to listen for shifts between spontaneous answers and what sound like scripted ones, shifts suggesting a sensitive issue.”

Managers also may find scripting a better choice when “the disadvantages of inadvertently disclosing something unfavorable are greater than sounding scripted,” he adds. “It's a dilemma that more than a few top managers are likely to face at some point.”

For example, a key benefit of scripting is to give more careful disclosure. That's most helpful when a manager holds negative information about the company's future performance, the study states. Other studies have found that disclosures also can be costly when made before lawsuits, and can result in costlier settlements. So sticking to the script to avoid revealing negative information can prevent that information from being used to build a legal case against the company.

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