DISCLOSURE DILEMMA: WHEN MORE (DATA) ≠ MORE INFORMATION!

Less is more!

2

An age of information?

¨ Bigger filings: In the last few decades, as disclosure requirements for publicly traded firms have increased, annual reports and regulatory filings have become heftier.

¨ Changing companies, Changing rules: Some of this surge can be attributed to companies becoming more complex and geographically diversified, but much of it can be traced to increased disclosure requirements from accounting rule writers and market regulators.

¨ More is better: Driven by the belief that more disclosure is always better for investors, each market meltdown and corporate scandal has given rise to new reporting additions.

¨ But is it? I look at why well-meaning attempts to help investors have had the perverse effect of leaving them more confused and lost than ever before.

3

Time Trends in Reporting

¨ Until the early 1900s, reporting by public companies was meager, varied widely across firms, and depended largely on the whims of managers. It took the Great Depression for the New York Stock Exchange to wake up to the need for improved and standardized disclosure requirements, and for the government to create a regulatory body, the Securities and Exchange Commission (SEC). The SEC was created by the Securities Act of 1933, and augmented by the Securities Exchange Act of 1934, covering secondary trading of securities.

¨ Almost in parallel, accounting as a profession found its footing and worked on creating rules that would apply to reporting, at least at publicly traded companies, with GAAP making its appearance in 1933. In the years since, disclosure requirements have changed and expanded, with companies in foreign markets creating their own rules in IFRS.

¨ I will focus on two filings that companies make with the SEC.¤ The first is the 10-K, an annual filing that all US publicly traded companies have to make.¤ The second is the S-1, a prospectus that private companies planning to go public have to file.

4

The Increasing 10-K? Coca Cola as an example

5

Across 10-Ks: Evidence from a study of 10Ks (1996-2013)

6

Update on 10-K Word Count, through 2017…

7

As 10-Ks get bigger, readability has suffered…

8

The Primary Culprit(s) behind the Surge!

9

And the bloat-causing topics…

10

Moving on to the S-1: They’ve clearly become bigger…

11

But they have not become more informative…¨ More words, less clarity? Airbnb, in its final prospectus, before its initial public

offering asserted that there would 47.36 million class A and 490.89 million class B shares, after its offering, but then added that this share count excluded not only 30.87 million options on class A shares and 13.79 million options on class B shares, but also 37.51 million restricted stock units, subject to service and vesting requirements. While this is technically "disclosure", note that the key question of why restricted stock units are being ignored in share count is unanswered.

¨ Big Story Pieces, no details: The second is that companies have used the SEC's restrictions on making projections to their advantage, to tell big stories about value, while holding back details. For some companies, a key metric that is emphasized is the total addressable market (TAM), a critical number in determining value, but one that can be stretched to mean whatever you want it to, with little accountability built in. In 2019, Uber claimed that its TAM was $5.2 trillion, counting in all car sales and mass transit in that number, and Airbnb contended that its TAM was $3.4 trillion, five times larger than the entire hotel market's revenues in that year.

¨ Creative framing: Finally, while most companies, that are on the verge of going public, lose money and burn through cash, they have found creative ways of recomputing or adjusting earnings to make it look like they are making money.

12

So, why is added disclosure not helpinginvestors/traders?¨ Information Overload: Company filings are becoming data dumps, and as

the dumps get bigger, finding relevant information gets more difficult, leading perversely to mental short-cuts.

¨ Feedback loop: For some companies, disclosure has become an excuse foradopting rules/practices, especially on corporate governance, that arepatently unfair to shareholders, and then disclosing these rules/practices.

¨ Wrong Audience(s): Regulators seem to be unclear about the audience that they are catering to, in their disclosures. Governments, consumers, shareholders and bankers require disclosure from companies, but theirdisclosure needs are very different. Cramming them all into one report creates chaos.

¨ Backward Looking: The disclosure rules, at least as written currently, require extensive revelations about the past, but severely limit forward-looking statements.

¨ Mission Confusion: Is the end game protecting investors or is it informing them?

13

1. Information Overload

¨ Distractions: The human mind is easily distracted and as filings get longer and more rambling, it is easy to lose sight of the mission on hand and get lost on tangents.

¨ Confusing small and big: As disclosures mount up on multiple dimensions, it is worth remembering that not all details matter equally. Put simply, sifting though the details that matter from the many data points that do not becomes more difficult, when you have 250 pages in a 10-K or S1 filing.

¨ Mental Short Cuts: Behavioral research indicates that as people are inundated with more data, their minds often shut down and they revert back to simplistic decision-making tools that throw out much or all of the data designed to help them on that decision.

14

2. Cater to your audience

15

3. Future, not past!

¨ Much of regulatory rule making is about forcing companies to reveal what has happened in their past, and while I would not take issue with that, I do take issue with the restrictions that disclosure laws put on forecasting the future.

¨ With the prospectus, for instance, I find it odd that companies are tightly constrained on what they can say about their future, but can wax eloquently about what has happened in the past.

¨ Is it possible that they will exaggerate their strengths and minimize their weaknesses? Of course, but investors know that already and can make their own corrections to these forecasts.

¨ More importantly, stopping companies from making these forecasts does not block others (analysts, market experts, sales people), often less scrupulous and less informed than the companies, from making their own forecasts.

16

4. Mission Confusion

¨ While it is easy to argue that you should do both, regulators have to decide which mission takes primacy, and from my perspective, it looks like protection is often given the lead position.

¨ Not surprisingly, it follows that disclosures become risk averse and lawyerly, and that companies follow templates that are designed to keep them on the straight and narrow, rather than ones that are more creative and focused on telling their business stories to investors.

17

Disclosure First Principles

¨ Less is more: I do think that most regulators and investors are aware that we are well past the point of diminishing returns on more disclosure, and that disclosures need slimming down. ¤ The Big 3: The risk profile, internal control and fair value/impairment sections need to be drastically reduced, and one

way to prune is to ask investors (not accountants or lawyers) whether they find these disclosures useful. ¤ One in, one out: I would use a rule that has stood me in good stead, when trying to keep my clothes from overflowing

my limited closet space, in the disclosure space. When a new disclosure is added, an old one of equivalent length has to be eliminated.

¤ Words test: Any disclosures that draw disproportionately on boilerplate language need to be shrunk or even eliminated.

¨ Don't forget traders: Rather than adopt a laissez fare approach, and let companies choose to provide these numbers, often on their own terms and with little oversight, it may make more sense that disclosure requirements on pricing and peer groups be more specific, allowing for different metrics in different sectors.

¨ Let companies tell stories and make projections: The idea that allowing companies to make projections and fill in details about what they see in their future will lead to misleading and even fraudulent claims does not give potential buyers of its shares enough credit for being able to make their own judgments.

¨ With triggered disclosures: To the extent that some companies want to tell stories built around non-financial metrics like users, subscribers, customers or download, let them, but any company that wants to build its story around its user or subscriber numbers (Uber, Netflix and Airbnb) will have to then provide full information about these users and subscribers (user acquisition costs, churn/renewal rates, cohort tables etc.)