The Do's And Don'ts Of Feeding Wall Street Analysts

For many executives, a New York judge once wrote, dealing with Wall Street analysts sometimes seems like "fencing on a tightrope." The analogy is apt. Businesses must strike a precarious balance when discussing their company's prospects with investment pros. Chief executives need to offer enough financial information to be helpful and credible--but not so much that they run afoul of securities laws that bar tipping a favored few with market-moving news.

Yet as tricky as this high-wire act may seem, there are some clear rules. They came into sharp relief on Mar. 19, when the Securities & Exchange Commission charged Phillip J. Stevens with violating insider-trading laws in 1987. The SEC accused Stevens, then chairman of a small California engineering and construction company, Ultrasystems Corp., of trying to curry favor with select analysts by leaking word of an imminent bad earnings report. While Stevens didn't admit to the charges, he settled the case by personally paying a stiff $126,455 fine. The sum represented the losses avoided by big investors who, when tipped by the analysts, sold stock before Ultrasystems' bad news became public. Stevens wasn't accused of profiting himself.

Contrast that case with IBM's Mar. 19 disclosure that its first-quarter profits would be far below projections. After the previous day's market close, Big Blue told analysts it would deliver significant news the next morning. At 8:20 a.m., IBM dropped its bombshell on the news wires: First-quarter earnings would be just half those of the comparable year-earlier period. Soon after, it convened a conference call with more than 100 analysts.

In other words, IBM made sure that every investor who bothered to pay attention that day knew of the disappointing results before the market in its stock opened. The disclosure sent the entire stock market into a swoon, but as far as can be determined, no investor had an unfair head start in trading on IBM's bad news.

Questions abound about how analysts could have missed the clouds over IBM, probably the most widely covered company on Wall Street. But that the news came as such a stunner testifies to how fairly IBM treated investors, big and small. If word had leaked out earlier, the stock likely wouldn't have plummeted 12 3/4 points in a day.

PAP TALK? Most swaps of information between companies and investors fall somewhere between the two extremes. These exchanges, it was thought, were protected by the landmark 1983 Dirks decision, which showed the Supreme Court's appreciation of the important role analysts serve in discovering and disseminating information. The high court exonerated insurance analyst Raymond L. Dirks, whose aggressive probing uncovered the impending collapse of Equity Funding Corp. To the chagrin of the SEC, he told his customers of the fraud before it became public knowledge.

Some critics worry that the chill cast by the Stevens case will discourage executives from providing analysts with useful data. "Do we really want to restrict executives and analysts to talking about pap?" asks SEC Commissioner Edward H. Fleischman, who felt that charging Stevens was wrong.

Such concerns are probably overblown. After all, what IBM told the analysts was hardly pap. Admittedly, neither were the leaks from Stevens. But his phone calls wrongly favored a few analysts--and their large clients--to the detriment of other shareholders. That's taboo, the SEC is saying. In an era in which small investors feel handicapped when competing against well-connected institutional traders, the SEC in this case is right on the money.

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