Whither the OFR?

20 Dec 2005 – Judy Kuszewski

UK Chancellor of the Exchequer Gordon Brown’s speech earlier this month to the Confederation of British Industry delivered something of an early Christmas surprise – but is it a shiny new bike for the business community, or a lump of coal?

Brown’s speech announced that the government would not go ahead with plans approved by Parliament earlier this year to require the 1300 largest companies in the UK to produce an Operating and Financial Review – a statement to shareholders examining the issues in the company’s business environment (including environmental and social issues) that may affect its operations in the future. The OFR requirements resulted from several years of wide consultation with business, investors, NGOs and regulators around how to encourage meaningful exchange with financial markets on non-financial issues. Companies were due to start providing their OFRs in spring of 2006.

The arguments Brown presented for the policy U-turn – that the requirements amounted to regulatory ‘gold plating’ (that is to say, they were overblown for their intended purpose) – have been vigorously refuted by many observers already. Curiously, the OFR requirements were never particularly opposed by the business community in the first place. Indeed, the announcement was greeted the next day by strong protests from both the Association of British Industries and the Institute of Directors, both well-regarded mainstream business associations. The cynical among us might believe that the man who would be Prime Minister was simply looking to chalk up a few brownie points with the business community. But of course, I have nothing to say on that particular matter.

What does preoccupy me, however, is what the response from business will be in practice – many leading companies will indeed go ahead as planned with their OFRs next year, on the basis that they are convinced that the markets value such information and will respond more intelligently because of it (and because they’d been planning their OFRs for two years). But clearly, other companies will take the opportunity to remain silent on any number of business risks and opportunities lurking in the background. And I suspect in 2007 we may see yet another change as companies reevaluate their 2006 experiences and revisit their broader reporting strategies all over again. What should markets make of all of that?

In the absence of a specific legal requirement, it is likely that the OFR-style information companies do choose to provide will vary widely in its nature and quality, more so than it otherwise would. But financial analysts are beginning to make their voices heard on the matter, so I am confident that we haven’t heard the end of the debate yet. (And more to the point, Friends of the Earth’s legal challenge to the Chancellor’s announcement, which argues that the policy reversal was unjustified and improperly executed, may, if successful, force the government to reconsider its position once again.)

But while this sorts itself out, companies still need to get on with the business of communicating effectively and transparently to markets. One way or another, the finance sector will demand from companies information pertaining to the market, social, environmental or other issues companies face – and will evaluate how well those companies are dealing with the issues.

Regardless of regulation, companies should be considering:

• Strategic priorities and any key issues, in light of their potential impact on business strategy and success – including social, environmental or other non-financial concerns.

• How market, economic and political trends affect the company and may influence strategic priorities in the future.

• Successes as well as failures the company has experienced recently, and achievement of any defined targets.

Having a clear story to tell on this is critical, not only to communicating effectively, but also to coherently managing business risk. The days when financial markets saw this as outside their sphere of concern are over. And incidentally, this thinking is also likely to come through in the 2006 Global Reporting Initiative Sustainability Reporting Guidelines.

Long before Enron and WorldCom and the long list of other corporate baddies became imprinted on everyone’s brain as the poster children of financial malfeasance, the financial markets had struggled to make sense of changing notions of value and value drivers. The result of that struggle will inevitably be sustained and clear evaluation of non-financial factors to the same level as the traditional financial ones. No amount of unpredictability in regulatory and market requirements will reverse that trend, and companies would be wise to anticipate it.

Posted by Judy Kuszewski