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Investment May 13, 2020

What’s next after corona?

By Maximilian A. Müller and Thomas Sellhorn
Image of stock market
Corona everywhere. The rapid developments since the beginning of the year confront managers and investors with unprecedented uncertainty.

Investors are worried about the loss of revenue that companies will face and whether their cash reserves will be sufficient to survive the crisis. A look at the analyst conferences of the German prime standard companies for the past reporting season from January to March 2020 shows: During these stormy times in particular, firms should stay in the informational “driver’s seat” by giving investors transparent but also differentiated guidance for their expected business performance. 

The top issues analysts question are naturally the current business and liquidity situation as well as the short and medium-term outlook. Companies provide internal data – some of which are updated daily – on the current situation, such as the development of weekly flight bookings or current liquidity as well as existing credit lines and maturities. Measures taken or planned are also discussed, mostly with a view to liquidity. These include the monthly cash burn, cost flexibility, the suspension of dividends, and the cancellation or postponement of investments. 

Massive differences in communication can be seen regarding the outlook. Here, companies pursue two opposing strategies. Some, such as the Volkswagen Group, are refraining from forecasting the effects of the coronavirus crisis on their expected business development in view of the great uncertainty. The obligatory outlook for 2020 was dated as of the end of February, that is, without taking crisis effects into account. According to Reuters, CFO Frank Witter said, “Currently, it is almost impossible to make a reliable forecast.” Volkswagen refrained from updating its outlook for the analysts’ conference on March 17. 

But there is another way. Individual companies are trying to integrate conceivable pandemic scenarios into their guidance despite massive uncertainty. This is being rewarded by the capital market players: some analysts are grateful for the attempt to quantify the coronavirus crisis effects. Take BMW, for example: In Munich, the outlook for 2020, which had already been approved by the auditor and supervisory board as part of the consolidated financial statements for 2019, was updated shortly before the figures were presented on March 19 and subjected to a crisis update. This was very welcomed but raised the question of the assumptions made. CFO Nicolas Peter explained that they had worked with scenarios and used the observable business development in China as a blueprint for the forecast in other markets, that is, assumed a normalization after a few weeks of heavy sales losses. These examples show that investors do not expect precise predictions in times of crisis, but rather a plausible estimation framework within which future developments are likely to take place. 

In the current situation, the scenarios of possible coronavirus crisis effects – from a very fast normalization up to a multi-year period of interrupted initial restrictions – are extremely broad. A most probable scenario cannot be identified, as probabilities are hardly determinable. Nevertheless, you may not want to cover the entire range of possible scenarios. Do you want to reveal your uncertainty to your own employees, customers, and suppliers, and to competitors, who are also listening? Or should investors be left completely in the dark? 

Research shows that silence can be interpreted in different ways. Is the company actually flying blind, knowing little, and waiting? Or does it have something “bad” to hide? In normal times, lack of transparency is met with skepticism and is interpreted negatively. In current analyst calls, this tactic provokes questions that are significantly less structured and often less benevolent than when companies provide a clear framework through proactive disclosure. Even though investors are aware that a  “reliable” estimate is currently impossible, management is expected to provide at least a rough estimate. Failure to do so will result in skepticism. The capital market does not appreciate the argument that, in view of the uncertainty, it would be better to dispense with an outlook based on coronavirus crisis scenarios altogether. Those who try their best and communicate transparently are currently met with goodwill. 

For the upcoming reporting season for the first quarter of 2020, the following recommendations can be made: 

1. Better guidance with a “caveat” than no guidance at all. The capital market is currently gratefully accepting forecasts, even those expressed with reservations. Silence is rather met with skepticism. 

2. Transparency of the assumptions. Companies should clearly communicate the assumptions on which their forecasts are based. Is the coronavirus crisis included or not? If so, what type and duration of impacts are assumed? Here, a transparent catalog of assumptions with reference to credible sources from science and politics is useful. 

3. Appropriate countermeasures. Just as companies are patient with politicians, analysts, and investors currently have a certain amount of patience and understanding when measures for crisis management have not yet been finally thought through and implemented. But this will change quickly. For this reason, companies should already report on emergency plans in the upcoming quarterly reporting season – but also on long-term planned changes. The question of how the crisis will affect compensation of board members is also to be expected. 

4. Concrete impact on the first quarter financial statements. With the financial figures for the first quarter of 2020, we will see the first quantification of the effects of the coronavirus crisis. These include, for example, impairments in affected segments or the consideration of credit default risks, which, in addition to problems in the core business, can have a negative impact on earnings. Inquiries and great scrutiny from examiners can be expected here. 

5. Learning is a two-way street. Companies should use the capital market as a source of information and obtain feedback from investors, for example, to what extent crisis measures make sense or certain assumptions about industry developments are plausible. 

This text is a translation of an article that was first published in Frankfurter Allgemeine Zeitung

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