Saudi Ara­bia can seize the op­por­tu­nity to be a stan­dard bearer for cor­po­rate re­port­ing as com­pa­nies come un­der in­creas­ing scru­tiny by in­vestors.


RIYADH is 10,500 kilo­me­ters from New York, but stock mar­ket de­vel­op­ments in the King­dom could have a ma­te­rial impact on the world’s cap­i­tal mar­kets this year. In­vestors are de­mand­ing higher-than-ever lev­els of trans­parency from listed com­pa­nies, and how com­pa­nies re­spond is go­ing to have a ma­te­rial impact on their val­u­a­tions.

Take Gen­eral Elec­tric Com­pany (GE). A re­cent ar­ti­cle in The Wall Street Jour­nal ex­am­ined the mar­ket per­for­mance of the US con­glom­er­ate, an­a­lyz­ing the col­lapse of its share price over the past year — in which it has lost roughly half its value — and what lay behind it.

Sev­eral fac­tors con­trib­uted to the de­cline, in­clud­ing man­age­ment de­ci­sions (over­pay­ing for ac­qui­si­tions, ex­pen­sive share buy­back pro­grams, du­bi­ous ac­count­ing prac­tices), and the fall­ing oil price, which had a ma­te­rial impact on GE En­ergy.

But the real is­sue that the re­port fo­cuses on is what it calls the “Suc­cess The­atre” of GE’s mar­ket an­nounce­ments. The pre­vail­ing cor­po­rate cul­ture over the past decade or more has been to present an over-op­ti­mistic view of the com­pany’s fi­nan­cial per­for­mance and busi­ness out­look. The Jour­nal sums up the is­sue with a damn­ing quote from an an­a­lyst:

“The his­tory of GE is to se­lec­tively only pro­vide pos­i­tive in­for­ma­tion,” said Deutsche Bank an­a­lyst John Inch, who has a “sell” rat­ing on the stock. “There is a cred­i­bil­ity gap be­tween what they say and the re­al­ity of what is to come.”

Un­der in­ves­ti­ga­tion by the SEC for its ac­count­ing prac­tices, GE has re­vealed that it will re­state its earn­ings down­ward for 2016 and 2017.

Re­ver­ber­a­tions from the GE ex­pe­ri­ence go far be­yond the US mar­kets, and ask a huge ques­tion of in­vestors: How can they trust com­pany re­sults and man­age­ment out­looks? How many other pub­lic com­pa­nies are de­liv­er­ing their own ver­sions of GE’s “Suc­cess The­atre”?

And the prob­lems do not stop there for in­vestors: The an­a­lyst com­mu­nity, which has tra­di­tion­ally been the source of in­sight and priv­i­leged ac­cess to man­age­ment think­ing, is un­der­go­ing a fun­da­men­tal trans­for­ma­tion due to reg­u­la­tory change. New Euro­pean MIFID II rules force as­set man­agers to pay sep­a­rately for re­search and trad­ing, and this is cut­ting a swathe through the ranks of eq­uity an­a­lysts.

A sur­vey pub­lished by Green­wich As­so­ci­ates in Jan­uary found that Euro­pean fund man­agers had re­duced their 2018 re­search bud­gets by 20 per­cent, or $300 mil­lion, while the num­ber of an­a­lysts em­ployed by the twelve largest in­vest­ment banks have fallen from 6,600 in 2013 to around 5,500 at the end of 2017, ac­cord­ing to Coali­tion, a spe­cial­ist re­search house.

Un­less in­vestors re­gain trust in the com­pa­nies that they own, the mar­ket volatil­ity that we saw at the start of the year could be just the be­gin­ning of a far more dan­ger­ous cap­i­tal mar­kets en­vi­ron­ment.

But there are good rea­sons to think that 2018 will be the year that trust re­turns to the mar­kets. And there is ev­i­dence to sug­gest that the Saudi Ara­bian cap­i­tal mar­kets have a role to play in that out­look.

There are a num­ber of driv­ers for this con­vic­tion, in­clud­ing tech­nol­ogy, stan­dard­iza­tion of reg­u­la­tions, and higher de­mands for trans­parency. But per­haps the most im­por­tant tail­wind is the af­ter­math of the global fi­nan­cial cri­sis it­self, and the re­sult­ing aus­ter­ity. The oil-price fall has meant that oil-pro­duc­ing coun­tries have to con­sider new strate­gies to bal­ance their books.

Cap­i­tal mar­kets re­form is one of those strate­gies. The ef­forts of the Saudi Ara­bian Cap­i­tal Mar­kets Au­thor­ity and Tadawul to up­grade reg­u­la­tions and cre­ate a fair trad­ing en­vi­ron­ment are al­ready start­ing to pay off. The scene is set for Aramco’s IPO and a wave of other pri­va­ti­za­tions in the King­dom. The opening up of mar­kets to in­ter­na­tional in­vestors is also part of this big­ger pic­ture. With the ar­rival of more in­ter­na­tional in­sti­tu­tional in­vestors af­ter the widely-an­tic­i­pated FTSE Emerg­ing Mar­kets Index in­clu­sion, the coun­try’s pub­licly traded stocks, in­clud­ing Aramco, are ex­pected to be more open and trans­par­ent than ever.

The sec­ond driver is tech­nol­ogy. With the ad­vent of ar­ti­fi­cial in­tel­li­gence, com­pany dis­clo­sures can be scru­ti­nized by ma­chines as never be­fore. Al­go­rithms ex­ist to­day that can read a com­pany’s earn­ings re­port and test the num­bers against mil­lions of data points. Robotic com­pany an­a­lyt­ics have ar­rived in Asian and Western mar­kets, and they will not stop at the Saudi Ara­bian bor­der.

When re­sults are be­ing an­a­lyzed by ma­chines, com­pa­nies sim­ply can­not get away with hid­ing the truth or ap­ply­ing spin to their earn­ings state­ments.

And the third driver is reg­u­la­tory stan­dard­iza­tion. MIFID II only ap­plies to Euro­pean mar­kets; but in a glob­ally in­ter­con­nected world, the in­vest­ment in­dus­try finds it eas­ier to adopt the high­est stan­dards – wher­ever they orig­i­nate – and to adopt them glob­ally. Al­though MIFID II need not ap­ply to the Saudi mar­kets, in­ter­na­tional in­vestors will bring the global rule­book with them when they look at th­ese mar­kets.

All in all, th­ese de­vel­op­ments are healthy. They will bring new lev­els of pro­fes­sion­al­ism and global best prac­tice to the mar­ket. In­vestors will be able to take more-in­formed buy, hold or sell de­ci­sions, be­cause truth is the new cor­po­rate cur­rency.

There are pro­found im­pli­ca­tions aris­ing from this seis­mic change in the cap­i­tal mar­kets. In or­der to gain ac­cess to cap­i­tal, cor­po­rates must play by the new rules of dis­clo­sure and trans­parency.

If com­pany re­sults carry any whiff of “Suc­cess The­atre,” then it is only a mat­ter of time un­til in­vestors see through the spin, and pe­nal­ize the com­pany. Fail­ure to ac­knowl­edge this new re­al­ity is sim­ply not an op­tion. And with the deep­est, most liq­uid and be­streg­u­lated mar­kets in the GCC, Saudi Ara­bia is per­fectly po­si­tioned to be the stan­dard-bearer of cor­po­rate truth.

Oliver Schutzmann is CEO of Irid­ium Ad­vis­ers, a spe­cial­ist in­vestor re­la­tions firm.

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