CEO Letters Evade Truthfulness

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You might think that the business world has become more transparent in the last few years, following scandals such as Enron and WorldCom and legislation such as Sarbanes-Oxley. You might think that companies now realize they need to be clearer and more aboveboard in their communications and actions. You'd be wrong.

Laura Rittenhouse, author of Do Business with People You Can Trust: Balancing Profits and Principles, has been monitoring CEO candor for a while now. Based on a survey of CEO letters to shareholders last year, she has noted: "The passage of Sarbanes-Oxley legislation in 2002 was intended to promote clear and transparent disclosure, but only 24% of the companies in our 2005 survey were awarded top marks in candor, down from 57% in the 2002 survey. While many executives are certifying their results to comply with Sarbanes-Oxley, they are also publishing virtually unintelligible shareholder letters. If they cannot candidly articulate their goals and results, then how can they credibly walk their talk?"

CEO clarity should be an important issue to small investors like us. If we're not getting straight talk from corporate big cheeses, how can we make investment decisions? But there's more. Rittenhouse's research has also found evidence of a strong correlation between candor and stock price performance: "In each of the past four years, the 25 top-ranked companies in candid disclosure have outperformed the 25 bottom-ranked companies."

Here's an example of exceptional candor that recently caught my eye -- Donald Graham's 2005 letter to Washington Post (NYSE: WPO) shareholders. (I'm one of them.) Among other things, he said: "2005 was a disappointing year. Our newspaper, TV and magazine businesses turned in poorer results than their managers expected when the year began . Kaplan's brick-and-mortar college business missed its goals badly, disappointing Jonathan Grayer and me. These are the facts, and I'll set them out for you in detail. You need to know them." Graham went on to outline what the company needs to do to achieve better results. That's especially useful for investors, because it gives us some measures to watch over the coming years.

As for examples at the other end of the spectrum, Rittenhouse noted railroad company CSX and its "claim that the Clear Skies legislation will promote 'the use of clean, efficient fuel sources like coal.'"

So who got top marks? Here are the top 10 companies exhibiting outstanding candor in 2005:

• Wells Fargo
• Alcoa
• JetBlue Airways (Nasdaq: JBLU)
• PepsiCo (NYSE: PEP)
• Walgreens (NYSE: WAG)
• Jack in the Box
• Continental Airlines
• Charles Schwab (Nasdaq: SCHW)
• Harley Davidson (NYSE: HDI)
• Xerox (NYSE: XRX)

Getting a handle on management can be one of the most difficult parts of evaluating companies and their stocks. We know we want "good" management, at the very least -- but how do you determine what's good? Annual letters to shareholders might now be a good place to start. Consider an absence of candor a potential red flag. (To learn more, you might want to read Identifying Effective Management and The Secret of Superior Stocks.)

Charles Schwab and JetBlue are Motley Fool Stock Advisor picks. For more candid selections from David and Tom Gardner, sign up today for a free 30-day guest pass.

Longtime Fool contributor Selena Maranjian owns shares of Washington Post and PepsiCo. The Fool has a disclosure policy.