Candid CEOs Bode Well for Profits

When you're seeking worthy investments, a stock's numbers and statistics alone may not be enough to make an informed decision. According to Rittenhouse Rankings, the more frank and honest a CEO is in a company's annual letter to shareholders, the better the associated stock performs.

The Rittenhouse folks ranked and scored the annual letters of dozens of companies. Their latest results are based on 2009's letters, which reviewed the annus horribilis of 2008, when the S&P 500 dropped 37%. Here's their eye-opening finding, as reported by Barron's: During the period studied, the top 25 companies on their list averaged a 10% drop in value, while those in the bottom quartile fell 58%.

That makes sense to Laura Rittenhouse, who said in a recent interview, "If the company has candid, coherent, straightforward communications, it will be a more stable company and attract more long term investors."

Here are a few of the companies in the top 10, along with snippets from their CEOs' letters:

• Edison International (NYSE: EIX  ) : CEO Theodore Craver, Jr., clearly laid out the company's value drivers, such as its growing involvement in alternative energies (such as wind power) and its strong financial position. He explained how the company proactively drew on a big line of credit in September, lest it get caught without resources "if a long line started to form at the banks." And he listed many growth opportunities facing the company, as well. As I read the letter, I didn't see him making excuses for poor performance, as many CEOs do.
• Lowe's (NYSE: LOW  ) CEO Robert Niblock didn't mince words, noting that, "We ended [fiscal 2008] with sales totaling $48 billion, flat with last year, but well below the 3% growth we forecasted at the beginning of the year." He explained how the company's plan in the tough times was to grab "profitable" market share (which it did), cut costs, and focus on customer service. Unlike many letters, he didn't wax starry-eyed about the future, noting that, "As we think about 2009, we know the economic backdrop will be as bad, if not worse, than in 2008." Niblock mentioned that the company froze executive salaries for 2009. In my view, these kinds of words inspire confidence.
• Sherwin-Williams (NYSE: SHW  ) is considered an all-star in candor, having ranked near the top of the list in most of the last few years. Rittenhouse lauded its CEO Christopher Connor for avoiding jargon, offering many measures to evaluate the company's success, and holding himself and the company accountable. Connor said, "We are not satisfied with our results over this past year," but noted that nevertheless, the paint purveyor did add market share.
• Ford (NYSE: F  ) moved up in the latest rankings from the bottom quartile in the previous year, with CEO Alan Mulally detailing losses in this and recent years, and explaining how the company is dealing with a continued slumping economy by cutting its production and expenses. Mulally reiterates the company's main goal, which is bracing in its clarity: "to create a viable Ford Motor Company."

As you study candidates for your portfolio, look beyond management's numbers to its words. Great companies and great investments should offer letters from CEOs to shareholders that build your trust and confidence through frankness. Look beyond glib platitudes and seek clear thinking, clear strategic planning and self-assessment, and clear communication.