In my zeal to discuss the difficulties still facing investors in technology companies last week, I failed to note the crisis facing shareholders of Schering-Plough (NYSE: SGP). Unfortunately, those shareholders include the Rule Maker Portfolio.
A long-time participant on the Rule Maker Strategies discussion board asked, perhaps rhetorically, whether my streak of malevolent rantings about companies means I'm forsaking the stock market, save the two companies with managements I completely trust. It's a funny question, and a little bit sad. No, I'm not departing the stock markets in their entirety -- I have no intention of doing so. But I'm not willing to let my money sit with companies that take investors for granted.
The recent actions at Schering-Plough make me wonder just how the company's management feels about its individual shareowners. And that, my friends, is a disgrace. In the midst of a rout of the company's stock, its managers seem to have violated Regulation Fair Disclosure (Reg FD), a two-year-old law that says, simply, that all shareholders are entitled to material information at the same time.
Schering-Plough CEO Richard Kogan held a closed-door meeting with one of its biggest shareholders, Putnam Investments, on Oct. 1. Hours after the meeting, Schering-Plough's stock price began plummeting, by more than 7% that day, on enormous volume. The company originally refused to comment about whether the meeting took place. Then, on Oct. 3, the company held another closed-door meeting, this time with analysts and fund managers. One of the participants disclosed that Kogan, in the meeting, said Schering-Plough's 2003 earnings would be "terrible." Once again, the stock blistered.
In three days, the company shed more than $5 billion in market cap. Even some meeting participants said they felt they received significant new information. Hours after the Oct. 3 meeting, Schering-Plough warned it was lowering its 2003 earnings forecasts by 37%.
A primer on Reg FD
Reg FD is designed to prevent companies from treating material information with privilege. If a company knows it will release material information, it must endeavor to do so in an equitable fashion. If it inadvertently releases material information to a select group, the company has a 24-hour "cure," during which time it can issue a press release. If Kogan accidentally disclosed to the group on Oct. 3 that the quarter would be terrible, and then the company issued the press release to cure, then Schering-Plough would be in compliance. But since the stock began dropping sharply on Oct. 1, after the first meeting, the question becomes: What did Schering-Plough executives tell Putnam?
There are a few other questions, as well. A key provision of Reg FD states the unequal disclosure must be accidental in nature. Schering-Plough's past behavior, its rabid closeness with material information, makes the accident scenario somewhat hard to believe. Moreover, Schering-Plough's spokesman stated that the company simply repeated things that have been said in the past. Funny that several of the analysts in attendance had a completely different take on what was said. If it was accidental, then Schering-Plough, along with its end-of-day press release, could have claimed as such at that time. But they didn't. None of this makes any sense. It certainly isn't material, though, to the potential SEC inquiry into Schering-Plough's remarks at the Oct. 1 conference.
One last thing -- why bother having an analyst meeting on Oct. 3 if you're going to announce "new" information the same night? Why waste everyone's time? And what about the simple delay in addressing and discussing problems? It seems pretty clear that someone knew something was amiss at the company on Oct. 1, yet it took two days for the company to comment publicly.
All of this strongly points to a company that has violated Reg FD on Oct. 1 and Oct. 3. That resulted in a royal hosing of individual investors, and suggests the company doesn't take the need to communicate with all shareowners seriously. Many have criticized the company for its culture of secrecy and limited disclosures, including poor information surrounding its $500 million fine from the Food and Drug Administration regarding drug manufacturing problems.
Now that Schering-Plough is under investigation by the SEC, I'm less inclined to believe it's being entirely truthful about the events of that week. More importantly, I'm stunned that the company would be stupid enough to put itself in this position. More and more companies broadcast analyst meetings online, yet Schering-Plough is one of the last big companies that doesn't. The company's conference calls are notoriously abrupt, and they don't take analyst questions. Where, then, do analysts get their information, if not at these closed-door meetings?
Schering-Plough still seems to be unclear on one concept, so perhaps I can be of some assistance. "Equity" is derived from the word "equal," which means "the same." When companies generate profits, they should be shared equally by proportional owners. When companies have votes, each share gets the same consideration. And when a company communicates with its owners, it should do so on an equal basis.
Well, look at it this way -- in no small way, poor corporate governance contributed to the loss in market value by some $5 billion in a matter of days. Shareholders should be reminded that it's crucial for good investments and top-quality, honest management to come hand in hand.
I haven't decided what to do about the Rule Maker's investment in Schering-Plough, though I'm leaning toward looking for another place for our money. Some managements out there deserve investors' trust -- thousands of 'em. It's amazing how bad management can be so effective at making America's best business models unattractive.
Bill Mann, TMFOtter on the Fool Discussion Boards.
The Rule Maker Portfolio has had a cumulative investment of $43,000. As of Oct. 15, 2002, its current value of all cash and equities is $28,310.49. This equals an internal rate of return of -13.5% since the launch of the portfolio in February 1998.