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Kevin Smith

What's the Deal with Fair Disclosure?

2 November 2000

For two weeks now individual investors in the United States have found themselves on a level playing field when trying to acquire information on a potential company or stock. And that is just what the government was hoping for.

"High-quality and timely information is the lifeblood of strong, vibrant markets," said SEC Chairman Arthur Levitt. "It is at the very core of investor relations."

Regulation FD (Fair Disclosure) went into effect Oct. 25. The regulation, passed by the Securities and Exchange Commission, prevents analysts from getting "nonpublic" information before other investors.

"When information travels only to a privileged few, when that information is used to profit at the expense of the investing public, when that information comes by way of favored access rather than by acumen, insight or diligence, we must ask, 'Whose interest is really being served?'" Levitt asked.

And with the new regulation Levitt hopes to serve the interest of the individual investor as well as corporate brokers.

For years the government has cast a weary eye upon investors who used "insider trading," to make a buck on the market.

The practice, which usual would center on someone with privileged information--upcoming buyout, merger, positive or negative earnings statements and the like--that would influence the price of the stock on one way or another.

While insider trading had been considered taboo in the industry, analysts were able to get around the law. Many analysts follow a group of stocks in one particular sector of the market. Because of their specialization many analysts find themselves privy to a lot of information. Often an analyst has a good relationship with a company's CEO or board of directors. That relationship may have allowed the analyst to get a heads up on earnings statements or other info that would become public before it was actually released.

By law, an analyst can't release the information that he has learned, but he could let his investors know that Stock A or Stock B was either a good buy or a bad buy at a particular time.

There are three main sections to the new law.

The main purpose of Regulation FD is that any information--from earnings statements to predictions--that a company releases, has to be done in a public manner. The SEC makes it mandatory for companies to post such announcements on a website or through a press release.

If a company, or a person acting on its behalf, does release nonpublic information to "enumerated" persons--generally market professionals or holders of the company's securities who may well trade based on that information--that the company has to make public that same information.

Under the guidelines a company has to make the information available simultaneously or promptly. The SEC defines "promptly," as the later of 24 hours or the commencement of the next day's trading on the NYSE after the company has learned of the disclosure.

In addition to the matter of public disclosures, Regulation FD also adds some clarifications about what is insider trading.

But, individual investors getting access to information that for years had been reserved for industry insiders, will not be the only result of Regulation FD.

The role of the stock analyst will change greatly as companies get in compliance with the new standard.

But one such analyst feels that isn't really a bad thing.

John M. Dutton, President and Director of Research for Investrend Research and a leader in equity research on I-gaming industry stocks, anticipates his role changing.

"You will start to see a lot more research analysis instead of analysis based on privileged information."

Dutton agrees with what the SEC is trying to do in giving investors the same respect as big brokerage houses.

"In this era with so much individual investing, from IRAs to stock options, this had to be done," he said. "This will stop a historic practice between companies and industry insiders."

While the SEC gave companies a 60-day grace period before adopting the new regulation, it didn't take long to see direct results from the rule.

The popular "15-minute rule" was eliminated from Business Wire recently. The old practice sent out a press release with a headline and then the rest of the story was released 15 minutes later.

"Company A announces 60 percent jump in sales," would read the headline, giving insiders time to make moves accordingly before the rest of the story was published.

Dutton said he predicts other news agencies, which still use the 15-minute rule, will stop the practice before very long.

And that isn't the only change.

Dutton said there has already been published reports of CEOs walking right by industry analyst and not saying a word.

"They are afraid to really say something," Dutton said. "There will be a lot of adjusting going on in the business world over the next couple of months."

Dutton also said the new regulation likely will bring about more lawsuits from both sides in dealing with compliance of the statute.

In addition to cutting back on communicating with analysts, Dutton sees the use of the web and its abilities increasing with companies to stay in compliance with Regulation FD.

"You will see a lot more press releases and teleconferences," he said. "Conference calls on the Web in which anyone can listen will become more and more popular."

Another interesting aspect Dutton brings up about the new regulation is how international companies will not have to be as open with information as their American counterparts.

"It will be interesting to see how companies that are traded in the US compete with those for investors," he said. "It could go either way as being an advantage for the Americans companies or for the others."

Dutton said although the new regulation has only been in effect for a couple of weeks, firms are already starting to adapt to it. He admits that the initiative is the right thing to do, only time will tell how the business world and the investing world accept it.

Click here to view the SEC Fair Disclosure regulation.

What's the Deal with Fair Disclosure? is republished from
Kevin Smith
Kevin Smith