Born-again annual reports: this once-treasured corporate communique has become a relic. This could be the year CEOs make it relevant again. (Investor Relations).

"A gorgeous woman slinks up to a CEO at a party," begins the characteristically tasteless joke in Warren Buffett's 2001 letter to Berkshire Hathaway shareholders, "and through moist lips purrs, 'I'll do anything -- anything -- you want. Just tell me what you would like.' With no hesitation, he replies, 'Reprice my options.'"

Okay, so he's not Jerry Seinfeld, and his jokes might not be original. But Buffett's annual missives aren't known for their humor; they're known for an extraordinary level of candor and clarity. In reviewing a $46.2 million pre-tax loss in Berkshire's shoe operations, for example, Buffett points to the company's poorly performing Dexter Shoe Co., and then promptly takes the blame. "I've made three decisions relating to Dexter that have hurt you in a major way," Buffett confesses. "One, buying it in the first place; two, paying for it with stock; and three, procrastinating when the need for changes in its operations was obvious. I would like to lay these mistakes on...anyone else, but they were mine."

To some CEOs, such bluntness leaves a bad taste. But experts say CEOs will have to take a page from Buffett's book if they expect shareholders to take the 2002 annual reports seriously. "Right now he's what every CEO wants to be to build credibility," says Ron Graziano, vice president of Ashton Partners, a Chicago-based investor relations consultancy.

Coming clean -- the overarching theme for next year's annual reports, now in planning stages -- may be a significant departure for some CEOs, who've preferred to gloss over bad news. Until now, if a company decided to sell a division it had just bought three years ago that was supposed to revolutionize the industry, the CEO could get away with spinning the sale in a positive way or ignoring it altogether, says Ken Janke, chairman of the National Association of Investors Corp. "Like they made the decision to buy the operation and now they just want to wash their hands and say, 'We're no longer in it and here are some proforma earnings as if we never had it.'"

That won't fly this year, when annual reports will have to offer greater honesty at every level to a diverse group of readers. Comprehensive, detailed financials, in compliance with new requirements introduced in the SEC reforms of 2002, must provide enough data and thorough analysis from management to satisfy sophisticated professional investors. And the front of the book will have to be plainspoken, sans confusing corporate jargon, and offer individual retail investors -- not to mention employees and customers -- enough context to make sense of the financials.

When done right, the annual report gives CEOs and their senior management teams a way to communicate long-term direction and strategy, directly address negative results and in the process, restore trust. This year in particular, that will be a tall task. "This coming annual report has to have the integrity of the Bible, be as compelling as a Tom Clancy novel, look as good as a Sports Illustrated swimsuit issue," says Neil Stewart, editor-in-chief of Investor Relations magazine, "and the cost has to come in just under that of a company Christmas card."

These days, CEOs are lucky if the annual report makes it through the front door instead of going straight to "circular filing." The once-valued corporate communique is close to losing all relevance for today's investors. It's a trend that began in the mid-'90s, when scads of up-to-the minute financial data became available to anyone with a mouse and a modem. As the frenzied day-trader mentality took hold in the late '90s and refocused investor attention on quarterly earnings, the annual report became even more antiquated, a relic to a time when investors actually expected to hold a stock for more than a year.

The 2002 crop of annual reports will have to battle the market malaise and cynicism of the past year, which has sunk interest to an all-time low. "I'll bet there are warehouses full of annual reports sitting around from 2001 gathering dust because investors can't be bothered," says Stewart. "They don't trust management right now, so why even look at the report?"

Above and beyond the law

But that doesn't mean they couldn't be persuaded to pick them up again. According JR's most recent survey of U.K. investors, the annual report is still regarded as the second-most important information upon which to base investment decisions, after sell-side research. While no similar data exists on U.S. investors, Stewart maintains that long-term investors rely on them--or would if they were made compelling. "There has never been a more important document to come out of corporate America," he says of the 2002 crop of reports.

Experts agree their success will depend on the CEOs' willingness to assume responsibility for results that were less than stellar. Stewart, who expects to see "mea culpas galore," reports that in JR'S surveys, investors have repeatedly said they prefer companies that proactively serve up the bad with the good. "This year's annual should state plainly where management has gone wrong, what it's doing to fix the problem and why the future is still bright."

Offering more information than what is required by law will help lend further credibility. Recently CEOs have moved away from historical figures as investor focus grew more short term. That will change this year. Expect smart companies to offer a detailed 10- or 11-year history of sales, earnings and other financial data. "The past is never a guarantee of the future, but it gives an indication of what the company can do long term," says Janke.

Experts suggest disclosing more industry-specific trends and showing how the company ranks on benchmarks specific to the industry. Companies should plan to expand on information about various segments of the business and offer more data on the market and customers, outside of what's required by GAAP rules. In general, the more context you can give investors in which to view numbers, the better. If the company is in software, for example, a sales-per-employee figure might help, as would a figure on average deal size.

One area of the annual report that experts anticipate will be longer in the coming year is the section covering corporate governance. "It used to be one or two pages, but let's face it, corporate governance itself has become a valuation driver," says Stewart, who adds that investors will likely turn from the numbers directly to information about the board, its directors, committee chairs, etc. "There should be a statement from the chairman and CEO talking frankly about their governance--about changes made in the past year, where they've gone wrong and what changes they're planning."

The National Association of Investors Corp., which produces its own annual report awards, gives high marks for content--including a candid synopsis of the past year's financial performance; the CEO's letter and management's explanation for the past year's results; and the financials themselves. This year's winners--Energen, Kelly Services, The Manitowoc Co., Rayonier and Sysco--ranked high in all, including design and flow of the report, though Janke says that's least important. "We proudly give less weight to the design."

Design still matters, but extravagance is out

CEOs who opt for substance over style may find their annual reports discarded in a heap. According to industry maven Sid Cato, the No. 1 goal of an annual report is to have a cover that demands, "Open me, read me." And that doesn't necessarily mean fancy graphics. This year's ARC International Awards for best annuals gave a nod for Best Cover to Coca-Cola's largest bottler in Mexico and Argentina, Coca-Cola FEMSA. Its simple, attractive design features a translucent page over a bright red background, wallpapered with words like "twist," "gulp," and "quench." In the center of the page, a cutout of a bottle and the words: "Thinking outside the bottle."

High art can be important, particularly for high-profile consumer products companies, whose investors would be put off by a drab design. "If I'm a General Motors shareowner and got an annual report that didn't have pictures showing these Cadillacs in a nice light, I'd think the company was missing a bet," says Janke. On the other hand, studio portraits of CEOs at $20,000 a pop won't be well received. Stewart suggests using the photo to strengthen credibility by favoring sobriety over glitz. Rather than having a posed studio portrait of the CEO, "this is the year to have him out in the factories with his sleeves rolled up."

Cutting down on extravagance shouldn't be a problem for most companies that have been tightening belts all around. An August survey by the National Investor Relations Institute found that 40 percent of companies surveyed had seen their annual report budgets decrease from last year. Nearly three-quarters of them are bringing design and production in-house to save money, while others are producing scaled down versions of the report, such as the 10-K wrap. Still others, including Harley-Davidson, are using smaller paper and integrating black-and-white images. "Companies are finding ways to save costs without making it too obvious they're cutting corners," observes Stewart.

AFLAC, the insurance provider based in Columbus, Ga., which won IR's Best Annual Report for a large-cap company this past spring, considered switching to a black-and-white design, but decided it wouldn't save enough money "if it was done right," says Jeff Catron, executive writer for AFLAC investor relations. But the company won't need to cut costs as much as others, because its own subsidiary, Communicorp, handles all printing and design of the report. That kept the cost per book last year down to $1.85. The national average is $3.73 per book, according to the National Investor Relations Institute survey.

Another way to cut down on costs is by encouraging more investors to view the report online. "If you've got to print four million copies and you can get that down to two million, you're going to save an awful lot of money," notes Janke. Web-based reports and downloadable electronic documents that duplicate printed annuals have become more common in recent years, and investors are now being asked in proxy statements to check off a box to receive the annual report by email instead of print.

One company advancing that trend is Boston-based CCBN, or the Corporate Communications Broadcast Network, which hosts investor relations sections for more than 2,000 public companies' Web sites. According to CCBN's Greg Radner, vice president of marketing, the drawbacks of online reports are that they're either two big to email or too difficult to navigate. It can also cost upwards of $20,000 to design a separate Web-based annual report. CCBN developed an interactive electronic document, at a flat fee of $6,000, that looks just like a company's printed report but is fully searchable and can be compressed small enough to email.

It won't replace the printed document any time soon, says Radner, but even he doesn't think that's a bad thing. "It's not just an investor document; it's a marketing tool, so there is value to having the physical piece," he says, adding that CCBN isn't currently public, but if they go that route, they will have a printed annual report. "And it'll be a nice looking one, too."

RELATED ARTICLE: Trying to Be Buffett

SURE, WARREN BUFFETT writes his own letters to shareholders with virtually no outside help--but should all CEOs aim for such a lofty goal? Experts are divided. "On the one hand, CEOs should be more involved than ever," says Neil Stewart, editor-in-chief of Investor Relations magazine, who notes that this year, when CEOs sign off on their letters, it will mean more than ever. "On the other hand, you can just see the howls of pain from the corporate communications departments who just want to get it done without interference."

Most experts question whether CEOs are best qualified to get their own message across. Tern Douglas, principal of Catapult PR-IR, advises starting with a message crafted by the internal IR team and then refining from there. Stewart notes that "if anyone understands the importance of being up-front and honest now, it's the IR department."