Reg FD Works: Nortel Provides Evidence

In the strange week-after-reporting-earnings disclosure by Nortel Networks (NT:NYSE - news - boards) Wednesday, we get a glimpse of the post-Reg FD world. And you know what? It's not so scary.

Reg FD stands for "fair disclosure," the regulation by the Securities and Exchange Commission that aims to ensure that the entire investing public gets information at the same time as well-heeled investors, like mutual fund managers and research analysts for big brokerages.

When Reg FD went into effect Oct. 23, the securities industry whined that it would mean an end to the information flow between companies and their investors. Because senior management no longer could chit-chat privately about material aspects of business with its most influential investors, information wouldn't get out, went Wall Street's argument. The Wall Street Journal -- not normally the house organ for the securities industry one might expect from its name -- has obliged one segment of its readers with puff piece upon puff piece on how awful all this is for analysts and the investing public.

And then came Nortel's strange announcement Wednesday, "confirming" the guidance it put out in its stock-rocking earnings announcement only last week, on Oct. 24. Scrutinized more carefully, Nortel didn't merely confirm its guidance; it added to it. It gave specific estimates for first-quarter earnings per share -- a figure, 16 cents, that happens to be a penny below the previous consensus estimate. It also disclosed, as TheStreet.com's Scott Moritz reports , that revenue growth in the first quarter will be slower than the rate Nortel forecasts for the entire year.

The reason this is strange is that Nortel certainly could have disclosed this information last week. This leads one to believe that Nortel is engaging in what Boris Feldman, a Silicon Valley litigator and expert on securities law, jokingly calls "corrective disclosure." In other words, it's likely some senior Nortel executive told some analyst, "We're thinking we'll be a penny light compared to your Q1 numbers," forcing Nortel, under the new strictures, to issue a press release.

Thing is, Nortel denies this. A spokesman says the company merely wanted to provide clearer guidance in light of calls it has received from investors since the earnings release. Reading between the lines, Nortel surveyed the research Wall Street has put out in the last week and concluded that given the high level of attention Wall Street is paying to the once obscure Canadian maker of telecommunications equipment, it had better take the opportunity to set the record straight.

And this is my evidence that Reg FD a) is working, and b) isn't the end of the capitalist system as we know it. Normally, if the investor-relations department of a major company didn't think an analyst had a handle on the company's performance, it would call the analyst directly for a little heart-to-heart conversation. If that didn't work, it would call again and browbeat the analyst until the numbers came down. No company wants estimates to be too high; it only makes it more difficult to meet and beat them. This is why Cisco Systems (CSCO:Nasdaq - news - boards) beats estimates each quarter by exactly one penny. Cisco will deny this, but analysts unequivocally have told me about the browbeating phone calls.

Now, because the back-channel browbeating no longer is an option, a company like Nortel is "walking down the Street" in full view. Note the impact on the stock: It traded down, came back to par and ended the day down $1.50, or 3%, on somewhat higher-than-normal trading volume. An outbreak of volatility this is not. But investors -- all investors -- do know what Nortel thinks of Wall Street's projections.

Richard Walker, director of the division of enforcement for the SEC, addressed this issue Wednesday in a speech to the securities industry. "In short, walking the Street up or down is almost certainly prohibited and can no longer be done privately," said Walker, once a chief financial officer of a semiconductor company. "I'm hard-pressed to think of a scenario where the reasonable investor would not be interested in knowing whether an analyst's forecast is too high or low, if even by a penny, under current market dynamics."

Walker also had some harsh words for Reg FD's critics, who had argued before the regulation took effect that there hadn't been enough abuse to justify a new rule. "Now that the rule has been adopted, however, many of the same people are complaining about FD's far-reaching effects on disclosure practices and the markets," Walker said in an address to the Securities Industry Association's compliance and legal division. "To me, this suggests that the problem of selective disclosure was even more widespread than we knew, and that retail investors were being disadvantaged more regularly than we reasonably believed."

The hullabaloo over Reg FD will pass sooner rather than later, and the smart-money crowd will have figured out new ways to get better information than individuals. Until then, that group should quit carping about Reg FD, a limited measure that's helping to level the playing field for average investors.

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In keeping with TSC's editorial policy, Adam Lashinsky doesn't own or short individual stocks, although he owns stock in TheStreet.com. He also doesn't invest in hedge funds or other private investment partnerships. Lashinsky writes a column for Fortune called the Wired Investor, and is a frequent commentator on public radio's Marketplace program. He welcomes your feedback and invites you to send it to Adam Lashinsky .