Should investors listen to the news?

The news cycle these days is enough to make anyone’s head spin. When a company gets caught up in a scandal, it can be impossible to ignore the media feeding frenzy. However, for long-term investors crises of the public relations nature are often just a blip on the radar.

We look at four news-making scandals that had a big impact on the company’s share price and what investors can learn from them. In some cases, the damage was mostly cosmetic while others went on to become larger, more troubling operational issues.

This article isn’t personal advice. If you’re not sure if an investment is right for you, ask for advice. All investments fall as well as rise in value, so you could get back less than you invest. Past performance isn’t a guide to the future.

BP’s oil catastrophe

On 20 April 2010, an explosion at BP’s Deepwater Horizon oil rig caused more than 130 million gallons of oil to leak into the Gulf of Mexico. The incident had far-reaching consequences for the local ecosystem and was arguably one of the worst natural disasters in history.

It took BP nearly three months to cap the spill, over which time the world watched in horror as marine life in the area were drenched with oil. BP’s share price fell 39% over the period.

Past performance isn’t a guide to the future. Source: Refinitiv, 06/08/2021.

Not only did the ordeal damage BP’s reputation, it was costly as well. The Environmental Protection Agency ordered the group to pay $5.5bn in penalties and more than $8.8bn in natural resource damages. But that was only the tip of the iceberg.

The group became the subject of several federal and criminal cases in the aftermath of the spill. Over the years the cost of the mistake ballooned to more than $70bn. More than a decade later, the group still has over $10bn worth of liabilities relating to the spill.

The share price never made it back to its pre-spill highs. Some of that can be attributed to problems in the wider energy sector – oil price volatility and the push for green energy. But billions of dollars spent settling lawsuits rather than funding investment and shareholder returns are also a significant contributing factor.

However, in the days and weeks following the disaster the market expected even worse. The shares fell to around £30, a price it didn’t revisit until the pandemic saw oil prices turn negative in 2020.

The moral of the story here isn’t that disasters have no bearing on a company’s overall value. BP’s literally still paying for this mistake. But the initial shock is often larger and more painful than the long-term damage.

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Volkswagen’s diesel dupe

In September 2015, Volkswagen became the centre of its own environmental blunder. The automaker was equipping its cars with devices that would trick emissions tests to make them appear cleaner than they were.

Past performance isn’t a guide to the future. Source: Refinitiv 06/08/2021.

The scandal shaved off roughly half of the group’s share price in just four months. But in the years that followed, the group rehabilitated its image and sharpened its focus on the next phase of the auto industry, electric cars.

That’s not to say the group didn’t pay for its cheating ways – management estimated the total cost would be roughly €31.3bn. Its latest annual report showed that payments relating to the issue in 2020 approached €1bn.

Still, it seems Volkswagen has been mostly forgiven. The share price shot to new highs in March and the group plans to put the pedal to the metal on its shift to electric vehicles.

So far it seems consumers are willing to accept this new, greener Volkswagen. Car sales have risen significantly over the past year and are approaching 2019 levels. And although the financial impact of the emissions scandal still lingers, VW’s Price to Earnings (PE) ratio has been creeping upward over the past year. This signals investors’ willingness to look forward, instead of back.

See the Volkswagen share price and charts

Wells Fargo’s fake account scandal

Once upon a time, US bank Wells Fargo was one of Warren Buffett’s favourite stocks. One of the key reasons was how well he thought the bank was run.

But in 2016, the serious problems in the bank’s corporate culture were exposed. It turned out that in order to meet ambitious cross-selling goals, lots of bankers had been fraudulently opening new accounts for existing customers.

An investigation into the bank’s practices led to hefty fines and a number of civil and criminal lawsuits that ultimately cost the bank over $7bn. But the total damage is hard to quantify.

The scandal won’t have done the bank’s customer retention any favours and in 2018 the Federal Reserve capped the bank’s assets at $1.95 trillion. That’s made it harder for Wells Fargo to make new loans, ultimately cutting off the bank’s ability to grow at the same rate as its peers.

It’s difficult to say exactly how much damage the asset cap’s done to the bank’s bottom line, but estimates are around $4bn in lost profit. While Wells Fargo has been taking steps to be released from the restrictions, the bank’s still a long way off from removing the shackles.

Past performance isn’t a guide to the future. Source: Refinitiv 06/08/2021.

While news of the fake account scandal broke in 2016, it wasn’t until 2018 that the Fed imposed the asset cap. In the meantime, Wells Fargo stock had quickly recovered and surpassed its pre-scandal highs. Once regulators did get their act together though, the consequences have been far reaching. The asset cap has been a huge ball-and-chain on Wells Fargo’s ability to grow.

See the Wells Fargo share price and charts

Luckin Coffee’s Forged Accounting

Wells Fargo’s asset cap is a prime example of how a seemingly fleeting PR blunder can sometimes turn into a long-term operational issue. This was the case more recently with Luckin Coffee, a Chinese coffee delivery company seeking to become China’s answer to Starbucks. As a Chinese listed company Luckin isn’t tradable on the HL platform, but it provides a useful illustration nonetheless.

The group made its debut on the stock market in 2019 to fanfare as investors clamoured to get a piece of the next big start up. Just eight months after going public the group’s market value was $12bn, a twofold increase. On 31 January, short-seller Muddy Waters Research questioned the validity of Luckin’s financials, but Luckin denied the allegations.

Past performance isn’t a guide to the future. Source: Refinitiv 06/08/2021.

But a few months later, Muddy Waters’ suspicions were confirmed when the company admitted to fudging its numbers. The investigation later turned up evidence that the group had been selling tens of millions of dollars’ worth of coffee vouchers to companies tied to the group’s chairman and controlling shareholder.

In this instance, the media whirlwind that came before the company’s epic fall was the smoke before the fire.

Media and the market

So what’s the moral of the story? Long-term investors should take media mentions with a grain of salt, but be careful to follow the overarching story.

The news cycle shouldn’t dictate your investment decisions, because it’s often much shorter than your investment horizon. Good companies make mistakes all the time, and although it can cause temporary volatility, it might not change the overall growth story. Volkswagen’s emissions scandal is a great example of this.

However, that doesn’t mean you should buy and put the blinders on. Scandals that can have a lasting financial impact, as in Wells Fargo’s case, could weigh on performance for some time to come.

If you’d like help cutting through the noise, subscribe to our Share Research insights where you can get news and updates on over 100 tradable stocks.

Investing in individual companies isn’t right for everyone – it’s higher risk as your investment is dependent on the fate of that company. If a company fails, you risk losing your whole investment. You should make sure you understand the companies you’re investing in, their specific risks, and make sure any shares you own are held as part of a diversified portfolio.

Unless otherwise stated estimates are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Past performance is not a guide to the future. Investments and income they produce can rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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