The 6 Basics of Reporting Non-GAAP Financial Measures
My background in financial reporting for a real estate investment trust (REIT) does not make me an expert, but it is fair to say I am no stranger to non-GAAP measures. In fact, you might recall there has been quite a bit of media and public scrutiny over issuers' use (or misuse) of such metrics. This week I want to share a quick method that helped guide me in the right direction with these hypersensitive disclosures.
It is called the "STPWRD approach" (pronounced "stop-word'). It is an acronym I made up that represents six words to help me quickly remember the basics. This will be a refresher for most, but here is what I mean.
STPWRD: 6 letters to help you remember the basics of non-GAAP reporting
A reporting issuer should try to present only those non-GAAP measures that are significant to explaining their business performance. You can quickly make this determination by polling the rest of your management team. If you're not shy, even try asking some external stakeholders, such as analysts, lenders, or rating agencies that cover you. These folks are usually happy that you care enough to ask and will gladly share their opinion. Then, get rid of the non-GAAP measures that are insignificant because in this game, less is more.
Make sure that the non-GAAP measures your company is presenting are common for that industry. Peer benchmarking is an excellent way to gather some research in this area. If you are the only one disclosing a particular metric, ask yourself why that might be. This may be OK, but chances are your company is less comparable. And reduced comparability in the reporting world is never a good thing.
This one is so important that it's more of a rule than a guideline. GAAP measures should be presented with equal or greater prominence than their non-GAAP counterparts. Headlining, leading with, or presenting a one-sided discussion of non-GAAP results can be a risky venture that likely increases your odds of being on the receiving end of a security regulator's comment letter. Why take that chance? Which leads me to my fourth guideline.
Management should provide a clear explanation of why they are disclosing the non-GAAP measure and explain how it provides useful information to investors. This is where you'll want to be more specific and avoid boilerplate language.
A clear numerical reconciliation must be provided between the non-GAAP measure and the most directly comparable GAAP measure for all periods presented. Not surprisingly, most issuers I have seen are on top of this because let's face it, accountants love to reconcile.
Lastly, each non-GAAP measure should be clearly and consistently defined. While it is important to use plain and simple language when developing definitions, be sure to include a sufficient description about the types of adjustments the company is making in computing each non-GAAP measure. Try to avoid using industry jargon or cross-referencing other non-GAAP measures because this can make things confusing and circular.
These guidelines are by no means meant as an exhaustive list. Companies can refer to the SEC's updated Compliance & Disclosure Interpretations and CSA Staff Notice 52-306 Non-GAAP Financial Measures (Revised) that was published in January 2016 for more guidance and information.
With year-end reporting and a pain-free financial close always a priority, this would be a good time to take a closer look at some of these disclosures. Read through them carefully using my STPWRD approach, and you might see them through a different lens. Remember: when it comes to non-GAAP, you never think you have a problem until you actually do.
A version of this blog post originally appeared on the blog of WorkOps Consulting, a Workiva partner. WorkOps is a professional services firm focused on integrated Workiva solution support and accounting advisory services for financial and management reporting teams at public and private enterprises. Read Nigel's original article.