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8
Non-GAAPs Measures
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Introduction/Purpose
Accounting and finance profession requires that the process or
recording transaction and preparation of the financial statements
be done with some standards that are generally outlined as
GAAPs. The standards enables organizations, companies
whether private or public and other institutions to be accurate
and transparent in their preparation and recording of financial
statements. In order to achieve transparency, accuracy and
consistency in the predation of financial reports, GAAPs is used
as the standard measure. GAAPs stand for generally accepted
accounting principles. There is no universal standard that
applies to all organizations in different geographical locations
in the world. These standards normally differ from one country

to the other. Generally accepted accounting principle is the
bedrock for understanding of their financial performance of an
institution whether public or private owned. GAAPs normally
outlines the procedures and the scorecard for the preparation of
financial reports and statements therefore when a particular
company prepares its financial statements without employing
the methodology outlined in GAAPs, then such a company is
said to be using a Non-GAAP measure. Non-GAAP measure
does not apply the standards stated as the generally accepted
accounting principles. Non-GAAPs tries to explain the
historical financial performance of a company and the projected
and expected future performance of a particular company, the
current financial position and the general cash flows.
A number of Non-GAAP measures that will be discussed herein
include but not limited to EBITDA (Earnings before Interest
and Tax, Depreciation and Amortization), Adjusted Earning,
funds from operation (FFO), other cash earning (CE), free cash
flows (FCF) and EBIT (Earnings before Interest and Tax). Other
Non-GAAP measures include Net Operating Income (NOI),
modified funds from operations (MFFO), Broad cash flow
(BCF) and ROIC (Return on invested capital). Each of these
non-GAAP measures have been explained below.
Earnings before Interest, Tax, Depreciation and Amortization is
a type of Non-GAAP measure to determine the general
operating performance of a company. Some of the merits of
EBITDA include its ability to compare competitive firms in
terms of their performance, it indicates a company’s efficiency
and effectiveness regarding financial performance, gives the
general outlook of business performance. EBITDA does not
consider capital investments and other financial variables that
may affect the financial position of the company. It only include
expenses that are considered necessary in the day’s operation of
the company. EBITDA gives an account of cash flows that
might have been generated by the ongoing operations in the
company. Some of the disadvantages of earnings before interest
tax, depreciation and amortization include its failure to include

capital expenditure in its calculations, it does not account for
any changes in the cost of working capital, it does not give an
insight of tax implications on the firm, it does not account for
the effect of tax and its related computations and how it affects
the health of any business. Besides, it does not explain the
process of converting the most liquid assets into cash and other
forms of cash equivalents and it also fails to account for the
effect of depreciation on the profit projects of a firm.
Adjusted Earnings refers to the earnings that a company makes
in relation to the share prices of the common stocks of the
company. Such earnings are also adjusted depending on the
company’s expenses on research and development in order to
improve its market share. It can be used for evaluating the
performance of a company and it allows easier comparisons to
be made between the competing companies. Adjusted earning
has a disadvantage of being exaggerated to suit the CEOs will in
order to inflate the amounts for compensation.
Funds from Operation are those kinds of funds that are
generates from a real estate investment and normally from the
real estate investment trust. Such funds include net incomes,
depreciation and the amortization value less the amount of gains
made when a real estate property is sold. Funds from operation
calculations indicates the general performance of the company
by determining he changes that do occur in day-to-day
operations of the company. It indicates which areas of financial
operations that needs to be adjusted in order to meet the
required targets and cash flow objectives. It determine the
adequacy of funds that are needed by an organization in order to
effectively carryout its mandate in process of creating goods
and services. The calculation of the funds from operations can
be used in determining the future funds projections of a
particular company and ways of raising such funds and it can
also be used in the budgeting process including making budget
projections for the future operations of a company. A summary
of funds from operations indicates the financial position of the

company and its image in comparison to other competing
companies in the same industry. Some of the disadvantages of
funds from operations may be its volume of data calculated in
order to arrive at the final figures might easily be ignored or
overlooked.
Cash Earnings refers to the difference between the cash
revenues from the operations of a company and its operating
expenses. Cash earnings does not take into account the cost of
depreciation. It also refer to the sum total of a trading process
when all the operating expenses have been deducted from the
gross revenue. The cash earnings originate from the profits that
are generated through each share of a company. Cash earnings
gives the true financial reflection of a company in terms of the
amount in holds in the form of cash or other most liquid assets
that can easily be turned into cash. Cash earnings reflect the
market conditions of an economy regarding hoe the shares are
trading in that particular economy from one country to the
other. Cash earning does not show a clearer projection of the
future cash flows into the company.
Free Cash flow is a general term that is used to refer to the
amounts that the company is generating in terms of profits from
it day to day business. It shows how profitable the company
may be in respect to other immediate competitors. It show the
ability of any business to cash that can be used in daily
operations of the business. Free cash flows gives the firm a
higher value its stock compared to the competing companies.
The cash flow statements can be used to determine the future
financial stability of the business. Free cash flows may reduce
risks and uncertainties that may accrue in the process to
conducting a business. It is disadvantageous since a stable cash
flow may only be realized in the long-term operations of the
business.
Earnings before Interest and Tax refers to the profits earned on
the operational and non-operational revenues less interest and
tax. It can be used to find the projections of a company in
comparison with the most viable competitors. One of its

disadvantages is that is does not indicate the effect of interest
and taxes on the general operations of the business.
Net operating income refers to the profitability of any business
and is calculated by first finding the net revenue then
subtracting all the operating expenses. It is used to indicate if a
firm has the ability to generate the required income. It can be
used to determine the company’s capitalization rate and the
amount of capital required by a firm for an effective running of
the company. It also identified which investment areas needs to
be seriously funded in order to maintain a particular
profitability rate. Net operating income statement gives a
detailed report that can be used for making viable business
decisions. It has the disadvantage of difficulty in categorizing
the type or kinds of business expenses.
Return on invested capital this an excess amount of what a
company makes over the weighted average cost of capital.
Return on invested capital can be used by managers in making
management decisions regarding the performance of various
levels of performance. It can be used for comparison with others
companies within the industry. It also measures the marketing
and management efficiency in handling the operations of the
company. One of the disadvantages that may accrue as a result
of using return on invested capital is that it uses approximated
values and projections in its arithmetic calculations hence
reducing the confidence of investors. It also does not recognize
that available intangible opportunities affecting the market and
the company. It contains incomplete tools used in the analysis
of data. Other types of non-GAAPs highlighted here are
modified funds from operating operation (MFFO) as well as the
broad cash flow (BCF).
Non-GAAPs measure are not only used by the management and
the company directors but other stakeholders are also interested
in the statements. The stakeholder may include the investors,
employees, lenders, the government, suppliers and the general
public. In an efficient market, all the state holders an equal
access to information relating the market conditions and any

other factor that may influence the economic condition. All the
stakeholders need such information in order to make viable
decisions regarding the company’s operations. The government
is interested in such a company because they need the financial
statements in order to determine the amount of tax that the
company is liable to pay to government. The investors are
opportunity seekers and are ready to take risks that can result
into making long-term returns with huge profit hence they need
these published company statements in order to make decisions
whether to invest in the company or not. The employees are
interested in such statement in order to determine whether the
company will continue employing them or not. The suppliers are
interested in knowing whether the company will continue in
operation in order to give them a continuous supply opportunity
in the near future. The public are interested in knowing whether
the company will continue offering them goods and services.
Inefficient market is a kind of market situation where the
available information is only known by a small segment of the
market (Rao, 2007). Information asymmetry is a situation in the
market where the buyers and sellers have varied information
regarding the availability of goods or services or any others
information that is related to the operations of the company and
the market trends. George Akerlof, Michael Spence and Joseph
Stiglitz in 2001 came up with the theory of information
asymmetry. They realized that the information asymmetry is
caused by the uncertainties in the market that are relating to the
quality uncertainties. Dr. Kelly argues that the management of
various do always abuse the use of generally accepted
accounting principles hence lowering its credibility in the
market place. Such abuses leads to bad earnings management
and vice versa (Soon, 2011). Earnings forecasts are majorly
done either on quarterly basis, half yearly basis (semiannually)
or annually. They indicates the financial performances of the
company at some specific points in times or after a given
trading periods. They show how the firms perform in terms of
the profits or the revenue generated over a given trading period.

Sometimes the non-generally accepted accounting principles do
not give the full disclosure of the financial position of a
company. It is therefore for firms trading with specific company
to use the slogan and phrase of buyer be aware of the rightful
information in the market. There should be a willing seller and
the willing buyer. Sometimes the directors and the managers of
a company may report the financial statements with a motive of
misleading the public or the government, investors, suppliers
with some hidden agenda of compensating against losses
incurred or in order to avoid paying of hefty taxes to the
government. Lack of full disclosure may also mislead the
supplier who largely depends of the financial statements of the
company in order to determine their net worth and their ability
to pay for the good supplied to them by suppliers. Non-GAAPs
measures are always intended to produce relevant information to
all other relevant stakeholders who have interest in the
company. The information produced is supposed to give
guidance on the decisions made regarding the investment
opportunities. Quality reporting has a positive relationship with
non-GAAPs measure. Quality reporting attracts the users of the
financial statements hence making the necessary judgements
and decisions. Regulations and governance controls the
operations of various types of companies by ensuring that they
remain within the bounds of the business they registered for and
that they are adhering to the current laws and policies.
Conclusion
The study by Dr. Kelly Wee Kheng Soon show a strong
relationship between non-GAAPs measures and the various
study variables. George Akerlof, Michael Spence and Joseph
Stiglitz arguments on non-GAAPs measures also indicates the
different methods of measurements and their correlation to the
study variable. It is therefore recommended that a further
research be carried on the effect of non-GAAPs on the foreign
exchange.References
Rao, A. (2007). A Theory of Market Efficiency. A Theory of
Market Efficiency, 1-36.

Soon, D. K. (2011, March 2). Earning Management: Is it Good
or Bad? Retrieved from SSRN:
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1775400
NATIONAL CENTER FOR CASE STUDY TEACHING IN
SCIENCE
SCIENCE
Everyone loved Yvette. Her smile and laugh were infectious,
her eyes sparkled, and she could turn the mundane into an
adventure. She made the world around her more vivid. In
addition to her adventurous spirit, she was extraordinarily
bright, kind, and caring. She particularly cared for those who
were so often forgotten or treated poorly by society. After
earning her degree in sociology, she worked in an inner-city
soup kitchen for a time and later worked as an event coordinator
for people with disabilities.
It was the holiday season and Yvette was glad that she had some
time off from work. She had been feeling tired and a bit
nauseous for a couple of weeks. On New Year’s Eve, the
normally vivacious and fun-loving Yvette decided to skip the
evening festivities with her family and went to bed early. When
she awoke to the New Year, she was exhausted and one of her
hands was numb. When the numbness did not subside, she
thought it might be due to a pinched nerve and decided to see
her chiropractor later that week.
At the chiropractor’s office, things did not go as planned. He
took one look into her eyes and observed that her pupils were
not properly dilated and recommended that she seek medical
attention as soon as possible. At the hospital, it was determined
that she had a serious neurological anomaly and she was
immediately admitted for testing. A routine pregnancy test
indicated that she was pregnant. Pregnancy could not account
for the neurological anomalies, but it put a temporary halt on

the scheduled body scans to avoid risk to the fetus. Yvette was
shocked about the positive pregnancy test. She had been
vigilant in taking precautions; she was in her mid-thirties, had
two young girls, and the previous summer had difficulties with
a molar pregnancy. A molar pregnancy is a rare event that
results from the abnormal fertilization of an ovum, resulting in
the growth of a placenta, but not a fetus. After an ultrasound
was performed to assess fetal development, the doctors were
more shocked than Yvette. She was not pregnant.
by
Tonya Laakko Train
Department of Biology, Elon University, Elon, NC
SCIENCE
Part I
–
The Mystery
Yvette’s Brave Battle (Based on a True Story)
Part II – The Disease
After determining that there was no evidence of pregnancy,
Yvette underwent a whole body magnetic resonance imaging
(MRI) scan. Multiple tumors were identified in her lungs and
liver and one tumor was identified in her brain; the brain tumor
was the cause of her abnormal neurological function. Th e fact
that Yvette had multiple tumors in various locations indicated
that she had some form of metastatic cancer.
Th e news was devastating and all of the events seemed surreal
to Yvette and her family. She had not left the hospital in weeks,
the numbness was progressing, and the doctors did not know
what type of cancer they were dealing with. Blood and urine
analysis continued to test positive for pregnancy. One physician
had observed these rare symptoms before and proposed a viable
hypothesis as to the source of the cancer. More blood tests were
ordered and the suspicion was confirmed. Levels of human
chorionic gonadotropin (hCG) were 1000-fold higher than
during a

normal pregnancy. hCG is a hormone normally produced by
cells of the placenta; it is also the hormone detected in
standard pregnancy tests.
1.
Part III – The Treatment
An oncologist explained to Yvette and her family that she had
choriocarcinoma—a cancer that is derived from cells of the
placenta and often caused by a prior molar pregnancy. The
delay in diagnosis could be attributed to the rarity of this type
of cancer. In the United States, the rate of choriocarcinoma is
0.22 per 100,000 women aged 15–49 years.[footnoteRef:1] It
was also explained that choriocarcinoma is a very rapidly
proliferating and invasive cancer, yet one of the most
responsive cancers to traditional chemotherapy. If caught early,
almost all women can be cured. The success rate drops if
metastases are located in the brain, if the patient has very high
hCG levels, and if the onset was 4 months or more before
diagnosis. Yvette had all of the indicators for a poorer
prognosis but, even in those cases, up to 70% of patients enter
remission.[footnoteRef:2] [1: Altieri, A., Franceschi, S.,
Ferlay, J., Smith, J., La Vecchia, C. 2003. Epidemiology and
aetiology of gestational trophoblastic diseases. Lancet
Oncology 4(11): 670–678.] [2: PubMed Health.
Choriocarcinoma. Last reviewed 05/31/2012. U.S. National
Library of Medicine. Available at: http://www.
ncbi.nlm.nih.gov/pubmedhealth/PMH0002465/.]
It was now late January; nearly a month after being admitted to
the hospital. Yvette learned that she would be starting an
aggressive chemotherapeutic regimen. She would be
administered actinomycin, which inhibits DNA transcription;
methotrexate, which inhibits the metabolism of folic acid; and
etoposide, which causes DNA strand breaks. These treatments
would continue once per week for a minimum of three months
or for three treatments after indication of a disease-free state.
Yvette had heard the horror stories of chemotherapy side-effects

such as hair loss, increased risk of infection and nausea and
vomiting. While she was scared, she was optimistic and looking
forward to beating this disease.Part IV – The Battle
Chemotherapy was incredibly difficult. Yvette was constantly
sick, lost her hair, and experienced some memory loss. The
memory loss was particularly frightening, but after 5 long
months of treatment, there was no detectible hCG in her blood,
the chemotherapy ended, and her body and memory began to
return to normal. She was thrilled and optimistically looked
forward to regaining her strength, playing with her daughters,
and getting back to work. She was scheduled to be monitored on
a regular basis.
Two months after the end of chemotherapy treatment, she was
notified that the cancer had returned. An MRI showed that the
brain tumor was still detectable and lesions remained in her
lungs. It was decided that she would
need to undergo radiation therapy (causes DNA breaks) on the
brain tumor in addition to resuming another chemotherapeutic
regimen. She had radiation treatment in August and continued
chemotherapy through November. Again, her hCG levels were
reduced to zero and the regimen was concluded; just in time for
the holidays!
On the day before Christmas, she got a call from her doctor. Her
hCG levels had risen—the cancer was back. She began a third
round of chemotherapy shortly after the holidays. The regimen
was adjusted to include chemotherapeutics not previously
administered. Treatment lasted for just over three months; she
hoped to be able to enjoy the summer.
Ultimately, the cancer returned and new combinations of
chemotherapeutics were administered again and again, but the
cancer cells became less responsive to treatment. In over three
years of fighting cancer, Yvette underwent several rounds of
chemotherapy, multiple rounds of radiation therapy, a
hysterectomy, and multiple lung surgeries. Even through the
misery of treatments, she maintained her positive attitude,
contagious smile, and enjoyed precious time with her friends

and family. Ultimately, her body lost the brave battle, but her
memory is very much alive in the many people who knew and
loved her.
See questions below!
Discussion Questions…respond by creating a new thread.
1. Radiation and some chemotherapeutics cause cells to die by
damaging the DNA. Why might one be used instead of the other
in treating different tumors, and why do you think that radiation
treatment was used on the brain tumor in this case?
2. Suggest reasons why radiation was not included in the initial
round of treatment.
3. Why, ultimately, did the cancer cells no longer respond to
chemotherapeutics (describe what might be happening to the
cells over time)?
•
Case copyright held by the National Center for Case Study
Teaching in Science, University at Buff alo, State University of
New York. Originally published November 4, 2013. Please see
our usage guidelines, which outline our policy concerning
permissible reproduction of this work.
“Yvette’s Brave Battle” by Tonya Laakko Train Page 1
OCTOBER 2015 / THE CPA JOURNAL48
What is a non-GAAP performance financial measure?Regulation
G defines it as a number representingcompany’s historical or
future financial performance,
financial position, or cash flows that excludes amounts other-
wise included in—or includes amounts otherwise excluded
from—the most directly comparable U.S. GAAP measure.

Generally, when a non-GAAP financial measure is pub-
licly disclosed, it must be accompanied by both the most direct-
ly comparable GAAP measure and a reconciliation between
the two amounts. In addition, when presented in an SEC fil-
ing, Item 10(e) of Regulation S-K requires that this disclo-
sure include a description of the reasons that management
believes the non-GAAP measure is useful to investors and, if
applicable, an explanation of the purpose for which manage-
ment uses the non-GAAP measure. (Item 10[e] does not pro-
hibit presentation of a non-GAAP measure that is not used in
managing the business.)
As it applies to a non-GAAP performance measure (i.e., an
alternative to GAAP earnings), Item 10(e) expressly prohibits
eliminating or smoothing items identified as “non-recurring,”
“infrequent,” or “unusual” when there has been a similar charge
or credit within the prior two years or the nature of the charge
or credit indicates that it is likely to occur again within the
ensu-
ing two years. While it is inappropriate to state that a charge or
credit is nonrecurring, infrequent, or unusual because it does
not
meet the two-year threshold, the fact that a charge or credit can-
not be so described does not, of itself, mean that an adjustment
to eliminate it may not be made; in other words, a company
may make any adjustment it believes appropriate, subject to
Regulation G and other Item 10(e) requirements.
THE PROLIFERATION OF NON-GAAP PERFORMANCE
MEASURES
Non-GAAP performance measures have been around since
the 1960s, when they were referred to as “pro forma earnings”
and included mainly in earnings announcements. When the
SEC issued Regulation G and Item 10(e) in January 2003, to
implement section 401(b) of the Sarbanes-Oxley Act, it
replaced the term “pro forma financial information” with the

more focused term "non-GAAP financial measure.” Such mea-
sures have since become a prominent part of the performance
narratives of more and more U.S. and foreign companies.
The companies that present non-GAAP performance met-
rics [e.g., earnings before interest and taxes (EBIT), earnings
before interest, taxes, depreciation, and amortization
( EBITDA), adjusted EBITDA] believe that they provide insight
into a company’s core operations beyond one-size-fits-all
GAAP and, as such, afford investors a view of a company
through management’s eyes. Many companies using
non-GAAP performance metrics believe that, by doing so, they
are furnishing investors with a better understanding of the busi-
ness, resulting in a reduced cost of capital. Indeed, a recent
Price water house Coopers survey revealed that nearly 60% of
IPOs over the past three years included at least one non-GAAP
performance measure, with nearly two-thirds of such measures
focusing on EBITDA or a variation thereof.
The perceived value of non-GAAP performance measures
is by no means one-sided, and there is widespread interest in
adjusted GAAP earnings among providers of both equity and
debt capital as well. In 2001, Standard & Poor’s formalized
the concept of core earnings to arrive at an entity’s profit from
ongoing, underlying activities, and it has since incorporated
core earnings into its ratings process. Moody’s performs a sim-
ilar analysis. Another recent PricewaterhouseCoopers global
survey of investment professionals revealed that investors
do, in fact, value non-GAAP financial measures; they like
being able to see management’s view of what is core to the
company.
GLOBAL FLEXIBILITY
Recognizing the growing use of non-GAAP metrics, vari-
ous securities regulators around the world (including those in
the EU, Canada, Australia, and New Zealand) have issued

guidelines or rules covering their presentation. Although their
rules necessarily differ in some respects from the SEC’s rules
(and from one another’s), international regulators have, by and
large, taken the SEC’s lead and chosen to treat such mea-
sures with a light touch to permit companies the flexibility to
present non-GAAP performance measures as they see fit.
In a very real sense, this approach is not unlike the funda-
mental notion underlying U.S. GAAP and International Finan-
cial Reporting Standards (IFRS) regarding segmental report-
ing: Under both sets of standards, an operating segment is
C O L U M N S
s e c i n s i g h t s
Non-GAAP Performance Measures
By Allan B. Afterman
Virtue or Vice?
defined as one whose operating results are regularly
reviewed by the company’s chief operating decision-maker
to assess the performance of the individual segment, and to
make decisions about resources allocated to the segment. Defin-
ing a segment this way is intended to provide financial state-
ment users with management’s perspective.
PROS AND CONS
There is no lack of criticism of non-GAAP performance
metrics. Some critics have labeled them as “income before the
bad stuff,” and a large body of evidence supports the con-
tention that companies present non-GAAP earnings oppor-
tunistically to overturn a GAAP loss, to report positive earn-
ings growth (when growth is negative on a GAAP basis),

and to meet or beat the earnings consensus when the GAAP
surprise itself is negative. Substantial evidence also shows,
however, that the quality of non-GAAP earnings has improved
considerably since Regulation G was issued, attributable in
large part to the requirement to reconcile non-GAAP metrics
to the most directly comparable GAAP measure. On the pos-
itive side, there is evidence that, because non-GAAP earn-
ings are likely to exclude transitory items, non-GAAP report-
ed amounts tend to be a better predictor of future earnings and
cash flows.
ADJUSTED EBITDA, A FAVORITE OF FILERS
A recent study of 40 U.S. companies (conducted by the
author) showed that adjusted EBITDA was one of the most
frequent non-GAAP performance measures presented in SEC
filings. In 2010, the SEC staff clarified that non-GAAP mea-
sures calculated differently from pure EBITDA (i.e., that
exclude items other than interest, taxes, depreciation, and amor-
tization) may be presented as performance measures, but
they must be characterized as different from—and their titles
distinguished from—EBITDA; the SEC staff suggested adjust-
ed EBITDA as an umbrella term.
The study revealed that the most frequent items subtracted
from or added to net income to arrive at adjusted EBITDA
(i.e., to reconcile to the most directly comparable GAAP mea-
sure) were as follows:
n Stock compensation
n Asset impairment charges and write-offs
n Merger and acquisition related costs
n Restructuring charges
n Losses on debt extinguishments
n Changes in fair values of assets and liabilities
n Gains or losses on the sales of assets.
Overall, there were more than 30 different types of recon-

ciling items, including some as company-specific as changes
to the last-in, first-out (LIFO) reserve, the cost of a non-
recurring audit of internal controls, the effect of the 53rd week
in a 52/53-week fiscal year, litigation costs, and the effects of
volatility in pension expense due to fluctuations in the finan-
cial markets. The sheer number of reconciling items reflects
both the flexibility management has in arriving at its version
of core earnings and the difficulty regulators face in estab-
lishing hard-and-fast rules about the selection of items.
WHAT INVESTORS WANT; HOW COMPANIES RESPOND
A major drawback of non-GAAP performance measures is
that they are not likely to be comparable with those of other
companies, even those in the same sector or industry. Of
course, this same criticism could also be leveled at pure GAAP
earnings, which—because of company-specific facts and cir-
cumstances—often make unadjusted comparisons meaning-
less. Investors understand that the lack of comparability among
non-GAAP performance metrics is the byproduct of manage-
ment’s flexibility. Nevertheless, most investors agree that their
value could be enhanced if they were to be accompanied by
clear explanations of the reconciling items and the rationale
for including or excluding them, and a discussion of the
manner in which the non-GAAP measure is utilized by man-
agement in operating the business.
WHAT’S IN A NAME?
Though regulators have chosen to steer clear of prescribing
the nature of specific reconciling items that may properly be
included or excluded in arriving at a non-GAAP performance
measure, it is my opinion that the reliability and credibility of
any such metric would be strengthened by an appropriate and
uniform name. As a term, adjusted EBITDA is overly gener-
al and insufficiently descriptive of what it is intended to con-
vey. The terms “core earnings” and “underlying profit” (the

latter is popular in Australia, New Zealand, and Europe) bet-
ter characterize management’s intentions.
A PROMISING FUTURE
FASB has undertaken a research project aimed at improving
the relevance of information presented in the income statement,
which includes developing a framework for defining operating
activities and distinguishing between recurring and infrequent
items. At least one FASB member, Marc Siegel, who happens
to represent the investor community on the board, has been
quot-
ed as saying that, because they complement each other, the com-
bination of GAAP and non-GAAP metrics represents a power-
ful analytical tool in understanding a company’s underlying
business. Siegel notes that empirical research does not indicate
that the demand for non-GAAP information points to a funda-
mental GAAP recognition and measurement problem; instead,
it points to a need for better organization and presentation of
per-
formance information. This sounds like a plan. q
Allan B. Afterman, PhD, CPA, is the author of numerous
treatises on financial reporting and SEC practice and has con-
sulted with governments on the establishment of national secu-
rities laws and financial reporting standards. He is a former
adjunct professor in the Booth School of Business at the Uni-
versity of Chicago, and was assistant to the national director
of SEC practice at a major public accounting firm.
49OCTOBER 2015 / THE CPA JOURNAL
Reproduced with permission of the copyright owner. Further
reproduction prohibited without
permission.

Available online at www.sciencedirect.com
ScienceDirect
The International Journal of Accounting 48 (2013) 318–323
Discussion
The Effects of Compensation and Board Quality on
Non-GAAP Disclosures in Europe
Peter Fiechter⁎
University of Zurich, Department of Business Administration,
Plattenstrasse 14, CH-8032 Zürich, Switzerland
1. Introduction
Reported performance measures that do not follow Generally
Accepted Accounting
Principles (GAAP) are labeled as “non-GAAP” figures. Non-
GAAP reporting is subject to
intense debate. On the one hand, extant research shows that
non-GAAP measures convey
relevant information (e.g., Bhattacharya, Black, Christensen, &
Larson, 2003; Brown &
Sivakumar, 2003). On the other hand, firms may
opportunistically use non-GAAP figures for
impression management (e.g., Black & Christensen, 2009;
Bowen, Davis, & Matsumoto, 2005;
Doyle, Lundholm, & Soliman, 2003).
The study of Isidro and Marques (2013–this issue) investigates

whether specific corporate
mechanisms (i.e., compensation contracts and corporate
governance) are associated with
opportunistic non-GAAP reporting. To the extent that non-
GAAP information has an impact
on share prices (Bhattacharya, Black, Christensen, &
Mergenthaler, 2007), managers with
share-based compensation have incentives to report
opportunistic non-GAAP measures.
However, strong corporate governance mechanisms may
mitigate opportunistic reporting
behavior (Beekes & Brown, 2006; Frankel, McVay, & Soliman,
2011).
Consistent with this theory, Isidro and Marques (2013–this
issue) find that share-based
compensation of directors is positively associated with the
following opportunistic
non-GAAP reporting practices: probability of non-GAAP
disclosure, number of adjustments
for recurring items, probability of non-GAAP figures in the title
of the press release, and
avoidance of reconciliation. In addition, Isidro and Marques
(2013–this issue) find that
effective corporate governance structure—as measured by a
score for board quality—is
negatively correlated with the probability of non-GAAP
disclosure and the emphasis
given to them.
⁎ Tel.: +41 44 634 28 01; fax: +41 44 634 49 12.
E-mail address: [email protected]
0020-7063/$ - see front matter © 2013 University of Illinois.
All rights reserved.
http://dx.doi.org/10.1016/j.intacc.2012.07.009
mailto:[email protected]

319Discussion
The findings of the study add to the literature on non-GAAP
reporting and corporate
governance. In particular, the hand-collected data of non-GAAP
disclosure from European
firms' press releases provides opportunities to extend related
literature predominantly
based on U.S. data. Furthermore, as the topic is both timely and
relevant (e.g., concerns
expressed by EFRAG, 2009), the research of Isidro and Marques
(2013–this issue) has the
potential to inform regulators and standard setters on the
important question whether the
reporting of non-GAAP figures should be regulated more
strictly.
My discussion focuses on three issues. First, I discuss the link
between share-based payment
and incentives to report opportunistic non-GAAP figures in
Section 2. In Section 3, I analyze
the role of varying institutional environments in determining
opportunistic non-GAAP
reporting. In Section 4, I comment on the issue on how to
disentangle opportunistic from
informative non-GAAP reporting. Section 5 concludes and
identifies directions for future
research in the area of non-GAAP disclosures.
2. Share-based contracts and opportunistic non-GAAP reporting
Hypothesis H1 predicts a positive association between share-
based compensation of
directors and opportunistic non-GAAP reporting. The

mechanism behind this hypothesis is
that the disclosure of a favorable non-GAAP measure motivates
market participants to buy
the stock, in turn increasing the share price, and thus
maximizing managers' wealth. This
hypothesis contains two implicit assumptions: (1) share-based
payment induces short-term
interests of the management, and (2) the market positively
reacts on disclosure of
non-GAAP earnings.
Although extant literature (Aboody & Kasznik, 2000) shows
that CEOs maximize their
own wealth by making opportunistic voluntary disclosures,
recent findings by Black,
Black, Christensen, and Waegelein (2011) point out the
importance of distinguishing
between short-term and long-term incentive plans. They find
that short-term compensation
schemes drive opportunistic non-GAAP reporting, whereas
long-term performance plans
mitigate opportunistic non-GAAP reporting. The distinction
seems to be important because
share-based payment is not something “bad”; rather, it is an
instrument to align incentives
of management and shareholders and to reduce agency conflicts.
The compensation
literature usually finds undesirable outcomes associated with
short-term compensation
plans. Therefore, without distinguishing between short-term and
long-term compensation,
it is difficult to make clear predictions linked to agency theory.
Unfortunately, the data from Institutional Shareholder Services
(ISS) does not distinguish
between short-term and long-term compensation contracts. It

would be interesting to see
whether varying compensation schemes have a different
influence on opportunistic
non-GAAP reporting in a non-U.S. setting. I therefore
encourage future research to collect
more detailed data on European firms' compensation plans (e.g.,
value of options granted
or amount of non-restricted shares).
Second, previous literature usually focuses on management,
particularly the CEO,
whereas the ISS data uses compensation of the board of
directors (BOD). As Isidro and
Marques (2013–this issue) point out, the little evidence on how
director compensation
affects reporting decisions indeed provides new research
opportunities. However, the
question arises whether the incentives of the CEO and the BOD
are comparable, and thus
320 Discussion
whether the findings from research based on CEO data can be
translated into a BOD
setting. It would be interesting to further explore any
differences in incentives of CEO
versus BOD compensation and their consequences on
opportunistic non-GAAP reporting.
3. Variation in the institutional environment
When testing corporate governance hypotheses, the use of a
European setting potentially
has an advantage compared to a U.S. setting because non-GAAP
reporting is not strictly

regulated. Accordingly, company-specific factors can play a
more important role in
determining firms' reporting practices. Indeed, previous
literature shows that firm-specific
governance can overcome weak country-level regulation
(Durnev & Kim, 2005; Klapper &
Love, 2004).
However, the study of Isidro and Marques (2013–this issue)
does not exploit differences in
the institutional environment across the sample countries,
although these differences are
likely to have an impact on opportunistic non-GAAP reporting
beyond firm-specific
Table 1
Institutional factors and corporate governance across Europe.
Country Institutional factors Corporate governance
characteristics
N Regulatory
quality
Supervisory
power
Index
CGQ
Industry
CGQ
Independent
outsider
Director

compensation
Austria 19 1.62 10.50 43.03 40.26 1.00 0.00
Belgium 25 1.46 12.50 25.28 27.00 0.56 0.08
Denmark 22 1.88 10.00 25.45 24.20 1.00 0.09
Finland 31 1.67 9.00 60.02 59.81 0.81 0.52
France 83 1.17 9.00 57.15 56.74 0.36 0.66
Germany 85 1.48 9.00 54.94 54.42 0.82 0.01
Greece 44 0.81 10.00 30.86 29.98 0.11 0.00
Ireland 16 1.88 13.00 82.52 85.08 0.38 0.50
Italy 71 0.87 7.50 47.58 46.38 0.24 0.06
Luxembourg 3 n.a. n.a. 13.97 14.60 1.00 0.00
Netherlands 47 1.76 8.00 47.39 46.59 0.91 0.00
Norway 21 1.38 9.00 25.73 21.77 0.95 0.19
Portugal 14 1.07 14.00 26.03 25.51 0.50 0.00
Spain 54 1.18 11.50 26.56 25.49 0.43 0.28
Sweden 43 1.62 6.00 37.29 38.42 0.77 0.35
Switzerland 58 1.55 14.00 70.68 69.62 0.81 0.59
United Kingdom 530 1.84 9.00 84.13 83.06 0.35 0.61
Total 1166 1.45 10.13 63.67 62.84 0.49 0.41
This table presents country mean statistics for both country-
level institutional factors and firm-level corporate
governance characteristics of European firms as of 31 December
2005. Regulatory_Quality is an index variable
constructed as in Kaufmann et al. (2009) using World Bank
data. Supervisory_Power is an index variable ranging
from 0 to 14 that captures the power of supervisors to demand
information, take legal action against auditors, to
restructure or reorganize troubled banks, and to require banks to
provision for potential losses (Barth et al., 2004). Data
on corporate governance is provided by the Institutional
Shareholder Services (ISS). Index_CGQ is the index-adjusted
corporate governance quotient by ISS comprising 61 variables.
Industry_CGQ is the industry-adjusted corporate
governance quotient by ISS. Independent_Outsider equals 1 if

the board is controlled by a majority of independen
outsiders. Director_Compensation equals 1 if directors with
more than one year of service own stock.
t
321Discussion
governance. Recent international accounting research shows
that institutional factors vary
across European countries. Different institutional factors have
two important implications for
this study: (1) they directly affect the accounting quality (e.g.,
Ball, Kothari, & Robin, 2000;
Leuz, Nanda, & Wysocki, 2003), which might be associated
with opportunistic non-GAAP
reporting; and (2) institutional factors shape the country-
specific rules for corporate
governance, thereby changing the average firm-specific
governance score. Next, I illustrate
these arguments with selected descriptive statistics on
institutional factors and country mean
values of corporate governance characteristics.
For 17 European countries, Table 1 reports country-level
institutional factors and firm-level
corporate governance characteristics. First, the descriptive
statistics in Table 1 show that the
institutional environment is indeed not homogenous across
Europe. For example, the regulatory
quality index by Kaufmann, Kraay, and Mastruzzi (2009) for
Italy of 0.87 is substantially lower
than the regulatory quality of 1.84 for the United Kingdom. The
supervisory power index by
Barth, Caprio, and Levine (2004) also varies across countries.

Second, the country mean values of firm-specific corporate
governance characteristics
as of 31 December 2005 differ across countries. For example,
the mean value of director
compensation for Austria is 0.00, indicating that an average
BOD of an Austrian company
does not own stock of the respective company. On the contrary,
in the United Kingdom,
the majority of BOD own stock, as documented by the country
mean value of 0.61. These
differences are likely attributable to different country-level
rules on corporate governance.
For example, Switzerland introduced the “Directive Corporate
Governance” for all listed
firms in 2002, and the United Kingdom tightened its rules for
corporate governance
reporting in 2004. These country-level differences are reflected
in higher mean aggregate
corporate governance scores (Index_CGQ) of 70.68 and 84.13
for Switzerland and United
Kingdom, respectively, compared to countries without
mandatory rules on corporate
governance reporting like Austria, which has a mean score of
43.03.
Taken together, these descriptive results document that both the
institutional environment
and the average corporate governance substantially vary across
European countries. As firms
from country i have systematically different corporate
governance scores than firms from
country j, it is difficult to isolate the firm-specific corporate
governance effect from a general
country-level effect on non-GAAP reporting behavior. In
addition, institutional factors
(e.g., regulatory quality) can directly affect non-GAAP

reporting. Therefore, I recommend
further exploiting the role of institutional factors on
opportunistic non-GAAP reporting.
One possible research question is whether the mitigating effect
of firm-level corporate
governance on opportunistic reporting is more pronounced in
weak regulatory environments.
4. Opportunistic versus informative reporting
The main part of the paper separately investigates four proxies
that are usually employed in
the literature to measure opportunistic non-GAAP reporting. In
Section 6 of Isidro and
Marques (2013–this issue), they seek to better distinguish
opportunistic and informational
non-GAAP reporting by combining their proxies. However, the
empirical evidence on
share-based compensation is not very strong, particularly
because the sign of the coefficient is
positive irrespective of whether the intention is opportunistic or
informational. As the
distinction between intentions is important, I suggest
emphasizing this issue to allow further
322 Discussion
insights in entities' reporting strategy. For example, a firm
reports a non-GAAP measure
exceeding the GAAP measure in the title of the press release
without providing any
reconciliation. These reporting practices are likely to be driven
by opportunistic reasons, so we
should find even stronger positive (negative) correlations with
compensation structure (board

quality).
Related to that argument, Isidro and Marques (2013–this issue)
use consensus beating and
avoid losses as explanatory variables. Both variables equal 1 if
the non-GAAP figure helps to
beat the consensus and avoid reporting a loss, respectively. As
expected, the authors find that
these variables are positively related with the decision to
disclose a non-GAAP earnings figure.
While supporting the use of these variables to control for other
firm incentives for non-GAAP
reporting, I suggest further exploiting the underlying constructs
of the two variables to
disentangle opportunistic and informative non-GAAP reporting.
Again, I suggest combining
these variables with the other dependent variables to increase
the likelihood that the firm's
reporting is driven by opportunistic reasons instead of
information purposes. If a firm
prominently discloses a non-GAAP figure without reconciliation
that exceeds the analyst
consensus forecast, the firm's reporting strategy is most likely
opportunistic. Using such a
combined dependent variable would possibly increase
confidence in the inferences drawn from
the study.
Apart from their analysis in Section 6, I also acknowledge the
attempt of Isidro and
Marques (2013–this issue) to check whether EBIT figures in the
press release differ from the
EBIT in the audited financial statements (see information on
data collection in Section 3).
This procedure is a possible way to rule out the alternative
explanation that the reported

non-GAAP figure is simply a key number for internal control
and thus relevant to investors. If
this is the case, the reporting of such a non-GAAP figure is
driven by informational rather
than opportunistic reasons. Therefore, the additional tests of
Isidro and Marques (2013–this
issue) are important steps towards identifying opportunistic
non-GAAP reporting.
5. Conclusion
The study of Isidro and Marques (2013–this issue) finds a
positive relationship
between opportunistic non-GAAP reporting and share-based
payment of the directors.
In addition, the authors find that better board quality can help
mitigating two out of four
non-GAAP disclosure practices, namely the disclosure decision
itself and the emphasis
given to the non-GAAP figure in the press release. Although the
research design
controls for other firm-specific determinants of opportunistic
non-GAAP reporting
(e.g., ownership structure), we should draw conclusions
cautiously, because other not
identified factors may also play a role in determining
opportunistic non-GAAP
reporting. Therefore, a more powerful test would be to examine
whether a change in the
corporate governance structure also leads to changes in the
reporting behavior.
Nevertheless, the study of Isidro and Marques (2013–this issue)
helps to show the link
between corporate governance and opportunistic reporting of
non-GAAP earnings figures. As

this research area is of importance to standard setters and
regulators, I encourage future
research to further explore some of the issues raised in this
discussion. In particular, I
encourage an examination of the role that different institutional
environments across countries
play in determining opportunistic non-GAAP reporting.
323Discussion
References
Aboody, D., & Kasznik, R. (2000). CEO stock option awards
and the timing of corporate voluntary disclosures.
Journal of Accounting and Economics, 29, 73–100.
Ball, R., Kothari, S. P., & Robin, A. (2000). The effect of
international institutional factors on properties of
accounting earnings. Journal of Accounting and Economics,
29(1), 1–51.
Barth, J. R., Caprio, G., & Levine, R. (2004). Bank regulation
and supervision: What works best? Journal of
Financial Intermediation, 13(2), 205–248.
Beekes, W., & Brown, P. (2006). Do better-governed Australian
firms make more informative disclosures?
Journal of Business Finance & Accounting, 33(3), 422–450.
Bhattacharya, N., Black, E., Christensen, T., & Larson, C.
(2003). Assessing the relative informativeness and
permanence of pro forma earnings and GAAP operating
earnings. Journal of Accounting and Economics,
36(1–3), 285–319.

Bhattacharya, N., Black, E., Christensen, T., & Mergenthaler,
R. (2007). Who trades on pro form a earnings
information? The Accounting Review, 82(3), 581–619.
Black, D., Black, E., Christensen, T., & Waegelein, J. (2011).
The effects of executive compensation contracts and
auditor effort on firms' pro forma reporting decisions. Working
paper — Duke University.
Black, D., & Christensen, T. (2009). US managers' use of ‘pro
forma’ adjustments to meet strategic earnings
targets. Journal of Business Finance & Accounting, 36(3), 297–
326.
Bowen, R., Davis, A., & Matsumoto, D. (2005). Do firms
strategically emphasize performance metrics in their
earnings press releases? The Accounting Review, 80(4), 1011–
1038.
Brown, L. D., & Sivakumar, K. (2003). Comparing the value
relevance of two operating income measures. Review
of Accounting Studies, 8(4), 561–572.
Doyle, J., Lundholm, R., & Soliman, M. (2003). The predictive
value of expenses excluded from pro forma
earnings. Review of Accounting Studies, 8, 145–174.
Durnev, A., & Kim, E. (2005). To steal or not to steal: Firm
attributes, legal environment and valuation. Journal of
Finance, 60(3), 1461–1493.
European Financial Reporting Advisory Group (2009). Pro-
active accounting activities in Europe. Performance
reporting, a European discussion paper. Brussels, Belgium:
EFRAG.

Frankel, R., McVay, S., & Soliman, M. (2011). Non-GAAP
earnings and board independence. Review of
Accounting Studies, 16(4), 719–744.
Isidro, H., & Marques, A. (2013). The Effects of Compensation
and Board Quality on Non-GAAP Disclosures in
Europe. The International Journal of Accounting, 48(3), 289–
317 (this issue).
Kaufmann, D., Kraay, A., & Mastruzzi, M. (2009). Governance
matters VIII: Aggregate and individual
governance indicators 1996–2008. Policy research working
paper. The World Bank.
Klapper, L., & Love, I. (2004). Corporate governance, investor
protection and performance in emerging markets.
Journal of Corporate Finance, 10, 703–728.
Leuz, C., Nanda, D., & Wysocki, P. (2003). Earnings
management and investor protection: An international
comparison. Journal of Financial Economics, 69(3), 505–527.
http://refhub.elsevier.com/S0020-7063(13)00082-4/rf0005

http://refhub.elsevier.com/S0020-7063(13)00082-4/rf0085The
Effects of Compensation and Board Quality on Non-GAAP
Disclosures in Europe1. Introduction2. Share-based contracts
and opportunistic non-GAAP reporting3. Variation in the
institutional environment4. Opportunistic versus informative
reporting5. ConclusionReferences
Available online at www.sciencedirect.com
ScienceDirect
The International Journal of Accounting 48 (2013) 324–326
Reply

Response to Discussion of: The Effects of
Compensation and Board Quality on Non-GAAP
Disclosures in Europe
Helena Isidroa, Ana Marquesb,⁎
a Instituto Universitário de Lisboa (ISCTE IUL), BRU UNIDE,
Lisboa Portugal
b Nova School of Business and Economics, INOVA,
Universidade Nova de Lisboa, Portugal
1. Introduction
We are grateful to the discussant, Peter Fiechter, for the
insightful remarks about our
paper. The discussant's comments focus on three issues: (1) the
link between share-based
compensation and opportunistic non-GAAP reporting; (2) the
role of varying institutional
environments; and (3) the distinction between opportunistic and
informative non-GAAP
reporting. In this response, we provide clarifications to address
these concerns and suggest
avenues for future research.
2. The link between share-based compensation and opportunistic
non-GAAP reporting
The discussant suggests a more in-depth analysis of the
relationship between compensation
and opportunistic non-GAAP voluntary disclosure. The first
proposed analysis involves the
separation between the short-term and long-term compensation
incentives. We agree that such
an analysis would bring valuable insights to the literature,

especially in light of Black, Black,
Christensen, and Waegelein's (2011) findings for the U.S.
However, as the discussant also
recognizes, the data from ISS for Europe does not make such a
distinction and it would be
necessary to manually collect that information. The second
proposed analysis would explore
how non-GAAP disclosure practices are affected differently by
CEOs' compensation
⁎ Corresponding author at: Nova School of Business and
Economics, Campus de Campolide, 1099-032 Lisboa,
Portugal. Tel.: +351 918080250; fax: +351 21387933.
E-mail address: [email protected] (A. Marques).
0020-7063/$ - see front matter © 2013 University of Illinois.
All rights reserved.
325Reply
incentives and by directors' compensation incentives. We
believe that our study contributes
more to the voluntary disclosure literature by investigating the
effect of directors'
compensation, where there is little current research. An
application of the Black et al. (2011)
study on executive compensation in Europe would require
additional data. Given that we
already hand-collected all of the non-GAAP information, we are
willing to share our
proprietary data with researchers interested in exploring these
issues.

3. The role of varying institutional environments
We agree with the discussant's arguments that substantial
variation in the institutional
conditions of the countries where the firms operate may affect
non-GAAP voluntary
disclosure choices. The impact of macro-level conditions on
reporting outcomes has been
widely documented in the international literature (Ball, Kothari,
& Robin, 2000; Ball,
Robin, & Wu, 2003; Burgstahler, Hail, & Leuz, 2006; Leuz,
2010; Leuz, Nanda, &
Wysocki, 2003). We also believe that the influence of
institutional conditions in
non-GAAP reporting is likely to be particularly strong in the
European setting, given the
lack of stringent non-GAAP regulation in Europe (a distinctive
feature of the European
context relative to the U.S.). This is an important issue that
deserves a separate and
thorough investigation. As such, the authors explore the
influence of institutional
conditions on non-GAAP reporting in another study (Isidro &
Marques, 2012). That study
finds that managers are more likely to use non-GAAP reporting
in an opportunistic way (to
meet earnings benchmarks) in countries with efficient
institutional and economic
conditions, which suggests that opportunistic non-GAAP
reporting increases in
institutionally developed environments where there is more
pressure to achieve earnings
targets and less opportunity to manipulate reported earnings.
Related to the above point, a research question not yet

addressed is how country-level
institutional forces and firm-level governance mechanisms (the
two factors indicated by the
discussant) jointly influence managers' non-GAAP reporting
strategies, and whether there
is an interaction effect between the two. This is a possible
avenue for future research.
With regard to the variation in countries' corporate governance
levels, we argue that ISS
governance scores are constructed on an internationally
comparable basis. However, we
agree with the discussant's point that the general corporate
governance level of the country
is embedded in the firms' specific governance scores. A possible
way to isolate the firm
specific governance quality is to use a scaled governance score
in which the scale is the
country governance index reported in Table 1 in the discussion.
4. The distinction between opportunistic and informative non-
GAAP reporting
The separation between opportunistic and informative non-
GAAP reporting is a critical
issue affecting all of the non-GAAP literature, as we cannot
directly observe managers'
intentions. In our paper, we have studied the reporting practices
previously identified in the
literature as opportunistic disclosures (e.g., Black &
Christensen, 2009; Bowen, Davis, &
Matsumoto, 2005; Doyle, Lundholm, & Soliman, 2003; Elliott,
2006; Marques, 2010;
Zhang & Zheng, 2011). We have constructed the indicator
variables opportunistic
disclosure and informative disclosure as a combination of those

practices following the
326 Reply
suggestion of one of the reviewers. Although we find that both
the estimated coefficients
for compensation are positive and statistically significant (Panel
B, Table 6), it is important
to consider that the effect is statistically higher in the case of
opportunistic disclosure.
Thus, while firms that disclose non-GAAP earnings measures
with informative intentions
do this more frequently when directors' compensation is linked
to firms' market
performance, they still do it less frequently than firms with
opportunistic motivations.
Nevertheless, we agree that with a larger panel of observations,
one could explore specific
combinations of reporting strategies including whether or not
the non-GAAP numbers
meet analysts' expectations about year earnings. Another
possible area for future research
is to identify firms that consistently use aggressive non-GAAP
strategies through time.
Acknowledgments
We thank Peter Fiechter for the helpful comments and
discussion. We acknowledge the
constructive comments from the 2011 International Journal of
Accounting Symposium, the
2011 IAS mid-year meeting, the 2011 EAA annual congress, and
the 2011 AAA annual
meeting participants. We also thank the anonymous reviewers
and the editor of the International

Journal of Accounting, Professor A. Rashad Abdel-Khalik, for
their helpful suggestions.
References
Ball, R., Kothari, S., & Robin, A. (2000). The effect of
international institutional factors on properties of
accounting earnings. Journal of Accounting and Economics, 29,
1–51.
Ball, R., Robin, A., & Wu, J. (2003). Incentives versus
standards: Properties of accounting income in four East
Asian countries. Journal of Accounting and Economics, 36,
235–270.
Black, D., Black, E., Christensen, T., & Waegelein, J. (2011).
The effects of executive compensation contracts and
auditor effort on firms' pro forma reporting decisions. Working
paper. Duke University.
Black, D., & Christensen, T. (2009). US managers' use of ‘pro
forma’ adjustments to meet strategic earnings
targets. Journal of Business Finance & Accounting, 36(3), 297–
326.
Bowen, R., Davis, A., & Matsumoto, D. (2005). Do firms
strategically emphasize performance metrics in their
earnings press releases? The Accounting Review, 80(4), 1011–
1038.
Burgstahler, D., Hail, L., & Leuz, C. (2006). The importance of
reporting incentives: Earnings management in
European private and public firms. The Accounting Review, 81,
983–1017.
Doyle, J., Lundholm, R., & Soliman, M. (2003). The predictive

value of expenses excluded from pro forma
earnings. Review of Accounting Studies, 8, 145–174.
Elliott, W. (2006). Are investors influenced by pro forma
emphasis and reconciliations in earnings
announcements? The Accounting Review, 81(1), 113–133.
Isidro, H., & Marques, A. (2012). The role of institutional and
economic forces in the strategic use of non-GAAP
disclosures to beat earnings benchmarks. Working paper
(available at http://papers.ssrn.com/sol3/papers.cfm?
abstract_id=1940514).
Leuz, C. (2010). Different approaches to corporate reporting
regulation: How jurisdictions differ and why.
Accounting and Business Research, 40, 229–256.
Leuz, C., Nanda, D., & Wysocki, P. (2003). Earnings
management and investor protection: An international
comparison. Journal of Financial Economics, 69, 505–527.
Marques, A. (2010). Disclosure strategies among S&P 500
firms: Evidence on the disclosure of non-GAAP
financial measures and financial statements in earnings press
releases. The British Accounting Review, 42,
119–131.
Zhang, H., & Zheng, L. (2011). The valuation impact of
reconciling pro forma earnings to GAAP earnings.
Journal of Accounting and Economics, 51, 186–202.

http://refhub.elsevier.com/S0020-7063(13)00079-
4/rf0065Response to Discussion of: The Effects of
Compensation and Board Quality on Non-GAAP Disclosures in
Europe1. Introduction2. The link between share-based
compensation and opportunistic non-GAAP reporting3. The role
of varying institutional environments4. The distinction between
opportunistic and informative non-GAAP
reportingAcknowledgmentsReferences
8
Non-GAAPs Measures
Name:
Professor’s Name
Course Name:

Course/Registration No.:
Date:
Introduction/Purpose
Accounting and finance profession requires that the process or
recording transaction and preparation of the financial statements
be done with some standards that are generally outlined as
GAAPs. The standards enables organizations, companies
whether private or public and other institutions to be accurate
and transparent in their preparation and recording of financial
statements. In order to achieve transparency, accuracy and
consistency in the predation of financial reports, GAAPs is used
as the standard measure. GAAPs stand for generally accepted
accounting principles. There is no universal standard that
applies to all organizations in different geographical locations
in the world. These standards normally differ from one country
to the other. Generally accepted accounting principle is the
bedrock for understanding of their financial performance of an
institution whether public or private owned. GAAPs normally
outlines the procedures and the scorecard for the preparation of
financial reports and statements therefore when a particular
company prepares its financial statements without employing
the methodology outlined in GAAPs, then such a company is
said to be using a Non-GAAP measure. Non-GAAP measure

does not apply the standards stated as the generally accepted
accounting principles. Non-GAAPs tries to explain the
historical financial performance of a company and the projected
and expected future performance of a particular company, the
current financial position and the general cash flows.
A number of Non-GAAP measures that will be discussed herein
include but not limited to EBITDA (Earnings before Interest
and Tax, Depreciation and Amortization), Adjusted Earning,
funds from operation (FFO), other cash earning (CE), free cash
flows (FCF) and EBIT (Earnings before Interest and Tax). Other
Non-GAAP measures include Net Operating Income (NOI),
modified funds from operations (MFFO), Broad cash flow
(BCF) and ROIC (Return on invested capital). Each of these
non-GAAP measures have been explained below.
Earnings before Interest, Tax, Depreciation and Amortization is
a type of Non-GAAP measure to determine the general
operating performance of a company. Some of the merits of
EBITDA include its ability to compare competitive firms in
terms of their performance, it indicates a company’s efficiency
and effectiveness regarding financial performance, gives the
general outlook of business performance. EBITDA does not
consider capital investments and other financial variables that
may affect the financial position of the company. It only include
expenses that are considered necessary in the day’s operation of
the company. EBITDA gives an account of cash flows that
might have been generated by the ongoing operations in the
company. Some of the disadvantages of earnings before interest
tax, depreciation and amortization include its failure to include
capital expenditure in its calculations, it does not account for
any changes in the cost of working capital, it does not give an
insight of tax implications on the firm, it does not account for
the effect of tax and its related computations and how it affects
the health of any business. Besides, it does not explain the
process of converting the most liquid assets into cash and other
forms of cash equivalents and it also fails to account for the
effect of depreciation on the profit projects of a firm.

Adjusted Earnings refers to the earnings that a company makes
in relation to the share prices of the common stocks of the
company. Such earnings are also adjusted depending on the
company’s expenses on research and development in order to
improve its market share. It can be used for evaluating the
performance of a company and it allows easier comparisons to
be made between the competing companies. Adjusted earning
has a disadvantage of being exaggerated to suit the CEOs will in
order to inflate the amounts for compensation.
Funds from Operation are those kinds of funds that are
generates from a real estate investment and normally from the
real estate investment trust. Such funds include net incomes,
depreciation and the amortization value less the amount of gains
made when a real estate property is sold. Funds from operation
calculations indicates the general performance of the company
by determining he changes that do occur in day-to-day
operations of the company. It indicates which areas of financial
operations that needs to be adjusted in order to meet the
required targets and cash flow objectives. It determine the
adequacy of funds that are needed by an organization in order to
effectively carryout its mandate in process of creating goods
and services. The calculation of the funds from operations can
be used in determining the future funds projections of a
particular company and ways of raising such funds and it can
also be used in the budgeting process including making budget
projections for the future operations of a company. A summary
of funds from operations indicates the financial position of the
company and its image in comparison to other competing
companies in the same industry. Some of the disadvantages of
funds from operations may be its volume of data calculated in
order to arrive at the final figures might easily be ignored or
overlooked.
Cash Earnings refers to the difference between the cash
revenues from the operations of a company and its operating
expenses. Cash earnings does not take into account the cost of

depreciation. It also refer to the sum total of a trading process
when all the operating expenses have been deducted from the
gross revenue. The cash earnings originate from the profits that
are generated through each share of a company. Cash earnings
gives the true financial reflection of a company in terms of the
amount in holds in the form of cash or other most liquid assets
that can easily be turned into cash. Cash earnings reflect the
market conditions of an economy regarding hoe the shares are
trading in that particular economy from one country to the
other. Cash earning does not show a clearer projection of the
future cash flows into the company.
Free Cash flow is a general term that is used to refer to the
amounts that the company is generating in terms of profits from
it day to day business. It shows how profitable the company
may be in respect to other immediate competitors. It show the
ability of any business to cash that can be used in daily
operations of the business. Free cash flows gives the firm a
higher value its stock compared to the competing companies.
The cash flow statements can be used to determine the future
financial stability of the business. Free cash flows may reduce
risks and uncertainties that may accrue in the process to
conducting a business. It is disadvantageous since a stable cash
flow may only be realized in the long-term operations of the
business.
Earnings before Interest and Tax refers to the profits earned on
the operational and non-operational revenues less interest and
tax. It can be used to find the projections of a company in
comparison with the most viable competitors. One of its
disadvantages is that is does not indicate the effect of interest
and taxes on the general operations of the business.
Net operating income refers to the profitability of any business
and is calculated by first finding the net revenue then
subtracting all the operating expenses. It is used to indicate if a
firm has the ability to generate the required income. It can be
used to determine the company’s capitalization rate and the
amount of capital required by a firm for an effective running of

the company. It also identified which investment areas needs to
be seriously funded in order to maintain a particular
profitability rate. Net operating income statement gives a
detailed report that can be used for making viable business
decisions. It has the disadvantage of difficulty in categorizing
the type or kinds of business expenses.
Return on invested capital this an excess amount of what a
company makes over the weighted average cost of capital.
Return on invested capital can be used by managers in making
management decisions regarding the performance of various
levels of performance. It can be used for comparison with others
companies within the industry. It also measures the marketing
and management efficiency in handling the operations of the
company. One of the disadvantages that may accrue as a result
of using return on invested capital is that it uses approximated
values and projections in its arithmetic calculations hence
reducing the confidence of investors. It also does not recognize
that available intangible opportunities affecting the market and
the company. It contains incomplete tools used in the analysis
of data. Other types of non-GAAPs highlighted here are
modified funds from operating operation (MFFO) as well as the
broad cash flow (BCF).
Non-GAAPs measure are not only used by the management and
the company directors but other stakeholders are also interested
in the statements. The stakeholder may include the investors,
employees, lenders, the government, suppliers and the general
public. In an efficient market, all the state holders an equal
access to information relating the market conditions and any
other factor that may influence the economic condition. All the
stakeholders need such information in order to make viable
decisions regarding the company’s operations. The government
is interested in such a company because they need the financial
statements in order to determine the amount of tax that the
company is liable to pay to government. The investors are
opportunity seekers and are ready to take risks that can result
into making long-term returns with huge profit hence they need

these published company statements in order to make decisions
whether to invest in the company or not. The employees are
interested in such statement in order to determine whether the
company will continue employing them or not. The suppliers are
interested in knowing whether the company will continue in
operation in order to give them a continuous supply opportunity
in the near future. The public are interested in knowing whether
the company will continue offering them goods and services.
Inefficient market is a kind of market situation where the
available information is only known by a small segment of the
market (Rao, 2007). Information asymmetry is a situation in the
market where the buyers and sellers have varied information
regarding the availability of goods or services or any others
information that is related to the operations of the company and
the market trends. George Akerlof, Michael Spence and Joseph
Stiglitz in 2001 came up with the theory of information
asymmetry. They realized that the information asymmetry is
caused by the uncertainties in the market that are relating to the
quality uncertainties. Dr. Kelly argues that the management of
various do always abuse the use of generally accepted
accounting principles hence lowering its credibility in the
market place. Such abuses leads to bad earnings management
and vice versa (Soon, 2011). Earnings forecasts are majorly
done either on quarterly basis, half yearly basis (semiannually)
or annually. They indicates the financial performances of the
company at some specific points in times or after a given
trading periods. They show how the firms perform in terms of
the profits or the revenue generated over a given trading period.
Sometimes the non-generally accepted accounting principles do
not give the full disclosure of the financial position of a
company. It is therefore for firms trading with specific company
to use the slogan and phrase of buyer be aware of the rightful
information in the market. There should be a willing seller and
the willing buyer. Sometimes the directors and the managers of
a company may report the financial statements with a motive of
misleading the public or the government, investors, suppliers

with some hidden agenda of compensating against losses
incurred or in order to avoid paying of hefty taxes to the
government. Lack of full disclosure may also mislead the
supplier who largely depends of the financial statements of the
company in order to determine their net worth and their ability
to pay for the good supplied to them by suppliers. Non-GAAPs
measures are always intended to produce relevant information to
all other relevant stakeholders who have interest in the
company. The information produced is supposed to give
guidance on the decisions made regarding the investment
opportunities. Quality reporting has a positive relationship with
non-GAAPs measure. Quality reporting attracts the users of the
financial statements hence making the necessary judgements
and decisions. Regulations and governance controls the
operations of various types of companies by ensuring that they
remain within the bounds of the business they registered for and
that they are adhering to the current laws and policies.
Conclusion
The study by Dr. Kelly Wee Kheng Soon show a strong
relationship between non-GAAPs measures and the various
study variables. George Akerlof, Michael Spence and Joseph
Stiglitz arguments on non-GAAPs measures also indicates the
different methods of measurements and their correlation to the
study variable. It is therefore recommended that a further
research be carried on the effect of non-GAAPs on the foreign
exchange.References
Rao, A. (2007). A Theory of Market Efficiency. A Theory of
Market Efficiency, 1-36.
Soon, D. K. (2011, March 2). Earning Management: Is it Good
or Bad? Retrieved from SSRN:
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1775400
ACCG42004D Accounting Theory and Contemporary Issues -
Fall 2018

Proposal/Plan for Group Essay Research Project and
Presentation
The proposal is an outline of the project PREPARATION that
your group has engaged in. It contains an outline of what your
group intends to submit on Nov. 6th, and what they intend to
present on their assigned day using the following format. It
must be submitted and approved before 11:59 p.m. on Nov 27th.
OUTLINE of PLAN FOR ESSAY COMPLETION AND
PROJECT PRESENTATION
TITLE/TOPIC
Groups # & Member names
Scheduled Group Discussions
Dates
Summary of Discussion/s
List each meeting date
Include description of:
· Form of communication
· Attendees
· Discussion topics

PLAN
Presentation
Section
Expansion of section
Assigned to
(member name)
Introduction/
Purpose
Include a very brief summary of what you intend to present to
the group.
Literature Review
Each presenter will describe their assigned literature.
Additional Articles
Any additional material that supports the assigned readings can
be presented here.
Connection to course topics
Discussion of course topics to non-gaap measures and studies
and articles which have been presented
Conclusion
Summary of findings and impact on users.
Question for audience?
Audience question of presenters?

8Non-GAAPs MeasuresNameProfessor’s NameCourse NameCo.docx

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