Heads Up — SEC urges companies to take a fresh look at their non-GAAP measures

On May 17, 2016, the SEC updated its C&DIs on non-GAAP measures in response to its increasing concerns that such measures may be misleading, more prominent than comparable GAAP measures, or inconsistently presented from period to period. The C&DIs do not prohibit companies from using non-GAAP measures that comply with the SEC’s existing rules. However, the SEC staff’s tone in the C&DIs is intentionally forceful in an effort to “send a message,” as stated by Chief Accountant Mark Kronforst in the SEC’s Division of Corporation Finance (the “Division”) at the May 18 meeting of the PCAOB’s Standing Advisory Group (SAG). In his discussion of the SEC’s concerns about non-GAAP measures, Mr. Kronforst announced that “this next quarter will be a great opportunity for companies to self-correct.”

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The months leading up to the updated C&DIs’ release have been marked by an explosion of press coverage and SEC scrutiny of non-GAAP measures in reaction to the increased use of these measures as well as the progressively larger difference between the amounts reported for GAAP and non-GAAP measures. For example, a study published by FactSet determined that for 2015, 67 percent of the companies in the Dow Jones Industrial Average reported non-GAAP earnings per share and, on average, that the difference between the GAAP and non-GAAP earnings per share for these companies was approximately 30 percent, representing a significant increase from approximately 12 percent in 2014.

SEC officials have commented on the sharp rise in the use of non-GAAP measures. In a speech delivered in March of this year, SEC Chief Accountant James Schnurr noted that the “SEC staff has observed a significant and, in some respects, troubling increase . . . in the use of, and nature of adjustments within, non-GAAP measures” as well as their prominence. He further noted that non-GAAP measures are intended to “supplement . . . not supplant” the information in the financial statements. In April and May, Mr. Kronforst and Wesley Bricker, a deputy chief accountant in the SEC’s Office of the Chief Accountant, highlighted additional concerns about non-GAAP measures. Their comments focused primarily on the use of individually tailored accounting principles to calculate non-GAAP earnings, such as those used in certain adjusted revenue measures; non-GAAP per-share performance measures that appear to be liquidity measures; and the tax treatment of non-GAAP adjustments.

As reflected in its reviews and comment letters, speeches, and updated C&DIs, the SEC is urging companies to take a fresh look at their use of non-GAAP measures in earnings releases and periodic reports.

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Volume 23, Issue 15 | May 23, 2016

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Heads Up newsletters, published as warranted, analyze important accounting developments, such as new FASB and IASB pronouncements or exposure drafts. Concise examples and answers to frequently asked questions assist readers in understanding and implementing the critical guidance.

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