Paper Example on Generally Accepted Accounting Principles

Introduction

The Generally Accepted Accounting Principles (GAAP) generally include a set of standards, rules, and processes that are used by accountants to monitor, summarize and report on financial records. These standards offer the basis for accurate, fair, honest and consistent reporting of financial records. The law does not require private companies to adhere to the GAAP, but most of them do anyway. However, public companies do not have a choice as they are required by law to adhere to GAAP strictly. Recently the office of corporate finance of the Securities and Exchange Commission (SEC) made a press release on some new as well as a revised set of compliance guidelines and disclosure interpretations requiring the non-GAAP financial measures not to be applied in SEC filings and public disclosures. The non-use of GAAP standards is entrenched in as part of item 10 (e) of the regulations S-K, and G of the SEC. Such changes and revisions are set to have an impact on how public companies disclose and make filings for the fiscal quarter that is rapidly approaching.

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The non-GAAP liquidity measures that can no longer be used for the representation of per share basis include earnings before interests and taxes (EBIT), free cash flow, depreciation and amortization, earnings and taxes. One of the reasons behind the SEC insistence that GAAP financial should no longer be used is that they are misleading and are in violation of the rule of 100 (b). Companies that represent non-GAAP standards that provide adjustments for gains or charges in its current format of disclosure in a manner that is not consistent with the treatment of other items that are similar in the representation of similar non-GAAP metrics in previous financial periods violate the rule (Parrino, 23). Should a company decide to change the manner in the way in which the non-GAAP calculation and presentation are done, there should be transparency about the change, and an explanation should be made on why the change was made. Also, should the adjustments be materials, SEC suggests the retroactive adjustment of company records to make them conform to set standards and prevent investors from being misled.

According to the SEC non-GAAP measures which do not include one-time charges but at the same time are not exclusive of one-times are misleading. Non-GAAP measures that do not include non-recurring charges but non-recurring gains within the same financial period should be classified as misleading and a violation of the G regulation. In addition, performance measures of the non-GAAP kind that do not make individual substitution of tailored revenue recognition and methods of measurement for the GAAP measures are in violation of regulation G. As described by CDI any non-GAAP measures that make individual tailored revenue measures and recognition methods for the GAAP measurements such as adjustments that would increase revenue recognized at a rate over time under GAAP as if it was in totality generated upfront after customers are billed in violation of Regulation G.

The use of non-GAAP financial metrics can mislead investors in some ways. Some executives and investors are of the opinion that unaudited performance metrics such as such as earnings before interests, taxes, depreciation, and amortization (EBITDA) offer an accurate substitute way of monitoring financial performance than the net income as described by the GAAP. However, in recent years some companies have manipulated figures of EBITDA through the exclusion of certain costs. Such trends have made it increasingly tough for financial analysts to make fair comparisons and understanding of items taken out.

In some cases, companies include EBITDA figures as well as other measures that are no-GAAP to depict the finances of the company in a positive light n regards its financial performance which is misleading to investors (Black et al., 259). Such unaudited figures are very attractive to investors and represent the company in a stronger financial picture than what appears in the audited financial records. In turn, such companies normally experience an increase in their stock prices when their revenues are announced a few weeks before financial records of the companies are audited to the SEC.

Conclusion

The general use of the EBITDA has for a long time made investor and regulators suspicious about the true picture of financial positions represented by companies. However, recently more than a dozen companies came into a coalition with executives in the finance industry want the non-GAAP measures to stop being used (Boyer et al., 12). The executives drafted a six-point letter that covers some corporate governance issues which included a call for greater independence of the corporate board and diversity accompanied by a decreased level of focus on quarterly results. The executives are of the opinion that the non-GAAP earnings do not include stock-based compensations. According to them all forms of compensation including the non-equity kind should be included in non-GAAP measures of earnings as a way of ensuring transparency of financial reporting by companies.

Works Cited

Black, Dirk E., et al. "NonGAAP reporting: Evidence from academia and current practice." Journal of Business Finance & Accounting 45.3-4 (2018): 259-294.

Boyer, Benoit, Ralph Lim, and Bridget M. Lyons. "A Case Study in the Use and Potential Misuse of Non-GAAP Financial Measures." (2016): 12-24.

Parrino, Richard J. "New compliance guidance by SEC staff signals increased scrutiny of non-GAAP financial measures." Journal of Investment Compliance 17.4 (2016): 23-33.