Non-GAAP earnings are an alternative method used to measure the earnings of a company. Many companies report non-GAAP earnings in addition to their earnings as calculated through generally accepted accounting principles (see US GAAP (Generally Accepted Accounting Principles)). All public companies in the U.S. are required to report earnings according to general accepted accounting principles set forth by the Financial Accounting Standards Board (FASB). (See International Financial Reporting Standards (IFRS)).
But here's the twist: companies can also report earnings based on whatever logic management finds suitable. The discrepancies between GAAP and non-GAAP earnings can thus be enormous.
Nevertheless, some asset managers believe that these alternate figures provide a more accurate measurement of the company's financial performance.
Standard financial reporting requirements are fairly prescriptive. Under GAAP, companies report earnings based on time-honored accounting principles like accrual accounting, revenue recognition and expense matching. For example, the matching principle requires that companies report expenses in the same period as related revenues.
Companies may supplement GAAP earnings with non-GAAP measures. The rationale for allowing such departures is that management may have alternative ways of representing the company's "true" performance. For example, a company might choose to report earnings before depreciation. This is a popular adjustment because it offers investors a more accurate picture of the company's cash flow, since depreciation is a non-cash expense. Thus, a company might include a non-GAAP line item for earnings before interest, taxes, depreciation and amortization (EBITDA) that excludes quarterly depreciation.
The Security and Exchange Commission’s (SEC) Regulation G prohibits the dissemination of false or misleading GAAP or non-GAAP financial measures. The SEC updated its guidance in 2010 and, most recently, in May 2016 through Compliance and Disclosure Interpretation (C&DI) documents.