Investors misled over earnings
Regulators warn of 'widespread use' of unconventional financial reporting
Sinclair Stewart
Financial Post; with files from Bloomberg News
Canadian securities regulators said yesterday that investors are being misled by "widespread use" of financial reports that do not adhere to Generally Accepted Accounting Principles and have issued a new set of reporting guidelines aimed at cracking down on the increasing use of pro forma results to enhance earnings.
An increasing number of companies, particularly in the high-tech sector, emphasize pro forma performance because it allows them to selectively exclude non-cash charges and a raft of special expenses that must be figured into the GAAP calculations.
The Canadian Securities Administrators, a group comprised of provincial securities commissions, said it was concerned by the proliferation of such non-standard measures as "operating earnings," warning they can optically improve a company's financial health and make it exceedingly difficult for investors to compare issuers.
"Investors should be cautious when looking at non-GAAP earnings measures," said John Carchrae, chair of the CSA Chief Accountants Committee. "It is important to understand that these measures present only part of the picture and may selectively omit certain expenses, resulting in a more positive portrayal of a company's performance."
Detractors of GAAP argue that the inclusion of non-cash charges and unusual items can paint a distorted picture of a company's financial performance and the viability if its ongoing operations. But in many cases, a strict reliance on pro forma numbers can produce the same effect.
JDS Uniphase Corp., for example, reported a pro forma profit of $67-million for fiscal 2001, a number which excluded goodwill reduction, merger-related charges, losses on investments and stock option charges. When these items were included in the GAAP figures, however, the company suffered a whopping loss of $50.6-billion for the year.
Nortel Networks Corp., meanwhile, whose stock trades at about one tenth of its 2000 high, asked investors to focus on a measure it called "net earnings from operations," which excluded amortization of goodwill and development costs, and gains and charges.
Nortel reported 2000 "net earnings from operations" of $2.31-billion, or 71¢ a share. Based on GAAP, the company had a loss of $3.47-billion, or $1.17 a share.
Issuers will now be expected to provide GAAP results alongside non-standard earnings measures, and explain to investors how pro forma figures are calculated and why they exclude certain items required by GAAP.
In addition, the CSA suggested companies avoid using any non-GAAP figures in its financial statements, and limit the number of pro forma measures they provide.
The move follows similar efforts in the United States, where the Securities and Exchange Commission recently published "cautionary advice" on accounting policies and warned issuers that it was considering new rules to make earnings reports more transparent.
Although the CSA portrayed the notice as "guidance" rather than as a set of steadfast rules, staff cautioned it could take regulatory action if issuers publish earnings reports deemed to be misleading to investors. "Companies that choose not to comply are basically going out on a limb," said Jeff Codispodi, a spokesman with the Ontario Securities Commission.
Al Rosen, president of forensic accounting firm Rosen & Associates Ltd., suggested the guidance has come late for many investors. "The issue is why was this not done two or three years ago, when all the high flyers were playing games?" said Mr. Rosen, referring to the dot-com boom, and the accounting practices of some Internet startups. |
