Spike in Positive Earnings Surprises Attributed to Rising Use of Non-GAAP Metrics

Chris Gaetano
Published Date:
Aug 6, 2018
'MIND THE GAP 5023794412' by http://www.cgpgrey.com. Licensed under CC BY 2.0 via Wikimedia Commons

The number of S&P 500 companies whose earnings far exceeding analysts' expectations has more than doubled in 16 years, though a recent study says that non-GAAP metrics have played a large role in this surge, according to CBS News. The study, to be presented at an upcoming American Accounting Association conference, looked at the earnings reports of S&P 500 companies that exceeded analysts' expectations. The study found that, between 2000 and 2016, the number of companies that beat expectations by between 5 and 15 cents per share more than doubled. This is a dramatic change from before, when firms would typically report earnings that either met or just exceeded analyst expectations. The authors believe the rise in positive surprise announcements in S&P 500 companies can be attributed at least partially to the increased use of non-GAAP financial metrics, such as WeWork's "community adjusted EBITDA.

While all companies are required to calculate and disclose GAAP figures, these can sometimes differ significantly from the custom metrics firms would prefer people use. For instance, a 2016 study found that, in the pharmaceutical industry, the difference between GAAP earnings and non-GAAP "adjusted earnings" increased from 22 percent in the first quarter of 2014 to 28 percent, in the first quarter 2016. Non-GAAP net income for the industry, too, is much higher than what GAAP alone reports: 40 percent over the last 13 quarters. Another study from last year found that when companies make large positive adjustments to non-GAAP earnings, their CEOs make 23 percent more than their expected annual compensation would be if GAAP numbers were used. This is despite such firms having weak contemporaneous and future operating performance relative to other firms. The SEC has expressed worry that these custom metrics can deceive investors, and over the past few years has attempted to curb some of the more problematic applications. 

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