by John Hughes
Incredibly, I find it’s over a year since I wrote my post on non-GAAP measures in the context of IFRS. I’ll just summarize the issue again here in the same terms I used then:
IFRS changes the playing field quite a bit for so-called non-GAAP financial measures – EBITDA, operating earnings, and so forth. CSA Staff Notice 52-306 Non-GAAP Financial Measures sets out the regulatory presentation and disclosure expectations for these kinds of numbers, stating in particular that “in staff’s view, it is not appropriate to present non-GAAP financial measures in the GAAP financial statements”…hence their shadowy existence in MD&A, news releases, and elsewhere. But on adopting IFRS, this bumps into the following paragraph in IAS 1:
- An entity shall present additional line items, headings and subtotals in the statement of comprehensive income and the separate income statement (if presented), when such presentation is relevant to an understanding of the entity’s financial performance (IAS 1.85)
In other words, if users would generally agree (as they often seem to) that EBITDA is a key performance measure for a particular entity, then EBITDA must be(at least) relevant to understanding that performance. And if so, IFRS doesn’t just say you can include it on the income statement – it says you shall (must) do it. What was once a non-GAAP financial measure therefore becomes entirely a GAAP measure.
I went on to predict (not particularly daringly) that Staff Notice 52-306 would be revised before the implementation of IFRS. Well, it took a while, but this finally happened a few weeks ago. The revised notice, now titled Non-GAAP Financial Measures and Additional GAAP Measures, acknowledges the issue I described, and goes on: “For the purpose of this notice, we refer to financial measures included in the notes, as well as additional line items, headings and subtotals, that meet the IFRS criteria for disclosure in the financial statements, as ‘additional GAAP measures’. Because IFRS requires such additional GAAP measures, they are not non-GAAP financial measures.” The notice says, reasonably enough, that MD&A should usually discuss and analyze such additional measures, but it excludes them from the specific disclosure requirements attaching to measures not meeting the IFRS criteria (which it still refers to as “non-GAAP financial measures.”)
This takes care of the most prominent way in which the staff notice, in its previous form, wouldn’t have “worked” in an IFRS environment. There’s still an inevitable open question at its centre though: when will a particular measure in particular circumstances be an “additional GAAP measure” rather than a “non-GAAP financial measure”? I’d hypothesized before that EBITDA, for instance, would normally be an acceptable income statement item under IFRS; it seems self-evident that analysts and other users regard it as relevant in many instances (you can argue perhaps that in some cases they’d be wise to put less relative weight on it, but I don’t think that’s the issue – it’s based on empirically observing what they actually do). But the revised staff notice continues to define the landscape as follows: “Terms used to identify non-GAAP financial measures may include ‘pro forma earnings’, ‘cash earnings’, ‘free cash flow’, ‘distributable cash’, ‘EBITDA’, ‘adjusted earnings’, and ‘earnings before non-recurring items’.” In other words, it’s saying very specifically that (for instance) EBITDA may still be a non-GAAP measure, and not required/permitted by IFRS.
There’s no more discussion though on when EBITDA would fall into one category or another. That’s fine – it’s beyond the scope of what the notice could reasonably try to accomplish. But it does leave us with some uncertainty over whether regulators will mostly regard this as something to be left to issuers, or whether they’ll use the comment letter process to try placing some limits on how companies apply that aspect of IAS 1. As I mentioned, that would seem futile to me – if an entity asserts that some portion of its stakeholders finds EBITDA relevant, I’m not sure where it gets anyone to start a fight over it. But again, flagging EBITDA as a possible non-GAAP financial measure at least seems to open the door to such debates.
Finally for now, the notice also addresses the situation where an issuer includes an additional GAAP measure in a press release or elsewhere, before having filed the financial statements containing that measure. It goes on: “In order to avoid any confusion about the additional GAAP measure, management should describe the additional GAAP measure and explain its composition. This may be accomplished by: reconciling the additional GAAP measure to the most directly comparable minimum line item that will be presented in the financial statements (for example, profit or loss or cash flows from operating activities), or including a copy of the statement that contains the additional GAAP measure.” Seems fair enough!
The opinions expressed are solely those of the author.