Earnings, as the old Wall Street adage goes, are “the mother’s milk of stock prices.” But not all earnings are the same. More and more companies believe they can hoodwink investors into accepting the myth that non-GAAP earnings are a better measure of corporate progress than numbers produced by generally accepted accounting principles. In 2016’s first quarter, 19 of the 30 Dow companies reported both GAAP and non-GAAP earnings.
In theory, filing non-GAAP numbers can give a clearer picture of a company’s health by excluding expenses managements consider (or hope) to be nonrecurring, such as charges for divestitures, acquisitions, and foreign currency adjustments. In practice, non-GAAP figures increasingly allow managements to present wildly distorted pictures of their firms’ financial health by omitting the most troublesome aspects of their balance sheets. Valeant is all over the news now for doing just that. But the biggest and, mystifyingly, least talked about expense omitted in non-GAAP numbers is stock based compensation.