How Audit Committees Can Help with Non-GAAP

Companies’ use of non-GAAP metrics remains under close scrutiny by regulators, while investors and analysts lean ever-more heavily on the measures.

With that backdrop, the Center for Audit Quality undertook a mission to educate audit committees on leading practices for exercising their roles as overseers of companies’ financial reporting.

Audit-committee chairs are financial experts, of course, but different perspectives can help. CAQ approached its mission by holding three roundtable discussions in 2017, each with a diverse roster of 20 to 25 participants including audit committee members, management, investors, securities lawyers, and public-company auditors.

The result of the conversations was a concise document, released this month, called “Non-GAAP Measures: A Roadmap for Audit Committees.”

Much of the report covers familiar ground for senior finance executives. It offers brief synopses of why companies present non-GAAP metrics, challenges related to them, the importance of non-GAAP as a communication tool, the role of judgment in creating the metrics, and the role of audit committees.

Of perhaps more direct interest to CFOs are some recommended best practices that many companies don’t follow:

Disclosure controls. Establishing disclosure controls specific to non-GAAP measures could enable companies to mitigate risks; support sound decision-making on their reporting: and drive more consistency and transparency into preparing and presenting the metrics, CAQ says. The controls should be documented and robust enough to facilitate testing them.

Non-GAAP policies. Companies should establish a set of guidelines to follow when preparing and presenting non-GAAP measures, according to CAQ. It can, for example, help in making decisions on the treatment of new transactions or events within non-GAAP measures.

Audit committee disclosure. “Few, if any, companies currently disclose their non-GAAP policies,” CAQ writes. There was no consensus among roundtable participants on whether such disclosure, or even merely disclosing whether the company has a non-GAAP policy, would be a good practice.

“However, given the current regulatory environment and the fact that non-GAAP measures are important to investors, there could be benefits to an audit committee voluntarily disclosing that the company has non-GAAP policies (but not necessarily the relevant details of those policies),” the report states.

Such disclosure could demonstrate to investors the importance of this information to the audit committee and that policies are in place to support the metrics being consistent, transparent, and comparable, according to CAQ.

The report also offers up a list of 10 topics for discussion that audit companies may want to consider:

Putting themselves “in investors’ shoes” when evaluating whether presented non-GAAP measures and related disclosures align with the company’s overall strategy and performance.
Engaging with investors directly or through investor relations to ensure that non-GAAP measures aid investors’ understanding of the company’s performance.
Asking management whether it has guidelines for determining how non-GAAP measures are generated, calculated, and presented, including the rationale for the measures and adjustments that are presented and excluded.
Discussing with management how the company makes changes to the non-GAAP measures it presents and the rationale for why it would or would not make changes.
Seeking the perspective of counsel on the use of non-GAAP measures.
Asking the company to compare or benchmark its non-GAAP measures to those of its peers.
Finding out what disclosure controls and procedures are in place related to the information that is presented.
Asking external auditors what their responsibilities are for non-GAAP measures, and whether that responsibility is different depending on where non-GAAP measures are presented.
Asking external auditors for perspectives on how the presented measures generally compare with those of other companies.
Discussing with external auditors their views on the company’s non-GAAP measures, including whether the measures are consistent with the auditors’ understanding and knowledge of the company’s performance.

“While there is no one-size-fits-all approach to improving or maintaining trust and confidence in non-GAAP measures, audit committees nevertheless have an important role to play,” CAQ concludes.