Is it becoming common practice in South Africa to disclose non-GAAP financial measures?
This is certainly happening at an increasing level.
There is a possibility that non-GAAP financial measures may be used incorrectly by users as these do not reflect the true financial position of a company. If investors rely on non-standardised financial measures without sufficient explanation, they may be misinformed and price securities inappropriately.
What are non-GAAP financial measures? These are additional measures which provide further analytical understanding of an entity’s performance and financial situation by expanding on the information provided by IFRS financial statements.
The most common forms of non-GAAP financial measures are:
- EPS (earnings per share) which are adjusted for some IFRS items (normalised earnings)
- Pro forma financial information
- Constant currency presentation (eliminates the effect of exchange rate fluctuations),
Pro forma financial information departs by its very nature from traditional accounting conventions and is presented in order to give investors a picture of how a specific corporate action will affect the issuer.
More specifically, non-GAAP financial measures refer to companies disclosing numbers other than EPS. An example is normalised earnings per share which excludes the effects of IFRS accounting. This is best illustrated in the following example:
Example 1 Normalised earnings
|2012 unaudited||2011 unaudited||Percentage change||Year ended 30 June 2012 audited|
|Earnings||2 263 901||2 297 195||(1,4)||4 574 872|
|Profit on partial sale of investment in ABC InternationalAirport Private Limited||–||(399 100)||(399 100)|
|Secondary taxation on companies on special dividend paid||–||–||20 781|
|Normalised earnings||2 263 901||1 898 095||19,3||4 196 553|
R399 100 was excluded from the calculation of earnings as it related to abnormal profit on the partial sale of the investment in ABC International Airport Private Limited.
Normalised earnings is considered to be an additional earnings figure to that of basic earnings and would thus be presented under IAS 33 –which is unusual and thus the JSE does not impose any additional requirements in these instances.
If normalised earnings were presented outside that of audited financial statements and do not have the safeguard of IFRS and an audit, these earnings disclosures are regulated in terms of the pro forma financial information requirements of the JSE.
Other forms of pro forma information
Another form of a non-GAAP measure is pro forma financial information which is required by the JSE when a company undertakes certain corporate actions. The rules for pro forma information mean that it will not necessary reflect what IFRS requires. For example, if an acquisition occurs half-way through the year, IFRS 3 would require that it is only recognised from the acquisition date. However, for pro forma purposes, the income statement is backdated as if the transaction occurred at the beginning of the year.
Outside the mandatory pro forma requirements, issuers sometimes choose to present their results on a basis other than IFRS. In order to ensure appropriate regulation over this information, the JSE regards this information as falling within the ambit of its pro forma requirements.
To illustrate this concept, reference can be made to the following example in which Company Z disclosed what is known as ‘Unaudited non-IFRS financial information’.
The purpose of compiling a non-IFRS balance sheet in this instance was to reflect the fair market value of the significant assets and liabilities by adjusting IFRS accounting where it is not based on fair value and reclassifying certain line items.
Example 2 Disclosure of unaudited non-IFRS financial information
|As reported at 31 March 2013*||Reclassification||Non-IFRS balance sheet at 31 March 2013||Notes|
7 452 230
7 433 373
|Investment properties and related receivables|
7 565 658
7 546 801
|Investment properties under development**|
|Property development inventory|
|Other non-current assets|
1 356 789
(1 356 789)
|Owner occupied property|
|Deferred lease expenditure|
|Other current assets|
|Property development inventory|
|Equity and liabilities|
|Share capital and share premium|
2 212 903
1 749 150
3 962 053
1 749 150
(1 749 150)
|Deferred tax liabilities|
* These figures have been extracted from the published audited results without any adjustments.
** At fair value in non-IFRS balance sheet.
- Property assets have been reclassified to the deferred lease expenditure (R18 857), owner occupied property (R8 920) and property inventory (R54 352) so that the property assets can equate to the external valuer’s valuation.
- Debenture holder liability was reversed to equity (R1 749).
- Deferred tax liability line item from non-current liabilities has been reclassified in order to reflect it separately.
The disclosure of this information, which according to the JSE is regarded as pro forma financial information, must be done in compliance with the Guide on Pro Forma Financial Information and section 8 of the JSE Listing Requirements.
Another category of pro forma information is illustrated in the table below. The example discloses the effects of constant currency presentation, which once again departs from IFRS accounting and is therefore regarded as pro forma financial information.
The information below has been prepared on the basis of applying the 2011 average rand exchange rates to the 2012 foreign subsidiary income statements and recalculating the reported income of the specific group for the period.
Example 3 Constant currency presentation
|For the half-year ended December 31|
|Illustrative 2012 at 2011 average exchange rates|
|Actual 2012||Percentage change||Actual 2011||Recalculated 2012||Percentage change|
|Trading profit (Rm)|
|Headline earnings (Rm)|
|Normalised HEPS (cps)|
The disclosure of constant currency, which according to the JSE is regarded as pro forma financial information, must be done in compliance with the Guide on Pro Forma Financial Information and section 8 of the JSE Listing Requirements.
Another common form of a non-GAAP measure is where an entity wants to communicate information specific to its industry in a non-GAAP financial measure. This is best illustrated in the next example, in which the issuer – a gold-mining company – makes use of the Gold Institute industry standard as a cost measure, as opposed to IFRS accounting. This is not regulated by the JSE and neither have any guidelines been prepared by SAICA.
Example 4 All-in cost, total cash cost and notional cash expenditure (‘NCE’)
A new cost measure, ‘All-in cost’, has recently been introduced by the World Gold Council working with its member companies. Despite not being a current member of the World Gold Council, the Group has adopted the principle prescribed by the Council. This new non-GAAP measure provides more transparency into the costs associated with gold mining.
The ‘all-in cost’ metric is valuable in providing relevant information to investors, governments, local communities and other stakeholders in understanding the economics of gold mining. This is especially true with reference to capital expenditure associated with developing and maintaining gold mines, which has increased significantly in recent years and is reflected in this new metric.
All-in cost is made up of ‘All-in sustaining costs’, being the cost to sustain current operations and is given as a sub-total in the calculation …, together with corporate and major capital expenditure aimed at growing the Company. At this stage, with the focus on our current operations, the all-in sustaining cost and the all-in cost are the same. The three metrics – that is total cash cost, NCE and all-in cost – are provided in this report, although we expect to phase out the use of NCE by the end of 2013.1
|General and admin costs|
|Total cash cost*|
|Total production costs*|
*Total cash cost and total production cost are calculated in accordance with the Gold Institute standard.
There is no specific monitoring of this sort of non-GAAP information; however, the JSE Listing Requirements provide safeguards to ensure that all parties involved in the dissemination of information observe the highest standards of care. Consideration must also be given as to whether false and misleading information may have been published.
Non-GAAP financial measures are an important part of the financial reporting process and are useful in communicating information that complements and supplements the financial statements.
Are ‘non-GAAP financial measures’ misleading and confusing users of financial statements?
Currently this practice does not appear to be a problem in South Africa, for the following reasons:
- The disclosure of non-GAAP financial measures is monitored regularly by the JSE.
- JSE Listing Requirements are in place to assist listed companies in preparing pro forma financial information and to ensure that investors have full information about the manner in which it is prepared and are alerted to the fact that it is a non–GAAP measure.
- SAICA has a guideline in place which assists in the preparation of pro forma financial information.
- IAS 33 (International Accounting Standards) requires listed companies to prepare reconciliations when disclosing any other earnings numbers.
- The FSB (Financial Services Board) monitors market abuse contraventions as prescribed by section 81 of the Financial Markets Act, 2012 (Act 19 of 2012), which covers false and misleading statements.
Users and preparers of financial statements are encouraged to exercise caution and to compare non-GAAP financial measures (including pro forma earnings) with the actual IFRS profit reported in order to understand the company’s financial position.
The non-GAAP financial measures mentioned above need to be looked at in addition to and not as an alternative to the reported results or any other performance measure prepared in accordance with IFRS. ❐
1. Sibanye Gold, Operating and financial report for the six months ended 30 June 2013, available at http://www.slideshare.net/AfricanisCool/sibanye-gold-limited-hy-2013-results-south-africa (accessed 6 January 2014).
Author: Authors: Prinasha Pillay CA(SA) and Alex Pascoe (AGA) SA are Forensic Investigator: Directorate of Market Abuse and Investigation Team Leader: Directorate of Market Abuse respectively.