To what extent could alternative performance measures be … · 2018-07-01 · Adjusted or...

http://lib.uliege.ac.be http://matheo.uliege.be

To what extent could alternative performance measures be considered as

sector-based ?

Auteur : Delhougne, Anne-Sophie

Promoteur(s) : Antonelli, Cédric

Faculté : HEC-Ecole de gestion de l'Université de Liège

Diplôme : Master en sciences de gestion, à finalité spécialisée en Financial Analysis and Audit

Année académique : 2017-2018

URI/URL : http://hdl.handle.net/2268.2/4708

Avertissement à l'attention des usagers :

Tous les documents placés en accès ouvert sur le site le site MatheO sont protégés par le droit d'auteur. Conformément

aux principes énoncés par la "Budapest Open Access Initiative"(BOAI, 2002), l'utilisateur du site peut lire, télécharger,

copier, transmettre, imprimer, chercher ou faire un lien vers le texte intégral de ces documents, les disséquer pour les

indexer, s'en servir de données pour un logiciel, ou s'en servir à toute autre fin légale (ou prévue par la réglementation

relative au droit d'auteur). Toute utilisation du document à des fins commerciales est strictement interdite.

Par ailleurs, l'utilisateur s'engage à respecter les droits moraux de l'auteur, principalement le droit à l'intégrité de l'oeuvre

et le droit de paternité et ce dans toute utilisation que l'utilisateur entreprend. Ainsi, à titre d'exemple, lorsqu'il reproduira

un document par extrait ou dans son intégralité, l'utilisateur citera de manière complète les sources telles que

mentionnées ci-dessus. Toute utilisation non explicitement autorisée ci-avant (telle que par exemple, la modification du

document ou son résumé) nécessite l'autorisation préalable et expresse des auteurs ou de leurs ayants droit.

TO WHAT EXTENT COULD ALTERNATIVE PERFORMANCE MEASURES BE

CONSIDERED AS SECTOR-BASED?

Jury: Promoter: Cedric ANTONELLI Readers: Yves FRANCIS Jocelyne ROBERT

Dissertation by Anne-Sophie DELHOUGNE For a Master’s Degree in Management Sciences with a specialization in Financial Analysis and Audit Academic year 2017/2018

Acknowledgments

I would like to thank my promoter, Cedric Antonelli,

Partner BDO, for accepting to support my thesis and to my

reader, Jocelyne Robert, Professor of Management and

Leadership at HEC-Liège, for taking the time to read it.

I would like to express my gratitude to Yves Francis,

Managing Partner at Deloitte Luxembourg and second

reader of this thesis, for his regular and always precious

advice during my Master’s Degree.

My sincere thanks also go to Ana Dondera, Senior

Manager at Deloitte Luxembourg, for the interest she has

shown and the knowledge she imparted during this tiresome

even though exciting period.

I am also thankful to Valérie Kinon, Lecturer in Finance at

ICHEC Brussels Management School, who gave me her

valuable opinion regarding this thesis.

Last but not least, I would like to sincerely thank my

parents, Bernard and Catherine Delhougne, who have

never stopped encouraging and supporting me throughout

my studies since the beginning.

Table of contents Abbreviation list

Literature review ........................................................................................ 1 Introduction ..................................................................................................................... 1 Chapter 1: General approach on Non-GAAP Measures ............................................. 2

1.1. Definition of a Non-GAAP Measure ............................................................................ 2 1.2. How to define performance in theory? ......................................................................... 3 1.3. Disclosure of APMs in corporate reporting .................................................................. 4 1.4. Non-GAAP information, a way to circumvent regulation? .......................................... 7 1.5. The issue with non-recurring items .............................................................................. 9

Chapter 2: Regulation .................................................................................................. 12 2.1. International perspective ............................................................................................ 12 2.2. The EU regulation in depth ........................................................................................ 14 2.3. Is additional guidance required? ................................................................................. 19

Chapter 3: Stakeholders’ opinions regarding the disclosure of APMs .................... 21 3.1. Regulators, auditors and audit committee members ................................................... 21 3.2. Investors, analysts and other users ............................................................................. 22 3.3. Management decision-making process ....................................................................... 23

Chapter 4: Widely used APMs retrieved from the literature ................................... 26 4.1. Underlying Profit Vs Statutory Profit ........................................................................ 26 4.2. EBIT, EBITDA and pro forma earnings .................................................................... 27 4.3. Free Cash Flow ........................................................................................................... 28 4.4. Adjusted or Underlying Earnings Per Share .............................................................. 30 4.5. Net Debt ..................................................................................................................... 32 4.6. Gearing ratio ............................................................................................................... 32

Chapter 5: Industry specifics ....................................................................................... 34 Chapter 6: Ethical point of view .................................................................................. 36

6.1. Current situation ......................................................................................................... 36 6.2. Solutions brought to the ethical issue ......................................................................... 37

Empirical analysis ..................................................................................... 40 Methodology .................................................................................................................. 40 Data and scope of the study ......................................................................................... 41 Chapter 1: Analysis of Alternative Performance Measures disclosed in annual reports ............................................................................................................................ 42

1.1. Analysis of Alternative Performance Measures disclosed in the annual reports of fourteen “FTSE 250 Real Estate Investment Trusts” (REITs) ................................................ 42 1.2. Analysis of Alternative Performance Measures disclosed in the annual reports of eight FTSE 250 banks ............................................................................................................. 44 1.3. Analysis of Alternative Performance Measures disclosed in the annual reports of eight FTSE 250 media companies ........................................................................................... 45 1.4. Analysis within each sector ........................................................................................ 46 1.5. Comparison of the three sectors’ Non-GAAP measures ............................................ 47

Chapter 2: Discussion ................................................................................................... 48

2.1. Comparison with the theory ....................................................................................... 48 2.2. Non-GAAP measures disclosed in the three sectors .................................................. 50 2.3. Non-GAAP measures disclosed in two sectors .......................................................... 55 2.4. Interpretation of the questionnaire results .................................................................. 63 2.5. Limitations of the study .............................................................................................. 66

Chapter 3: Conclusion .................................................................................................. 67 What’s next? Conclusion and future of APMs ........................................................................ 67

Bibliography Appendices

Abbreviation list

AEX

APM

BCF

BPR

CAQ

CESR

CFA

DPS

EBIT

EBITDA

EPRA

EPRA NIY

EPRA NNNAV

EPS

ESMA

EVCA

FASB

FCF

FFO

FRC

FTSE

GAAP

GPF

IAS

IASB

ICAS

IFRS

IOSCO

IPD

ISA

IT

= Amsterdam Exchange index

= Alternative Performance Measure

= Broadcast Cash Flow

= Best Practices Recommendations

= Center for Audit Quality

= Committee of European Securities Regulators

= Chartered Financial Analyst

= Dividend Per Share

= Earnings Before Interest and Taxes

= Earnings Before Interest, Taxes, Depreciation and Amortization

= European Public Real Estate Association

= EPRA Net Initial Yield

= EPRA triple Net Asset Value

= Earnings Per Share

= European Securities and Markets Authority

= European Private Equity and Venture Capital Association

= Financial Accounting Standards Board (US)

= Free Cash Flow

= Funds From Operations

= Financial Reporting Council (UK)

= Financial Times and Stock Exchange (UK)

= Generally Accepted Accounting Principles

= Global Preparers Forum

= International Accounting Standards

= International Accounting Standards Board

= Institute of Chartered Accountants of Scotland = International Financial Reporting Standards

= International Organization of Securities Commissions

= Investment Property Databank

= International Standards on Auditing

= Information Technology

KPI

LTV

MPM

NAREIT

NAV

NGM

NIM

PLC

REIT

SEC

TSR

XBRL

= Key Performance Indicator

= Loan To Value

= Management Performance Measure

= National Association of Real Estate Investment Trusts

= Net Asset Value

= Non-GAAP Measure

= Net Interest Margin

= Public Limited Company

= Real Estate Investment Trust

= Securities and Exchange Commission

= Total Shareholder Return

= eXtensible Business Reporting Language

1

Literature review

Introduction

Every year listed entities have the obligation to prepare an annual report where corporate

information is publicly disclosed to market participants such as investors and analysts. In

general, the report explains how the company is performing, its main activities and contains the

audited financial statements. Companies must comply with Generally Accepted Accounting

Principles (GAAP)1 or International Financial Reporting Standards (IFRS)2 when providing

reporting accounting information. The purpose of GAAP measure is to maintain a uniform basis

for computing performance measures; this eases comparability between public entities and

promotes accuracy and transparency. However, when publishing corporate information such as

an annual report, a listed entity’s primary goal is to attract investors rather than simply publish

figures in accordance with the applicable framework.

Since the rise of the dot-com era in the late 1990s and early 2000s, new financial

indicators have increased in popularity. Those so-called Alternative Performance Measures

(APMs) or Non-GAAP Measures (NGMs) hold the attention of various stakeholders interested

in financial reporting including investors, regulators, auditors, analysts and the media

(Smetanka, 2012). The growth of these indicators over the past 20 years reflects a common

acceptance of non-standardized measures as a way to evaluate a firm’s performance (Black et

al., 2017). Since these alternative measures are not regulated, anything a company computes

apart from the audited figures should be used with caution by users of annual reports such as

investors and shareholders.

Some NGMs have gained good acceptance in specific industries as companies from

similar sectors have decided to adopt them. These NGMs are subject to specific adjustments

according to an issuer’s business. Indeed, measuring performance can be interpreted in different

ways from one sector to another and one could wonder how these APMs are chosen by

companies’ management and if they could be considered as sector-based and to what extent.

1 Generally Accounting Accepted Principles are the common set of accounting principles, standards and procedures that companies use to compile their financial statements. 2 International Financial Reporting Standards (IFRS) are standards issued by the International Accounting Standards Board (IASB) to provide a common global reporting framework for business affairs so that company accounts are understandable and comparable across international boundaries.

Structure of the paper

First, a theoretical part will give a general approach of non-GAAP measures, looking

through all the European regulations set up to promote an appropriate level of disclosure of

these measures as well as transparency and consistency in corporate reporting in general.

Different key stakeholders dealing with non-GAAP information and widely used Alternative

Performance Measures (APMs) will be described in detail. Industry specificities and an ethical

viewpoint of the disclosure will be exposed as well.

Following the detailed analysis of theoretical aspects of these non-GAAP measures, the

methodology chosen to base our study will be described as well as the data collected to answer

the research question. The research question of the thesis is the following: “To what extent

could APMs be considered as sector-based?”. We will determine whether companies from three

different sectors disclose similar or different Alternative Performance Measures in their

corporate reporting and to what extent they are qualified as similar or different.

In the discussion, popular APMs retrieved from the literature will be compared to the

non-GAAP measures identified in the empirical analysis. More significantly, we will analyze

the common APMs in correlation with the three sectors and examine if companies from

different sectors are making similar decisions when disclosing similar non-GAAP measures. Firstly, we will be comparing APMs common to the three sectors and then common to two

sectors. Finally, conclusions and recommendations regarding the APMs’ disclosure for the near

future will be exposed.

2

Chapter 1: General approach on Non-GAAP Measures

1.1. Definition of a Non-GAAP Measure

As discussed formerly, GAAP principles create consistent and harmonized accounting

and reporting standards that provide existing and potential investors with a true and fair view

of the organization’s financial standing. Financial statements are prepared either in accordance

with a domestic GAAP or IFRS. In this thesis, IFRS and any relevant set of financial reporting

requirements such as US GAAP, UK GAAP and so on will be used synonymously. Publicly

traded companies are required by law to disclose relevant information regarding their business,

allowing investors to obtain a better understanding of the company’s business model and

performance. Without these principles and standards, companies could be tempted to adopt

misleading methods to positively enhance their apparent financial position (Young, 2014).

However, in addition to the current standards, companies tend to publish supplementary and

tailor-made performance measures, called non-GAAP measures or Alternative Performance

Measures (APMs). (Deloitte, 2017).

A non-GAAP measure is defined by the International Organization of Securities

Commissions (IOSCO)3 as “a numerical measure of an issuer’s current, historical or future

financial performance, financial position, or cash flows that is not a GAAP measure” (IOSCO,

2016, p.3). It must be noted that APMs are frequently derived from or based on the financial

statements prepared under GAAP or IFRS by adding or subtracting items. Indeed, IOSCO

specifies that a non-GAAP measure may exclude items that are included in, or include items

that are excluded from, the most directly comparable GAAP measure calculated and presented

in the issuer’s financial statements.

In Europe, the European Securities and Market Authority (ESMA)4 defines an

Alternative Performance Measure as “a financial measure of historical or future financial

performance, financial position, or cash flows, other than a financialmeasure defined or

3 The IOSCO is the international body that brings together the world's securities regulators and is recognized as the global standard setter for the securities sector. Refer to www.iosco.org. 4 The European Securities and Markets Authority is the European financial regulatory institution succeeding the CESR, the Committee of European Securities Regulators since 2011. The ESMA is one of the three European systems of financial supervision with the European Banking Authority and the European Insurance and Occupational Pensions Authority. Please refer to https://www.esma.europa.eu.

3

specified in the applicable financial reporting framework.” (ESMA Guidelines, 2015, p.6).

Although the international and European definitions are quite similar, the EU definition uses

the notion “applicable financial reporting framework”, also referring to IFRS, in addition to

“GAAP”. Besides, European authorities use the term “Alternative Performance Measure”

instead of “non-GAAP Financial Measure”. An APM can also include Key Performance

Indicators (KPIs). KPIs are measures that indicate how effectively a company is achieving key

business objectives and therefore, certain KPIs can be considered as non-GAAP measures.

According to Deloitte US (2017), there are two kinds of non-GAAP measures. Either

the non-GAAP measure is calculated from a GAAP result by adding or subtracting items from

it, in order to arrive at an “adjusted GAAP” which would be named a non-GAAP measure; or

is an amount outside of the financial statements (such as greenhouse gas emission, occupancy

rate…) and it would be called a non-GAAP metric. In this thesis, we will not make the

distinction between both terms. Actually, the terms Alternative Performance Measure, non-

GAAP measure and non-GAAP metric will be used interchangeably. Moreover, we will only

focus on financial measures and consequently, non-financial measures such as customer

satisfaction or employee effectiveness will not be studied.

1.2. How to define performance in theory? APMs were born out of a need for a way of measuring a company’s performance

standing. Companies want to provide their stakeholders and particularly investors with a view

of their yearly performance. Nevertheless, each company, whether in the same sector or not,

perceives performance differently which may result in very different approaches of calculation

and disclosure.

Smetanka (2012) claims that non-GAAP measures can be more useful for companies to

tell their story and they are becoming increasingly important given the evolving nature and the

complexity of today’s business. Later on, the Technical Policy Board of the Institute of

Chartered Accountants of Scotland (ICAS) (2016) defines performance as “how successful a

business is in generating and sustaining value”. Performance has traditionally been seen as

financial performance, represented by the income statement. However, the ICAS Technical

Policy Board (2016) reinforces the idea of Smetanka (2012) by stating that since everything got

more complex, performance has become more difficult to determine and evaluate. Performance

4

cannot be represented by one single figure. Indeed, following the increased globalization,

climate change and technological improvements, financial statements alone cannot highlight

changes such as intellectual capital, human resources and protection of the environment in the

balance sheet.

In 2016, Hans Hoogervorst, Chairman of the International Accounting Standards Board

(IASB)5, claims:

Many investors ask to start by providing a definition of performance. However, I believe that trying to do so is as illusory as trying to define beauty. Beauty is a multifaceted quality which to a large extent is in the eyes of the beholder. Giving the term a 100 per cent objective definition is therefore next to impossible. At the same time, most people recognize beauty when they see it. Financial performance is not that different. It is multifaceted, to some degree subjective, but at the same time most people recognize it when they see it. (IASB Speech, 2016, p.4).

1.3. Disclosure of APMs in corporate reporting

As previously mentioned, non-GAAP measures have become an increasingly common

part of the global financial reporting landscape. APMs are typically found in annual reports,

prospectuses, investor presentations or any other public document intended to provide

information regarding a company’s performance or activities to shareholders and other

interested people. Listed companies often dedicate a paragraph to APMs in their corporate

reporting, as illustrated in appendices 1 (a), (b) and (c). In the United States, companies often

disclose these measures in the Management’s Discussion and Analysis of Results of Operation

(MD&A)6. MD&A is will not be discussed as the focus of this thesis will be on European

companies.

In most cases, an annual report is composed of a strategic (also called management)

report, a governance part, a risk report, the financial statements7 and an “other information”

section (see appendices 2 (a) and (b) for examples). The financial statements are published

5 International Accounting Standards Board is the independent accounting standard-setting body of the IFRS foundation. The Board was founded in 2001 as the successor to the International Accounting Standards Committee. 6 The Management’s Discussion and Analysis (MD&A) is a narrative explanation of the financial statements that the registrant believes will enhance a readers’ understanding of its financial condition, changes in financial condition and results of operation (refer www.sec.gov.) 7 As IAS 1 described, the financial statements should include the balance sheet, the profit and loss statements and other comprehensive income, the statement of cash flow, the statement of changes in equity for the period. It also includes the notes and it is preceded by the audit report.

5

according to the applicable reporting framework and reflect the financial standing of a company

at a specific moment. The strategic report is an unaudited document that includes all the

necessary information regarding a company’s performance and position. Management tends to

disclose more APMs in the strategic report because they fall outside of the scope of the statutory

audit.

Clatworthy and Jones (2003) attest that accounting narratives have become an integral

part of corporate communication since it allows management to present a description of the

company’s financial performance each year. Every stakeholder agrees that annual reports

without narratives would not be enough and that reports should not be limited to quantified

information. In Marc Siegel’s opinion (2014), member of Financial Accounting Standards

Board (FASB)8, the combination of non-GAAP data outside of the financial statements with

information reported within the audited financial statements has more impact than either data

set on its own.

As a PwC’s article (2010) “What does your reporting say about you?” states, reporting

is not made easy by the regulatory requirements imposed on European companies nowadays.

Successful reporting of performance measures can give real insights into the long-term

performance of the firm. It can bring new investors in the business, secure capital and build

strong business relationships as well. On the other hand, unclear or imprecise reporting could

lead investors to being confused and suspicious. Preparing corporate reporting is not an easy

task to undertake as it can lead to unexpected reactions from users. Indeed, Koning, Mertens

and Roosenboom (2010) point out that when there is a scandal, or a negative media attention,

it changes the way investors perceive non-GAAP information. The applied reporting practices

of the company could become suspicious and companies that are « named and shamed » in the

media for their non-GAAP reporting often reduce their APMs’ disclosure in their next reporting

according to the three authors.

To promote reliability, the Financial Reporting Council (FRC)9 decided to create

guidance on strategic reporting for UK companies in 2014. Although the guidance has no

8 The Financial Accounting Standards Board is a private standard setting body establishing and improving GAAP within the United States in the public’s interest (www.fasb.org, 2018). 9 The Financial Reporting Council, founded in 1990, regulates auditors, accountants and actuaries. The council promotes transparency and integrity in business. Its work is aimed at investors and others who rely on company reports, audit and high quality risk management (https://www.frc.org.uk/, 2018).

6

mandatory force, it encourages companies to disclose more relevant information in their

strategic reports delivered to shareholders and recommends the annual report to be more

cohesive as a whole. Issuers must improve the correlation between strategic report information

and the rest of the annual report content. The idea is that information reported outside of the

financial statements must be consistent with the information reported inside. However, Pwc

(2014) found out that a majority of FTSE 35010 companies fail to present a clear and coherent

picture of their performance in annual reports. Investors end up wondering whether the report

is a reliable reflection of the business’ financial position or is just prepared as a compliance

exercise.

Forward-looking statement

As mentioned before, the financial statements reflect the financial standing of a

company at a specific moment, looking backward. They do not inform users on how the

business will perform in future years. Many companies worldwide are adopting a forward-

looking orientation in their corporate reporting. With this type of statements, users are not

looking at what is going on in the history of the company but rather at what will be going on in

future years. This forward-looking information could bring real business benefits: governance

and board effectiveness, a better business understanding and improved relationships with key

stakeholders (PwC, 2007a).

The forward-looking statement would help investors to assess past, current and future

performance of a company (Hassanein & Hussainey, 2015). One of the issues with these

forward-looking statements is that companies may feel under pressure to meet the forecasts of

profits they have made rather than focusing on daily value delivery. However, PwC’s article

(2007a) asserts that companies with accurate information about all aspects of their operations

have nothing to fear. They may not be able to make fully reliable forecasts, but they convince

investors that the information is defendable and is coming from a reliable source.

10 The FTSE 350 Index index is a market capitalization weighted stock market index incorporating the largest 350 companies by capitalization which have their primary listing on the London Stock Exchange (http://www.londonstockexchange.com, 2018).

7

1.4. Non-GAAP information, a way to circumvent regulation?

Many experts recognize APMs as a useful complement of information to the

standardized GAAP reporting. Being more realistic, an APM offers a better understanding and

gives a valuable insight of a company’s true performance to analysts and investors (EY, 2016).

It is the perfect reason for a company to “tell its story” and highlight key drivers that may not

be obvious in the audited financial statements. Indeed, the income statement does not always

mirror the real performance of a company’s underlying operations and GAAP measures alone

are not constantly representative enough of a company’s performance (Deloitte, 2016). Certain

APMs could even give a more transparent view than GAAP for specific companies. Deloitte

(2017) even adds that some GAAP requirements are not well adapted to certain sectors. This

leads companies to display APMs in their corporate reporting to fill in the lack of information

left by GAAP. The risk is eventually that preparers and users of this non-GAAP information

might discredit the financial statements (EY, 2016).

Another advantage of non-GAAP information is that investors and analysts are able to

compare APMs of different companies belonging to the same sector. Companies coming from

the same sector will probably calculate a non-GAAP measure the same way and compare it

easily to competitors (EY, 2016). If a company does not disclose the same measures as its peers

or computes them in a different way, the work of investors or analysts will get more

complicated, as they will be comparing apples and oranges. A second reason for users to

appreciate non-GAAP measures is that it is suitable for valuation models. Valuation analysis is

important for investors and analysts such as brokers to estimate the intrinsic value of company

shares in order to make satisfactory investment decisions. EBITDA and free cash flow-based

valuation methodologies are useful for many investors. The disclosure of APMs helps to better

predict a company’s earnings, allowing analysts and investors to make more reliable forecasts

of future earnings. This will be clarified when describing the EBITDA and Free Cash Flow

measures.

As previously stated, non-GAAP measures are generally computed by adding and

subtracting items such as non-cash expenses and one-off events which are contained in the

GAAP results. APMs smooth out volatility, providing a more realistic aspect of the ongoing

business. Indeed, non-GAAP results are less volatile than GAAP measures because they clear

away the effect of exceptional events or temporary situations that can disrupt the yearly

performance of the firm. For example, non-recurring items may include depreciation,

8

amortization, restructuring costs or other one-off expenses. It should however be noted that

these adjustments on GAAP measures can bias the final result. As we will detail later,

management’s financial rewards are generally calculated based on the earnings or the yearly

performance of the firm. This can perversely motivate representatives of management to

“improve the numbers” by excluding these non-recurring items (Isidro & Marques, 2013).

Indeed, if a manager computes and adjusts earnings, making a higher amount at the end, the

manager’s reward will be higher.

A global concern about an APM is that it exhibits a better performance of a company

than the regulated performance under GAAP or IFRS would have shown. These performance

indicators are widely reported alongside GAAP-based results and, as no one independently

audits them, they create opportunities for window dressing11 or worse (Gerry, 2016). It is proved

that management often gives greater prominence to non-GAAP results because it believes they

reflect a better representation of a company than the GAAP information. However, if these non-

regulated measures are not reported in a responsible way by managers, it could result in

inaccurate and misleading performance of a company (Isidro & Marques, 2013). Investors and

analysts must thus be careful and avoid being fooled by APMs (Deloitte, 2017).

According to Young (2014), this sends a mixed message: although non-GAAP figures

are too unreliable to be included in firms’ audited financial statements, they can form the basis

of key communications with market participants. Prohibiting non-GAAP disclosures is not

feasible nor profitable. Moreover, Hans Hoogervorst affirmed in 2015: “Alternative

performance measures can provide useful additional information to investors. The IASB has no

ambition to stamp out the use of non-GAAP measures. However, non-GAAP measures can

represent a selective presentation of an entity’s financial performance. IFRS numbers should

serve as the primary performance measures by which companies describe their financial

position and performance” (IASB Speech 2015, pg. 5). APMs should not mislead investors and

should not be given so much prominence in the financial statements that they over-shadow

IFRS figures. It should always be possible and easy for the reader to make the distinction

between information that is supplementary and helpful and information that is designed to draw

attention away from the IFRS results.

11 Window dressing is a figurative term that is employed when the management is trying to show a better image of the company to stakeholders than it actually is. For instance, a company would boost its sales by recognizing them in year N while sales in fact belong to the next year N+1 (Sherman and Young, 2001).

9

1.5. The issue with non-recurring items

Companies have not only increased their use of APMs but have also increased the

exclusions made in their computations. According to Koning, Mertens and Roosenboom

(2010), on average, an APM excluded 2.4 items from GAAP earnings in 2010. As a result of

another survey of Black et al. (2017), firms excluded on average 3.3 items in their non-GAAP

metrics computations in 2014.

Managers tend to strategically classify ongoing expenses as non-recurring items while

reporting unusual gains as part of the operating income. By adding or subtracting components

of the IFRS numbers, the performance and particularly earnings are usually overstated, leading

to a better but dishonest perception of a company’s performance standing (CFA Society UK,

2015). Black et al. (2017) point out that in managers’ opinions, exclusions of particular items

provide users of corporate reporting with a better understanding of the company’s financial

performance achieved from underlying activities. As stated before, the problem is that

companies across different sectors have different calculations which makes comparability

difficult (EY, 2016).

The article written by Deloitte in 2016 explains that the first International Accounting

Standard (IAS 1)12 gives increased freedom to companies making adjustments to GAAP

measures. In IAS 1 amendments of 2005, more rigidity was introduced to the presentation of

subtotals in the statement of profit and loss. Care should be taken among companies when

labelling items as ‘non-recurring’ and excluding them from a subtotal presented in the financial

statements. In 2016, the IOSCO issued its final Statement on non-GAAP measures. In its report,

the IOSCO underscores that listed companies compute adjustments for items that are

reasonably likely going to reoccur in the foreseeable future or are activities that affected the

entity in the past periods. Such items should not be described as non-recurring, infrequent or

unusual.

In his IASB Speech in 2016, Hoogervorst gave an example of a company turning a 6

billion dollars’ loss under IFRS standards into an underlying profit of more than 12 billion

12 IAS 1 is an International Accounting Standards that was issued by the International Accounting Standards committee in 1997. IAS 1 is the first comprehensive accounting standard to deal with the presentation of financial standards (www.iasplus.com/en/standards/ias/ias1, 2018).

10

dollars, where certain exclusions of expenses appeared suspicious or unjustified. He announced

that an important non-GAAP measure for the company as a whole is the underlying profit.

Underlying profit is a famous non-GAAP measure that excludes costs such as restructuring or

impairment charges from the statutory profit as shown in appendix 3. For instance, goodwill

impairment is frequently excluded, as it is recognized as a loss in the income statement when

the fair value of the goodwill is lower than its book value. A company will then prefer to exclude

this loss and artificially boost its profit for the year. The Chairman of the IASB considers that

for any large company, this cost should be considered as a normal operating expense. Papa and

Peters (2016) add to Hoogervorst’s speech that restructuring charges should not be excluded

from the statutory profit either. These charges are considered as an ongoing imperative and a

necessary response to rapidly changing market environments that enhance productivity, cost

efficiency and revenue-generating potential. It is more an ongoing cost of business than a one-

off recalibration.

Papa and Peters (2016) demonstrate amortization as the most frequent adjustment used

by FTSE 10013 companies. Companies excluding amortization and depreciation justify their

decisions by qualifying these items as non-cash expenses. Whereas many entities consider it

appropriate to adjust amortization or depreciation, Papa and Peters (2016) think that it should

be regarded as ongoing costs of the business, repeating every year. Young (2014) identifies

other exclusions such as research and developments costs. These latter are also more frequent

costs of the business than one-off expenses. Other one-time items include gains or losses on

asset disposals and merger or acquisition costs in order to focus investors’ attention on

sustainable earnings. As explained, excluding these costs diminishes the volatility of the share

price of a company that can result from temporary events. The management justifies all these

exclusions the same way; they are not demonstrative of current or future expenditures or

performance (Bhattacharya et al., 2003; 2004; Entwistle, Feltham, & Mbagwu, 2005, 2006;

Lougee & Marquardt, 2004; Nichols, Gray, & Street, 2005, cited by Black et al., 2017).

One last widely used adjustment is the share-based compensation, recognized as a non-

recurring expense by companies as well (CFA Society, 2015). A company can decide to reward

its employees and managers by offering stocks in the business or the right to buy shares of the

business. The company gives the opportunity to employees to acquire stocks at a contract price

13 FTSE is an acronym for Financial Times and Stock Exchange. The FTSE 100 index is a share index of the 100 most actively traded British companies on the London Stock Exchange (refer to Cambridge dictionary, 2018).

11

less expensive than the fair value of the shares. The difference between the two amounts will

be an expense incurred by the company and employees will benefit from this “discount” price.

Companies often put these compensation expenses in the category of non-recurring items and

thus add them back to the profit for the year justifying that these compensations do not represent

cash expenses. However, as Damodaran (2014) claims, stock-based compensation may not

represent cash but when a company decides to give such compensations to its employees, that

will automatically influence the value of the equity and thus it must be included as an expense.

As a conclusion, Hoogervorst (2016) reminds us that analysts make their living by

forecasting earnings based on their understanding of a company’s revenues. According to the

chairman of IASB, the board should scrutinize all adjustments made by companies, as no one

can predict the extent to which an infrequent item is considered as recurring or not. In all cases,

analysts and investors must bear in mind that there is always a risk of potential positive bias of

an APM’s calculation in corporate reporting. The question is whether standard-setters

determine what is included in the total income and what is separated from the total income or

whether it should remain companies’ responsibility to make that choice. The second option

would be riskier considering that many managers are inconsistent with their exclusion choices

(Curtis et al., 2014, quoted by Black et al., 2017). Acknowledging this is an issue, a major

research project has been planned by the IASB in 2016 called the Primary Financial Statements

project. This will be detailed in the regulation part of the thesis.

12

Chapter 2: Regulation First, the reaction of international regulators regarding the disclosure of non-GAAP

information will be summarized, followed by the European guidance on corporate reporting in

general. The three major European regulations, namely The Prospectus Directive, The

Transparency Directive and The Market Abuse Regulation will be presented. Going forward,

the ESMA Guidelines will be described thoroughly. Finally, a last part will be dedicated to the

controversy of whether additional regulation is required or not regarding the disclosure of non-

GAAP information in Europe.

2.1. International perspective

As Marc Siegel (2014) points out, the continued proliferation of non-GAAP metrics is

a topic that is scrutinized by many regulators and standard-setters. As mentioned before, non-

GAAP measures can be useful because they provide additional insight to a company’s

performance. Doubts can emerge when these measures are inadequately defined, inconsistently

disclosed or become more prominent than GAAP financial results.

Regulators have all decided to intervene in the struggle against excessive disclosure of

NGMs. The International Organization of Securities Commissions (IOSCO) was the first

organization to raise concerns about the use of NGMs and issued a cautionary statement

regarding this hot topic in 2002. In that report, the IOSCO urged investors and other users of

financial reporting to use care when dealing with non-GAAP Measures. As stated previously,

in 2016, the IOSCO released its final Statement14 about NGMs in which it defined rules for

issuers who choose to disclose them. All these requirements will be detailed later as they are

similar to the European’s guidelines. To give an overview, there must be clear definitions of

NGMs, a reconciliation to comparable GAAP measures, more prominence of GAAP measures

than NGMs and the issue of recurring items needs to be addressed.

Brouwer (2013) states that the European regulation is less strict and offers more

flexibility than the United States. In North America, the Sarbanes Oxley Act15 of 2002 was

14 The Statement is intended for both issuers that prepare their financial statements under GAAP or IFRS. It applies to any non-GAAP financial measures disclosed outside of the financial statements. 15 The Sarbanes Oxley Act of 2002 is a federal law from the United States which aims at protecting investors from possible frauds in accounting activities by corporations (http://news.findlaw.com/cnn/docs/gwbush/sarbanesoxley072302.pdf, 2018).

13

signed by the Securities and Exchange Commission (SEC)16 to develop rules regarding financial

information. This act of 2002 has developed the practice of non-GAAP reporting with strict

conditions to restore public confidence in the reliability of financial reporting. In 2003, the SEC

established Regulation G which led to a decrease in reporting of APMs. In Europe, the situation

was different for many years, with a lack of rigorous rules on reporting causing a greater risk

of excessive disclosure of non-GAAP information.

Since the introduction of IFRS in 2005, European companies have gained more

flexibility regarding the presentation of the income statement (Brouwer, 2013). As explained

before, there is a lack of guidance in IAS 1 on how to disclose and structure the information in

the financial statements. Considering this, the IASB has planned to better regulate how the

performance measures are computed and disclosed in companies’ financial statements.

As Hoogervorst stated in his IASB Speech (2016), NGMs are popular due to the lack of

guidance. The flexibility afforded under existing accounting standards is in fact an open

invitation for non-GAAP to step in. As IASB is providing the financial reporting framework

for measures reported inside the financial statements, the Board decided to overcome the lack

of guidelines and launched the project titled “Primary Financial Statements” in 2016.

The project aims at improving the structure and content of the primary financial

statements by allowing issuers to present more performance measures inside their financial

statements. If these measures are not subtotals or totals required in IFRS Standards, they will

be defined as Management Performance Measures (MPMs). In January 2018, the Board

recommended entities to provide MPMs in their financial statements that, at least, include key

performance measures communicated in their annual report. The IASB required MPMs to be

reconciled with IFRS-defined measures (IASB meeting, 2018a). In brief, this project would

harmonize and would give a better understanding of a company’s performance. The Board

presumed that requiring MPMs would encourage management to provide its key performance

measures in the financial statements where they would be subject to an audit. By presenting

more performance indicators the in financial statements, transparency, comparability and

discipline will be enhanced.

16 The SEC is an independent agency of the United States federal government which is mainly responsible for protecting investors and maintaining fair and efficient markets. (www.sec.gov, 2018).

14

The IASB Meeting of the 20th February 2018 continued the discussion over the

introduction of MPMs, seeking input from the Global Preparers Forum members17. Some peers

supported the idea to present MPMs in the financial statements, but others disagreed as they

considered MPMs do not belong to the financial statements (IASB Meeting, 2018b). Kabureck

(2017), member of the IASB, assumes that the problem is to what extent, if any, APMs should

be included in the traditional income statement. Kabureck (2017) states that « Today’s APMs

are anything but uniformly applied. The challenge for the IASB is to put structure into the

reporting of financial performance while providing trusted information of a company’s

performance at the same time. » (Compliance week, para. 5). In Kabureck’s opinion, some of

the current NGMs could potentially become GAAP measures in the future. This will be

discussed further on with concrete examples of non-GAAP measures having become GAAP.

Additionally, the IASB is working on another project called IFRS Taxonomy, which

will become mandatory in January 2020. The taxonomy makes financial reports readable

electronically by computers. Each line of the financial statements of a company is codified and

reported digitally through XBRL18. Companies must tag each financial statements’ line with

their individual name. Computers then identify, read and extract the tagged information and

provide it to interested parties. The information presented is well structured, more accurate and

easily reported. This is a much more efficient way of delivering content on an electric format.

Investors can process this electronic information to create tailored reports and focus more on

data analysis than data gathering. However, it must be noted that the taxonomy does not provide

guidance regarding the content of IFRS financial statements. The taxonomy’s role is to provide

an accurate presentation of IFRS information which can be digitally and similarly reported

among different companies, enhancing comparability. The taxonomy has its limits. For

example, non-recurring items are still not defined by the IFRS Taxonomy, as the IASB has not

delimited them.

2.2. The EU regulation in depth 17 Global Preparers Forum (GPF) is an independent body from the International Accounting Standards Board and the IFRS Foundation, with the specific aim to provide the Board with regular input from the international community of preparers of financial statements (http://www.ifrs.org/groups/global-preparers-forum/, 2018). 18 XBRL is the acronym of eXtensible Business Reporting Language. It is the international standard for digital business reporting managed by XBRL International. Its commitment is to improve reporting in the public interest and to replace paper-based reports with more effective and accurate digital versions (https://www.xbrl.org/the-standard/what/an-introduction-to-xbrl/, 2018).

15

In contrast with North America, Europe has faced a lack of legally binding regulations

towards APMs for a long time. As a reminder, given the Regulation G in 2003, the country of

the United-States was a pioneer regarding APMs’ supervision. In Europe, it took almost twelve

years to finally introduce in 2015 real guidance with the final Guidelines on APMs of the

ESMA. The Guidelines are intended for any issuer publishing a prospectus, who is providing

regulated information defined by the Transparency Directive and admitted trading on a

regulated market. Therefore, the Guidelines were established in accordance with the Prospectus

Directive, the Transparency Directive and the Market Abuse Regulation, which will be covered

now.

2.2.1. Prospectus Directive19

The Prospectus Directive, launched by the European Commission20 in 2003, is designed

to ensure investors’ protection. A prospectus is a document provided to investors when a

company wants to raise capital through public offering or to have securities traded on a

regulated market. The prospectus contains all the required information that an investor needs

before deciding whether to invest in a company’s securities such as bonds, shares or derivatives.

The Prospectus Directive certifies that prospectuses, wherever issued in the EU, provide clear

and understandable information. At the same time, it makes it easier for companies to raise

capital all over Europe based on common rules. Any issuer is required to regulate his/her

prospectus under the directive’s rules.

A prospectus may contain non-GAAP information and therefore it makes sense that the

Guidelines of the ESMA apply to any issuer responsible for the prospectus under the Prospectus

Directive. The ESMA Guidelines of 2015 are put into practice with the Prospectus Directive of

2003. Information contained in a listed company’s prospectus including non-GAAP

information should be clear and consistent with an entity’s economic reality and is controlled

by these two regulations.

19 Directive 2003/71/EC of the European Parliament and of the Council of November 2003 on the prospectus to be published when securities are offered to the public or admitted to trading. 20 The European Commission is an institution of the European Union, responsible for proposing legislation, implementing decisions, upholding EU treaties and managing the day-to-day business of the EU. (https://ec.europa.eu/commission/index_en, 2018).

16

2.2.2. Transparency Directive21

Succeeding the Prospectus Directive, the European Parliament and Council introduced

the Transparency Directive in 2004. This directive aims at achieving greater harmonization

within Member States as well as providing a common supervisory culture among competent

authorities. It also ensures transparency of information provided to investors through a

continuous flow of regulated information to the market. Such information may include

management reports or any other document that could possibly impact the price of securities.

The ESMA Guidelines on non-GAAP measures apply to any information controlled under by

Transparency Directive that may contain non-GAAP measures. In addition, each Member State

is obliged to implement a storage system to ensure that the public can access the information

disclosed by listed companies. In the same way, the IASB is currently developing the

harmonized electronic format for reporting, IFRS Taxonomy, as discussed earlier.

2.2.3. Market Abuse Regulation22

Trading on the stock exchange with access to confidential information conducting to

insider dealing, market manipulation and unlawful disclosures of inside information is

considered as market abuse. As stated before, the use of non-GAAP measures can also lead to

unfaithful corporate reporting or a company’s misconduct when calculating its performance.

Such unlawful behaviors affect transparency which is a trading prerequisite for all economic

actors in the EU regulated markets. The Market Abuse Regulation of 2014 wanted to counteract

this type of misconduct by establishing a uniform framework in order to preserve market

integrity, ensuring accountability in case of manipulation, and providing less complexity in

terms of regulation for market participants. A new Market Abuse Regulation came into force

in 2016 with the main objectives of strengthening the fight against market abuse and reinforcing

the sanctioning powers of regulators. Any issuer whose securities are admitted to trading on a

regulated market will have to comply with this regulation. In accordance with the Market Abuse

Regulation, the ESMA Guidelines will be applied as well to counteract excessive and dishonest

non-GAAP disclosure.

21 Directive 2004/109/EC of the European Parliament and of the Council of 15 December 2004 on the harmonization of transparency requirements in relation to information about issuers whose securities are traded on a regulated market and amending Directive 2001/34/EC. 22 Regulation No 596/2014 of the European Parliament and of the Council of 16 April 2014 on Market abuse.

17

2.2.4. The ESMA Guidelines on Alternative Performance Measures

In 2005, the Committee of European Securities Regulators (CESR)23 initiated the first

institutional announcement on APMs. EU listed companies were encouraged to disclose non-

GAAP measures in an appropriate way for investor’s decision-making process. However, the

CESR was more a persuasive rather than a mandatory force and had no enforcement power. In

2015, the European Securities and Market Authority (ESMA) published the Final Guidelines

of Alternative Performance Measures which replaced the CESR recommendations. The

guidelines are effective since 2016.

The objectives of the Guidelines are similar to the CESR recommendations but

companies should make every effort to comply with them. The Guidelines aim at promoting

usefulness and transparency of APMs included in prospectuses or any other regulated

information. European issuers will be encouraged to publish more transparent and unbiased

information on their financial performance whatever issuers’ business. Users will be provided

with a clear understanding and faithful representation of companies’ performance disclosed to

the market. Comparability between entities and reliability will be enhanced as well.

It must be noted that annual reports are considered as regulated information but do not

entirely fall under the ESMA Guidelines’ scope. Management reports contained in annual

reports adhere to the guidelines, while financial statements included in annual reports do not.

Indeed, measures defined by the applicable framework24 such as revenue, profit or loss or

earnings per share which are included in the financial statements do not fall under the scope of

the guidelines. Some Key Performance Indicators (KPIs) disclosed in narrative sections of

annual reports are also considered as APMs and are subject to the guidelines as well. The ESMA

settles precise conditions for issuers willing to release APMs in their public information (except

the financial statements). As stated earlier, the ESMA Guidelines are similar to the IOSCO’s

Statement.

23 The Committee of European Securities Regulators (CESR) was an independent committee of European Securities regulators established by the European Commission in 2001. In 2011, ESMA has replaced CESR as the EU supervisory authority for securities (www.esma.europa.eu, 2018). 24 The applicable financial reporting framework is defined as any of these following: (i) IFRS, (ii) accounting requirements stemming from the transposition of the EU Accounting Directives (78/660/EEC, and 83/349/EEC or 2013/34/EC) into the legal system of the Members States of the EU or (iii) GAAP (ESMA Guidelines, p.3).

18

First of all, issuers should define their APMs and their components. The method of

calculation and an indication of whether APMs or any of their components are related to the

performance of a past or future reporting period should also be disclosed. When presented,

APMs should be meaningfully labelled and defined. Their definitions should include the

content and the basis of calculation. For example, APMs labelled “guaranteed profit” and

“protected returns” are not well-defined APMs because they do not use clear terms (Deloitte,

2016). Items should not be characterized as non-recurring or unusual such as impairment losses

or restructuring costs when they have affected past periods and will affect future periods. Overly

optimistic or positive labels for APMs are also prohibited.

Clear reconciliations should be given when an APM is derived from a line item or total

presented in the financial statements (see appendices 4 (a) and (b) for examples). « The APM

must be reconciled to the most directly reconcilable line item, subtotal or total presented in the

financial statements of the corresponding period. » (ESMA Guidelines, 2015, p.7). The more

correlated the GAAP and non-GAAP measures are, the better investors can rely on the

information. If the reconciliation is impossible to achieve because the APM does not derive

from the financial statements such as profit estimates or forecasts, the company must develop

the consistency of this APM with its accounting policies (see appendix 5 (a) and (b) for

examples).

The purpose of APMs should be clearly set out to allow users to estimate their relevance.

Managers should explain why they present APMs and justify what kind of information it may

bring regarding the financial position, cash flows or financial performance to users.

Furthermore, APMs should not be displayed with more prominence than measures directly

coming from the financial statements. APMs should be compared with figures from previous

periods and presented consistently over years with comparative information.

For coherence, unless there are good reasons to justify changes, presentation of APMs

should be consistent over time. Changes regarding the definition or the calculation of a non-

GAAP measure should be explained. It might be possible that the APM must be replaced over

time but only in exceptional cases. For example, if the appreciation of a company’s performance

is better achieved by another APM, then the entity can substitute one APM for another, as long

as the changes of APM are disclosed and explained.

19

If a listed company does not provide a faithful representation of the financial

information disclosed to the market, there are specific actions undertaken by authorities. We

contacted the Financial Services and Markets Authority (FSMA)25, the Belgian authority, to

know the consequences of a non-compliance with the ESMA Guidelines. In the appendix 6, the

FSMA gives the procedure to adopt when an issuer does not follow the guidance. First, the

Belgian authority specifies the problem to the issuer. The issuer must then change what is

incorrect according to the FSMA. If the issuer does not react to the FSMA’s notification, the

FSMA may publish a warning and if there is still no reaction, then the issuer can be fined.

2.3. Is additional guidance required?

With the conditions above, we assume that investors and other readers of corporate

reporting will be more confident when it comes to rely oneself on non-GAAP information.

Many companies were expected to make changes in response to the coming into force of the

ESMA Guidelines effective in 2016. The FRC Institute26 (2016) has studied the interim

statements of 20 listed companies spread across FTSE 100, FTSE 250 and smaller companies,

published after the guidance came into force to assess its implementation. Every company

except one used APMs in 2016. The FRC Institute found out that only 35% of the sample had

made improvements since 2015. Explanations made by companies for disclosing APMs did not

reflect well why they believe additional information is useful for investors and other users. The

FRC Institute was also concerned regarding the list of items that companies tended to exclude

from their respective profit calculation. The main exclusions were amortization of intangible

assets arising on acquisitions, restructuring costs and share-based payments. Better explanation

should be given on why such items had been excluded. It is clear that in 2016 the Guidelines

were not yet well-applied by listed companies and an adaptation was still in progress.

One year later, the FRC Institute (2017) carried out another thematic review with a

similar sample. In this review, definitions were given in all cases and explanations for the use

of APMs as well. Reconciliation to IFRS were presented but not for all APMs. Most of the

selected companies’ reports gave equal prominence to non-GAAP and IFRS measures. In all

25 The FSMA is an autonomous public institution that supervises the Belgian financial sector. It strives to ensure the honest and equitable treatment of financial consumers and the integrity of the financial markets (https://www.fsma.be/en/what-fsma, 2018). 26 The Financial Reporting Council is the UK independent regulator responsible for promoting high quality corporate governance and reporting to foster investment. It is the authority that may issue accounting standards in the UK ( https://www.frc.org.uk, 2018).

20

but three cases, the adjusted measure of profit was higher than the IFRS equivalent. In general,

the results of the study seem optimistic for the coming years. However, there are concerns

regarding non-recurring items. Many exclusions made by companies still appear questionable.

Apparently, the disclosure of non-GAAP information has improved but there are still

enhancements to make.

The Chartered Financial Analyst (CFA) Institute conducts a survey in 2018 to obtain

different opinions of investors regarding their expectations on non-GAAP reporting. The survey

has 639 respondents and the targeted investors are principally portfolios managers and analysts.

The appendix 7 shows that 63% of respondents would like APMs to be regulated while 18% of

the respondents do not want to increase the regulation regarding APMs. The remaining 19%

have either none or another opinion on the subject. One reason to agree with the respondents

who reject regulation is that most users of financial information look at APMs from time to

time and sometimes quickly request different or new measures. The time it would take for an

APM to be regulated, investors may have lost interest in it, as it might no longer be the

industry’s main criteria. The regulation of the APMs would be a politicized and complicated

process that do not take the speed-to-market need of investors into account. Moreover, several

participants testify that they appreciate that every piece of information cannot be regulated as

APMs give an additional insight into a company’s operations and further regulation may result

in limiting financial information.

In the same survey of 2018, the CFA Institute states that APM standardization would

only work if there are either mandatory guidelines or well-defined and widely accepted

industry-specific requirements. In the 63% of respondents inclined to regulate APMs, 59%

expect standard-setters with legal authority to regulate APMs. 32% of the respondents would

prefer private sector organizations with voluntary standards (see appendix 8) while the

remaining have none or another opinion. The 32% of the respondents suggest that sector-based

regulations would be the best option to counteract the politicized and complicated process of

governmental bodies when developing accounting standards. Moreover, some GAAP figures

are simply not relevant to companies based in specific sectors. Indeed, the ESMA Guidelines

are “all sector-inclusive” and do not have specific requirements that reflect each industry. Every

listed entity must comply with the European guidance while it may not disclose the same APMs.

The idea of sector-based requirements seems to be the most suitable option that will be further

analyzed…

21

Chapter 3: Stakeholders’ opinions regarding the disclosure of APMs

The proliferation of APMs raises many concerns in the financial reporting supply chain

and challenges the daily life of a great number of stakeholders (Center for Audit Quality, 2018).

Preparers and regulators influence while users (such as analysts, investors and the media) are

influenced by the disclosure of non-GAAP measures in nowadays financial reporting.

3.1. Regulators, auditors and audit committee members

Regulators such as the ESMA as well as standard-setters like the IASB aim to find a

level playing field where non-GAAP measures are supervised and framed to a certain extent as

detailed earlier. As the absence of regulation constitutes the essence of a non-GAAP measure,

it is difficult for regulators to impose strict guidance to preparers.

Similarly, members of the audit committee have a serious role to play that many tend to

forget. The audit committee should be involved in the oversight of management’s preparation

of APMs. The audit committee members can be perceived as a bridge between preparers and

users in assessing management’s reasons for presenting adjusted performance measures. Audit

committee members can promote consistency and accuracy regarding non-GAAP disclosure by

better communicating with the management and the auditors. Every annual report of publicly

listed companies presents a governance report in which the audit committee assignments are

specified (refer to appendix 9 for an example). The audit committee checks why and how the

management calculates APMs and evaluates whether the measures disclosed by the

management present a fair and balanced view of the company (EY, 2016). Its other task is to

verify that non-GAAP information is well understood by users. In brief, the audit committee

has the role of overseeing the reporting process and the external audit as well (Castillo, Eiger,

Pinedo, & Perry, 2017). While the scope of auditors and audit committee members is every

APM included in the financial statements, it is important to remember that the ESMA

Guidelines only apply to APMs released outside of the financial statements.

22

3.2. Investors, analysts and other users

Many investors agree that APMs remove volatility associated with economic events

outside of the management’s control and allow comparison over time and across companies

(CFA Society, 2015). Furthermore, APMs help investors to better understand performance

through the eyes of the management. When investors look at the annual report, they know

exactly what managers attempted to underline that year. As per Young (2014), users usually

find non-GAAP information more understandable than GAAP-based financial figures. The fact

is that the “one-size-fits-all approach” of GAAP has its limitations while non-GAAP figures

can endlessly be adjusted and more customized.

Unfortunately, Black, Christensen, Ciesielski and Whipple (2017) notice that non-

GAAP metrics are often self-serving for managers and misleading for investors. One could

assume that novice investors are more willing to refer to non-GAAP measures while more

sophisticated investors such as short sellers27, who are supposed to be well-informed traders,

are able to step back. However, studies done by Black et al. (2017) show that many investors,

even sophisticated ones, are using non-GAAP information without sufficient care.

It must be noted that management does not always choose which non-GAAP

information to display. Investors and analysts may have a say in this matter and could request

management to include specific APMs. Representatives of management could also decide to

disclose one non-GAAP measure in particular because they know the interest of analysts in this

specific non-GAAP measure (Center for Audit Quality, 2018). As an example, an analyst can

make forecasts for a bank to assess if a borrower will be able to pay back at the due date. For

that purpose, the analyst uses the APMs disclosed in the annual report of the company willing

to borrow in order to assess its financial health. Analysts could also look at the market, assess

how companies should be doing and then publish a document. Then, companies can read these

publicly disclosed documents and can compare with their financial results if they are in line or

not with the forecasts.

Similarly, lenders turn to non-GAAP measures for additional information about a

company willing to borrow money. Looking at these metrics allows a lender to decide whether

27 Short sellers are traders who sell securities when they assume that the price is going down. They buy them back and return them to their owner so that they make a profit. The short seller does not own the security and must ask the owner when he/she is willing to sell in order to make a profit (Cambridge dictionary, 2018).

23

the company risks defaulting the loan or has the necessary resources to reimburse on the due

date. In other words, this non-GAAP information gives an extra aspect of a company’s health

and performance. However, these tailor-made performance measures are not always free of

bias. Lenders must bear in mind that non-GAAP measures can be misleading if not

appropriately computed. As the management does not prepare non-GAAP measures through a

standardized accounting framework, risks of potential misguided perceptions of investors,

analysts or lenders towards a company’s performance should be addressed. The management’s

view of APMs will be described in detail below but it would be fair to declare that

management’s decisions on APMs are not always innocent and can distort results of earnings

or other performance measures.

3.3. Management decision-making process

3.3.1. Quality of the board and good corporate governance

Our focus will be on representatives of management and other persons responsible for

the corporate reporting disclosure, especially in annual reports. As underlined before, managers

may tend to act as cherry pickers when it comes to calculate their performance measures. Since

the management has the choice to decide which APMs to disclose in its report, abusive

disclosures may pop up in corporate reporting.

The quality of the board seems to influence the way non-GAAP information is reported.

A strong corporate governance can undoubtedly limit the use of non-GAAP figures and reduce

aggressive non-GAAP reporting (Klapper & Love, 2004 quoted by Isidro & Marques, 2013).

Indeed, a good governance structure is able to discourage voluntary disclosure that tends to

mislead users of annual reports. Voluntary disclosure is information provided by the

management that is not required by GAAP or any other reporting framework but is believed to

be relevant to the users’ decision-making process. Management often presents disclosure

narratives that reinforce its interpretation of current performance and its suggestions for the

future performance of the firm.

However, management tends to abandon consistency in order to foster investors’

optimism. Managers are using labels that are overly optimistic or misleading (FRC, 2016).

Many of them seem to eliminate any amount from the GAAP earnings that could negatively

24

affect their performance calculations with the excuse that these are not part of the company’s

daily life. Non-GAAP measures as compared to GAAP measures are generally more positive

as losses are recorded to a lesser extent in non-GAAP earnings compared to GAAP earnings.

In other words, the likelihood for a loss not being reported by the management is higher in non-

GAAP measures. Transparent reconciliations of non-GAAP to the corresponding GAAP

earnings number can reduce misunderstanding and are useful to the small or unexperienced

investors in particular.

Besides all the negative comments regarding the management’s behavior, there are also

queries from managers who do not want their communications to give the appearance of “cherry

picking” and “earnings management”. One must bear in mind that an important reason for

management to present an APM in particular is the request made by certain analysts. In

addition, management’s representatives spend a significant amount of time discussing non-

GAAP measures alongside the audit committee in order to provide users with fair and trustful

representation of a company’s performance (Center for Audit Quality, 2018).

3.3.2. Performance-based compensation

The use of Alternative Performance Measures is largely related to management

decisions for performance-based compensation. This kind of compensation is an incentive-

driven compensation that is paid to managers at the end of the year. When a company performs

well, managers are rewarded and earn an additional revenue related to the performance

achieved. The performance-based incentives are very popular and encourage the disclosure of

non-GAAP measures. It seems paradoxical since managers are earning bonus based on their

own calculations and subject to conflict of interest.

Koning et al. (2010) attest that behaviors of managers responsible for the calculation of

APMs are mainly opportunistic. Young (2014) confirms the opinion of Koning et al. (2010) by

adding that opportunistic reporting behavior threatens the credibility and integrity of the

reporting system. In his IASB speech of 2016, Hoogervorst states that most managers’

remuneration package is based on non-GAAP earnings. He adds that adjustments are often

realized to boost managers’ remuneration. Isidro and Marques (2013) made a survey showing

that when managers’ compensation is related to the firms’ market performance, the publication

25

of non-GAAP earnings significantly increases. The authors conclude that some firms use non-

GAAP measures in a strategic and opportunistic way to increase their market values.

These arguments must be nuanced as many managers can spend a significant amount of

time discussing and arguing between themselves to choose which APMs to disclose. As

previously specified, managers can even spend more time discussing non-GAAP than GAAP

information with the audit committee. Fortunately, the principle of due diligence is often

applied by them.

26

Chapter 4: Widely used APMs retrieved from the literature

According to Deloitte (2016), adjusted earnings, any other measure based on adjusted

earnings (such as adjusted earnings per share), EBITDA, free cash flow, net debt or gearing

ratio can be classified as APMs. In the 2016 Guidelines, the ESMA confirms similar APMs

and adds to the list the pro forma earnings, earnings before one-time charges and operating

earnings. EY (2016) agrees with the previous APMs and comfort the idea that the debt ratio,

return on capital employed and EBIT are well-known APMs. Finally, the CFA Institute (2016)

approximately listed the same widely used APMs in the appendices 10 (a) and (b). They will

be described in this chapter.

4.1. Underlying Profit Vs Statutory Profit

Statutory figures are those presented in the financial statements, regulated by the GAAP

of a designated country. These figures are subject to an audit and there is no room for tailor-

made calculation. The underlying profit is calculated by a company to present what it believes

is an accurate and realistic view of its performance for a year. It shows how the business is

performing, years after years without considering unusual events. The statutory profit includes

any non-recurring events that do not occur every year such as restructuring costs, changes in

fair value of financial instruments or any other one-off items. As previously illustrated in

appendix 3, underlying profit is based on the statutory profit where a couple of adjustments are

realized. The calculation of this measure is often different from one company to another since

companies decide what to adjust from the statutory profit. Therefore, the volatility from one-

off events disappears and leads to a different baseline on which investors and analysts rely. As

noted earlier, the problem lies with adjustments being regularly made in an inappropriate or

abusive way. For instance, asset impairments such as goodwill are often excluded from the

underlying profit. However, these are far from insignificant and, for accuracy, should be

considered.

Finally, Deloitte (2017) presents a survey showing that non-GAAP profit is nearly

consistently higher than GAAP profit. Companies generally only adjust expenses and losses in

their favor and would rarely adjust gains. Therefore, before using these underlying results, one

should check if one of these costs is in a grey area and should be considered in the calculation.

27

Besides, statutory-to-underlying reconciliation needs to be examined in order to provide

reliability on the underlying figures.

4.2. EBIT, EBITDA and pro forma earnings

Earnings Before Interest and Taxes (EBIT) and Earnings Before Interest, Taxes,

Depreciation, and Amortization (EBITDA) are considered as non-GAAP measures by

jurisdictions such as the ESMA because they are not defined by a standard. EBIT represents

earnings before interest and taxes. It is calculated as sales less operating expenses (such as

social security costs, raw material purchases, power consumption), amortizations and

depreciations. EBIT being before interests and taxes, it does not allow to differentiate

companies by their capital structures and tax rates. Nevertheless, EBIT is better used when

comparing companies within the same sector.

EBITDA differentiates itself from the EBIT as it excludes the amortization and

depreciation expenses from the profit, which therefore increases the latter. EBITDA is a better

proxy of the cash flow generated from operations of a business where changes in working

capital, taxes and interest costs are not included in the calculation. By excluding these expenses,

it eases more accurate comparisons between similar firms of the same industry. EBITDA is

mainly calculated by companies that are in highly capital-intensive industries having very large

amounts of depreciation such as telecommunication companies (see appendix 11). In these

sectors, the depreciation and amortization charges are so high that it would overwhelm the net

income of the company, giving appearance of a loss for the financial year. One could assume

that companies from these industries will be keener to disclose EBITDA as a valuation metric.

A negative EBITDA normally indicates that a business is facing operational issues and

does not generate sufficient cash flows from its core activities. On the contrary, a positive

EBITDA does not necessarily mean that the business generates cash as it does not contain all

expenses the company would have incurred. People who are in favor of EBIT affirm that

depreciation is part of the capital expenditures of the company in the long term and thus it

makes sense to consider it (Corporate Finance Institute, n.d.). Kabureck (2017) describes EBIT

as a widely used debt-related credit metric for commercial and industrial companies even

28

though neither EBIT nor EBITDA is consistent with the accounting framework requirements

under GAAP.

Although EBITDA is already a non-GAAP measure, some companies go further and

disclose the adjusted EBITDA which excludes several one-time expenses such as share-based

payments or other exceptional items. An example of an adjusted EBITDA is illustrated in the

appendix 12. Although EBITDA is a key measure of the financial information provided by

many companies, when adjusted, it may bias comparability. The methodology of calculating

EBITDA may hardly vary from one company to another, even when they belong to the same

sector. The principle of adjustments made on EBITDA also applies to pro forma earnings.

Pro forma earnings are not in compliance with GAAP either and are usually higher than

GAAP earnings. Pro forma earnings follow a process similar to the EBITDA process that makes

adjustments on the earnings of a company. The adjustments are not necessarily the same

though. Such pro forma measures have been widely criticized and were sarcastically called

EEBS, referring to “Earnings Excluding all the Bad Stuff” (Fox 1998, quoted by Harrison and

Morton, 2010). While the EBITDA measure always excludes interest, taxes, depreciation and

amortization from its earnings, pro forma earnings may exclude other items than these four but

also include one of these four. For instance, pro forma earnings can be calculated by companies

as earnings that exclude restructuring costs but include depreciation and amortization. It

depends on the company’s will and therefore makes the comparability between firms difficult.

4.3. Free Cash Flow

Free Cash Flow (FCF) is a very popular measure that investors look at. As previously

shown in appendix 10, the CFA Institute (2016) observed that FCF is the most used indicator

together with the EBITDA. As per Adhikari and Duru (2006), firms which elect to emphasize

FCF are likely to have a need to direct stakeholders’ attention to cash flows. This happens when

a company has weak earnings and relatively high dividend payouts. FCF is not part of the

GAAP principles or the IFRS standards and can be easily transformed by companies. As per

Adhikari and Duru (2006), the majority of the firms disclosing FCF operate in the

manufacturing, food and transportation industries (see appendix 13). FCF relies on the state of

a company’s cash from operations, excluding the cash flows from financing and investing

activities of the company. FCF is the residual value that a company obtains after paying its

29

employees, electric bills, and other expenses to stay in business. The free cash flow is coming

from the standardized cash flow statement where some adjustments have been applied to make

it an APM.

In the IFRS regulation, the IASB is putting more and more emphasis on cash flow

statements. In IAS 7 Statement of Cash Flows, entities are required to present a statement of

cash flows within the primary financial statements. The cash flow is classified in three

categories namely operating, investing and financing cash flows. When speaking of free cash

flow, the focus is on the operating cash, also called cash flow from operations. A majority of

the items from investing and financing cash flows are not included in the calculation of FCF

(except capital expenditures which are part of the investing activities).

Free cash flow is calculated as follows: changes in working capital and capital

expenditures are deducted from the net income (after tax) to provide a residual net income.

Interest payments and non-cash expenses such as depreciation and amortization are then added

back to the residual net income to arrive at the FCF measure (Adhikari & Duru, 2006). Capital

expenditures can be equipment purchases, building a new factory or repairing assets. All these

result in a cash outflow to acquire, upgrade or maintain physical assets. The variation in

working capital items is equal to current assets minus current liabilities. Examples of current

assets are inventory and accounts receivable while current liabilities are accounts payable,

short-term debts or money borrowed from banks. In summary, FCF is calculated by subtracting

capital expenditures from the operating cash flow.

When evaluating the performance of a company, users of corporate reporting look at

FCF to estimate if an investment in the company is beneficial or not (CFA 2015). Companies

can manipulate FCF and artificially reduce the variation in working capital. For example, they

can either delay payments to suppliers or shorten the time to collect the money that is owed to

them (CFA, 2016). However, a negative FCF is not always a sign of bad performance; a

company can make expensive investments hoping that it will pay off in the long term.

Investors often look for companies that have an improved FCF with undervalued share

prices, hoping that the share price will go up in the future. When looking at FCF, investors are

trying to determine what amount of money is available for multiple different purposes. A

30

company can either distribute dividends to its shareholders, buy back its shares or reinvest the

cash inflow to make the business grow faster.

Investors and analysts often use FCF as a valuation metric to assess a company’s

performance. They first discount future FCF projections to arrive at the current enterprise value.

The enterprise value is the financial worth used to evaluate the potential for investment. Users

subtract the company’s net debt from the current enterprise value to arrive at the fair value of

the company. To check if the stock is overvalued, the investor will divide the company fair

value by the number of shares of the company. If the Discounted Cash Flow is below the current

cost of the investment, the investor will not be investing as the stock looks overvalued. If the

enterprise value is higher than the current cost of the investment, the opportunity to invest in

this company might be good.

4.4. Adjusted or Underlying Earnings Per Share28

In the last decade, a greater number of companies have been disclosing adjusted earnings

in their corporate reporting. As noticed above, these are non-statutory earnings as they are

different from the statutory earnings arising from the applicable reporting framework. These

adjusted earnings are used to generate the adjusted Earnings Per Share (EPS) number, defined

as the most broadly used of all financial ratios according to Harrison and Morton (2010).

The IASB published in 2005 a standard (IAS 33) on EPS in order to improve comparisons

between firms in the same reporting period and between corporate reporting of the same entity

for different reporting periods. Before IAS 33, EPS was considered as a non-GAAP measure

and therefore was unaudited. In this standard, an entity whose securities are publicly traded is

required to disclose either basic or diluted EPS in the statement of comprehensive income. Basic

EPS is calculated by dividing profit or loss attributable to ordinary equity holders of the parent

entity by the weighted average number of ordinary shares outstanding during the period.

In the equation, the numerator corresponds to the earnings after deducting all expenses

such as taxes, minority interests and preference dividends. Minority interest is an ownership or

equity interest of fewer shares than the controlling shareholder who owns the most. Minority

28 It must be noted that no distinction is made between underlying and adjusted in the thesis. These are two terminologies referring to the same concept.

31

interest are similar to non-controlling interest and it is considered as a liability for the parent

company which owns parts in a subsidiary and thus it must be deducted proportionally because

the parent company does not own it. Preference or preferred dividends are cash distribution that

a company pays to shareholders who hold preferred shares. The preferred shares give the owner

the right to receive a dividend before dividends are paid to owners of common shares.

The denominator is the weighted average number of ordinary shares meaning that the

shares that go out or come in during the year must be considered proportionally. The diluted

EPS is similar to the basic EPS but considers that holders of convertible securities such as stock

options and convertible preferred shares might exercise them at any moment. If they were

actually exercised, the convertible securities would increase the weighted average number of

shares and thus reduce the EPS ratio.

The statutory EPS ratio measures the amount of a company’s net income that is available

for distribution to the holders of its common stocks. An increasing EPS ratio means that the

company is either generating an increasing amount of earnings or it is buying back its stocks

for additional growth. A declining ratio could signal to investors that the company has some

issues which lead to a declining stock price.

As the scope of IAS 33 is limited to audited communication, representatives of

management often disclose adjusted EPS in unaudited report narratives (Young, 2014). When

it comes to adjusted EPS, it may significantly differ from one company to another depending

on the adjustments companies are making. Indeed, a stock may appear over or under-valued

according to the customized EPS calculation. Adjustments are made on the numerator which is

the adjusted net income. The adjusted EPS removes all components from the calculation of the

earnings that are not attributable to core activities, making the adjusted EPS look bigger than

the statutory EPS.

Many entities present adjusted EPS outside of the financial statements without sufficient

information and transparency (IASB Meeting, 2018b). As a result, the project Primary Financial

Statements of the IASB also includes discussions about a management-defined adjusted EPS.

As mentioned earlier, a company can decide to provide an adjusted measure of profit that, in

the view of the management, communicates better to users the financial performance, called a

management performance measure. An adjusted EPS should then be disclosed and calculated

consistently with that management performance measure.

32

4.5. Net Debt

Net debt compares a company’s total debt with its liquid assets. It is the amount of debt

that would remain after a company has paid off as much debt as possible with its liquid assets.

Net debt is not defined by IFRS or GAAP and therefore is also an APM. It measures a business’s

ability to pay all debts if they were simultaneously due the day of the calculation. It is an

indicator that shows the overall strength of the balance sheet. Illustrated in appendix 14 (a), the

net debt is equal to financial short and long-term debts (including mortgage loans and other

borrowings) minus cash and cash equivalents and other financial instruments receivables (PwC,

2013). The reversal, cash and cash equivalents minus short and long-term debts can also be

calculated as shown in appendix 14 (b). If the indicator (short and long debts minus cash and

cash equivalents) is positive, it does not automatically mean that the company has too much

debt and is in poor financial health. Indeed, the net debt does not consider account receivables

nor the time line of long-term debt liabilities in its calculation. Therefore, a company might

soon receive cash from its clients and reimburse its debts; or a company might have a debt of

millions but due in 20 years, giving more time to generate cash before the due date. It would be

wise to use net debt indicator with other debt metrics such as a debt-to-equity ratio. Investors

and analysts are interested by the amount of net debt because it gives a better view of whether

the company is under-leveraged or over-leveraged. The debt-to-equity and leverage ratios will

be covered now.

4.6. Gearing ratio

Considering the complexity of this term, a complete explanation must be given. Firstly,

the gearing ratio is a debt-to-equity ratio. Debt ratios indicate a company’s overall debt and the

choice made between being financed by equity or debt. Companies are inclined to disclose this

measure showing to lenders that their activities are doing good and are well-balanced between

debt and equity. To evaluate the gearing ratio, the total debt is divided by the shareholders’

equity. If the percentage is low (around 20%), it means that the company can pay off its debts

several times over and lenders and investors would consider a lower risk because of the

financial stability it represents. However, as the level of gearing ratio varies significantly

between industries, there is no idealist gearing ratio to reach. For instance, some companies

such as Tesla are highly-geared because they require high investments in tangible assets unlike

an investment fund that does not need similar purchases. Consequently, it is difficult to

33

determine and generalize a well-balanced ratio across different sectors (Association of

Chartered Certified Accountants, 2018).

An over-geared company (owing too much debt) may not be able to have additional

debts, may default on a loan, or even worse, may end up bankrupted. The more debt the

company has, the riskier it is because it might be difficult to reimburse through troubled times

if the company has less financial stability. However, having a high level of debts does not

necessarily mean that the company is in poor financial conditions. Debt is cheaper for the

company than equity (Association of Chartered Certified Accountants, 2018). A company with

a high level of debts pays interests, which reduces its profit and thus reduces its taxes.

Moreover, the company’s founders retain their ownership in the company and management

control. Much to the contrary, a company with more equity does not pay interests but is

expected to distribute dividends to its shareholders, leaving the company with less financial

resources to reinvest in the business.

Finally, banks offering loans to borrowers often impose conditions on the maximum

debt-to-equity ratio the borrower may have. The covenant is an indicator that a company needs

to meet in order to satisfy a lender like a bank. Debt covenants require borrowers to stay above

or below a specified amount. It must be noted that these covenants are only contractual and

therefore not defined under GAAP. Consequently, a borrower must scrutinize covenants before

borrowing. If a company has borrowed money to a bank, the latter would accept to continue

lending the money as long as the company’s gearing ratio does not reach 50% for example. If

the gearing ratio is around 50%, the company is over-geared and the bank will request it to

repay the loan immediately which could lead the company to an illiquidity issue and then

possibly to bankruptcy.

34

Chapter 5: Industry specifics29

The European literature reviews generally treat the subject of non-GAAP measures,

without considering any sector specificities. When looking at the American literature, several

articles mention particular APMs only disclosed in specific industries.

Leveque and Gould (2014) allege that many companies choose to define their own APMs.

This applies particularly to industries like asset management, real estate, banking and capital

markets, entertainment, media and communication, technology and oil and gas. Castillo et al.

(2017) confirm that many non-GAAP measures gained worldwide acceptance in specific

industries. The measures are lightly standardized and are more and more adopted by companies.

For instance, Castillo et al. (2017) perceive the Funds From Operations (FFO) as a valuable

measure for the real estate investment trust industry.

When calculating performance of a Real Estate Investment Trust (REIT)30, the net income

computed in accordance with GAAP includes the depreciation of properties’ expense. It can

include periodic charges for depreciation even for properties that have gained in value. In such

cases, companies from the real estate disclosing statutory net income understate their

profitability (Fields, Rangan, & Thiagarajan, 1998). In 1991, the National Association of Real

Estate Investment Trusts (NAREIT)31 decided to standardize FFO, willing to promote

uniformity in the assessment of a REIT’s performance. FFO is considered as an additional

measure of REIT’s operating performance that adds back depreciation to the GAAP net income

(NAREIT, 2002). The measure has been extremely beneficial since 1991, improving the

understanding of a REIT’s operating results and making comparability easier. In 2002, a new

definition of FFO was established as follows: « Net income (computed in accordance with

generally accepted accounting principles), excluding gains (or losses) from sales of property,

plus depreciation and amortization, and after adjustments for unconsolidated partnerships and

joint ventures. » (NAREIT, 2002, p.2).

29 The two terms “industry” and “sector” will be used interchangeably in this thesis. 30 A REIT is a company that owns, operates or finances income-producing real estate. It will be analyzed in the practical part of this thesis. 31 NAREIT, incorporated in 1960, actively protects REITs and publicly traded real estate companies’ rights with an interest in the US real estate and capital markets.

35

The NAREIT’s intention was to create a measure of operating performance that is

recurring in nature. Indeed, many investors and analysts now value REITs based on FFO rather

than on net income as it captures the more permanent components of net income. Fields et al.

(1998) explain that net income is a perfect example of a GAAP measure that may not well

reflect a company’s reality and thus leads to tailor-made measures such as Funds From

Operation.

In the radio, television and cable industry, companies disclose the Broadcast Cash Flow

(BCF). Castillo et al. (2017) define BCF as “the operating income or loss before corporate

expenses, gain or loss on sale of assets, depreciation and amortization and non-cash stock-based

compensation in operating expenses” (Castillo et al., 2017, p.5). According to the authors, many

companies acknowledge that BCF is a measure of performance and valuation for broadcast

companies. Entities use this term as a “benchmarking tool” to compare their results to the

corresponding results of other companies in the broadcast industry.

Finally, in the US banking industry, Castillo et al. (2017) identify the “efficiency ratio”

which measures a company’s short-term or current performance. The efficiency ratio calculates

the percentage of one dollar which must be spent to generate one-dollar revenue. US banks also

disclose the “return on average tangible asset” or the “return on average tangible equity”. The

return on tangible equity measures the rate of return on the tangible common equity where the

tangible common equity is the company’s book value less intangible assets and preferred

shares. We will not get specific about these measures.

36

Chapter 6: Ethical point of view 6.1. Current situation

Reporting corporate information is crucial for both companies which disclose their

reports, and for investors, analysts and business partners who read them. In their reports, listed

companies exhibit themselves to the public, conveying a picture of their performance and

activities to enhance their reputation. Ethics in accounting is about how to make good and moral

choices in regard to the preparation, presentation and disclosure of financial information. True

and fair corporate reporting boosts the market confidence and helps investors to ease their

financial decision-making process. In the opposite, unethical reporting increases fraud activities

and could damage the reputation of the firm, or worse, the firm might collapse.

The non-standard nature as well as several well-publicized accounting scandals32 have

led to an increased skepticism towards unaudited disclosures of the so-called Alternative

Performance Measures (Bhattacharya et al., 2004). Companies do not always disclose their

business figures in the most ethical way, potentially leading investors to make ill-informed

decisions. They endeavor to make their financial numbers look better and to show a more

favorable picture of their financial performance by excluding certain expenses. As a result, a

new form of window dressing was born with the disclosure of non-GAAP information

alongside GAAP results. In order to make the financial reporting trustworthy, the work done

by preparers must be transparent and should be impartial in reflecting the firm’s performance.

In addition to what Bhattacharya et al. state, Enderle (2004) is inclined to think that,

before the Enron and Andersen scandal, very few were aware of the potential problem with the

truthfulness of financial reporting. Ethics in reporting have become a vital problem for the

financial sector since the various accounting scandals33. As the Enron’s public embarrassment

has shown, the failure is coming from decisions of top managers, directors of corporate boards,

management accountants, and other individuals involved within a company. One should bear

32 The Enron and Andersen scandal of 2001 refers to the company Enron which hid its financial losses of the trading business through aggressive mark-to-market creative accounting. A major player was Arthur Andersen LLP, an accounting firm which audited Enron’s accounts and despite the bad accounting practices of Enron, approved its corporate reports for years (Healy and Palepu, 2003). 33 Just to name a few, there were also Tyco and Worldcom accounting scandals.

37

in mind that even successful companies may collapse if management does not comply with the

basic principles of honesty and integrity.

Giving more prominence to positive results and hiding costs seem to be common

practice for many representatives of management. This jeopardizes the integrity of the preparers

of corporate reporting and leads to unethical behavior. Clatworthy and Jones (2003) state that

accounting narratives may be subject to impression management. Impression management is a

conscious or subconscious process, in which the management attempts to influence the

perception of corporate reporting users about the company’s performance. As mentioned

previously, it refers to window dressing established by managers. Another point to highlight is

that the compensation of managers can be tied to the company’s performance. Adjustments

made by the management when calculating the performance may not always be innocent. As

noted before, the impartiality of managers is at stake which can potentially result in conflicts

of interest.

Nonetheless, the management is not always the only one guilty of unethical behavior.

Investors, analysts or consumers may put too much pressure on the shoulders of the company,

leading to these unethical behaviors (Sherman and Young, 2001). The issue is partly coming

from the short-term wishes of management and the long-term expectations of investors. On the

one hand, the management wants to deliver good results to the shareholders and ensure a long-

lasting relationship with them. On the other hand, the management has short-term goals to

achieve regarding its yearly performance to impress users of financial reporting. In general,

preparers consider the high expectations from investors, which could result in impression

management.

Finally, another ethical issue is the lack of non-financial reporting. Even though there

have been great improvements, companies often focus purely on financial results with social

and environmental considerations kept to a minimum. A company would be considered as being

ethical if it seeks to reach a balance between its objectives and obligations in the economic,

social and environmental aspects.

6.2. Solutions brought to the ethical issue

All the reasons presented beforehand show how it would be interesting to consider a

stricter and more rigorous review of non-GAAP information and corporate reporting in general.

38

The dilemma is either to leave freedom to management, so that it can report non-GAAP

information for relevant insight of a company’s performance or restrict the management’s

ability to employ such disclosures opportunistically. Until now, the International Standard on

Auditing, ISA 72034, only requires auditors to look at the information other than the financial

statements contained in annual reports. Auditors should check if the unaudited information is

materially consistent with the financial statements information. Verschoor (2014) recommends

auditors’ responsibility to go beyond the financial information identified in the financial

statements. The author claims that it would not be worth for companies to spend millions of

dollars to deliver well-prepared GAAP-based financial statements if more and more investors

rely on non-regulated information such as APMs. Verschoor suggests that auditors’ review

should also encompass other sections of annual reports such as the management report.

Furthermore, as underlined above, users of annual reports are partly responsible for the

proliferation of APMs. Investors and other stakeholders should not put too much pressure on

the management and instead accept that high performance will not always be achieved, but at

least they can expect to receive transparent reports on which they can rely. Users should express

more realistic expectations regarding corporate performance in order to discourage dishonest

corporate communications (Enderle, 2004). Besides, sophisticated or not, investors should be

asking relevant questions and be skeptical when gathering information: how trustworthy and

reliable are these reports? Who is responsible for their veracity? Even if the implementation of

legal requirements helps preventing organizations from committing misleading or fraudulent

acts in public information, ethical financial reporting should not be taken for granted.

Some authors argue that it is the management’s responsibility to develop ethical

standards in an organization (Jaijairam, 2017). It is important to engage upper-level managers

including Chief Executive Officers (CEOs), Chief Financial Officers (CFOs) as well as

controllers in the development of internal controls for corporate reporting in order to inhibit

fraudulent activities. Preventing weaknesses and deficiencies in the internal controls should

also be included in management’s responsibilities. Finally, CFOs should ensure an ethically

accountable culture within the firm and ensure continuous improvements towards internal

accounting controls and process excellence.

34 ISA 720 is part of the International Standards on Auditing (ISA) developed by the Intertional Auditing and Assurance Standards Board (IAASB). The ISA 720 aims to clarify and increase the auditor’s involvement with the “other information” paragraph contained in the audit report.

39

Other authors recommend more involvement from the audit committee members. Healy

and Papelu (2003) suggest that, since the scandal of Enron, the role of audit committees should

not be limited to the narrow duty of ensuring that firms follow correctly the GAAP or IFRS as

certified by the external auditors. The authors advocate audit committees to better focus on

ensuring that investors receive adequate and transparent information regarding the firm’s

economic reality. Healy and Papelu (2003) also recommend renaming the audit committee to

“transparency committee”. Its goals should be focused on making various stakeholders

understand the company’s performance, strategy, key success factors and risks.

As Haley and Papelu suggested, Black (2016) argues that the audit committee should

play a role in providing oversight in non-GAAP reporting. Even if the audit committee’s

primary role is to be responsible for the audited financial statements, non-GAAP reporting

should be monitored as well. In the same idea, the Center for Audit Quality (2016) recommends

the audit committee to put itself into investors’ shoes and evaluate if the non-GAAP information

is relevant and comprehensive for them. In addition, Black (2016) considers that ethical training

on the preparation and use of non-GAAP measures would be necessary on an ongoing basis in

order to increase ethical awareness among preparers.

Finally, while the management’s primary focus is on financial figures, environmental and

social aspects should also take an increasingly prominent place in corporate reporting. Instead

of adopting a “hierarchical concept” where the only purpose of the company is making profit,

social and environmental activities should be reflected in the company’s objectives and be

included in the annual report. Companies should enhance the “balanced concept of the firm”,

where managers do not only focus on disclosing financial results but also keep in mind social

and environmental goals (Enderle, 2004).

As a conclusion, corporate reporting requires ethics and cannot be used properly without a

high level of truthfulness and transparency. The implementation of ethical behaviors,

appropriate rules, corporate governance and the commitment of individuals in the reporting

process is needed for a better financial reporting in general.

40

Empirical analysis

Methodology

This research aims at determining to what extent Alternative Performance Measures may

be considered as sector-based. Our study consists in analyzing annual reports of FTSE 250

companies. To limit our analysis, we will examine three different sectors, namely the real estate,

banking and media sectors. The analysis will focus on 2016 annual reports as annual

reports of 2017 were not yet published for all companies when the study started. First,

all the non-GAAP Measures disclosed in the different annual reports are analyzed and each

sector is considered individually. Based on three different excel sheets, a list of all the most

frequently disclosed APMs is established for each industry in appendices 15 (a), (b) and (c).

For the examination of the results, APMs disclosed in the different industries will be

compared. The analysis will determine common APMs in the three sectors. We will then look

at similar APMs disclosed in two sectors to broaden the analysis. Finally, these common APMs

between three and then between two sectors will be studied. We will compare how, in each

industry, companies compute the common APMs and similarities or differences between their

calculations will be exposed. Several figures will be used to highlight the main findings of the

study.

In addition to this data analysis, a questionnaire sent to CFOs, auditors, audit committee

members, managers, investors, analysts, regulators and individuals having a knowledge in non-

GAAP measures will provide more insight and concrete opinions. The results of this

questionnaire will be described in the practical part of the thesis as well. With the results of the

study and the questionnaire, we will be able to answer the fundamental question “to what extent

could APMs be considered as sector-based?”, draw conclusions and make thoughtful and

reasonable recommendations.

41

Data and scope of the study

The data gathered to perform this thesis is extracted from annual reports of UK

listed companies. On the official London Stock Exchange website, one can obtain a

list of all FTSE 25035 companies. The FTSE 250 index provides a large amount of

publicly traded companies per sector. The index is partly composed of fourteen Real

Estate Investment Trusts, eight banks and eight media companies. The FTSE 250 Real

Estate Investment Trusts are composed of Assura, Big Yellow Group Plc, Derwent

London Plc, Great Portland Estate Plc, Hammerson, Londonmetric Property Plc, New

River Retail, Redefine International Plc, Safestore Holdings Plc, Intu Properties,

Shaftesbury Plc, Tritax Big Box REIT Plc, Unite Group and Work Space Group Plc.

The FTSE 250 banks are Aldermore, Barclays, BGEO Group, Close Br Group, CYBG,

Metro Bank, TBC Bank Group and Virgin Money. Finally, the FTSE 250 media

companies include Auto Trader, Ascential, Entertainment One, Euromoney, Money

Sup, Right Move, UBM and ZPG Plc. The last update of the data was made the 24th of

March 2018. Each annual report was retrieved on the company’s website.

It must be noted that this empirical analysis is based on the ESMA Guidelines’ scope which

is outside of the financial statements. The focus will be on APMs disclosed in either the

“Highlights”, “Chairman’s statement”, “Financial results”, “Key Performance Indicators”

sections or any other unaudited section of these UK-based companies’ annual reports. When

the term “annual report” is mentioned in this thesis, it will not consider the part related to the

financial statements. Regarding the analysis of the annual reports, non-GAAP measures are

considered only if they appear at least in a minimum of two annual reports of companies

belonging to the same sector. Appendices are provided to give concrete examples of the

identified APMs and their calculations.

20 participants including 8 external auditors, 5 individuals having a knowledge in non-

GAAP information, 3 CFOs, 2 representatives of management, 1 analyst and 1 member of an

audit committee have answered the questionnaire. Interviewees were coming from various

sectors, namely real estate, banking, chemicals, fast-moving consumer goods, technology,

private equity and asset management. More details will be given in section 2.4. below.

35 FTSE 250 Index is a capitalization-weighted index consisting of the 101st to the 350th largest companies listed on the London Stock Exchange. Refer to www.londonstockexchange.com.

42

Chapter 1: Analysis of Alternative Performance Measures disclosed in annual reports 1.1. Analysis of Alternative Performance Measures disclosed in the

annual reports of fourteen “FTSE 250 Real Estate Investment Trusts” (REITs)

The analysis consists in fourteen FTSE 250 Real Estate Investment Trusts (REITs) listed

in the UK. They are all publishing Alternative Performance Measures in their 2016 annual

reports. The list is in appendix 15 (a).

According to the London Stock Exchange website, a REIT owns and manages property on

behalf of shareholders. This is a vehicle that provides indirect real estate investments (Sotelo

and McGreal, 2013). It can have residential or commercial properties but cannot occupy the

building it owns. The investment properties held by a REIT are mainly shopping centers,

apartments and offices. The advantage for investors is that they can have high-diversified

portfolios and potential high-yield returns without having the obligation to buy the property

directly. The taxation of the income streams is transferred from the corporate level to the

investor level, leading to a tax efficient structure for the REIT. Investors are taxed at their

individual tax rate for the ordinary income portion of the dividend. It means there is no double

taxation on the income revenue and investors earn a larger portion of the REIT’s income after

taxation.

Fig. I: Analysis of Alternative Performance Measures disclosed in the annual reports of

fourteen FTSE 250 Real Estate Investment Trusts

43

As a reminder, APMs that do not appear in more than one annual report of the fourteen

REITs are not part of this analysis. Twenty-one APMs are identified for the real estate sector.

When looking at figure I, the most disclosed measure in the annual reports of the fourteen

REITs in 2016 is the dividend per share. In addition, thirteen out of fourteen REITs disclose

either the EPRA net asset value per share or the EPRA net asset value. The loan to value ratio

is displayed in ten annual reports which means 71% of the selected REITs. The EPRA EPS

measure is disclosed in nine REITs’ annual reports as well as the gearing ratio. More than half

of the selected REITs report the net debt ratio. Moreover, six REITs refer to the EPRA cost

ratio and the adjusted or underlying earnings per share while five disclose the net rental income.

Four out of fourteen REITs choose to publish the EPRA vacancy, total property return and the

total shareholder return while three disclose the like-for-like net rental income and EPRA net

initial yield. Finally, 14% of the companies disclose free cash flow or other measures such as

EPRA NNNAV, EPRA topped up net initial yield, net cash flow from operating activities,

EPRA earnings, underlying earnings and weighted average debt maturity.

The problematic of this thesis is to determine whether APMs are similar or differ from

one sector to another. When analyzing the APMs displayed within the real estate sector, one

can quickly enhance the number of “EPRA measures” that are disclosed in REITs’ annual

reports in figure I. In their reports, all FTSE 250 trusts refer at least to one EPRA measure.

In 2016, the European Public Real Estate Association (EPRA)36 issued the Best

Practices Recommendations (BPR) which are specific non-GAAP measures disclosed in Real

Estate Investment Trusts (REITs). All European real estate companies are encouraged to use

and adopt the BPR but they are not forced to. Recommendations are developed for real estate

companies whose core activities are to earn income through rent and capital appreciation on

investment property held for the long term. The EPRA measures are not considered as part of

the audited financial statements which means that auditors do not give an opinion on them.

These BPR aim at reinforcing IFRS standards and give more direction to REITS in their

publications of non-GAAP measures. These recommendations are contributing to the

transparency and ease the comparability between real estate companies.

36 Founded in 1999, the European Public Real Estate Association (EPRA) is a not-for-profit association based in Brussels that represents the interests of both listed real estate companies in Europe as well as investors (www.epra.com, 2018).

44

In addition, when analyzing REITs’ annual reports, many of them mentioned the

Investment Property Databank (IPD)37. IPD is a world leader in tracking performance for

owners, investors, managers, lenders and occupiers of real estate. It helps researchers, investors

and fund managers to assess the strengths and weaknesses of their future income by

implementing benchmark indices of property returns. We will not develop further this concept

as it falls beyond the scope of this thesis.

1.2. Analysis of Alternative Performance Measures disclosed in the annual reports of eight FTSE 250 banks

Fig. II: Analysis of APMs disclosed in the annual reports of eight FTSE 250 banks

After analyzing the eight annual reports of the FTSE 250 banks, listed in appendix 15

(b), the results are the following: as illustrated in figure II, thirteen APMs appearing in more

than one bank’s annual report are identified. All the selected banks disclose the net interest

margin and the common equity tier 1 ratio in their annual report of 2016. Seven out of eight

disclose the underlying return on equity or a derivative of this measure (tangible, opening or

average equity). Six out of eight display the cost to income ratio representing 75% of FTSE 250

banks. Loan to deposit ratio and cost of risk are disclosed five times, which means that 62,5%

of annual reports contained one of these measures or both. The risk weighted assets ratio,

leverage ratio, underlying EPS and underlying profit before tax are published in half of the

37 IPD is a subsidiary of MSCI, producing independent market indices and portfolio benchmarks to the property industry (www.ecb.europa.eu, 2018).

45

annual reports. Net interest income and total capital ratio are disclosed in three out of eight

banks while the liquidity coverage ratio is only reported by two banks.

Moreover, a couple of FTSE 250 banks bring out the Basel III requirements. The Capital

Requirements Directives (CRD)38 have introduced a supervisory framework in the European

Union which reflects Basel II and III rules on capital measurement and capital standards. The

CRD IV is a EU legislative package that contains prudential rules for banks, building societies

and investment firms (European Parliament and the Council of the EU, 2014). Basel III39, an

international regulatory accord, implements reforms designed to improve regulation and

supervision within the banking sector. This boosts the efforts to enhance good banking

regulatory framework. Basel III mainly requires three essential conditions for a bank: a

minimum capital, a specific leverage ratio and an equilibrium between loans and deposits. The

leverage ratio requirements will be explained in section 2.2.2.

1.3. Analysis of Alternative Performance Measures disclosed in the annual reports of eight FTSE 250 media companies

Fig. III: Analysis of APMs disclosed in the annual reports of eight FTSE 250 media

companies

38 Capital Requirements Directives (CDR) are made by the European Parliament and Council. Banks and firms from the financial industry have to comply with the CRD. 39 Basel III is a set of reform measures, developed by the Basel Committee, to strengthen the regulation, supervision and risk management of the banking sector. The Basel Committee is the primary global standard- setter for the prudential regulation of banks (https://www.bis.org/bcbs/basel3.htm, 2018).

46

As a result, twelve APMs have been identified in figure III. Out of the eight FTSE 250

media companies, each company discloses the adjusted diluted or basic EPS in its annual report

of 2016 (refer to appendix 15 (c)). Six media companies display the cash conversion ratio and

the underlying or adjusted operating profit, which represents 75% of FTSE 250 media

companies. Net debt and adjusted EBITDA appear in 62,5% of annual reports while the half

reports the leverage ratio. Average revenue per advertiser or per retailer, free cash flow,

dividend per share as well as adjusted cash generated from operations are APMs disclosed in 3

annual reports which represents 37,5% of disclosure. Finally, the adjusted profit before tax and

the total shareholder return are presented in two of the eight annual reports (25% of our sample).

To the best of our knowledge, there is no specific authority for the media sector that delivers

specific guidance on Alternative Performance Measures.

1.4. Analysis within each sector

As one can notice in appendices 15 (a), (b) and (c), the real estate sector is the one which

discloses the most APMs. As sample sizes are different (fourteen REITs, eight banks and eight

media companies), we could firstly assume that it is only a matter of proportion. Yet, the real

estate sector tends to disclose much more APMs than the two others, even when looking

proportionally at the sample sizes. It seems like REITs disclose much more specific measures.

As a reminder, in the analysis, we recognized non-GAAP measures only if they appeared in a

minimum of two annual reports of companies coming from the same sector. If we do not

consider this and count all APMs disclosed in only one company of the real estate sector, there

are more than one hundred APMs displayed in REITs’ annual reports, others than the ones

mentioned above. Each REIT seems to have its own additional APMs within the real estate

sector. Regarding the banking industry, more than 40 APMs are identified in only one of the

selected annual reports, which also demonstrates the existence of specific measures as in the

real estate sector. In the media sector, almost every APM disclosed in one report is disclosed in

at least one other report. By contrast to the two other industries, the eight media companies tend

to disclose the same performance measures within their sector.

47

1.5. Comparison of the three sectors’ Non-GAAP measures

Fig. IV: Analysis of common APMs disclosed in more than one sector

Comparing the APMs disclosed in the three sectors, we can conclude that two APMs,

namely the leverage (or gearing) ratio and the adjusted earnings per share, appear in the three

sectors as illustrated in figure IV. Leverage and gearing ratios are not similar APMs but have

quite similar purposes of disclosure. The gearing ratio is disclosed in the FTSE 250 REITs

while the leverage ratio is disclosed in the FTSE 250 banks and media companies.

Dividend per share, net debt, total shareholder return, free cash flow and adjusted profit

before tax are displayed in two of the three sectors. Some banks and media companies have

chosen to disclose the adjusted or underlying profit before tax. The net debt ratio, the dividend

per share, the shareholder return and free cash flow are four common APMs presented in annual

reports of several media companies and REITs. However, it must be noted that all these

commons APMs are not disclosed in the same proportion in the different sectors.

48

Chapter 2: Discussion 2.1. Comparison with the theory 2.1.1. Popular APMs retrieved from the literature compared to the empirical

analysis

Out of the forty-six APMs identified in the annual reports of our FTSE 250 sample, only

two APMs are commonly disclosed in the three sectors as stated before. As mentioned in the

theoretical part, there are a few non-GAAP measures that are frequently exposed in the

academic review. We are referring to the EBITDA or adjusted EBITDA, the underlying profit,

the net debt, the free cash flow, the adjusted EPS and gearing ratio. All of these non-GAAP

measures are all disclosed at least in one sector of the empirical analysis.

The adjusted EBITDA is disclosed in 63% of the FTSE 250 media companies of our

sample. The underlying or adjusted profit is displayed in the banking and media sectors with

respectively 50% and 25% of disclosure. The free cash flow appears in 38% of the media

companies and is disclosed by 14% of the REITs of the sample. The net debt appears in two

sectors as well, with an exposure of 63% in the media sector and 57% in the real estate sector

which represents five media companies and eight REITs. The adjusted EPS is one of the APMs

appearing in all three sectors with different proportions: eight out of eight media companies

under study, half of the banks and six REITs disclose it. The gearing ratio or leverage ratio is

displayed in the three sectors too. Four banks as well as four media companies disclose the

leverage ratio while nine REITs report the gearing ratio.

As a conclusion, all APMs introduced in the theoretical part are presented in the

empirical analysis. It gives an overview showing that certain APMs are more widely used than

others whatever the selected industry. On the contrary, it must be noted that there are very

specific APMs which are only disclosed in the real estate, media or banking sector. The EPRA

net asset value, the loan to value and the EPRA EPS are very clear-cut measures identified

nowhere else than in the real estate sector. As a reminder, the EPRA measures are non-GAAP

measures only related to the real estate industry. Net interest margin, common equity tier 1 or

underlying return on equity are particular measures presented in the banking sector and none of

them is reported in the two other sectors. The media sector analysis provides less specific APMs

49

except the cash conversion and revenue per advertiser or per retailer which are common APMs

in the media sector, never disclosed in the two other industries.

2.1.2. Industry specifics from the literature compared to the empirical analysis

As mentioned before, certain APMs are gaining in acceptance and start to be slightly

standardized by private bodies in specific sectors. It is the case in the REIT sector with the

Funds From Operations (FFO) presented in the theoretical part. As a reminder, FFO measures

the cash flow from a REIT’s operations. Surprisingly, none of the analyzed REITs discloses the

FFO measure. As stated earlier, analyzed annual reports of the real estate industry all put the

emphasis on EPRA measures which are very specific indicators of real estate companies. None

of the REITs mentions the NAREIT, the world representative voice for REITs and publicly

traded real estate companies, but all of them refer to the European Public Real Estate

Association (EPRA) and its Best Practice Recommendations (BPR). As none of the FTSE 250

media companies and banks disclose such measures, it is worth highlighting that EPRA

measures are completely specific to the real estate category.

Broadcast Cash Flow (BCF) is a performance indicator specifically disclosed in radio,

television and cable industry. This measure is defined as operating income before corporate

expenses, depreciation and amortization (including program broadcast rights amortization),

payments of broadcast obligations less network compensation revenue and network payments.

As the media sector is part of the study, the BCF could have appeared because it is a sector

closely related to the radio, television and cable industry. However, this APM is not reported

in any of the eight media entities under study.

In the banking sector, the FTSE 250 banks under study presented the Net Interest Margin

(NIM). It is an indicator of the profitability of the company, as the efficiency ratio defined by

Castillo et al. (2017) in the theoretical part. NIM is equal to the net interest income as a

percentage of average interest-earning assets as demonstrated in appendix 16. All the FTSE 250

banks disclose the NIM ratio. The NIM is particularly interesting in the banking sector as it

evaluates the riskiness and profitability of bank operations.

One could object that the literature reviews mentioned in the chapter 5 of the theoretical

part only apply to US companies while our analysis focuses on UK-based companies. It is clear

50

that conclusions cannot be drawn too quickly as continents are different. Nevertheless, it is

tempting to affirm that disclosures of APMs can be different across sectors and even more so

across continents.

2.2. Non-GAAP measures disclosed in the three sectors 2.2.1. Underlying or Adjusted Earnings Per Share

Fig. V: Proportion of the Underlying or Adjusted Earnings Per Share measure disclosed in the

three sectors

As we mentioned, although the adjusted or underlying Earnings Per Share (EPS) is

disclosed in the three sectors, the proportion of its disclosure varies from one sector to another.

The eight media companies under study disclose this APM, only half of the banks of our sample

report this measure and six REITs display it as well. The four banks disclosing it are Aldermore,

Close Br Group, CYBG and Virgin Money. The six REITs include Big Yellow, Hammerson,

Safestore Holding, Intu Properties, Tritax Big Box REIT and Workspace Group. As a reminder,

“adjusted” and “underlying” are used interchangeably in this thesis. After analyzing in detail

every adjusted basic or diluted EPS of the selected companies of the different sectors, we arrive

at the following conclusions.

In the banking sector, Close Br Group explains that adjusted measures such as adjusted

EPS are generally used to increase comparability between periods and exclude amortization of

51

intangible assets, goodwill impairment and other exceptional items. Aldermore and Clost Br

Group do not mention the calculation of adjusted EPS in their annual report. CYBG, another

bank, calculates the underlying EPS measure as the underlying profit attributable to ordinary

equity shareholders divided by the weighted average number of shares. The underlying profit

is equal to the statutory profit where expenses such as restructuring costs and impairment of

intangible assets have been added back. On its side, Virgin Money calculates underlying EPS

as the underlying Profit Before Tax (PBT) divided by the weighted average number of shares.

Using the profit before tax as the numerator makes the profit look bigger as PBT does not

consider taxes. The adjustments Virgin Money made on the PBT include IPO40 share-based

payment expenses. Whereas it was stated in the theory that share-based payments are very

common events in a company, many banks persist to exclude share-based payment expenses.

All banks justify themselves by claiming that a bank should not consider these costs as part of

the ongoing performance. Other exceptional items such as fair value losses on financial

instruments or costs related to a new investment should no longer be part of the underlying

results either according to them.

In the real estate sector, the six REITs such as Big Yellow consider adjusted EPS as the

adjusted profit before tax divided by the weighted average number of shares. As in the banking

sector, adjustments are realized on the numerator and similarly specified. A particularity of the

real estate sector is the calculation of two different EPS ratios: the adjusted EPS and the EPRA

EPS. As noted before, all the REITs of our sample follow the EPRA recommendations when

reporting EPRA measures in their annual reports. Selected REITs calculate the EPRA EPS

which comes from the EPRA earnings divided by the weighted average number of shares issued

during the period. The EPRA earnings calculation needed for the EPRA EPS calculation is

displayed in appendix 17. As a reminder, the European Public Real Estate Association (EPRA)

has established these requirements when publishing real estate performance measures.

In the media sector, the eight companies of our sample disclose adjusted EPS as well.

The numerator is defined as the profit for the year, excluding exceptional items and

amortization of intangible assets arising on acquisitions, adjusted for tax, resulting in an

adjusted profit for the year. The denominator of adjusted EPS is the weighted average number

of shares issued for the year.

40 An Initial Public Offering (IPO) is the first time that the stocks of a private company is offered to the public.

52

As a conclusion, EPS’ adjustments on the statutory earnings for the year are various.

Exclusions are made at the discretion of each company and even within a sector, companies

seem to have their own calculations of adjusted EPS due to the adjustments made on the

numerator. In all cases, it is interesting to note, as we explained in the theoretical part of our

thesis, that the adjusted measures are most of the time higher than the statutory measures. It is

the case for the adjusted EPS, either basic or diluted. Two examples are provided in appendices

18 (a) and (b). This measure is commonly used in the three sectors, with adjustments that can

differ from one company to another depending on its expenses. We can conclude here that the

adjusted EPS is a common Alternative Performance Measure with adjustments that can vary

according to the industry.

2.2.2. Gearing ratio and leverage ratio

Fig. VI: Proportion of the gearing or leverage ratio disclosed in the three sectors

The gearing ratio is disclosed in the REITs while the banks and media companies

disclose the leverage ratio. It is clear that gearing and leverage ratio cannot be considered as

equal but these measures have a close purpose as they roughly relate to the level of debts of a

company. As detailed in the theoretical part, the gearing ratio shows the proportion between the

level of debt and equity in a company. Debt ratios, such as debt-to-equity ratio, give an

estimation of a company’s leverage situation. Leverage refers to the amount of debt incurred in

order to finance investments and obtain a higher return. Leverage can be considered as the use

of debt. The more a company is leveraged, the riskier for an investor it is.

53

In the real estate sector, Derwent Londonc Plc, Great Portland Estates Plc, Hammerson,

Londonmetric Property Plc, New River Retail, Redefine International Plc, Safestore Holdings

Plc, Shaftesbury Plc and Tritax Big Box REIT Plc are the 9 REITs that chose to disclose the

gearing ratio. In the banking sector, Barclays, Close Br Group, CYBG and Virgin Money are

the four banks reporting the leverage ratio and Autotrader, Ascential, Entertainment and UBM,

four media companies, present the latter as well.

Most of the REITs express gearing as net debt as a percentage of equity shareholders’

funds. Net debt is calculated as the total borrowings less cash and short-term deposits and an

illustrative example of a gearing ratio is disclosed in appendix 19. We noticed that the gearing

ratio is always associated with Loan To Value (LTV) in REITs’ annual reports. Safestore

Holding Plc states in its annual report that gearing is measured with reference to its loan to

value ratio defined as gross debt as a proportion of the valuation properties. While the gearing

ratio is disclosed in 64% of the REITs, the LTV ratio appears in 71% of the REITs. The LTV

ratio is seriously examined by lenders because it shows how much risk a lender is willing to

take when lending money to a borrower. It is the most widely used indicator for measuring

financial leverage in a real estate company (Bian, Lin and Liu, 2018). The LTV ratio is equal

to the amount the borrower obtains from the lender divided by the amount of the value property

the borrower is willing to buy. Everyone can notice that the real estate sector is more keen to

disclose the LTV ratio because it relates to property acquisitions.

If the ratio is high, it means that the borrower, for example a REIT, requests almost the

total amount of the property valuation it wants to purchase because it does not have enough

equity to finance part of the acquisition, making the loan riskier. The higher the LTV, the higher

the risk of default is, leading to a possible impairment of the lender’s loan (Bian, Lin and Liu,

2018). In other words, the likelihood of the lender absorbing a loss increases as the borrower’s

funds decrease. The disclosure of LTV ratio aims at showing that if the LTV ratio of a company

is low and thus the gearing ratio is low, a company may qualify for lower interest rates. The

company already has sufficient resources to invest in the property and will not need to borrow

considerably in order to acquire it.

In the banking sector, leverage is defined as the APM reflecting a company’s level of

debt. The ratio is equal to Tier 1 capital as a percentage of the bank’s total exposure (see

appendices 20 (a) and (b)). The Tier 1 capital is the primary funding source of the bank. It is

54

described as a bank’s core capital including equity capital (common stock) and disclosed

reserves (also called retained earnings). The total exposure is mainly composed of the IFRS

assets (such as loans, derivatives and advances), off-balance sheets items and regulatory

adjustments. The off-balance sheet items are all the commitments the bank has pledged. The

more the bank has commitments, the lower the leverage ratio is.

In the banking sector, the leverage ratio is a regulatory standard defined by Basel III as

a measure for risk-based capital requirements. As stated earlier, Basel III has no enforcement

law and therefore a leverage ratio calculation was introduced by the Capital Requirements

Directive IV in 2014 under article 42941. Although this directive does not fall under the scope

of this thesis, it gives an overview of the banking regulation enforced in Europe. This ratio

indicates a bank’s capital adequacy or the amount of available capital it must have in

comparison to the loan it makes. The higher the ratio is, the better the hedge is against risk of

default. Lenders are often asking for guarantees and implement debt covenants to manage the

risk of default as stated in the theoretical part.

Media companies have a third approach on how to disclose their respective level of debt.

The term “leverage ratio” is used in the media and banking sectors but is not composed of the

same items. In the media sector, leverage is equal to net external debt as a multiple of adjusted

or underlying EBITDA. Examples retrieved from annual reports are exposed in the appendices

21 and 22. Media companies often target leverage ratios around 1.5 to 2.0 (UBM annual report,

p.54). The net external debt is equal to the gross debt (except the shareholder’s loan notes) less

cash and cash equivalent, roughly similar to the REIT’s net debt. The adjusted EBITDA is

computed as earnings before interest, taxes, depreciation, amortization, management incentive

plans, share-based payments, impairments and other “exceptional items” not detailed by media

companies.

At first sight, considering that banks and media companies disclose the same labeled

measure “leverage ratio”, one would have assumed that it is similarly calculated in the different

sectors. In the banking industry, the leverage ratio is equal to the Tier 1 capital as a percentage

of the total exposure while in the media industry, it corresponds to the net debt as a multiple of

adjusted EBITDA. As an afterthought, we can draw conclusions stating that this leverage ratio

is labeled the same way but has very different calculations. Besides, in REITs’ annual reports,

41 Article 429 of the commission delegated regulation 2015/62 of 2014.

55

the gearing ratio is always associated with the loan to value ratio, more specific for the real

estate sector. When looking at each sector individually, the calculation of the gearing ratio or

leverage ratio is quite similar across companies though.

One should bear in mind that there is no particular optimal capital structure for a company

and obviously entities from different sectors do not have the same needs nor requirements in

terms of debts; thus, it is normal that the measure of the level of debt is not similarly calculated.

On the other hand, it makes comparisons very difficult due to the different natures of a similarly

labeled APM. A comparison between leverage ratios of different companies will only be

effective if the comparison is made between entities from the same industry.

2.3. Non-GAAP measures disclosed in two sectors

When looking at two sectors at the same time, similarities of APMs are more frequent.

The dividend per share is an extremely popular measure in the REITs and is also disclosed in

the media industry in a more moderate proportion. The net debt ratio is disclosed in these two

sectors as well with a greater prominence in the media sector (63% against 57% in the real

estate sector). The total shareholder return is the third common measure identified in both

industries, with approximately 25% of disclosure in both. The free cash flow is the last similar

APM for the media and REIT sectors with a presence of respectively 37,50% and 14,29% of

our samples. The underlying profit before tax is commonly disclosed in the banking and media

sectors (50% and 25% respectively). It must be noted that there is no similar APM for the real

estate and banking industries.

2.3.1. Dividend Per Share

56

Fig. VII: Proportion of the Dividend Per Share measure disclosed in the real estate and the

media sectors

Dividend Per Share (DPS) is the most popular APM in the real estate sector, disclosed

by the entire population of FTSE 250 REITs under study. When a company makes a profit, it

has the choice between reinvesting it or paying out dividends to shareholders. DPS is the

dividend yield a shareholder would receive if the company opts for for the second option. DPS

and EPS both indicate the future prospects of the firm in terms of shareholder’s return. The EPS

ratio shows the portion of the net income that is available for distribution to a company’s

shareholders, giving an idea of the value they could receive. Whereas the DPS shows the portion

of net earnings that is paid out as dividends to shareholders, referring to the money that is

actually distributed to them. A company would have no interest in disclosing its dividend per

share if it has a high growth rate and prefers reinvesting the excess of income in the company.

It is not without significance that a great emphasis is put on the DPS measure in the

REIT sector. A REIT is one example of company type that must distribute almost all of its

earnings to shareholders. Indeed, a minimum of 90% of the REIT’s earnings are distributed to

shareholders through dividends each year (Rees and Kestel, 2013).

In the media companies, three have disclosed the dividend per share ratio. One of them,

Money Sup, points out that it aims to achieve a progressive dividend distribution. The media

company increases the ordinary dividend each year, in line with the growth of underlying

earnings per share. None of the three media companies really explains the DPS measure but

one can assume that the distribution of dividends is correlated with the shareholders’

expectations and the earnings made each year. If an entity has high earnings and is willing to

pay out dividends, it will disclose its DPS figure.

To conclude, considering that the main attraction of a REIT for many investors is its

high dividend yield, the REIT is always willing to boost its dividend per share and discloses it

in its annual report each year. The REIT’s dividend policy plays an essential role in the decision

of disclosing DPS or not. For some media companies, the interest of presenting the DPS is

similar to the one of the REITs. If a company decides to distribute dividends, it will present the

DPS to show its dividend policy to its current and potential shareholders.

57

2.3.2. Net Debt

Fig. VIII: Proportion of the net debt measure disclosed in two sectors

The net debt measure is disclosed in the real estate and media sector. 57% of the REITs

and 63% of the media companies under study disclose it. As stated in the theory, net debt ratio

consists of financial short and long-term debts such as mortgage loans and other borrowings

minus cash and cash equivalent and other financial instruments receivables. Our objective here

is to determine whether the basic definition is followed by REITs and media companies which

present it. In the real estate industry, Assura, Derwent London Plc, Hammerson, Londonmetric

Property Plc, Redefine International Plc, Intu Properties, Shaftesbury Plc and Unite Group

present net debt ratios in their annual reports of 2016. The media companies disclosing net debt

are composed of AutoTrader, Ascential, Entertainment One, UBM and ZPG Plc.

All the eight REITs have approximately the same method to calculate the indicator. Net

debt is roughly defined as borrowings less cash and cash equivalents. A table of the movement

of net debt from 2015 to 2016, illustrated in appendix 23, is often disclosed in several annual

reports. Net debt of 2015 is reduced of every cash inflow such as disposals, net cash inflow

from operations and is increased by acquisitions, equity dividends paid and capital expenditures

(considered as cash outflows for a company). Unite Group is the only REIT which decides to

disclose net debt differently in its “Other information” section, at the end of its annual report.

Shown in appendix 24, Unite Group reverses the calculation and assumes that net debt is equal

to cash and cash equivalents minus borrowings. The sense of this indicator stays the same

though. Unite Group decides to exclude one item called mark-to-market of interest rate swaps

58

liabilities and to add it back to the net debt ratio. This results in an adjusted net debt for Unite

Group. The company uses interest rate swaps to manage its exposure to interest rate

fluctuations. The item being excluded can be due to an adverse movement of interest rates that

the REIT does not want to include as it would impede the net debt ratio. This adjusted net debt

ratio looks better, presenting an improved ability to reimburse debts if they were coming to be

due simultaneously.

Media companies also use a quite similar definition for net debt. The indicator is equal

to loans due within and greater than one year less cash and cash equivalents. It could also be

calculated in the opposite way as in appendix 24, leading to a negative net debt displayed in

appendix 25. The indicator is equal to the sum of current and non-current borrowings and

derivatives associated with debt instruments, less cash and cash equivalents

As a conclusion, either the computation is equal to borrowings minus cash and cash

equivalents or the other way around, companies compute it the same way except when

adjustments are made such as mark-to-market of interest rate swaps. In conclusion, net debt is

considered as a more traditional APM, common to several sectors. As this analysis of net debt

is limited to two sectors, we can only assume that the net debt also appears in other sectors. As

seen in the theory, it is a widely-used APM.

2.3.3. Total Shareholder Return

Fig. IX: Proportion of the Total Shareholder Return measure disclosed in two sectors

59

Total Shareholder Return (TSR) is a measure disclosed to a lesser extent. As the non-

GAAP measure was not mentioned in the theoretical part, definitions retrieved from the

different selected companies will be analyzed and compared. The REITs disclosing TSR are

Great Portland Estate Plc, Londonmetric Property Plc, New River Retail and Work Space

Group Plc. The media companies include Entertainment One and ZPG.

Among media companies, annual reports do not provide any definition of the TSR.

Whereas in the real estate sector, Great Portland Estate Plc defines it as the sum of the net

movement of the share price on the London Stock Exchange over the period and the dividends

per share paid to shareholders for the period expressed as a percentage of the share price at the

beginning of the period. In other words, the TSR is the total amount returned from investing in

shares of companies. The two ways for an investor to earn a positive return are either a rise of

the share price or a dividend payout sufficient to compensate for any reduction of the share

price. Additionally, as the TSR is expressed as a percentage it makes comparability easier

between firms from similar sectors. Although it gives the return for the year, it does not give a

long term vision of a shareholder’s revenue. Shareholders hope that the company is going to

maintain its dividend distribution at the same level each year.

Companies from the real estate and media industries find it interesting to present this

measure because it shows the value potential investors would receive by putting money into

them. By disclosing TSR, companies are more keen on distributing dividends to shareholders.

In the real estate industry especially, we have demonstrated how important the percentage of

dividend yield is.

As none of the banks discloses this measure in their annual reports, we conclude that

the eight FTSE 250 banks under study are more willing to reinvest the profit for growth and

increase their share value than paying dividends to shareholders. An advantage of not

distributing dividends is that shareholders will see the share price rise. If the share price

increases, shareholders who do not receive a high level of dividends will be able to sell their

shares in the future for a higher price than the initial price paid. We cannot of course conclude

that every bank does not give high dividends to its shareholders; we base our study on eight

banks and therefore due to the restricted sample, we cannot generalize our results to all

European listed banks.

60

2.3.4. Free Cash Flow

Fig. X: Proportion of the Free Cash Flow disclosed in two sectors

Free Cash Flow (FCF) is disclosed by REITs in very little proportion as only two present

the measure while in the media industry, three companies report it. Big Yellow Group Plc and

Safestore Holding Plc are the two REITs which decided to disclose it. In the media industry,

Ascential, Entertainment One and UBM display it as well.

As defined in the theoretical part, FCF corresponds to the operating cash flow after

deducting capital expenditures (repairing a machinery, building a new warehouse, …). Through

another calculation in section 4.3 of the theoretical part, FCF is also equal to the net income

where the change in working capital and capital expenditures are deducted, and the interest

payments, amortization and depreciation are added back. This FCF gives an indication on how

a company generates cash after paying required expenses to run the business. When evaluating

the performance of a company, users of corporate reporting look at the FCF to estimate whether

investing in a company is worth it or not. Despite the fact that the share price of a company

might be low, when investors detect an increase of FCF, they assume that the share price will

raise in the near future. Indeed, high cash flow means that earnings should potentially be high

as well.

In the real estate industry, Big Yellow calculates it as cash generated from operations

less net financing costs including tax (refer to appendix 26), while FCF is defined by Safestore

Holdings Plc, another REIT, as operating cash flow before investing and financing activities

61

but after leasehold rent, tax and interest payments (see appendix 27). Safestore Holding Plc

does not take capital expenditures into account in its FCF. Obviously, the two REITs do not

calculate it the same way and none of them follows the same method of calculation defined in

the theory.

In the media companies, FCF is defined by UBM as a measure of cash available to repay

debt, pay dividends and invest in acquisitions. Entertainment One, another REIT, starts its

calculation by adjusted EBITDA from which it deducts production investment, working capital

and other expenses to arrive at an adjusted cash flow. Then, capital expenditures, tax and net

interest paid are deducted from the adjusted cash flow to obtain the free cash flow measure as

illustrated in appendix 28. Ascential is the only one calculating FCF as in the theory; FCF is

equal to the adjusted EBITDA minus changes in working capital, capital expenditures and tax

paid (appendix 29). The FCF calculation is similar to the theory as it considers tax paid but

excludes non-cash expenses. Moreover, Ascential does not consider the investing and financing

activities in its FCF calculation.

To conclude, the calculation is very different either in the real estate or in the media sector. One REIT subtracts leasehold payments but does not consider capital expenditures while the other REIT considers net financing cost in its FCF computation. In the media industry, companies start with the same basis: the underlying EBITDA from which they subtract the change in working capital to arrive at the operating cash flow. For the second part of the computation, they subtract at their discretion some line items. Some are taking into account interests, others are not. As a conclusion, calculations of FCF between industries are very different and calculations within industries are also distinct. The wide variation of FCF adjustments confirms that comparability of FCF across firms, even belonging to the same sector, is difficult.

2.3.5. Adjusted Profit Before Tax

62

Fig. XI: Proportion of the Adjusted Profit Before Tax disclosed in two sectors

Adjusted Profit Before Tax was disclosed by two media companies and four banks of

our sample. Aldermore, CYBG, Metro BK and Virgin Money are the four banks and

Entertainment One and Euromoney are the two media companies that report the measure in

their 2016 annual reports. The adjusted profit before tax is disclosed in the banking sector to a

greater extent.

In the banking industry, this measure is calculated by excluding different non-recurring

items from the statutory income. The possible one-off items include IPO share-based payments,

fair value losses on financial instruments and other costs presented in the appendix 30. As

reminder, all these items were qualified as very generic exclusions in the theoretical part as

well. In the media industry, the profit before tax is also subject to exclusions to reach an adjusted

profit before tax as exhibits in appendix 31. Regular exclusions such as share-based payments,

amortization of intangible assets and other one-off items not defined are enumerated in

appendix 32 (a). All these items were also enunciated in the theoretical part as very generic

exclusions.

The statutory profit before tax is subject to several exclusions in both industries. With

their adjustments, companies are able to more than double the amount of the profit before tax

(refer to appendices 31 and 32 (b) for examples). Goodwill impairment, fair value losses on

financial instruments, IPO share-based payments and amortization of acquired intangible assets

are the most common adjustments. The exclusion of amortization appears more in media

63

companies while exclusion of losses in fair value on financial instruments are more frequent

adjustments in banks. One could assume that a bank would use derivatives to hedge potential

risks and a media company would invest in intangible assets such as copyrights, showing why

the exclusions differ.

Indisputably, we may conclude that exclusions can vary from one sector to another. One

more time, the adjusted profit before tax is not comparable between companies from different

sectors. We qualify exclusions as sector-based because based on our analysis, we assume

companies from a similar sector are keener to exclude similar items.

2.4. Interpretation of the questionnaire results

The questionnaire, presented in appendix 33, is carried out to obtain concrete opinions

of different stakeholders of a company. The appendix 34 shows the different respondents’

positions. As previously mentioned, the twenty participants include eight auditors, five

individuals having a knowledge in non-GAAP information, three CFOs, two representatives of

management, one analyst and one member of an audit committee. Interviewees are coming

from various sectors namely real estate, banking, chemicals, fast-moving consumer goods,

technology, financial services, private equity, venture capital and asset management as

illustrated in appendix 35. Respondents work in either companies listed on Euronext, being part

of the BEL20, CAC40, AEX or FTSE index or in non-listed companies. For the participants

who have clarified, they are working with either IFRS, Lux GAAP, US GAAP or Belgian

GAAP. The main results of the questionnaire are the following:

When thirteen of the respondents (including the CFOs, auditors and managers) are asked

to what extent companies focus more on either GAAP or non-GAAP information outside of the

financial statements, five respondents consider both in the same proportion. Four others replied

that they look at 75% GAAP results and 25% APMs and three respondents answered the

opposite. One last respondent only examines non-GAAP figures. There is no uniformity

regarding the interest shown by companies in non-GAAP information. The results, interpreted

separately between the auditors and the preparers of corporate reporting (CFOs and managers),

are presented in appendix 36. Globally, auditors affirm that companies focus equally on GAAP

and non-GAAP measures while preparers reckon that they put the emphasis on GAAP results

when publishing information outside of the financial statements for their companies.

64

The eight respondents coming from the real estate sector are convinced that EPRA

measures, Dividend Per Share (DPS) and Loan To Value (LTV) are the most representative

APMs in the real estate sector. EPRA measures are key for the sector and LTV is regulated by

law for Belgian REITs as one respondent explains. Respondents from the real estate were asked

if they would rather disclose DPS than EPS in their annual reports. Appendix 37 illustrates the

answers. Three participants would rather disclose dividend per share than earnings per share

because dividend per share is a great way to signal performance to shareholders. One

respondent expresses that dividend per share and earnings per share are different ratios and both

of them need to be disclosed. They are both essential measures to stakeholders investing in

Belgian REITs. According to another interviewee, as REITs from Belgium must distribute 80%

of the profit for the year to shareholders, investors are more interested in DPS (one should

notice that the percentage is different from the 90% stated in section 2.3.1.). Another respondent

explains that EPS is meaningless in the real estate sector while one respondent would rather

disclose EPS than DPS. The last respondent has no opinion on the subject. Viewpoints seem to

be divided regarding DPS but we conclude that in general, EPRA measures, LTV as well as

DPS are very interesting measures in the real estate sector.

All the eight respondents from the real estate sector affirm that there is a huge

improvement in uniformity of reporting in their sector and that the most important performance

indicators for real estate companies are already included in the EPRA Best Practices

Recommendations (BPR). Participants find EPRA BPR already complete and they all agree

that further standardization of non-GAAP measures would not be needed. Moreover, half of

the respondents from this sector can conceive EPRA measures being regulated by the IASB

because the measures offer transparency and a fixed and reviewed calculation method. On the

contrary, the other half affirms that there are enough regulated measures and real estate

companies should have the choice whether to adopt EPRA BRP or not. In their opinions, the

best choice would be to let these measures be governed by the EPRA Institute and not the IASB.

In the banking sector, the only respondent works in a bank listed on Euronext and uses

IFRS as the applicable reporting framework. The participant determines return on equity, cost

to income ratio and common equity tier 1 ratio as the most representative APMs for a bank

performance. In the analysis of FTSE 250 banks’ annual reports, the three ratios are the most

disclosed as well. Unfortunately, with only one answer, we cannot generalize our results even

if it matches with what is mentioned previously. With this limited number of respondents, we

65

can suppose that the banking sector encompasses several specific APMs. We conclude that

nothing has come to our attention that the banking sector does not contain specific APMs.

An auditor, dealing with APMs and coming from the private equity and venture capital

sector answered the questionnaire. He brings out specific APMs in his industry, called EVCA

measures. EVCA refers to the European Private Equity and Venture Capital Association. The

association’s role is mainly to develop professional standards and to represent the industry’s

interests to regulators and standard-setters. The first guidelines for the private equity and

venture capital were issued in 2005 and are adopted by private equity firms in Europe to create

a standard presentation for the whole industry. Although this will not be examined in detail, it

shows how more and more sector-based authorities have decided to issue specific guidelines.

Another respondent is coming from an audit committee of a FTSE 250 company

specialized in the chemicals industry. He states that APMs disclosed in his sector are principally

free cash flow and dividend per share. The same question was asked to a CFO of a Belgian

company specialized in the IT sector. As a CFO, she mostly focuses her attention on EBITDA

or adjusted EBITDA, net debt, free cash flow and underlying profit. However, she was not able

to explain the choice of these APMs as they were not locally defined in Belgium but at the

parent company level. An auditor working in another IT company comes up with different

APMs such as revenue per employee, recovery rate and EBITDA. These three testimonies do

not enable us to conclude if the chemicals and IT industries have sector-based APMs. We would

assume that they do not at first sight.

A manager working in the asset management sector answered the questionnaire as well.

He works for one of the “Entreprises d’investissement agréées”42 of Belgium. He mostly

focuses on EBITDA and free cash flow. The manager clarifies that the “Banque Nationale de

Belgique” (BNB) requires a specific reporting for investment companies and therefore, the non-

GAAP disclosure is at the discretion of the BNB. The manager affirms that APMs disclosed in

this sector are different from APMs disclosed in other sectors, mentioning capital adequacy and

solvency non-GAAP measures. As previously, we can only conclude that nothing has come to

our attention that the asset management sector does not contain specific APMs.

42 These investment companies’ main business is holding and managing securities for investment purposes. Investment companies invest money on behalf of their clients who, in return, share in the profits and losses.

66

Regarding regulation, additional standardization of certain non-GAAP measures would

be difficult as these measures are specific to each sector. In auditors’ viewpoint, the most

significant challenge would be to develop standardized definitions of APMs, counteract the

management bias and the inconsistency that exists in applying these measures. Six out of eight

auditors agree that the ESMA Guidelines constitute a useful tool to counteract APMs disclosure

issues. Five of them additionally believe that the guidelines are not sufficient and

standardization should be required according to the sector while another auditor thinks that

more local rather than sector-based regulation is needed. Two out of eight respondents believe

that the ESMA Guidelines are sufficient. Results are shown in appendix 38.

As a bonus, eleven respondents, including individuals having a knowledge in non-

GAAP measures, managers, CFOs and the only one analyst, were interrogated about the

EBITDA measure. The question was whether they consider EBITDA as a GAAP or a non-

GAAP measure. Eight out of eleven consider EBITDA as a GAAP measure. It is a surprising

discovery as the ESMA Guidelines defines EBITDA as an APM. Only three respondents

answered correctly. Based on these results, we can assume that regulation is still not efficiently

applied or simply not sufficient enough among listed companies.

2.5. Limitations of the study As mentioned in the methodology of the thesis, the scope is limited to a sample of UK-

based companies. The study focuses on non-GAAP measures contained in unaudited sections

of annual reports. Conclusions are thus restricted to unaudited information contained in annual

reports and the research does not encompass all European listed companies. It must also be

noted that the list of FTSE 250 companies on which we based our study is continuously updated.

Indeed, since our analysis, two banks (Aldermore and Barclays) have disappeared from the list

of FTSE 250 banks and a fifteenth REIT (named Primary Health) has been added to the FTSE

250 REITs’ list. Moreover, as only three sectors are analyzed, further investigation on other

sectors would be relevant and necessary to draw general conclusions on the specificity of

APMs. Indeed, with a larger sample, some other common APMs could have been interpreted

in the empirical analysis. Regarding the questionnaire, as certain sectors were sometimes

covered by only one respondent, generalizing the respondent’s opinion would not be

appropriate. Finally, it would also be interesting to perform a set of analyses of companies listed

on stock markets other than the London Stock Exchange. With all these limits, we acknowledge

that the thesis is based on a restricted sample and draw prudential conclusions.

67

Chapter 3: Conclusion What’s next? Conclusion and future of APMs

All along this thesis, we discover what constitutes a non-GAAP measure, where, and

how it is disclosed. The literature review also brings to our attention the key role of several

stakeholders in the publication of APMs. The disclosure of non-GAAP measures is a

phenomenon that affects and will continue to affect shareholders, investors, analysts and other

users of corporate reporting. Non-GAAP information is mainly helpful to stakeholders because

it brings a new insight on a company’s performance. However, the performance calculated by

preparers of corporate reporting does not always truly reflect a company’s economic reality. As

these measures do not fall under the scope of GAAP or IFRS, they are less transparent,

sometimes leading preparers of non-GAAP information to make unethical or opportunistically

decisions. Indeed, management is used to whitewashing the performance of its company by

mainly excluding line items of the financial statements, making GAAP results adjusted and

tailor-made. For this reason, a majority of non-GAAP measures cannot be considered as reliable

nor transparent. However, as APMs are overly diffused around the globe, the idea of prohibiting

them would only bring discontent in the corporate reporting world.

After putting the emphasis on the non-GAAP measure itself, the focus was oriented on

APMs’ similarities and differences across industries. A first approach was to suppose that, as

companies belonging to the same sector have roughly the same capital structure and perform

identical activities, they present similar non-GAAP measures and calculate them identically.

Based on our analysis and considering the limitations stated before, conclusions are the

following:

The specificity of the different non-GAAP measures retrieved from annual reports in

each sector individually proves that Alternative Performance Measures are mostly sector-based.

It is equally necessary to point out that, when comparing the identified APMs from the annual

reports’ analysis, we discover similarities across sectors. Several non-GAAP measures

presented as widely used in the theoretical part are also identified in the empirical analysis in

more than one sector. Although the analysis is limited to three sectors, we conclude that several

APMs are not specific to one industry in particular and can be displayed by companies coming

from various sectors. The tendency would be to call them “traditional or universal APMs” as

68

companies’ managements frequently disclose them, whatever the companies’ industries.

However, let us remind ourselves that the current trend seems to focus on the creation of

specific APMs, more specialized and tailored than ever before.

Added to this, when looking at two sectors’ common APMs, they always come from the

media sector with either the banking or real estate sector. The media industry is the only

industry out of the three, in which companies mainly present traditional APMs, publishing only

a few specific APMs. In the opposite, REITs and banks under study display much more tailored

APMs in their annual reports that can sometimes be qualified as confusing and hard to compare

across industries. As a conclusion, media companies seem to disclose more traditional APMs

whereas APMs retrieved from REITs and banks seem to have a higher level of specificity and

complexity. Indeed, there are already sector-based measures slightly standardized in the real

estate sector and more global regulation in the banking sector. It is clear that certain industries

are more favorable to disclose specific and tailored APMs than others. One should bear in mind

that the main issue is not tailored APMs across sectors but rather within sectors.

Going deeper, we wondered if common APMs are identically calculated or only

similarly labeled across sectors. Based on the analysis of annual reports, we find out that some

common APMs surprisingly differ across industries due to the adjustments made. Their

calculations are rarely identical and several exclusions are very specific to each sector. Worse,

even calculations made by companies from the same industry are sometimes very unique,

making comparability impossible. We conclude that adjustments are neither well-specified

across sectors nor well-defined within sectors.

The results of the questionnaire confirmed what is mentioned previously. Respondents

coming from various sectors certify that there are specific APMs in their sector. Some of the

respondents are already following guidelines such as the EPRA Best Practices

Recommendations in the real estate sector or the EVCA standards43 in the private equity sector.

Respondents agree to say that comparison among companies, even within the same sector, can

be improved as well as consistency and reliability of non-GAAP measures.

43 As a reminder, the EPRA issued specific guidelines on non-GAAP measures for the real estate industry and the EVCA did the same for the private equity sector.

69

As the proliferation of non-GAAP measures seems to be exponential, some regulation

is clearly required. Except the ESMA Guidelines’ implementation, the subject of non-GAAP

seems to be a lot of talk for little action and regulation does not appear to be simple. Strict

standardization would only make disappear all the advantages of non-GAAP figures. The IASB

fortunately does not plan to regulate non-GAAP measures as these measures need flexibility to

better reflect a company’s performance. The idea of more auditors’ involvement seems to be

compromised as APMs are not going to be part of standardized measures of the financial

statements. Moreover, auditors attest that these measures are too tailor-made to be easily

audited and that there is too much inconsistency when applying these APMs. The framework

in which to review APMs would not be easily definable. We would suggest to abandon the idea

of increasing the audit involvement in the non-GAAP information disclosure as opinions are

divided. However, the check for consistency between non-GAAP information and information

inside the financial statements should remain the same.

A recommendation could be that different private bodies (such as EPRA in the real

estate sector) set up guidance for non-GAAP measures, giving more direction for companies

belonging to the same industry. As it would not be regulated under IFRS or GAAP, the

advantages of disclosing APMs would remain and comparability within sectors would improve.

APMs would be defined in each sector individually and it would increase their consistency in

a specific context unlike the ESMA Guidelines which are too general. The calculation of APMs

should be consistent for companies performing the same activities, allowing non-GAAP figures

to be comparable within a similar sector. In brief, regulation would be suitable to each sector.

The challenge would be to determine which APMs are specific in one sector in order to

define each of them and give them a proper calculation that every company of the sector would

be adopting. Another threat that regulators could encounter is the non-adoption of the guidance.

It is not just about making rules, applying them will also be another challenge to overcome by

sector-based regulators. However, if regulators issue relevant and well-explained guidance,

preparers of non-GAAP results will not be opposed to put them into use. A concrete example

is the real estate sector in which companies successfully apply the EPRA measures without

obligation. On the other hand, it is reasonable to note that certain sectors would not need this

kind of regulation. Industries disclosing mostly traditional non-GAAP measures would not need

a private body authority or specific guidelines to improve non-GAAP disclosure. It would be

too much time consuming for unnecessary regulation.

70

In the results of the questionnaire, respondents are unanimous regarding regulation.

Participants coming from sectors other than the real estate and the private equity sectors would

find additional standardization of non-GAAP measures beneficial, but not uniformly.

Respondents who recommend more regulation are suggesting sector-based requirements as

well. It confirms that sector-based authorities would have more effectiveness than

governmental bodies which issue overly broad or vague guidance.

The issue of non-recurring items should be overcome too. Another recommendation is

to invite complaining users of bad corporate reporting to push the IASB to clearly define better

guidance regarding the exclusion of non-recurring items. When analyzing annual reports, every

company is developing the habit of excluding items from its GAAP figures, without considering

the consequences of their numbers’ manipulation. In addition, with sector-based regulation,

exclusions would make more sense and would be better staked out. We conclude that regulation

according to the sector would redefine the basis of each specific APM’s definition and

calculation.

For corporate reporting to be reliable, a higher level of truthfulness and transparency is

needed. A third recommendation would be promoting ethics in corporate reporting. The

commitment of individuals in the reporting process and the implementation of ethical

behaviors, appropriate rules and corporate governance are absolute requirements for better

financial reporting in general. To avoid further accounting scandals, a more realistic view and

unbiased approach to calculate APMs is required. As previously suggested, the audit committee

can play an active role in the improvement of better corporate reporting as they influence

management’s non-GAAP disclosure.

As a conclusion, an Alternative Performance Measure is considered as sector-based to

a greater extent. Only a few non-GAAP measures are more traditional measures, disclosed in

more than one sector. The non-GAAP information would be more valuable if rules were defined

by sector-based regulators within industries. We acknowledge on the basis of our analysis that

some sectors have already implemented specific regulation. Other sectors are encouraged to

develop specific recommendations as well in order to ease the comparability and the

understanding of non-GAAP measures. We are convinced that it is not impossible to reverse

the current trend and make non-GAAP measures more beneficial for each sector in a near future.

Bibliography

- Adhikari, A., & Duru, A. (2006). Voluntary disclosure of free cash flow

information. Accounting Horizons, 20, 311-332. doi:10.2308/acch.2006.20.4.311

- Allee K. D., & DeAngelis, M. D. (2015). The Structure of voluntary disclosure

narratives: Evidence from tone dispersion. Journal of Accounting Research, 53,

241-274. doi:10.1111/1475-679X.12072

- Association of Chartered Certified Accountants. (2018). Ratio analysis. Retrieved

from http://www.accaglobal.com/hk/en/student/exam-support-

resources/fundamentals-exams-study-resources/f2/technical-articles/ratio-

analysis.html

- Bhattacharya, N., Black E.L., Christensen, T.E., & Mergenthaler, R. D. (2004).

Empirical evidence on recent trends in pro forma reporting. Accounting horizons,

18, 27-43. doi:10.2308/acch.2004.18.1.27

- Bhatti, M. I., Awan, H. M., & Razaq, Z. (2013). The key performance indicators

(KPIs) and their impact on overall organizational performance. Quality & Quantity,

48, 3127-3143. doi: 10.1007/s11135-013-9945-y

- Bian, X., Lin, Z., & Liu, Y. (2018). House price, loan-to-value ratio and credit risk.

Journal of Banking and Finance. doi: 10.1016/j.jbankfin.2018.04.006

- Black, E. L. (2016). The ethical reporting of non-GAAP performance measures.

Revista Contabilidade &Finanças, 27. doi: 10.1590/1808-057x201690090

- Black D. E., Christensen T. E., Ciesielski J. T., & Whipple B. C. (2017). Non-

GAAP reporting: Evidence from academia and current practice. Journal of

Business Finance & Accounting, 45, 259-294. doi: 10.1111/jbfa.12298

- Brouwer, A. J. (2013). ‘Profit, performance, perception’: A research into the use of

alternative performance measures in the European Union. (Unpublished doctoral

thesis), University of Amsterdam, Amsterdam, Netherlands. Retrieved from

http://hdl.handle.net/11245/1.393073

- Cambridge Dictionary (2018). Retrieved from https://dictionary.cambridge.org/fr/.

- Castillo, F. R., Eiger Z., Pinedo A., & Perry A. (2017). Non-GAAP explained: A

Morrison & Foerster report. International Financial Law Review. Retrieved from

http://www.iflr.com/Article/3762211/Non-GAAP-explained-a-MoFo-report.html

- Center for Audit Quality. (2016). Non-GAAP Financial Measures: Continuing

conversation. Retrieved from https://www.thecaq.org/non-gaap-financial-

measures-continuing-conversation

- Center for Audit Quality. (2018). Non-GAAP measures: A roadmap for audit

committees. Retrieved from https://www.thecaq.org/sites/default/files/caq_non-

gaap_measures_roadmap_audit_committees_2018-03.pdf

- Chartered Financial Analyst Institute. (2016, September). Investor uses,

expectations, and concerns on non-GAAP Financial Measures. Retrieved from

https://www.cfapubs.org/doi/pdf/10.2469/ccb.v2016.n11.1

- Chartered Financial Analyst Institute. (2018). CFA institute member survey report:

Alternative performance measures—the latest on investor use and desire for

standardization. Retrieved from https://www.cfainstitute.org/en/research/survey-

reports/alternative-performance-measures

- Chartered Financial Analyst Society United Kingdom. (2015). Non-IFRS earnings

and alternative performance measures: Ensuring a level playing field. Retrieved

from

https://secure.cfauk.org/assets/1345/Non_IFRS_Earnings_and_Alternative_Perfor

mance_Measures___FINAL_web.pdf

- Clatworthy, M., & Jones, M. J. (2003). Financial reporting of good news and bad

news: Evidence from accounting narratives. Accounting and Business Research,

33, 171-185. doi:10.1080/00014788.2003.9729645

- Committee of European Securities Regulators. (2005, October). Committee of

European securities regulators recommendation on alternative performance

measures. Retrieved from

https://www.esma.europa.eu/sites/default/files/library/2015/11/05_178b.pdf

- Congress and Senate of the United States. (2002). Sarbanes-Oxley Act of 2002.

Retrieved from

http://news.findlaw.com/cnn/docs/gwbush/sarbanesoxley072302.pdf

- Corporate Finance Institute. (n.d.). Comparing earnings before interest and tax and

earnings before interest, tax, depreciation and amortization. Retrieved from

https://corporatefinanceinstitute.com/resources/knowledge/finance/ebit-vs-ebitda/

- Damodaran, A. (2014). Musings on markets: Stock-based employee compensation:

Value and pricing effects. Retrieved from

http://aswathdamodaran.blogspot.be/2014/02/stock-based-employee-compensation-

value.html

- Deloitte. (2016, July). Alternative performance measures: IFRS in focus – A

practical guide.

- Deloitte. (2017, February, 16). Thinking allowed: Non-GAAP and alternative

performance measures. Retrieved from

https://www.iasplus.com/en/publications/global/thinking-allowed/2017/non-gaap-

alternative-performance-measures

- Deloitte Financial Reporting Survey. (2014, June). Underlying profit 2013.

Retrieved from

https://www2.deloitte.com/content/dam/Deloitte/nz/Documents/audit/Financial-

Reporting-Survey/nz_Financial_Reporting_Survey_Series_issue12.pdf

- Deloitte US. (2017). A roadmap to non-GAAP financial measures. Retrieved from

https://www2.deloitte.com/content/dam/Deloitte/us/Documents/audit/ASC/Roadma

ps/us-aers-roadmap-to-non-gaap-financial-measures.pdf

- Deloitte. (2018). Global preparers forum. Retrieved from

https://www.iasplus.com/en/resources/ifrsf/advisory/gpf

- Deloitte. (2018). IAS 1: Presentation of financial statements. Retrieved from

https://www.iasplus.com/en/standards/ias/ias1

- Enderle, G. (2004). The ethics of financial reporting, the global reporting initiative,

and the balanced concept of the firm. In G.G. Brenkert (Ed.), Corporate Integrity &

Accountability. (pp. 87-100) New York, NY: Sage Publications.

doi.org/10.4135/9781452225685.n8

- European Parliament and the Council of the European Union. (2013). Directive

2013/50/EU amending Directive 2004/109/EC of the European Parliament and of

he council on the harmonization of transparency requirements in relation to

information about issuers whose securities are admitted to trading on a regulated

market. Retrieved from https://publications.europa.eu/en/publication-detail/-

/publication/ddbaa742-46bc-11e3-ae03-01aa75ed71a1/language-en

- European Parliament and the Council of the European Union. (2014). Commission

Delegated Regulation 2015/62 amending Regulation 575/2013 of the European

parliament and of the council with regard to the leverage ratio text with EEA

relevance. Retrieved from https://eur-lex.europa.eu/legal-

content/EN/TXT/?uri=uriserv%3AOJ.L_.2015.011.01.0037.01.ENG

- European Parliament and the Council of the European Union (2014). Regulation on

market abuse and repealing directive 2003/6/EC of the European parliament and

of the council and commission directives 2003/124/EC, 2003/125/EC and

2004/72/EC. Retrieved from https://eur-lex.europa.eu/legal-

content/EN/TXT/?uri=celex%3A32014R0596

- European Public Real Estate Association. (2016, November). Best practices

recommendations guidelines Q&A. Retrieved from

http://www.epra.com/application/files/1215/0366/6105/EPRA_BPR_QA_2017.pdf

- European Securities and Markets Authority. (2015, October, 05). ESMA guidelines

on alternative performance measures. Retrieved from

https://www.esma.europa.eu/sites/default/files/library/2015/10/2015-esma-

1415en.pdf

- European Securities and Market Authority. (2017). Prospectus directive. Retrieved

from https://www.esma.europa.eu/regulation/corporate-disclosure/prospectus.

- European Securities and Market Authority. (2017, October, 30). Questions &

answers: ESMA guidelines on alternative performance measures (APMs).

Retrieved from https://www.esma.europa.eu/press-news/esma-news/esma-

publishes-new-qa-alternative-performance-measures-guidelines

- Extensible Business Reporting Language. (2018). An introduction to XBRL: The

basics of XBRL for business and accounting professionals. Retrieved from

https://www.xbrl.org/the-standard/what/an-introduction-to-xbrl/

- EY Center for Board Matters. (2016). The audit committee’s role in reporting on

alternative performance measures. Retrieved from

http://www.ey.com/Publication/vwLUAssets/EY-reporting-on-alternative-

performance-measures/$FILE/EY-reporting-on-alternative-performance-

measures.pdf

- Fields, T. D., Rangan, S., & Thiagarajan, S. R. (1998). An empirical evaluation of

the usefulness of non-GAAP accounting measures in the real estate investment trust

Industry. Review of Accounting Studies, 3, 103-130.

- Financial Accounting Standards Board. (2018). About the FASB. Retrieved from

http://www.fasb.org/jsp/FASB/Page/SectionPage&cid=1176154526495

- Financial Reporting Council. (2014). Guidance on the strategic report. Retrieved

from https://www.frc.org.uk/accountants/accounting-and-reporting-policy/clear-

and-concise-and-wider-corporate-reporting/narrative-reporting/guidance-on-the-

strategic-report

- Financial Reporting Council (2016, November). Corporate reporting thematic

review: Alternative performance measures. Retrieved from

https://www.frc.org.uk/getattachment/3ff9a115-0a59-4b41-a86c-

0ef3b8aefeb4/Improved-reporting-of-alternative-performance-meas.pdf

- Financial Reporting Council. (2017, November). Corporate reporting thematic

review: Alternative Performance Measures. Retrieved from

https://www.frc.org.uk/getattachment/ff987c01-416f-4635-8dba-

fdda5530f4b5/091117-APMs-CRR-thematic-review.pdf

- Gerry, Z. (2016, September/October). When do non-GAAP metrics become

fraudulent publicity? Fraud Magazine. Retrieved from http://www.fraud-

magazine.com/article.aspx?id=4294994026

- Harrison, J. L., & Morton, A. (2010). Adjusted earnings: An initial investigation of

EPS disclosure in annual reports. Euro-Mediterranean Economics and Finance

Review, 5, 62-74.

- Hassanein, A., & Hussainey, K. (2015). Is forward-looking financial disclosure

really informative? Evidence from UK narrative statements. International Review

of Financial Analysis, 41,52–61. doi:10.1016/j.irfa.2015.05.025

- Healy, P. M., & Papelu, K. G., (2003). The fall of Enron. Journal of Economics

Perspectives, 17 (2)3-26. Retrieved from

https://pubs.aeaweb.org/doi/pdfplus/10.1257/089533003765888403

- Hoogervorst, H. (2015, March 31). Mind the gap between non-GAAP and GAAP.

Paper presented at the Korean accounting review international symposium, Seoul,

Korea.

- Hoogervorst, H. (2016, May). Performance reporting and the pitfalls of non-GAAP

metrics. Paper presented at the European accounting association in Maastricht, the

Netherlands.

- International Accounting Standards Board. (2018a, February). Clarifying

requirements for management Performance measures. Retrieved from

https://www.ifrs.org/-/media/feature/meetings/2018/february/iasb/ap21a-primary-

financial-statements.pdf

- International Accounting Standards Board. (2018b, February). Management-

defined adjusted earnings per share measures. Retrieved from

https://www.ifrs.org/news-and-events/updates/iasb-updates/february-2018/#2

- International Organization of Securities Commissions. (2016). Statement of non-

GAAP financial measures: Final report. Retrieved from

https://www.iosco.org/library/pubdocs/pdf/IOSCOPD532.pdf

- Isidro, H., & Marques, A. (2013). The effects of compensation and board quality on

non-GAAP disclosures in Europe. The International Journal of Accounting, 48,

289-317. doi: 10.1016/j.intacc.2013.07.004

- Jaijairam, P. (2017, November). Ethics in accounting. Journal of Finance and

Accountancy. Retrieved from

https://www.researchgate.net/publication/321167489_Ethics_in_Accounting

- Kabureck, G.R. (2017). Accounting for non-GAAP earnings measures. Retrieved

from https://www.ifrs.org/news-and-events/2017/03/accounting-for-non-gaap-

earnings-measures/

- Koning M., Mertens G., & Roosenboom, P. (2010). The impact of media attention

on the use of alternative earnings. Abacus, 46, 258-288. doi : 10.1111/j.1467-

6281.2010. 00319.x

- Leveque H., & Gould M. (2014). How non-GAAP measures can impact your IPO?

Retrieved from https://www.pwc.com/us/en/services/deals/library/non-gaap.html

- National Association of Real Estate Investment Trusts. (2002). White paper on

funds from operations. Retrieved from

https://www.reit.com/sites/default/files/media/Portals/0/Files/Nareit/htdocs/policy/a

ccounting/2002_FFO_White_Paper.pdf

- National Association of Real Estate Investment Trusts (2017). Financial standards

white paper: Earnings before interest, taxes, depreciation and amortization for real

estate. Retrieved from

https://www.reit.com/sites/default/files/EBITDAre_Whitepaper.pdf

- Papa, V.T., Peters, S.J. & Schacht, K. (2016). Investor uses, expectations, and

concerns on non-GAAP financial measures. London, United Kingdom, CFA

Institute. Retrieved from

https://www.faegrebd.com/webfiles/5%20Investor%20Uses.pdf

- Pwc. (2007a). Guide to forward looking information: Don’t fear the future:

Communicating with confidence. Retrieved from

https://www.pwc.com/gx/en/audit-services/corporate-reporting/assets/pdfs/860-

global-forward-looking-guide.pdf

- Pwc. (2007b). Survey of 2800 European financial statements. Presentation of

incomes under IFRS: Flexibility and consistency explored. Retrieved from

https://www.pwc.com/gx/en/ifrs-reporting/pdf/europesurveynongaapmeasures.pdf

- Pwc. (2010). What does your reporting say about you? Retrieved from

www.corporatereporting.com

- Pwc. (2013). Investor view: Insight from the investment community: Net Debt

reconciliation. Retrieved from https://www.pwc.com/gx/en/audit-

services/corporate-reporting/publications/investor-view/pdf/pwc-investors-call-for-

improved-net-debt-reconciliation.pdf

- Pwc. (2014). Searching for buried treasure: A review of 2015 strategic reporting

practices in the FTSE 350. Retrieved from https://www.pwc.co.uk/services/audit-

assurance/a-review-of-corporate-reporting-in-the-ftse-350-for-2015.html

- Rees, P., & Selcuk-Kestel, A.S. (2013). Analysis of portfolio diversification

between REIT assets. Journal of Computational and Applied Mathematics, 259,

425-433. doi : 10.1016/j.cam.2013.08.030

- Rist, M., & Pizzica, A. J. (2015). Financial ratios for executives: How to assess

company strength, fix problems, and make better decisions. New York, NY.

Apress. doi: 10.1007/978-1-4842-0731-4

- Sherman, H.D., Young, S. D. (2001). Tread lightly through these accounting

minefields. Harvard Business Review, 79, 129-135.

- Siegel, M. (2014). For the investor: The use of non-GAAP metric. Retrieved from

http://www.fasb.org/jsp/FASB/Page/SectionPage&cid=1176164442130.

- Smetanka, R. (2012). GAAP or Non-GAAP? Financial Executive. Black and White

Photograph, 28, 13–14.

- Sotelo, R. & McGreal, S. (2013). Real estate investment trust in Europe: Evolution,

regulation and opportunities for growth. Berlin, Germany: Springer-Verlag. doi:

10.1007/978-3-642-36856-1

- Technical policy Board of the Institute of Chartered Accountants of Scotland.

(2016). What is performance? An ICAS discussion paper and call for research.

Retrieved from https://www.icas.com/technical-resources/what-is-performance-

icas-discussion-paper

- The International Financial Reporting Standards Foundation. (2017). IFRS

Taxonomy. Retrieved from http://www.ifrs.org/issued-standards/ifrs-taxonomy/

- United States Securities and Exchange Commission. (2018). Management’s

discussion and analysis of financial position and results of operations (MD&A).

Retrieved from https://www.sec.gov/corpfin/cf-manual/topic-9

- Veschoor C. C. (2014). Is non-GAAP reporting unethical? Strategic Finance, 96,

14-17. Retrieved from http://sfmagazine.com/wp-

content/uploads/sfarchive/2014/04/ETHICS-Is-Non-GAAP-Reporting-

Unethical.pdf

- Young, S. (2014). The drivers, consequences and policy implications of non-GAAP

earnings. Accounting and Business research,44, 444-465.

doi/10.1080/00014788.2014.900952

APPENDICES

Literature Review Page(s)

Chapter 1

Appendix 1: Examples of Non-GAAP paragraphs in annual reports 1-2

Appendix 2: Examples of annual reports’ content 3-4

Appendix 3: Illustrative example of the Underlying Profit 5

Chapter 2

Appendix 4: ESMA Guidelines – Reconciliation GAAP and Non-GAAP Measures 6

Appendix 5: ESMA Guidelines – Non-GAAP not derived from the financial statements 7

Appendix 6: ESMA Guidelines – Sanctions 8

Appendix 7-8: Opinions of investors regarding regulation 9

Chapter 3

Appendix 9: Extract from an audit committee assignment 10

Chapter 4

Appendix 10: Investor and analyst use of different NGMs 11

Appendix 11: EBITDA by industry

Appendix 12: Example of an Adjusted EBITDA calculation

12

12

Appendix 13: Free Cash Flow disclosure by industry 13

Appendix 14: Example of a Net Debt calculation 13-14

Empirical analysis

Chapter 1

Appendix 15: Excel sheets of the analyzed APMs 15-17

Chapter 2

Appendix 16: Example of a Net Interest Margin calculation in the banking sector 17-18

Appendix 17: EPRA Earnings calculation under the EPRA BPR

Appendix 18: Adjusted EPS and statutory EPS difference

Appendix 19: Example of a Gearing ratio calculation in the real estate sector

Appendix 20: Example of a Leverage ratio calculation in the banking sector

Appendix 21-22: Example of Leverage ratio in the media sector

18

19

19

20

21-22

Appendix 23: Example of Net Debt ratio in the real estate sector

Appendix 24-25: Example of Adjusted Net Debt in the real estate and media sectors

Appendix 26-29: Example of Free Cash Flow in the real estate and media sectors

Appendix 30-32: Example of Underlying Profit Before Tax in the banking and media sectors

Appendix 33: Questionnaire

Appendix 34-38: Results of the questionnaire

22

23

23-24

25-26

27-39

40-42

1

Appendices - Literature Review

Appendix 1 (a): Paragraph on non-GAAP measures, retrieved from the 2016 annual report

of Ashmore, a FTSE 250 bank, p.29.

Appendix 1 (b): Paragraph on non-GAAP measures, retrieved from the 2016 annual report

of Hammerson, a FTSE 250 Real Estate Investment Trust, p.22.

2

Appendix 1 (c): Paragraph on non-GAAP measures, retrieved from the 2016 annual report

of Ascential, a FTSE 250 media company, p.24.

3

Appendix 2 (a): Example of what composes an annual report, retrieved from the 2016

annual report of Virgin Money, a FTSE 250 bank, p.1.

4

Appendix 2 (b): Example of what composes an annual report, retrieved from the 2016

annual report of CYBG Plc, a FTSE 250 bank, p.1.

5

Appendix 3: Illustrative example of a GAAP result (net profit before taxation) becoming a

non-GAAP result (underlying profit), retrieved from “Underlying profit 2013” released by

Deloitte NZ (2014), p.11.

6

Appendix 4 (a): Example of a reconciliation between a GAAP and a non-GAAP measures

in accordance with the ESMA Guidelines, retrieved from the 2017 annual report of AB Inbev,

a BEL20 company, p.51.

Appendix 4 (b): Example of a reconciliation between a GAAP and a non-GAAP measures

in accordance with the ESMA Guidelines, retrieved from the 2016 annual report of Money Sup,

a FTSE 250 media company, p.22.

7

Appendix 5 (a): Example of a non-GAAP measure that is not derived from the financial

statements, retrieved from the 2016 annual report of Derwent London, a FTSE 250 Real Estate

Investment Trust, p.164.

Appendix 5 (b): Example of a non-GAAP measure that is not derived from the financial

statements, retrieved from the 2016 annual report of AutoTrader, a FTSE 250 media company,

p.27.

8

Appendix 6: E-mail received from the Financial Services and Markets Authority (FSMA)

on the 25th of April 2018 regarding the sanctions an issuer could support if he/she does not

comply with the ESMA Guidelines.

9

Appendix 7: Respondents’ different opinions regarding APMs’ regulation, retrieved from

“Alternative Performance Measures Investor Use and Desire for Standardization”, issued by

the Chartered Financial Analyst (CFA) Institute (2018), p.13.

Appendix 8: Respondents’ different views on who should develop standards for APMs,

retrieved from “Alternative Performance Measures Investor Use and Desire for

Standardization”, issued by the Chartered Financial Analyst (CFA) Institute (2018), p.20.

10

Appendix 9: Extract of an annual report referring to the audit committee assignments,

retrieved from the 2016 annual report of CYBG, a FTSE 250 bank, pp.92-93.

11

Appendix 10 (a): Investor use of different NGFMs, retrieved from “Investor uses,

expectations, and concerns on Non-GAAP Financial Measures”, issued by the CFA Institute

(2016), p.21.

Appendix 10 (b): Second part of the investor use of different NGFMs, retrieved from

“Investor uses, expectations, and concerns on Non-GAAP Financial Measures”, issued by the

CFA Institute (2016), p.21.

12

Appendix 11: Proportion of the EBITDA and similar measures in the financial statements

by industry, retrieved from a survey of 2.800 European financial statements issued by PwC

(2007b), p.8.

Appendix 12: Example of an Adjusted EBITDA calculation, retrieved from the 2016 annual

report of Ascential, a FTSE 250 company, p.87.

13

Appendix 13: Industry classification and trends in FCF disclosure by industry, retrieved

from “Voluntary Disclosure of Free Cash Flow Information” issued by Adhikari and Duru

(2006), p.320.

Appendix 14 (a): First possibility to calculate Net Debt, retrieved from the 2016 annual

report of Bpost, a BEL20 company, p.47.

14

Appendix 14 (b): Second possibility to calculate Net Debt, retrieved from the 2016 annual

report of GlaxoSmithKline Plc, a FTSE 100 and NYSE company, p.204.

15

Appendices - Empirical Analysis

Appendix 15 (a): List of the APMs contained in the 2016 annual reports of fourteen FTSE

250 REITs.

Investment property EPRA EPS net rental incomeNet rental income net rental income property revaluation deficitRent roll Dividend per share underlying/adjusted EPSQuarterly dividend per share Reported profit EPRA NAV/ EPRA NAV per shareloan to value EPRA NAV/ EPRA NAV per share Market value of investment properties Capital invested in past four years weighted average interest dividend per shareUnderlying profit Net debt like for like net rental income growthDividends paid gearing debt to assets ratioEPRA cost ratio loan to value net debtTotal Property Return weighted average maturity of debt like for like net rental incomeUnderlying profit per share Wault net asset value diluted, adjusted total accounting return Net assets underlying earningsNet debt LFL income growth EPRA cost ratioNet profit for the year EPRA topped up net initial yield net assetsGrowth in completed investment property portfolio ERV growth weighted average debt maturityEPRA EPS total property return weighted average cost of gross debtEPRA NAV/ EPRA NAV per share Total shareholder return portfolio valuation EPRA NNNAV total accounting return like-for-like portfolio valuation growthEPRA NIY EPRA like for like income growth Net asset value return EPRA topped up NIY EPRA vacancy EPRA EPSEPRA cost ratio (excluding/including direct vacancy costs) EPRA net asset EPRA NAV/ EPRA NAV per sharenet cash flow from operating activities dividend cover EPRA earnings EPRA vacancy rate EPRA cost ratio diluted NAV per share Net cash flow from operating activities cost of debt net property incomeFCF cost of borrowing dividends per share Like-for-like revenue debt maturity NAV returnadjusted profit before tax undrawn facilities like for like growth in rental incomeAdjusted diluted EPRA EPS EPRA adjusted profit reported diluted net asset value per share cash flow from operating activities (after net finance costs) EPRA adjusted earnings per share Net debtDividend per share loan to value loan to valueAdjusted earnings per share Low cost debt weighted average debt maturityClosing net rent gearing gearingunderlying/adjusted EPS like for like net operating income Dividend per shareNet bank debt like for like ERV EPRA NAV/ EPRA NAV per shareAdjusted net assets like for like valuation gain loan to valueStore EBITDA Gross rental income EPRA cost ratio

Movement in adjusted NAV dividend per shareOperating profit before changes in fair value of investment properties

Free cash flow assets under management underlying/adjusted EPSCash flow after investing activities EPRA earnings Total Expense RatioEPRA NAV/ EPRA NAV per share Total Shareholder Return Weighted average Lease Term (WAULT)EPRA NAV/ EPRA NAV per share EPRA NAV/ EPRA NAV per share EPRA EPSEPRA vacancy rate like for like property valuation gearingEPRA EPS Earnings available for distribution EPRA Triple net asset valuedividend per share portfolio market value EPRA net initial yield loan to value Weighted average cost of debt EPRA topped up NIYEPRA BPR loan to value EPRA vacancy rateTriple net asset value per share Underlying earnings Net initial yield (NIY) EPRA NAV/ EPRA NAV per share Dividend per share‘Topped-up’ net initial yield net debt NAV total return EPRA like-for-like net rental income gearing NAV per sharecost ratio EPRA earnings dividend pay out ratioProperty portfolio at fair value underlying earnings EPRA earningsNet rental income Wault adjusted EPRA earningsnet debt Weighted average cost of debt EPRA EPSNAV gearing EPRA NIY loan to valueNet interest cover Ratio dividend per share total accounting returnEPRA cost ratio (ex / including vacancy costs) Annualised gross rental income net debtTotal property return distributable earnings average debt maturitydividend per share EPRA cost ratio average cost of debt Porfolio valuation (like for like ) growth EPRA EPS net debt: EBITDA ratioTotal shareholder return like for like gross rental income profit before taxNAV growth Net asset value like-for-like rent rollWeighted average interest rate Triple net asset value Like-for-like rent per sq ftEPRA net assets per share growth Net initial yield Property valuationgearing Topped-up initial yield EPRA NAV/ EPRA NAV per shareloan to value Vacancy rate Total returnEPRA net assets per share Cost ratio (incl. direct vacancy costs) dividend per shareEPRA profit before tax Cost ratio (excl. direct vacancy costs trading profit after interest EPRA NAV/ EPRA NAV per share dividend per share Total shareholder returnEPRA earnings like for like revenue like for like propertiesEPRA EPS loan to value adjusted trading profit after interest EPRA costs EPRA NAV/ EPRA NAV per share underlying/adjusted EPSEPRA net assets Free cash flow estimated rental valueEPRA triple net asset cash taks adjusted EPS Net financing costsEPRA triple net asset per share Underlying EBITDAEPRA NIY Underlying EBITDA after leasehold rentEPRA topped up NIY Underlying profit before taxEPRA vacancy Cash tax earnings

Adjusted profit EPRA earnings dividend per share Underlying/adjusted EPSEPRA NAV/ EPRA NAV per share EPRA EPSTotal property return Underlying cost of sales gearing Underlying administrative expenses5 year dividend per share compound growth rate gearinglike for like net rental income growthTotal property returnnet debtgrowth in like for like NRIunderlying/adjusted EPSnet rental incomecost ratio

9. Safestore Holdings PLC

FTSE250REITs

6. Londonmetric property PLC

7. New River Retail

8. Redefine International PLC

10. Intu Properties

11. Shaftesbury PLC

12. Tritax Big Box REIT PLC

13. Unite Group

14. Workspace Group PLC

1. Assura

2. Big Yellow Group PLC

3. Derwent London PLC

4. Great portland

estate PLC

5. Hammerson

16

Appendix 15 (b): List of the APMs contained in the 2016 annual reports of eight FTSE 250

banks.

loanstocustomers Netinterestmargin totalcustomerloanbalances

customerdeposits annualgrowthinmortgages Costofrisk

underlyingreturnonequity Returnontangibleequity commonequitytier1ratio

commonequitytier1ratio costtoincomeratio leverageratio

Netloan CoreEquityTier1(CET1) totalcapitalratio

Netinterestmargin

Growthinunderlyingbasicearningsper

share underlyingtotalincome

Reportedprofitbeforetax mortgagebookgrowth returnontangibleequity

Underlyingcost/incomeratioUnderlyingprofitonordinaryactivities

beforetax underlyingprofitbeforetax

ReportedEPS Loantodepositratio netinterestmargin

Deposits Underlyinggrowthindeposits underlyingbasicearningspershare

Costofrisk Loantodepositratio(LDR) grossmortgagelending

loantodepositratio UnderlyingPBT(ProfitBeforeTax) depositbalances

liquidassets/deposit GrowthinthecoreSMElendingbook underlyingnetinterestincome

Riskweightedassets Growthinthemortgagebook underlyingtotalincome

commonequityTier1ratio UnderlyingCIRreduced positiveJAWS

shareholders'equity

Underlyingprofitonordinaryactivities

beforetax underlyingearningspershare

CorereturnonTangibleEquity netinterestincome costtoincomeratio

Costtoincomeratio underlyingreturnonequity mortgagesportfolioLTV

Riskweightedassets Underlyingreturnonassets strongcashISAperformance

leverageratio Underlyingbasicearningspershare Fundsundermanagement

returnonaverageequity Loantodepositratio operatingleverage

Costtoincomeratio Liquiditycoverageratio loan-to-deposit-ratio

Loanlossrate(bps) Netstablefundingratio liquitidycoverageratio

Netinterestmargin Totalcapitalratio AdditionalTier1(AT1)capital

Netloan Leverageratio Commonequitytier1ratio

tier1capitalratio customerdeposits tangiblenetassetvaluepershare

costtoincomeratio netaveragedeposits riskweightedratio

Returnonequity underlyinglossbeforetax

clientdeposits netcustomerloans

loanbookgrowth loantodeposit

ROAE costtoincomeratio

Retailloanbookgrowth underlyingprofitbeforetax

Netinterestmargin Netinterestmargin

operatingaverage Costofrisk

Returnonequity costofdeposits

netloantocustomer CommonEquityTier1Capital

netbankinginterestincome Riskweightedassets

operatingincomebeforecostofcreditrisk/

EBITDA Netprofit

loanstocustomers Netinterestmargin

costoffunds Costofrisk

loanyield nonperformingloancoverage

netoperatingincomebeforenonrecurring

items ReturnonAverageEquitylessNCI

Costofrisk returnonaverageasset

netbankinginterestincome Tier1capitalratio

netloanbook totalcapitalratio

Adjustedoperatingprofitfromcontinuing

operations costtoincomeratio

Adjustedbasicearningspersharefrom

continuingoperations returnonaverageequity

Returnonopeningequityfromcontinuing

operations nonperformingloanratio

profitattribuabletoshareholdersfrom

continuinganddiscontinuedoperations tier1capitalratio

adjustedoperatingprofit loanbookmarketshare

Loanbookgrowth netstablefundingratio

Returnonnetloanbook loantodepositplusIFIfunding

Returnonopeningequity netinterestincome

Leverageratio BaselItierIcapitalBaselIriskweighted

Funding%loanbook GrossloansCustomerdepositsTotalequity

CommonEquityTier1Capital ROAA

Returnonnetloanbook

adjustedBasicearningspershare

netinflows

groupreturnonopeningequity

dividendpershare

totalshareholderreturn

Adjustedoperatingexpenses

operatingincomebeforecostofcreditrisk/

EBITDA

riskweightedassetsgrew

leverageratio

baddebtratio

OperatingincomeinCommercialFinance

Netinterestmargin

Returnonopeningequity

operatingmargin

8.VirginMoney

FTSE250banks

5.CYBG

6.MetroBK

7.TBCBankGoup

1.Aldermore

2.Barclays

3.BGEOGROUP

4.CloseBrGroup

17

Appendix 15 (c): List of the APMs contained in the 2016 annual reports of eight FTSE 250

media companies.

Appendix 16 (a): Example of the Net Interest Income calculation, useful data for the

calculation of Net Interest Margin in appendix 16 (b), retrieved from the 2016 annual report of

Barclays, a FTSE 250 Bank, p.289.

underlyingoperatingprofit adjustedoperatingprofitnetdebt adjusteddiluted/basicEPSleverage dividendpersharecashconversion adjustedcashflowdividendpershare underlyingoperatingprofitadjustedEBITDA adjusteddiluted/basicEPSadjustedbasicEPS cashconversionoperatingcashflowfromcontinuingoperations cashgeneratedfromoperatingactivitiesaverageRevenueperretailer averagerevenueperadvertiseradjustedEBITDA cashreturnedtoshareholdersFCF underlyingoperatingcostsnetdebt adjustedoperatingprofitadjustedoperatingprofit adjusteddiluted/basicEPSleverage dividendpershareadjustedcashgeneratedfromoperations underlyingrevenuegrowthadjusteddiluted/basicEPS ROACEproformaEPS adjustedcashgeneratedfromoperationsadjustedEBITDAfromcontinuingoperating cashconversioncashconversion leverageadjustedEBITDA FCFadjusteddiluted/basicEPS netdebtnetdebt adjustedEBITDAadjustedprofitbeforetax adjusteddiluted/basicEPSROCE totalshareholderreturntotalshareholderreturn netcash/debtadjustedcashflow operatingcashflowfromcontinuingoperationscashconversion netdebtFCF netcashusedininvestingactivitiesleveragenetproducingfinancingadjustedoperatingprofitadjustedprofitbeforetaxadjusteddiluted/basicEPSnetcash/debtadjustedoperatingmargincashconversionunderlyingrevenuegrowthnetcash/debttoadjustedEBITDAsubscriptionshareoftotalrevenue

FTSE250mediacompanies

5.Moneysup

7.UBM

8.ZPGPLC

2.Ascential

3.EntertainmentOne

4.Euromoney

1.Autotrader

6.rightmove

18

Appendix 16 (b): Example of the Net Interest Margin calculation, retrieved from the 2016

annual report of Barclays, a FTSE 250 Bank, p.258.

Appendix 17: The Best Practices Recommendations for EPRA earnings by the European

Public Real Estate Association (EPRA), p.7.

19

Appendix 18 (a): Difference between Adjusted EPS and Statutory EPS, retrieved from the

2016 annual report of Close Brothers Group, a FTSE 250 bank, p.105.

Appendix 18 (b): Difference between Adjusted EPS and Statutory EPS, retrieved from the

2016 annual report of Right Move, a FTSE 250 media company, p.98.

Appendix 19: Example of a Gearing ratio calculation, retrieved from the 2016 annual report

of Safestore, a FTSE 250 REIT, p.77.

20

Appendix 20 (a): Example of a Leverage ratio calculation, retrieved from the 2016 annual

report of Virgin Money, a FTSE 250 bank, p.191.

Appendix 20 (b): Example of a Leverage ratio calculation, retrieved from the 2016 annual

report of CYBG, a FTSE 250 bank, p.176.

21

Appendix 21: Example of Leverage ratio retrieved from the 2016 annual report of

Autotrader, a FTSE 250 media company, p.25.

Appendix 22 (a): Adjusted EBITDA, useful data to calculate the leverage ratio of the

appendix 22 (b). Retrieved from the 2016 annual report of Ascential, p.26.

22

Appendix 22 (b): Example of a Leverage ratio calculation, retrieved from the 2016 annual

report of Ascential, a FTSE 250 media company, p.1.

Appendix 23: Example of a Net Debt ratio calculation retrieved from the 2016 annual

report of Hammerson, a FTSE 250 REIT, p.51.

23

Appendix 24: Example of an Adjusted Net Debt ratio calculation retrieved from the 2016

annual report of Unite Group, a FTSE 250 REIT, p.141.

Appendix 25: Example of an Adjusted Net Debt ratio calculation retrieved from the 2016

annual report of UBM, a FTSE 250 media company, p.144.

Appendix 26: Example of a Free Cash Flow calculation retrieved from the 2016 annual

report of Big Yellow Group PLC, a FTSE 250 REIT, p.31.

24


report of Safestore Holdings PLC, a FTSE 250 REIT, p.24.


report of Entertainment One, a FTSE 250 media company, p.36.


report of Ascential, a FTSE 250 media company, p.22.

25

Appendix 30: Example of an Underlying Profit before Tax calculation retrieved from the

2016 annual report of Virgin Money, a FTSE 250 bank, p.223.

Appendix 31: Example of an Underlying Profit before Tax calculation retrieved from the

2016 annual report of Entertainment One, a FTSE 250 media company, p.108.

26

Appendix 32 (a): Example of adjustments made on IFRS results retrieved from the 2016

annual report of Euro Money, a FTSE 250 media company, p.82.

Appendix 32 (b): Example of the Underlying Profit before Tax calculation retrieved from

the 2016 annual report of Euro Money, a FTSE 250 media company, p.140.

27

Appendix 33: Questionnaire realized on Google Form in April 2018.

28

29

30

31

32

33

34

35

36

37

38

39

40

Appendix 34: Proportion of the different respondents’ positions (n=20).

Appendix 35: Proportion of the different sectors’ belonging (n=20).

41

Appendix 36: Answers of CFOs, managers and auditors to the question “In your opinion,

to what extent does a company focus more on non-GAAP measures than on the corresponding

GAAP measures outside of the financial statements?” (n=13).

42

Appendix 37: Opinions of participants from the real estate sector to the question “Why

disclosing Dividend Per Share (DPS) instead of Earnings per Share (EPS)?” (n=8).

Detailed answers:

• DPS is a great way for a company to signal strong performance to its shareholders (37,5%). • When the company does not want to reinvest the profit and distributes dividends to shareholders (0%). • I would rather disclose EPS than DPS (12,5%). • I have no idea (12,5%). • As we (mostly) only have a pay out ratio of 80%, DPS and EPS are two different ratios. Both of them

need to be disclosed (12,5%). • As a BE-REIT we are obliged to pay dividend (80% of the result), investors are interested in DPS

(12,5%). • Because EPS is meaningless in the EPRA framework and dividend is linked to the recurring income

(12,5%).

Appendix 38: Auditors’ answers to the question: “Do you believe that issuing ESMA

Guidelines constitutes a useful tool to counteract the APMs disclosure issues?” (n=8).

Executive summary

Each year companies publish information about their financial results mainly to enhance

their reputation, attract new investors and show they perform well. In corporate reporting such

as annual reports, the management has the discretion to adjust IFRS or GAAP results in order

to better reflect the company’s performance for the year. These adjusted measures, called non-

GAAP measures or Alternative Performance Measures (APMs), may influence and bias the

view users of corporate reporting perceive on a company’s performance standing. As they are

not standardized, this results in an open invitation to tailor-made, less transparent measures and

sometimes unethical behaviors on behalf of preparers of non-GAAP information.

Considering the wide adoption of these measures among many listed companies, the

question is whether APMs are disclosed seamlessly across sectors or specifically disclosed

according to a company’s industry. The purpose of this thesis is to determine to what extent

companies are more inclined to report sector-based measures according to their performance’s

perception.

The findings of this thesis show that many APMs are disclosed based on the company’s

particular sector. These non-GAAP measures are very specific to better reflect the underlying

performance of a company, making comparability within sectors easier but across sectors next

to impossible. Results also show that several APMs are reported in various sectors, giving rise

to certain non-GAAP measures a more universal use. These APMs are disclosed by many

companies, whatever the sector they belong to, and can be characterized as traditional. Based

on our analysis, only a few traditional non-GAAP measures, similarly labeled, present an

identical calculation among companies coming from different sectors.

On the other hand, certain traditional APMs are similarly labeled across industries but

are not identically calculated. These so-called traditional APMs thus can join the category of

sector-specific APMs. Worse, certain companies belonging to the same industry express tailor-

made calculations of similarly labeled non-GAAP measures, making these measures unclear

and unreliable for users. As a conclusion, only a few APMs can be qualified as universal and

traditional non-GAAP measures, whatever the sector. The conclusion of our thesis that can be

drawn is that Alternative Performance Measures are mostly sector-specific. A possible

recommendation would be to set up more sector-based guidelines to improve APMs’

consistency and comparability within sectors.

Date post:	13-Jul-2020
Category:	Documents
Upload:	others
View:	1 times
Download:	0 times