Reliability And Non-GAAP Adjustment Explanations

Non-GAAP Financial Measures (NGFMs) have been in the academic spotlight for the last three decades, with a particular concern around the reliability of these measures. To address this reliability concern, regulators (including the Canadian Securities Administrators, CSA, and the U.S. Securities and Exchange Commission, SEC) have recently started requiring firms to provide a written explanation of their NGFM adjustments. However, to date, our understanding of how these explanations of NGFM adjustments influence investors is limited. This dissertation employs two methods to delve into the question of how explanations of NGFM adjustments influence investors' perceptions of reliability. First, I interview financial analysts, who reported that NGFMs are used to augment GAAP measures and stated their beliefs that NGFMs are important when evaluating the core operations of firms; however, they also spoke about a lack of consistency and transparency in NGFM adjustments which, in turn, serves to undermine their reliability. Second, I use an experiment to show that when firms provide an explanation for their NGFM adjustments, regardless of whether they are mandated by regulators or voluntarily provided, investors’ perception of their reliability increases. My findings also show that investors’ perception of the reliability of NGFM adjustments does not differ between positive versus negative adjustments. To conclude I find that explanations increase investors’ perceptions of the reliability of NGFM adjustments and financial information provided by public companies.

My findings contribute important depth and understanding about investors’ perceptions of the reliability of NGFM adjustments. These findings have implications for accounting and finance academics, professionals, and standard-setters alike.