Financial Accounting Blog

Wednesday, January 21, 2004 Clearly, financial accounting is relevant to both Wall Street analysts and business executives or managers. However, as the article suggests, sometimes differences arise between both factions concerning disclosure from analysts, or a potential lack of awareness of the long term effects of company actions from executives. This article suggests that despite any differences, both analysts and executives are looking to obtain, or supply, information that lies beyond the scope of traditional GAAP guidelines and seek to gather a more indepth and representative picture of the results of business operations.
Both analysts and executives are relying less on financial results that are reported according to Generally Accepted Accounting Principles (GAAP). Instead, they are turning to economic income or economic profit.

Why the switch? GAAP-reported results contain enough adjustments that sifting through them to find a company's true operating results becomes nearly impossible. It is also difficult to compare performance across firms. One example: Pension profits are included in GAAP-reported profits, even though they are usually not sustainable and are not related to operations, says Glenn Welling, an Irvine, Calif.-based managing director with Holt Value Associates, a financial consulting firm headquartered in Chicago. "There are a tremendous number of distortions in accounting data."

Measures of economic income or profit try to eliminate the distortions and indicate just how effectively firms are using their assets to generate returns above their cost of capital. "What's important is not just what you make, but what you spend to make it," notes Neal Cannon, senior vice president with Financial Relations Board Inc., a Chicago-based investor relations firm.