GAAP vs Non-GAAP: What’s the Difference?

While the two systems have different principles, rules, and guidelines, IFRS and GAAP have been working towards merging the two systems. If a financial statement is not prepared using GAAP, investors should be cautious. Without GAAP, comparing financial statements of different companies would be extremely difficult, even within the same industry, making an apples-to-apples comparison hard.

Access and download collection of free Templates to help power your productivity and performance. Derived from the Latin phrase uberrimae fidei used within the insurance industry. While valuing assets, it should be assumed the business will continue to operate.

As GAAP issues or questions arise, these boards meet to discuss potential changes and additional standards. For instance, when the COVID-19 pandemic hit, the board members met to address how governments and businesses must report the financial effects of the pandemic. In addition, or as an alternative, are the International Financial Reporting Standards (IFRS) established by the International Accounting Standards Board (IASB). The IFRS rules govern accounting standards in the European Union, as well as in a number of countries in South America and Asia. Conceptually, GAAP is more rules-based while IFRS is more guided by principles.

These organizations are rooted in historic regulations governing financial reporting, which the federal government implemented following the 1929 stock market crash that triggered the Great Depression. Adopting a single set of worldwide standards simplifies accounting procedures for international countries and provides investors and auditors with a cohesive view of finances. IFRS provides general guidance for the preparation of financial statements, rather than rules for industry-specific reporting. GAAP (generally accepted accounting principles) is a collection of commonly followed accounting rules and standards for financial reporting.

In the fourth quarter of 2020, 77% of the companies in the Dow Jones Industrial Average (DJIA) reported non-GAAP earnings per share (EPS). Seventeen out of these 23 companies (74%) reported non-GAAP EPS that was higher than GAAP EPS. Forward-looking statements are important because valuations are largely based on anticipated cash flows.

GAAP vs. IFRS: An Overview

Is such reporting of non-GAAP numbers informative to investors, or is it used by companies to mislead them? Some studies show that investors and analysts find pro-forma earnings to be informative in determining a firm’s core profitability, particularly for loss firms. Boards of directors use pro-forma earnings to determine performance-based bonuses for CEOs, which, despite causing higher payment, could be beneficial to shareholders.

Revenue recognition principles within a company should remain constant over time as well, so historical financials can be analyzed and reviewed for seasonal trends or inconsistencies. The revenue recognition principle, a feature of accrual accounting, requires that revenues are recognized on the income statement in the period when realized and earned—not necessarily when cash is received. Generally accepted auditing standards (GAAS) are a set of systematic guidelines used by auditors when conducting audits of companies’ financial records. GAAS helps to ensure the accuracy, consistency, and verifiability of auditors’ actions and reports. The Auditing Standards Board (ASB) of the American Institute of Certified Public Accountants (AICPA) created GAAS.

The Core GAAP Principles

Accounting principles help hold a company’s financial reporting to clear and regulated standards. In the United States, these standards are known as the Generally Accepted levels of workforce planning Accounting Principles (GAAP or U.S. GAAP). Companies required to meet GAAP standards must do so in all financial reporting or risk facing significant consequences.

Internationally, the equivalent to GAAP in the U.S. is referred to as International Financial Reporting Standards (IFRS). Revenue recognition is a generally accepted accounting principle (GAAP) that identifies the specific conditions in which revenue is recognized and determines how to account for it. Revenue is typically recognized when a critical event has occurred, when a product or service has been delivered to a customer, and the dollar amount is easily measurable to the company.

Does an Auditor Have to Follow GAAS?

We support the view that whenever appropriate, managers must report pro-forma earnings while detailing and explaining the reason for each exclusion. Using that information, investors can form their own opinion about a company’s profitability by adding or subtracting items they feel are most appropriate. If an investor doesn’t believe in pro-forma earnings, he or she can disregard the non-GAAP earnings and consider only the GAAP earnings. GAAP, or Generally Accepted Accounting Principles, is a commonly recognized set of rules and procedures designed to govern corporate accounting and financial reporting in the United States (US).

GAAP is a set of procedures and guidelines used by companies to prepare their financial statements and other accounting disclosures. The standards are prepared by the Financial Accounting Standards Board (FASB), which is an independent non-profit organization. The purpose of GAAP standards is to help ensure that the financial information provided to investors and regulators is accurate, reliable, and consistent with one another. Auditors review a company’s financial records and accounting practices to ensure that they’re consistent and comply with GAAP.

Who Came Up With Generally Accepted Accounting Principles?

If not for GAAP, investors would be more reluctant to trust the information presented to them by companies because they would have less confidence in its integrity. Without that trust, we might see fewer transactions, potentially leading to higher transaction costs and a less robust economy. GAAP also helps investors analyze companies by making it easier to perform “apples to apples” comparisons between one company and another. The accountant strives to provide an accurate and impartial depiction of a company’s financial situation.

GAAP is focused on the accounting and financial reporting of U.S. companies. The Financial Accounting Standards Board (FASB), an independent nonprofit organization, is responsible for establishing these accounting and financial reporting standards. The international alternative to GAAP is the International Financial Reporting Standards (IFRS), set by the International Accounting Standards Board (IASB).

FASB is an independent, non-profit organisation that sets standard accounting rules and financial reporting for companies and non-profit organisations in the US. In addition, the FASB Advisory Council (FASAC) advises the FASB on all issues affecting GAAP rules. GAAP means Generally Accepted Accounting Principles, and is a set of widely followed accounting rules and standards for financial reporting. For that reason, CFA Institute has long supported, as well as actively engaged in, the development of global accounting standards. Our objective has always been to encourage the IASB in developing financial reporting standards that meet the needs of investors, investment professionals, and other users.

• Accountants must apply consistent standards throughout the financial reporting process.
• Auditors use GAAS when reviewing the financial records of companies (that most likely use GAAP) and producing audit reports.
• The Securities and Exchange Commission (SEC) requires that the financial statements of public companies be examined by external, independent auditors.
• Making such comparisons is difficult, time-consuming, complex, and risky, even for seasoned professionals.
• Auditors are tasked with determining whether the financial statements of public companies follow generally accepted accounting principles (GAAP).

Auditors are tasked with determining whether the financial statements of public companies follow generally accepted accounting principles (GAAP). GAAP is a set of accounting standards that public companies must follow when reporting their financial results. The standards that govern financial reporting and accounting vary from country to country. In the United States, financial reporting practices are set forth by the Financial Accounting Standards Board (FASB) and organized within the framework of the generally accepted accounting principles (GAAP). GAAP is the set of standards and regulations any publicly traded company in the U.S. is legally required to follow when preparing financial documents.

Governments and public companies abide by these accounting principles to ensure all documents present consistent, accurate, and clear reports. GAAP results in straightforward and understandable financial reports that investors and regulators can easily use to assess a business’s financial standing. Accountants and other financial professionals use GAAP rules and standards to organize and present the financial reporting periodically required by publicly traded companies within the U.S.

She earned a bachelor of science in finance and accounting from New York University. The FAF is responsible for appointing board members and ensuring that these boards operate fairly and transparently. Members of the public can attend FAF organization meetings in person or through live webcasts.

While it’s not necessary for you to know every in and out of GAAP unless you’re an accountant, you’re doing well to at least familiarize yourself with the basic principles. Gaining at least a conceptual understanding of the motivations behind GAAP will help you keep the financial reporting side of your business running smoothly. Financial statements must be prepared in a way that follows and meets GAAP standards. Although exact GAAP requirements may vary depending on the industry, it is necessary to adhere to the principles at all times. Instead, the Financial Accounting Standards Board (FASB) decides any changes in corporate financial reporting rules.

Unlike GAAP, non-GAAP figures do not include non-recurring or non-cash expenses. Also, because there are no standards under non-GAAP, companies may use different methods for financial reporting. As a result, it is difficult to compare financial results between companies in an industry and between industries.