EBITDAC – the unseen enemy?

I was thinking for some time of writing an article about the new plague of earnings measures adjusted for the impact of covid-19…

…but I was held back because in Canada I wasn’t able to find any, and still can’t. I may just not be that good at searching for things. Still, it seems there surely can’t be that many of them. Which hasn’t stopped a flurry of commentary on the issue. As MarketWatch put it:

  • The COVID-19 outbreak has brought out some creative accounting at companies, as executives attempt to gauge the impact of the pandemic on their businesses and how they would have performed if the crisis hadn’t all but shut the economy down.
  • Before companies began reporting first-quarter earnings, Twitter users joked that the outbreak would prompt new non-standard metrics that could be summarized as “earnings before COVID-19,” or EBITDAC, and they even created a series of coffee mugs that satirized the concept. Indeed, some companies chose to post earnings metrics that removed the pandemic’s impact.
  • “People will get creative telling their story and our message is to be cautious of the creativity,” said Sandy Peters, the head of global financial reporting policy at the CFA Institute in New York.

Many regulators and similar bodies preemptively spoke out against the practice, such as the UK’s Financial Reporting Council:

  • (Adjusted Performance Measures) which attempt to provide a measure of ‘normalized’ or ‘pro-forma’ results, excluding the estimated effect of the Covid-19 crisis, are likely to be highly subjective and, therefore, potentially unreliable. In addition to the subjectivity arising around which costs to exclude, in most cases Covid-19 is likely to have resulted in reductions in revenues. Any adjustment for lost revenues would be hypothetical and could not be reflected reliably in an APM. We do not expect companies to provide these measures; for example, by including them in a ‘third-column’ income statement presentation.

The MarketWatch article was helpful in pointing to one high-profile US example at least, Uber Technologies Inc. Their most recent quarterly filing includes the following:

  • We define Adjusted Net Revenue as revenue (i) less excess Driver incentives, (ii) less Driver referrals and (iii) the addition of our COVID-19 response initiative related to payments for financial assistance to Drivers personally impacted by COVID-19. We define Rides Adjusted Net Revenue as Rides revenue (i) less excess Driver incentives, (ii) less Driver referrals and (iii) the addition of our COVID- 19 response initiative related to payments for financial assistance to Drivers personally impacted by COVID-19. We believe that these measures are informative of our top line performance because they measures the total net financial activity reflected in the amount earned by us after taking into account all Driver and Restaurant earnings, Driver incentives, and Driver referrals in transactions where the Drivers are our customer. The impact of the COVID-19 response initiative related to payments for financial assistance personally impacted by COVID-19 is recorded as a reduction to revenue. To help our board, management and investors assess the impact of this COVID-19 response initiative on our results of operations, we are excluding the impact of this COVID-19 response initiative from ANR. Our board and management find the exclusion of the impact of the COVID-19 response initiative from Adjusted Net Revenue to be useful because it allows us and our investors to assess the impact of these response initiatives on our results of operations…

Still, this is only one relatively minor component of the 87-page filing, dealing with an identifiable outflow, and for the most part the company deals with the pandemic in narrative terms, for instance:

  • Gross Bookings grew to $15.8 billion, or 10%, on a constant currency basis, compared to the same period in 2019, with the first two months of the quarter showing continued strength, followed by the impacts of the COVID-19 pandemic in March as Rides Gross Bookings saw a 39% decline, on a constant currency basis, compared to the same period in 2019.

The MarketWatch article mentions a few other examples of varying degrees of egregiousness, and also notes another, perhaps bigger, potential challenge:

  • Aside from monitoring new adjusted metrics, investors should also look at whether companies are piling too many negative charges into the pandemic-affected quarters in order to make their reported results look even better once the crisis is over, said Gilles Hilary, an accounting professor at Georgetown’s McDonough School of Business.
  • “Firms will insist some of the costs will be non-recurring, and to some extent that’s true, but they’re probably going to dump all kinds of costs in this period that would have otherwise affected the firm in the future,” he told MarketWatch….
  • He recommends that investors look over the non-financial fundamentals that companies provide in order to better gauge whether businesses are massaging their accounting.

Perhaps there are some companies out there for whom the pandemic’s impact is entirely short-lived, incremental and measurable, and who can meaningfully present an adjusted earnings number treating it as such. But plainly such companies will be an extreme exception, and for most others covid-19 will evade certainty in accounting just as it does in most other areas of life. Fortunately, it looks like they aren’t currently trying to persuade us otherwise…

The opinions expressed are solely those of the author

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