SEC Intervention and Industry Guidance: The Effect on Non-GAAP Financial Disclosures

Abstract

This paper examines how the U.S. Securities and Exchange Commission (SEC) intervention in 2003 regarding non-GAAP disclosures affects the reporting of Funds from Operations (FFO), an industry-guided non-GAAP measure commonly reported by Real Estate Investment Trusts (REIT). We find that, contrary to prior findings on pro forma earnings, SEC intervention does not deter the reporting of FFO. Nonetheless, we show that, subject to additional disclosure requirements and increased scrutiny by the SEC after 2003, companies are more likely to follow industry guidance in selecting FFO exclusions. While research in pro forma shows SEC regulations motivate firms to inappropriately exclude some items that are persistent, we find that all exclusions from FFO have become more transitory after SEC intervention. We also find that companies are less likely to manage the FFO measure to beat or meet analysts' forecasts and the market perceives FFO as being more value relevant following intervention by the SEC. Collectively, our findings suggest that, with sufficient industry guidance, the SEC can best achieve its objectives of improving the quality of non-GAAP reporting without reducing firms' willingness to provide value relevant non-GAAP information or increasing managers' likelihood to reclassify recurring expenses into the recommended exclusion items.

Keywords: Non-GAAP reporting, Regulation G, Sarbanes-Oxley, Industry Guidance, Funds from Operations, REIT

JEL Classification: M41, M43, M45, G29, G38, M48