Non-GAAP Reporting and Investment

Abstract

The wide-spread reporting of non-GAAP earnings suggests efficiency gains from doing so. By estimating a dynamic investment model, we examine the real implications of investors using both GAAP and non-GAAP earnings to value firms. When investors use the firm’s GAAP earnings only, the firm’s manager—who cares about current stock prices—underinvests, and his investment is sensitive to transitory earnings. Non-GAAP earnings can improve investment efficiency by adjusting for these transitory earnings, but can also hide inefficient investment by introducing opportunistic bias. Although non-GAAP earnings induce overinvestment, they dominate GAAP-only reporting. Counterfactual analysis reveals supplementing GAAP earnings with biased non-GAAP earnings increases firm value by 3.4 percent relative to GAAP-only reporting. Precluding bias reduces overinvestment and further increases firm value by 1 percent. Data Availability: Data are available from the sources cited in the text. JEL Classifications: E22; G31; G34; M40.

Bridging Theory and Empirical Research in Accounting

“…A number of dissertations do structural estimation, for example,Zakolyukina [2018],Zhou [2021],Choi [2021],McClure [2023],Li [2023],Liang [2020],Kim [2020],Huber [2021], andYang [2024]. The nonexhaustive list also includesGerakos and Kovrijnykh [2013],Beyer, Guttman, and Marinovic [2019],Breuer and Windisch [2019],Gayle, Li, and Miller [2022],Bertomeu et al [2021], andMcClure andZakolyukina [2024].17 Toni Whited and Luke Taylor and the Accounting and Economics Society organize popular summer schools on structural estimation.…”