It’s no secret that proxy statements are rapidly evolving into full-blown marketing documents. The introduction of the CD&A began the trend back in 2006 (although it took a while for companies to move beyond black and white boilerplate language). The rise of shareholder activism has accelerated that trend. Companies are no longer content to make bare-bones disclosures using boring language and Times New Roman font. Many now want to tell their story through plain English, graphs, pie charts and, increasingly, more than a little hyperbole. The goal is to convince analysts, activist investors and shareholder advisory services that their executive compensation and corporate governance policies not only make sense but also are aligned with shareholder interests.
Hand-in-hand with that approach goes more creative use of financial information, ratios and other data. A modern CD&A might contain a variety of non-mandated financial information, and it is becoming common to see financial summary sections designed to highlight salient aspects of prior year performance. As a result, non-GAAP financial measures are starting to routinely creep into proxy statements.
Most companies long ago became sensitized to the need to reconcile and disclose whenever they use non-GAAP financial measures in 10-Ks and 10-Qs. After a bit of prodding from the SEC, everyone later became comfortable with reconciliations in earnings releases and other “non-filing” public disclosures. It’s now time to extend that awareness to proxy statement disclosures.
What is a non-GAAP financial measure?
Basically, it’s a numerical measure of financial performance, financial position or cash flows that:
- excludes amounts that are included in the most directly comparable GAAP measure of the company, or
- includes amounts that are excluded from the most directly comparable GAAP measure.
In essence, it’s a financial measure that depicts financial performance in a manner different from the GAAP financial statement presentation. It generally does not include non-financial statistical measures (such as unit sales, number of employees, ratios calculated using GAAP numbers).
What happens if you use a non-GAAP financial measure?
As is widely known, if a company uses a non-GAAP financial measure in an SEC filing (which includes proxy statements), Item 10 of Regulation S-K requires:
- Equally prominent presentation of the comparable GAAP measure,
- Reconciliation of the differences between the non-GAAP and GAAP numbers, and
- Disclosure as to why management believes the non-GAAP measure is useful to investors and, if material, the additional purposes for which management uses the non-GAAP number.
While this is common disclosure in many 10-Ks and 10-Qs, it is much less common in proxy statements.
What to do?
As your investor relations and marketing departments, and your specialized proxy statement consultants, push the envelope on creative proxy disclosures:
- Try to manage the process away from meaningless non-GAAP numbers that will lead to cumbersome, counterproductive reconciliations and disclosures,
- Consider whether your IR personnel would benefit from some training on this topic,
- Confirm that your disclosure controls and procedures function to preclude a proxy statement glitch, and
- When non-GAAP numbers are important to the story, be sure to fully comply with Item 10 of Regulation S-K.
As always, it’s important to be sure that any non-GAAP financial measure used in your proxy statement (and anywhere else) is not misleading.