Pro Forma Earnings

In November 2003, the Canadian Securities Administrators (CSA) released Staff Notice 52-306, Non-GAAP Earnings Measures providing guidance to issuers who disclose financial measures other than those prescribed by Generally Accepted Accounting Principles ("GAAP").

Staff recognizes that non-GAAP financial measures may be a useful means of providing investors with additional information to assist them in understanding critical components of an issuer's financial results. It is important, however, that such measures not be presented in a way that confuses or obscures the GAAP measures. Staff reminds issuers of their obligation to discuss in MD&A management's perspective on the results of operations.

Issuers should consider whether the separate presentation of non-GAAP financial measures provides added benefit to readers. Staff suggests that a comprehensive discussion in the MD&A of operations and the impact of specific events on operations may be preferable to presenting non-GAAP financial measures.

Staff expects issuers to define clearly any non-GAAP financial measure and to explain its relevance to ensure it does not mislead investors. Issuers presenting non-GAAP financial measures should present those measures on a consistent basis from period to period. Specifically, issuers should:

1. state explicitly that the non-GAAP financial measure does not have any standardized meaning prescribed by GAAP and is therefore unlikely to be comparable to similar measures presented by other issuers;>
2. present with equal or greater prominence than the non-GAAP financial measure the most directly comparable measure calculated in accordance with GAAP;
3. explain why the non-GAAP financial measure provides useful information to investors and how management uses the non-GAAP financial measure;
4. provide a clear quantitative reconciliation from the non-GAAP financial measure to the most directly comparable measure calculated in accordance with GAAP, referencing to the reconciliation when the non-GAAP financial measure first appears in the disclosure document;
5. explain any changes in the composition of the non-GAAP financial measure when compared to previously disclosed measures.

In staff's view, it is not appropriate to present non-GAAP financial measures in the GAAP financial statements.

In staff's view, non-GAAP financial measures should not reflect adjustments for items identified as non-recurring, infrequent or unusual, when a similar charge or gain is reasonably likely to occur within the next two years or occurred during the prior two years.

As directed by the Sarbanes-Oxley Act, the SEC adopted, in January 2003, new rules clarifying the conditions for use of non-GAAP financial measures. These new rules and amendments were made by the SEC to address public companies' disclosure or release of certain financial information that is derived on the basis of methodologies other than in accordance with generally accepted accounting principles ("GAAP"). The rules create a new disclosure regulation, Regulation G, which requires public companies that disclose or release these non-GAAP financial measures to include, in that disclosure or release, a presentation of the most comparable GAAP financial measure and a reconciliation of the disclosed non-GAAP financial measure to the most comparable GAAP financial measure.

Deloitte's Point of View

Audit committees should be particularly vigilant in reviewing news releases when the company uses other earnings metrics, often called "non-GAAP earnings measures" or "pro forma earnings", to help readers understand income and cash flows generated by the company’s ongoing operations. Pro forma earnings normally exclude those expenses that management deems non-recurring or, in their view, are not critical to the understanding of the company’s performance. Examples of expenses that management sometimes include in their presentation of pro forma earnings are:

• restructuring costs;
• depreciation;
• amortization; and
• losses on the sale of assets.

Pro forma earnings have been criticized for presenting only the "good stuff" and not the "bad stuff". To illustrate, the Economist magazine reported in its May 18, 2002 issue, that:

• "In the first three quarters of 2001 the 100 biggest NASDAQ firms reported pro-forma earnings of $20 billion."
• "For the same period, they reported losses under America’s Generally Accepted Accounting Principles (GAAP) of $82 billion."

An additional problem occurs when pro forma earnings are presented in a news release issued before the financial statements are released.

While pro forma earnings can be helpful to a reader's understanding of the company's business, there can be a danger inherent in pro forma information. Most pro forma measures are not uniformly defined or commonly applied. As a result , they may not actually add to the reader's comprehension and may, in fact, cause confusion. These risks can be moderated if the pro forma measures are clearly explained and reconciled to GAAP.