Non-GAAP Earnings Boost Executive Pay At The Expense Of Shareholders

This problem looms large at many public companies, where the Board is either too closely tied with management or simply too apathetic to closely monitor executive compensation. Shareholders could vote down executive compensation plans, but investors rarely pay enough attention to this issue to do anything about it.

The Need For New Metrics

In addition to the issue of comparability and reliability, most current metrics used to calculate bonuses pay no attention to the balance sheet. Even companies that use free cash flow almost always exclude acquisitions, which means executives can buy up competitors at overvalued prices to boost earnings even as they destroy real shareholder value.

All these non-GAAP metrics just make life more confusing for investors, and as we’ve talked about before, GAAP EPS is not much better. Investors need comparable, reliable metrics that hold executives accountable for their use of capital as well as their bottom line profits.

That’s why we go through tens of thousands of filings each year to strip away accounting distortions and produce comparable measures of return on invested capital (ROIC), free cash flow, and economic earnings. These are unbiased metrics that give an accurate picture of executives’ ability to create value for shareholders.

Investors need to start demanding that companies use more accurate measures for executive compensation. Otherwise, incentives will remain in place for executives to spend more time on earnings manipulation and less time on actually making the real business improvements that will benefit shareholders.

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