What is GAAP? | GAAP Vs Non GAAP EXPLAINED - YouTube

Accounting is the language of business. Like  any language there's a lot of nuance and jargon  

that needs to be fully understood  if you hope to speak the language  

fluently one of the terms that confused  me the most early on was the concept of  

GAAP and Non-GAAP. What do those terms  mean and why are they important? We'll  

tell you in this video. My name is Brian  Feroldi and my name is Brian Stoffel  

thanks to Quartr for sponsoring today's video  okay brian let's get out with it what the heck  

does GAAP mean GAAP is like an acrostic  poem that's an acronym it stands for  

generally accepted accounting principles now what  does that mean? these are commonly recognized  

set of rules and procedures that are designed  to govern corporate accounting and financial  

reporting in the united states now in the u.s GAAP  accounting practices were developed jointly by the  

FSB and the GASB that stands for the financial  accounting standards board and the government  

accounting standards board that means that GAAP  accounting rules are applied to governments and  

non-profits as well as profitable corporations. So  what does non-gaap mean? non-gaap just means using  

accounting practices that do not comply with GAAP  standards. so why would a company want to use  

non-GAAP metrics? Well it doesn't make sense  to have one size fits all rules GAAP accounting  

rules are black and white and to try and  apply them across the board misses some  

important nuances by allowing companies to offer  up their own Non-GAAP metrics investors can get a  

much more detailed view of the complex nature of a  business now there are several instances in which  

GAAP and Non-GAAP accounting cannot comply with  each other one of the biggest reasons why we see  

this happen in today's environment is due to stock  based compensation stock-based compensation is  

simply when a company uses its own stock in order  to pay its employees & its management. now there's  

a huge debate within the investment community  as to whether or not stock-based compensation  

should count as an expense according to GAAP rules  it should be counted as an expense which will  

obviously then pull down the net income for that  company however when looking at a non-GAAP basis  

companies often exclude stock based compensation  as an expense on their income statement  

that obviously biases up their income statement  to make it look better than it is another example  

would be depreciation and amortization these are  non-cash charges in nature however on a GAAP basis  

they count as expenses in most cases if a  company offers non-GAAP measures they will  

back out depreciation and amortization because  there's no cash going in or out of the company  

based on this at the time another relatively new  category is unrealized gains and losses under GAAP  

accounting those gains and losses are accounted  for on the income statement but oftentimes  

they're non-operating in nature that's why they're  often excluded when looking on a non-GAAP basis  

and finally we've got to think about if a company  decides to pay off its debt early obviously that's  

a really good thing for the company however on  a GAAP basis all the money that left its coffers  

because of that count against the net income on  a non-GAAP basis it's treated as a more positive  

event and they don't count all the losses from  that payoff now there are a lot of common metrics  

that investors use when describing a business  that often comply with non-GAAP accounting a  

very common one is called EBIT EBIT simply stands  for earnings before interest and taxes essentially  

EBIT is a look at a company's operating income  while excluding expenses such as interest and  

taxes a close cousin of EBIT is EBITDA which is  earnings before interest taxes depreciation and  

amortization it means you're subtracting out the  same things that you did in EBIT however you're  

also pulling out depreciation and amortization  from your operating expenses how about another  

non-GAAP term that we both love and use all the  time in this channel free cash flow that is a  

non-GAAP metric but we think it's a wonderful way  to look at how profitable a company actually is  

or if you invest in software as a service or SaaS  stocks you've obviously become familiar with the  

dollar based net retention or dollar based net  expansion rates this measures how much money a  

cohort of customers spend from one year to the  next while factoring out new customers that's  

obviously important because it lets you know  whether or not the product is resonating with  

its customers finally let's talk about the big  one non-GAAP earnings per share this is a very  

common metric that a lot of companies report  to show how profitable they were during a given  

period now given all those charges that we talked  about that are differences between gap accounting  

and non-GAAP accounting there can often be  a wide difference between a company's GAAP  

earnings per share and its non-GAAP earnings per  share often times under GAAP accounting a whole  

bunch of expenses are included while on non-GAAP  accounting those expenses are often excluded that  

can lead to wide differences in the company's  net income and hence its earnings per share all  

right let's show an example that really hammers  home the differences between GAAP and non-GAAP  

accounting by looking at it easy to understand  business Walmart before we do that we wanted to  

give a shout out to this video sponsor quarter  quarter's mission is to make every interaction  

between companies and their investors meaningful  Quartr does so by providing frictionless access  

to conference calls investor presentations  transcripts and earnings reports from markets  

all around the world straight to your pocket for  no cost i've personally been using Quartr for over  

a year now because it makes it so easy to listen  and track my favorite investors conference calls  

and i love that you can fast forward skip and  even rewind the call if you're interested in  

giving Quartr a try for free simply visit the app  store of your choice and search for quarter that's  

q-u-a-r-t-r thanks Quartr for sponsoring  this video okay brian let's take a look at  

Walmart third quarter earnings of 2021 in which  it recorded earnings per share of a dollar eleven  

that's on a GAAP basis right and Walmart did a  great job of making it easy to see how a dollar  

eleven doesn't really tell the whole story here's  why first the company showed that it recognized an  

unrealized gain in some of its equity investments  in other words Walmart held shares of some other  

companies and those shares went up between the end  of the previous quarter and the end of the current  

quarter they said that doesn't make sense to add  on to our earnings per share because it doesn't  

reflect our core business so we will subtract out  that gain on the flip side Walmart also paid off  

some of its debt during the period that resulted  in an $0.86 hit to GAAP earnings per share during  

the period or $0.67 after accounting for taxes  this was a GAAP charge but management doesn't  

believe that it should be penalized for that  because of that it's adding back that $0.67 cents  

when looking at its non-GAAP earnings so let's  review what this means the company reported gap  

earnings per share of $1.11 however it subtracted  out unrealized gains that it recognized from some  

of its investments bringing it down to $0.78 per  share finally the company needed to add back in  

money that it lost on a GAAP basis for getting  rid of that debt early when you factor all that  

in earnings per share on a non-GAAP basis were  a dollar and $0.45 that's a $0.30 difference  

from where it was on a GAAP basis and when  looking at those two numbers me as an investor  

i actually care a lot more about that $1.45 in  non-GAAP earnings than i do about that a $1.11  

GAAP earnings and obviously depending on which  number you can use that plays a big difference  

on the company's current valuation let's show  another example that showcases that stock based  

compensation thing that we talked about earlier  brilliantly let's take a look at Fiverr recent  

results in the third quarter of 2021 Fiverr  reported a GAAP loss of $0.39 per share or about  

$14 million dollars that sounds bad however during  the quarter the company also paid out $15 million  

dollars in stock-based compensation that was a  non-cash charge if you exclude just stock based  

compensation the company would have swung from a  loss to a profit but that wasn't all the company  

also had to account a $5 million charge on some  of its convertible notes again a non-cash charge  

that would have added to those gains so when  you account for those two major differences the  

company actually reported a non-GAAP net income  of almost $8 million during the period that's a  

$22 million swing from a GAAP and non-GAAP basis  and when we're talking about non-GAAP earnings per  

share the company reported $0.21 positive that's a  huge difference from a loss of $0.39 per share now  

we're not here to debate whether GAAP or non-GAAP  accounting is better or should always be used  

i personally always look at the GAAP and non-GAAP  numbers myself and see what the differences are so  

that i can make decisions as an investor however  it is important that all investors understand the  

vagaries of GAAP and non-GAAP accounting so they  can make better investing decisions Brian's Out