Facebook Praised For Minding The GAAP

The biggest surprise about Facebook’s initial public offering prospectus to some in the accounting and finance communities was that there were no big surprises.

Writing for ForbesThe Street, Gary Weiss praised the social network — and cited others doing so as well –for sticking to generally accepted accounting principles, and not using non-GAAP metrics to tweak the numbers into something they may not actually be.

GAAP figures reflect American accounting standards and are stricter than non-GAAP; the latter permits companies to exclude one-time expenditures and other things that might interfere with profitability.

Weiss quotes accounting professor J. Edward Ketz, co-author of blog Grumpy Old Accountants, who gave Facebook an A for straightforward accounting and praised the company for not citing EBITDA (earnings before interest, taxes, depreciation, and amortization) or adjusted EBITDA anywhere in its filing.

Ketz wrote:

(Facebook had) absolutely no problem reporting its performance using income amounts computed using GAAP. When was the last time we saw an Internet company not make excuses about how GAAP failed to reflect reality for their operations? There are no multiple deliverable issues, as in the case of LinkedIn, or the “gross versus net” questions that plagued Groupon.

Ketz did have some criticisms of Facebook, noting that its executive compensation could be considered excessive due to stock-based income, and saying that the social network seemed to be overstating its total number of “active users,” and it should not be valued on its user count. He wrote:

Valuation depends on future cash flows and I don’t see what users, however defined, tells me about future cash flows.

In any event, Facebook’s IPO prospectus stacked up favorably in Weiss’ and Ketz’s eyes when compared with those of:

  • Groupon, which tried to use “adjusted consolidated segment operating income,” a non-GAAP metric, to obscure its marketing costs, and caused Ketz to mention “the deafening silence in the accounting, auditing, and investment communities about the company’s questionable basic accounting practices and lack of internal reporting controls.”
  • Zynga, which relied on adjusted EBITDA, leading Ketz and his Grumpy Old Accountants co-author and fellow professor, Anthony H. Catanach Jr., to write, “Zynga is actually trying to map the virtual world of fantasy and dreams to the real world of cold cash and hard knocks.”
  • Overstock.com, which used EBITDA despite the fact that its chief executive officer, Patrick Byrne, has been quoted as calling it “the stupidest thing I ever heard emanate from Wall Street.”

Weiss concluded:

Meanwhile, props to Facebook for being a financial-statement mensch. I’m no fan of that company’s privacy practices, and I agree with Barry Ritholtz that its definition of “active user” is questionable. But at least it’s not playing any GAAP games.

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