Guide to Non-GAAP vs GAAP

Q: Why do companies use non-GAAP?

Private companies may use non-GAAP if they have one-time expenses, interest on business loans, or non-cash expenses that they feel do not accurately portray their bottom line.

Q: Are non-GAAP measures audited?

No, non-GAAP measures are not currently audited.

Q: Are non-GAAP and IFRS the same?

U.S. public firms follow GAAP, whereas international businesses follow IFRS, or International Financial Reporting Standards. IFRS is more similar to GAAP than it is non-GAAP; however, GAAP tends to be more rules-based whereas IFRS is more principles-based. Eventually, all reporting may transfer to IFRS to create consistency and uniformity across businesses worldwide.

Q: What are the main principles of GAAP?

The main principles of GAAP include regularity, consistency, sincerity, permanence of methods, non-compensation, prudence, continuity, periodicity, materiality, and utmost good faith.

Q: What does non-GAAP mean in practice?

Non-GAAP allows a company to display their own financial figures. Private companies who use non-GAAP measures typically have a large, one-time expense they do not want to inaccurately reflect their earnings. Or, they may not want to show interest they’ve paid on debts or assets that have depreciated. While non-GAAP measures can be inaccurate, they also can reflect a company’s true earnings if done correctly.

Lauren WardUpdated October 27, 2023

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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.

GAAP and non-GAAP are two different accounting methods used by companies to show their financial performance during a certain reporting period. While GAAP follows a very specific set of standards, non-GAAP does not, which is why the revenue each one shows can be very different. In some cases, GAAP can understate profits. However, non-GAAP numbers can also sometimes be misleading. Read on to learn the differences between GAAP vs non-GAAP, pros and cons of non-GAAP accounting, and why you would want to use one method over the other.

What Is GAAP?

GAAP, which stands for Generally Accepted Accounting Principles, is a set of standards that businesses must follow if they are publicly traded. Governed by the U.S. Securities and Exchange Commission (SEC) and administered by the Financial Accounting Standards Board (FASB), GAAP establishes transparency for publicly traded companies and makes it so one GAAP-compliant company is comparable to another GAAP-compliant company regardless of industry. Private companies that have audited financials also use GAAP when managing their business finances. GAAP dictates how a company can recognize revenue and expenses, what types of expenses have to be capitalized as assets, and how information needs to be presented to shareholders in an audited report.GAAP has 10 fundamental principles companies must follow. They are:

Regularity: Accountants agree to use GAAP as a standard.
Consistency: Accountants must use the same methods and standards throughout the entire reporting process, and continue to use them from one reporting period to the next. If any changes are made, the accountant must fully document and explain why those changes occurred.
Sincerity: All accountants must create a complete and factually accurate report of a company’s financial situation.
Permanence of methods: All GAAP-compliant companies must be consistent with their methods and reporting. By doing so, all GAAP-compliant companies are able to be compared regardless of their industry.
Non-compensation: All positive and negative aspects of a company’s performance must be reported without compensating an asset’s debt.
Prudence: No accountant should speculate or give his or her opinion in a financial report. All records must be factually accurate.
Continuity: It is assumed the company will continue to exist and operate in the foreseeable future. No asset valuations should be tainted with the knowledge the company is going to fail.
Periodicity: All financial reporting is to take place in established accounting periods (meaning quarterly or annually).
Materiality: All financial reports should clearly display a company’s financial position.
Utmost good faith: All parties that contribute to a company’s financial report are assumed to be honest and reputable.

While small businesses that don’t get audited aren’t required to use GAAP, doing so can be useful in certain situations, such as when they are applying for small business loans. Many lenders and creditors often prefer GAAP-compliant documents or require annual financial statements that follow these principles when they issue loans.

Example

GAAP rules and procedures are used when corporate accountants present the details of a company's financial operations in quarterly balance sheets or income statements, 10-Q filings, and annual reports.

What Is Non-GAAP?

While GAAP standardizes financial reporting and makes it easier for investors and creditors to analyze and compare companies, this accounting method has some limitations. Indeed, in some instances, GAAP reporting may not accurately portray the current standing or future financial prospects of a company.When that happens, companies are allowed to display their own tax-basis accounting figures, as long as they are disclosed as “non-GAAP.” They must also provide a reconciliation between the adjusted (non-GAAP) results and regular (GAAP) results.Non-GAAP figures usually exclude irregular and non-cash expenses, such as those related to acquisitions, restructuring, or one-time balance sheet adjustments. This smooths out swings in earnings that can result from temporary conditions, and can often provide a clearer picture of the ongoing business.However, because non-GAAP figures are developed by the company itself (rather than an independent third party), they may be skewed to the firm’s benefit. Less profitable companies using non-GAAP could mislead the public by a significant margin if they don’t also release GAAP numbers.While the FASB doesn’t create non-GAAP standards, these numbers are still governed by the SEC. In fact, the SEC has taken action against companies it believed were being too aggressive with non-GAAP numbers.

Example

One of the most common forms of non-GAAP measurements in accounting is EBITDA, or earnings before interest, taxes, depreciation, and amortization. By eliminating interest on debt and non-cash expenses like depreciation, EBITDA can be a better reflection of a company’s profits and operational efficiency than net income, which is part of GAAP. It can also be useful for comparing income from year to year within the same company.

GAAP vs Non-GAAP

	GAAP	Non-GAAP
Prescribed standards	✓	X
Easy to compare companies	✓	X
Easy to understand for non-accountants	X	✓
Focuses on a business’s core operations	X	✓
Allows for window dressing	X	✓
Good for investors and creditors	✓	X

GAAP vs Non-GAAP Similarities

Both GAAP and non-GAAP are accounting methods used by companies to show their financial performance during a certain reporting period. Both systems address:

Operating revenue
Non-operating revenue
Cost of goods sold
Recurring expenses

Differences Between GAAP and Non-GAAP

There are a few differences between GAAP and non-GAAP, including:

GAAP follows a set of standards

The key difference between GAAP and non-GAAP is that GAAP follows a set of standards and formats in accounting, while NON-GAAP does not.

All U.S. public companies need to follow GAAP

All U.S. public companies need to follow GAAP reporting, whereas private companies have the option of following GAAP or non-GAAP.

GAAP includes non-recurring and non-cash expenses

In addition, GAAP includes non-recurring expenses (such as restructuring costs, acquisitions, and litigation) and interest on company debt, while non-GAAP accounting does not.

Non-GAAP may more accurately reflect a company’s profits

Due to non-GAAP not being required to report large, one-time expenses, non-GAAP can sometimes give a clearer picture of a company’s actual operational efficiency.

Non-GAAP may allow a company to appear more profitable

Due to lack of standardization, non-GAAP reporting may be used by a company to make it appear more profitable than it really is.

It’s difficult to compare financial results using non-GAAP reporting

The final difference between GAAP and non-GAAP accounting is that non-GAAP makes it difficult to compare financial results between companies in an industry and between industries. GAAP is consistent across all public companies, making it easier for investors to compare one company from the next.Recommended: Explaining GAAS vs GAAP

Pros and Cons of Non-GAAP

Pros of Non-GAAP	Cons of Non-GAAP
Easy to understand	It is not a standardized accounting method
Excludes non-recurring expenses and other amounts not related to a company’s ongoing performance	Could be used to mislead investors and creditors

Choosing Between GAAP and Non-GAAP Adjustments

Private companies who choose non-GAAP adjustments do not include non-recurring expenses, which could more accurately reflect a business’s performance. However, if a private company thinks they may need a small business loan or eventually choose to go public, it may make sense to follow GAAP from the start.On the flipside, public companies are required to follow GAAP reporting methods, but they can also opt to show results using non-GAAP methods. This could give potential investors a more accurate reflection of the company’s true performance.

How Prevalent Is Non-GAAP Use?

Non-GAAP use has grown significantly in recent years. The majority of companies in the Dow Jones Industrial Average now report non-GAAP earnings per share (EPS) along with GAAP EPS, with the former typically coming in higher than the latter. Technology companies have been major users of non-GAAP reporting, since these companies typically don't report high net income with GAAP.There are companies that use non-GAAP legitimately. They typically have one-time expenses or they have a business model that doesn't lend itself to GAAP reporting. However, the risk of eliminating non-recurring expenses from accounting is that many companies don’t know whether certain “one-time” expenses are actually going to be non-recurring. Not disclosing those costs may, in some situations, mislead investors.

The Takeaway

Generally Accepted Accounting Principles, or GAAP, is the prescribed standard public companies follow when disclosing financial information. However, GAAP does not suit every company. Many businesses feel that some costs (such as interest on business loans, non-cash expenses like amortization and depreciation, and one-time expenses like litigation) should not influence its net revenue, especially if it makes the company seem as if it experienced a loss when it didn’t. However, due to lack of standardization, non-GAAP accounting can also be misleading.For small business accounting, you don’t have to follow GAAP regulations. However, doing so can make it easier for outsiders to evaluate your business and compare it to other companies in your industry. Publishing non-GAAP, along with GAAP, could make it easier to attract an investor or get approved for certain types of business loans.If you’re in need of a small business loan, consider Lantern by SoFi. With a single application, Lantern does the comparison shopping for you and sends you the best small business loan offer for your situation.

Frequently Asked Questions

Why do companies use non-GAAP?

Are non-GAAP measures audited?

Are non-GAAP and IFRS the same?

What are the main principles of GAAP?

What does non-GAAP mean in practice?

Photo credit: iStock/AndreyPopov

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About the Author

Lauren Ward

Lauren Ward is a personal finance expert with nearly a decade of experience writing online content. Her work has appeared on websites such as MSN, Time, and Bankrate. Lauren writes on a variety of personal finance topics for SoFi, including credit and banking.

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