Author Archives: sunjit.singh

How do we determine the value of a company? What do investors need to know? Companies provide financial statements; these financial statements are designed to show how well a company is doing, how well they are performing, how much money is being generated or lost, and what we can expect from the future. Investors look at financial statements. Without investors a company wouldn’t exist. Therefore it’s obvious that a company try’s its best to appeal to investors and to make them want to continue investing their money. If people don’t invest then the company loses money, if the company loses money then people get fired, bonuses go away, funding is cut…etc. This puts a lot of pressure on managers to keep their investors happy. Managers must show positive numbers on financial statements. Companies have different opinions what standards should be used in creating these financial statements. On one hand we the GAAP. Some companies feel that by applying GAAP investors aren’t getting the real sense of what company is producing. Many analysts and accountants consider GAAP to be inconsequential because under GAAP many noncash and one time charges are included. Because of the effects that following GAAP has many companies prefer the pro forma approach. The pro forma approach is a method that a company uses to create its financial statements according to its own discretion. However pro forma methods vary from company to company. The ending numbers using GAAP and pro forma end up being very different. So now how does an investor really know what to expect? GAAP doesn’t leave much room for change, even if specific issues were to arise that affect accounting it can take years to changes to be implemented within GAAP. On the other extreme pro forma calculations allow so many changes and eliminations that numbers could be changed completely. Should GAAP with all the included figures be used as a reliable source for investors or should a company’s pro forma calculations be deemed more reliable?

I say that both methods should be used as a baseline for investors. If you have a GAAP based report and pro forma based report you can see both spectrums of the financial statements. With both reports you can see the difference in the numbers and depending on how extreme they are you can prepare the right questions. If the statements are slightly off then you know small adjustments were made and the reports will probably stay consistent in the future. Now if according to GAAP the company is losing money and according to por forma numbers a company is making great profits then you know there are explanations needed. By using both reports you can have a better insight on what to expect from companies.