Reading Pro Forma Financial Information
Pro forma financial information is a loose term that refers to any non-standard financial information. Specifically, it refers to any financial information (say, a public company's financial statement, report of earnings, operations results, and performance measures) that has been presented in a way that does not follow Generally Accepted Accounting Principles (GAAP). To put it simply, pro forma information is any non-GAAP financial information.
Pro forma reports are not easily understood.
Since pro forma reports contain information derived using non-standard (non-GAAP) methodologies, pro forma financial statements and the like need to be read carefully to be understood fully. In GAAP-conforming releases, important corporate information may be readily discerned. This is not the case in pro-forma reports.
Pro forma financial measures do not facilitate comparison.
Comparing pro-forma reports to other reports (both pro forma and GAAP-compliant ones) may be just like comparing apples to oranges. There's simply no easy comparison since they do not follow the same standards and methodologies.
GAAP measures and methodologies provide for easy comparison of companies and investment products. If two companies comply with GAAP standards in their financial releases, it would be easy to compare these two companies' performance.
On the other hand, if a company releases pro forma financial information, there would be no easy way to compare this information to the information provided by other companies. Pro forma financial reporting, therefore, makes it harder for investors to decide on the best investment products.
Understanding Pro Forma Information
- When reading financial statements or releases, read it carefully to find out which measures or information is not GAAP-compliant. Companies are required to disclose the use of non-GAAP measures in their reports.
- If a company you are interested in releases pro forma financial measures or information, read the release carefully to understand how such measures have been derived.
- Look for the company's disclosure on the GAAP measure that is most directly comparable to the non-GAAP financial measure used. The SEC requires public companies releasing pro forma measures to indicate the GAAP measure with which it is most directly comparable.
- When making comparisons using a company's pro forma measure, first reconcile this non-GAAP measure with its most directly comparable GAAP measure (indicated in the company's disclosure). Companies using non-GAAP measures are also required to disclose how such measures may be reconciled with the GAAP measure with which it's supposed to be most directly comparable.
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