What is GAAP?

What is GAAP? It's an acronym for the generally accepted accounting principles. It's a common set of accounting principles, standards, and procedures that are set by a governing board called FASB, which is the financial accounting standards boards. Think of it as the rules and standards for financial reporting, primarily in the United States. Why do we need it? Well we need to have a set of common rules, so that we have consistency. If you're looking at two sets of financials from two different companies that are GAAP compliant, you know they're playing by and reporting by the same set of rules. There's principles of materiality, principles of permanence of methods, all of these are principles across the accounting standard that gives integrity in the financial reporting. Now are there other standards out there? Yes! One of the biggest ones in the world is a standard called IFRS, which is international financial reporting standards. The biggest question I get or confusion that comes around these standards, is companies will often report GAAP or as reported financials, and then they will report an adjusted number. Why do they do both? Well we need GAAP reporting to provide that standard set of reports that we know are reflective or consistent across all reporting, consistent over time, consistent against other companies that are compliant. But sometimes what you have to report from a GAAP perspective, may not be very indicative of the underlying performance of the company. For example, let's say a company just lost a lawsuit. They have a 50 million dollar bill they have to pay because they lost this big lawsuit. Well, if you looked at the profitability and it went down by 50 million, you might think that the company's really struggling. Well management might say “look our GAAP standard is that we have this number, but we're going to provide an adjusted number”. An adjusted meaning the company think that that legal fee is indicative of the underlying performance of the company. So the adjusted number is going to be a number that they provide, that gives insight into what they believe is a more reflective number of performance. So it's not meant to create confusion, it's not meant to be sneaky, it's really meant to show that they’re compliant and using GAAP standards, but here’s an adjusted number that we think is more reflective of the underlying performance. The two of them combined together really provide clarity and understanding.

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