Unlike GAAP earnings, which can be subject to management discretion and various accounting adjustments as stated in this paper, an emphasis on #freecashflow in investment decision-making can lead to more accurate assessments of company performance, intrinsic value, and future profitability.
This pioneering research enhances our understanding of the agency problem, a common challenge where management’s discretionary reporting may conflict with investors’ need for persistent results and call for a better disclosure requirement.
- There is a fundamental divergence in earnings reporting: managerial emphasis on controllability versus investor focus on the persistence of earnings.
- Segment profit/loss measures often incorporate less persistent items and are deemed less predictive of future performance, thus underscoring a significant limitation of ASC 280’s applicability in serving investor needs.
- When used appropriately, segment profit/loss earnings could outperform GAAP earnings in predicting future earnings and cash flow. However, non-GAAP earnings outperform both measures, leading to a discussion on better disclosure requirements for accounting standard setters.
Vince (Qijun) Chen, Director of Research, Connect with Vince on LinkedIn