Adjusted loss

What Is Adjusted Loss?

An adjusted loss is a non-Generally Accepted Accounting Principles (non-GAAP) financial measure that modifies a company's reported net loss by excluding or including certain items that management deems non-recurring, non-cash, or otherwise outside of normal operations. This metric falls under the broader category of financial reporting and is often used by companies to provide what they believe is a clearer picture of their core operational performance, free from distortions caused by unusual events or accounting treatments. While the adjusted loss aims to offer a different perspective on profitability, it is crucial for investors and analysts to understand the specific adjustments made.

History and Origin

The concept of "adjusted" financial measures, including adjusted loss, gained prominence as companies sought to present financial results that they felt better reflected their ongoing business activities, particularly in an era of increasing mergers and acquisitions, restructurings, and other extraordinary items. The use of non-GAAP financial measures became widespread, leading to concerns about potential misuse and a lack of comparability between companies. In response, the U.S. Securities and Exchange Commission (SEC) introduced Regulation G in 2003, which requires companies that publicly disclose or release material information that includes a non-GAAP financial measure to also provide a reconciliation to the most directly comparable GAAP financial measure. The SEC has continued to update its guidance on the use of non-GAAP measures to ensure they are not misleading.¹³, ¹⁴, ¹⁵, ¹⁶

Key Takeaways

• Adjusted loss is a non-GAAP financial measure that modifies a company's net loss.
• It typically excludes items considered non-recurring, non-cash, or non-operating.
• The purpose is to provide a clearer view of core business performance.
• Companies must reconcile adjusted loss to its comparable GAAP measure.
• Analysts and investors use adjusted loss for a deeper financial analysis, but critically examine the adjustments.

Formula and Calculation

The calculation of an adjusted loss typically starts with the net loss reported on a company's income statement (a GAAP measure) and then adds back or subtracts specific items. There is no universal formula for adjusted loss, as the adjustments made are at the discretion of management. However, a general representation might be:

$\text{Adjusted Loss} = \text{Net Loss (GAAP)} + \text{Non-Recurring Expenses} - \text{Non-Recurring Gains} + \text{Non-Cash Expenses} - \text{Non-Cash Gains}$

Common adjustments that might be added back to a net loss to arrive at an adjusted loss include:

• Restructuring charges: Costs associated with significant organizational changes.
• Impairment charges: Reductions in the value of assets.
• Merger and acquisition-related expenses: Costs incurred during business combinations.
• Stock-based compensation: Non-cash expenses related to employee stock options or grants.
• Amortization of acquired intangibles: The systematic expensing of acquired intangible assets over their useful life.¹²

Conversely, non-recurring gains might be subtracted. The goal is to isolate the underlying operational profitability.

Interpreting the Adjusted Loss

Interpreting an adjusted loss requires careful consideration of the specific adjustments made. Companies typically present adjusted loss figures alongside their GAAP net loss in investor relations materials, earnings press releases, and SEC filings. The intent is often to highlight performance trends by removing the impact of volatile or unusual events. For instance, a company might report a significant GAAP net loss due to a large one-time asset impairment, but an adjusted loss might show a smaller deficit or even a positive adjusted earnings figure, suggesting the core business is healthier than the GAAP number alone indicates.

However, users of financial statements must understand why each adjustment is made. If a company consistently excludes certain "non-recurring" operating expenses, these exclusions could obscure the true cost of doing business. Financial analysis should always begin with the GAAP figures, using adjusted loss as a supplementary metric for additional insight.

Hypothetical Example

Imagine "TechInnovate Inc." reports its financial results for the latest quarter.

• GAAP Net Loss: -$50 million
• Adjustments provided by TechInnovate:
  • Add back: $15 million in restructuring charges related to closing a non-performing division.
  • Add back: $5 million in stock-based compensation expenses.
  • Subtract: $2 million gain from the sale of an old, unused patent.

To calculate TechInnovate's adjusted loss:

Adjusted Loss = Net Loss (GAAP) + Restructuring Charges + Stock-Based Compensation - Gain on Patent Sale
Adjusted Loss = -$50 million + $15 million + $5 million - $2 million
Adjusted Loss = -$32 million

In this scenario, while TechInnovate still has a loss on an adjusted basis, the -$32 million adjusted loss appears less severe than the GAAP net loss of -$50 million, providing a different perspective for shareholders.

Practical Applications

Adjusted loss figures are commonly used in various areas of corporate finance and financial analysis. Companies utilize them in earnings calls and presentations to explain results and provide forward-looking guidance, aiming to focus investor attention on recurring business performance. Analysts often use adjusted loss and other non-GAAP financial measures to compare companies within the same industry, assuming similar adjustments are made, as these measures can sometimes better reflect operational trends across peers.

For instance, a technology company might report an adjusted loss that excludes large amortization expenses from recent acquisitions to show its ongoing software development and sales profitability more clearly. In the oil and gas sector, a company like Phillips 66 might report adjusted earnings to exclude the impact of volatile refining margins or significant turnaround expenses, providing a view of its underlying operational efficiency.¹¹ Similarly, Intel has reported adjusted losses in the context of significant strategic shifts, using these figures to communicate the financial impact of their operational changes to the market.¹⁰ These adjustments can help investors gauge a company's health beyond the strictures of GAAP.

Limitations and Criticisms

While providing flexibility, the use of adjusted loss and other non-GAAP financial measures faces significant limitations and criticisms. A primary concern is that companies might selectively exclude items that make their financial performance look better, potentially misleading investors. For example, some academic research suggests that managers may aggressively exclude recurring items when calculating non-GAAP earnings to meet or exceed earnings targets, and that large exclusions can predict lower future cash flows.⁸, ⁹ This opportunistic behavior can lead to a lack of transparency and consistency, making it difficult to compare performance between different firms or even within the same firm over time if the adjustments change.

Regulatory bodies, like the SEC, constantly monitor these practices, issuing guidance to ensure that non-GAAP measures do not become a substitute for GAAP financial statements and are not presented with greater prominence.⁶, ⁷ Critics argue that if "non-recurring" items occur frequently, they are, in essence, recurring and should not be excluded, as this distorts the true economic reality of the business. The debate continues regarding whether these voluntary disclosures truly provide decision-useful information or primarily serve to influence investor perceptions.⁴, ⁵

Adjusted Loss vs. Net Operating Loss (NOL)

Adjusted loss and Net Operating Loss (NOL) are both concepts related to a company's financial deficit, but they serve different purposes and operate under different frameworks.

An adjusted loss is a metric management uses to present a picture of a company's underlying operating performance by removing items they deem extraneous, even if those items are legitimate expenses under GAAP. In contrast, an NOL is a specific tax term defined by the Internal Revenue Service (IRS) that occurs when a taxpayer's allowable deductions exceed their gross income for a tax year.¹, ², ³ Companies and individuals can use an NOL to reduce their taxable income in other years, either by carrying it back to prior tax years or carrying it forward to future tax years, thereby reducing their tax obligation. An adjusted loss does not directly impact a company's tax liability in the same way an NOL does; rather, it's a presentation of financial performance.

FAQs

What is the main difference between GAAP net loss and adjusted loss?

The main difference is that GAAP net loss is calculated according to a standardized set of accounting rules (Generally Accepted Accounting Principles), providing a consistent and verifiable figure. Adjusted loss, conversely, is a non-GAAP measure where a company's management makes discretionary modifications to the GAAP net loss to highlight what they consider the core operational performance, often by excluding specific expenses or gains.

Why do companies report adjusted loss figures?

Companies often report adjusted loss figures to provide investors and analysts with what they believe is a clearer view of their ongoing business, free from the impact of unusual, one-time, or non-cash events. This can help in assessing underlying business trends and making comparisons with previous periods or competitors, particularly when the GAAP net loss is significantly affected by unique circumstances.

Are adjusted loss figures regulated?

Yes, in the United States, adjusted loss and other non-GAAP financial measures reported by public companies are subject to regulation by the Securities and Exchange Commission (SEC), primarily under Regulation G and Item 10(e) of Regulation S-K. These regulations require companies to provide clear reconciliation of non-GAAP measures to their most directly comparable GAAP measures and to ensure that non-GAAP disclosures are not misleading.

Should investors rely solely on adjusted loss?

No, investors should not rely solely on adjusted loss. While adjusted loss can offer valuable insights into a company's core operations, it is a non-GAAP measure that involves management's discretion. It's crucial to always review the GAAP financial statements, including the income statement, balance sheet, and cash flow statement, and to carefully examine the reconciliation of adjusted loss to the GAAP net loss to understand the nature of the adjustments made.