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Non-GAAP measures: Do they provide helpful insights or hide the “bad stuff”?

Many companies, especially in tech, supplement their income statement produced under generally accepted accounting principles with a non-GAAP income statement. It’s a practice that has proliferated in recent years as companies want to focus attention on the underlying “run rate” of the business and feel pressured to copy what their competitors are doing. Critics label non-GAAP measures as companies presenting “income before the bad stuff.” It’s true that presenting financials on a non-GAAP basis often has a major impact on the bottom line presented, by doubling a profit margin or turning a loss into a profit (as shown in our chart below).

Does non-GAAP reporting mean a company is hiding poor performance? Or is it providing investors with more information for judging the health of the business?

On balance, more disclosure is usually better. When companies present non-GAAP income statements in a thoughtful way and in good faith, investors will usually prefer the additional information and use the non-GAAP income to calculate P/E valuations. Note that most investment analysts report and focus on non-GAAP results. And the Securities and Exchange Commission has accepted their use as well, as long as the information is not misleading. The regulator outlines how and when companies can share non-GAAP figures with Regulation G.

So non-GAAP income statements look like they are here to stay. Let’s look at the most common areas where companies adjust GAAP numbers to give non-GAAP measures and why such measures have become accepted by both companies and investors.

Stock compensation: These are charges based on employee stock options and purchases that rely on theoretical models of their worth. Probably the most commonly listed adjustment to GAAP numbers, this charge is a lightning rod for criticism that GAAP has become overly conceptual and less relevant. As my colleague Stephen Ambler points out in his blog post “Stock compensation rules mask true operating performance,” stock comp charges are non-cash and can vary significantly depending on stock price and model assumptions, making it near impossible to compare two similar companies. Also, if the stock price declines, the company must continue recording the charges, which were based on the grant date value, even though the options have no value to the employees or to the company from a retention point of view.

Amortization of acquired intangibles: GAAP accounting for acquisitions requires the acquiring company to value the intangible assets of the acquired entity, other than goodwill, at fair value and amortize them over their useful lives. On one hand, the acquiring company paid hard cash or used its valuable stock to acquire these assets, and just as companies depreciate the purchase price of equipment they use in production under GAAP, they also should amortize their acquired intangible assets. They are matching cost with use over time. On the other hand, the amortization is a non-cash charge that the acquired business wouldn’t have shown on its own. To assess the sum of the underlying businesses, it is useful to show amortization removed.

Restructuring: These charges include such items as severance, facility and equipment write-offs, and contract termination costs tied to the resizing or closing of some part of a business. CFOs would prefer to keep the costs of these non-recurring events separate from the ongoing business’s results. Companies do need to be careful, though, that these “non-recurring” charges don’t recur every year or two! To mitigate abuse, Reg G sets rules for what is non-recurring — basically, it is something that hasn’t happened two years before the reporting date and is unlikely to happen in the next two years.

We commonly see the non-GAAP income statement remove other measures as well, such as the amounts paid to plaintiffs and attorneys to settle legal disputes or impairments of intangible assets or goodwill. Again, the rationale is to derive an income number that represents the fundamental ongoing business apart from non-cash charges and one-time events. The value to the investor is that these items are shown separately. The investor can value the company on its ongoing business while noting the size and frequency of these non-cash and non-operating charges.

To GAAP or to non-GAAP?
While investors are open and usually welcoming to non-GAAP income statements, they also value consistency. Companies should not use “good news” non-GAAP items and ignore “bad news.” Consider a company that accrues $1 million for a legal settlement and excludes the charge as a non-GAAP measure. It has effectively created a good news item. But if the actual settlement in a subsequent period turns out to be only $800,000, the company should include the $200,000 difference as a non-GAAP item when it comes time to report it. This difference may be perceived as bad news, but this keeps reporting consistent.

In general, companies should use an approach that relies on both full disclosure and moderation. Reg. G requires full disclosure, of course, including a presentation of the most directly comparable GAAP measure with equal or greater prominence as the non-GAAP measure, as well as reconciliation between the two. As for moderation, the investment community will reward companies that practice it, as moderate, thoughtful use of a non-GAAP income statement will build credibility and respect for the company. Finance pros who do these types of evaluations all the time can help you determine when applying non-GAAP makes sense for a particular situation.

Ray Solari is a member of the RoseRyan dream team. He has served as the CFO/VP finance for private companies and managed SEC reporting for public companies. He began his career at Deloitte. 

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Equity compensation: 4 hard truths you need to know

Equity-based compensation — Northern California’s universal answer to engendering loyalty in employees — is a useful tool but a complicated one. This was one of several hard truths heard by attendees during BayBio’s recent Lunch & Learn event by RoseRyan. Accompanied by compensation consultancy Radford, RoseRyan hosted this packed event on February 26 at BayBio’s headquarters in San Francisco.

To retain top talent these days, companies have a variety of stock-based methods, which are accompanied by their share of accounting, tax, and legal issues. What strategy a company picks today for rewarding employees could affect how smoothly it can transition to another version of itself later on, either as a public entity or as an acquisition target.

During their comprehensive overview of what private companies need to realize as they structure and maintain their comp plans, Kelley Wall, a director at RoseRyan who leads the firm’s Technical Accounting Group, and Kyle Holm, an associate partner at Radford, hit upon the following hard truths.

1. Your company will have to up the ante as it matures.
Startups tend to begin with just stock options and then work their way up to restricted stock or restricted stock units and eventually performance-based awards. Each compensation type comes with its own set of pros and cons. For example, stock options do not lead to immediate dilution whereas restricted stock does. Employees may favor restricted stock for the fact it will give them ownership right away, but tax consequences upon vesting can be troublesome.

And while performance awards encourage goal-based behavior, they are not without their challenges. With these type of awards, companies have to regularly determine the probability of employees meeting their performance targets and adjust their stock-compensation expense accordingly, which can create some volatility in earnings. And it may be difficult for early-stage companies to adequately assess performance targets — any modifications of those targets down the road will result in modification accounting and likely additional compensation expense.

2. Modifications can be messy.
Modifications will happen. The roles of employees change, employees come and go, and employees’ individual targets for reaping the benefits of a pay plan will evolve. And so will the way the company accounts for compensation. Situations where accounting changes come into play include: giving a terminated employee an extended period to exercise their options beyond what was initially agreed upon; changing performance-based metrics; and hiring consultants and allowing them to continue to hold the stock options they were granted as consultants. In general, any change to an award or an award holder’s status should trigger a review of accounting modifications.

3. Your payment systems are only as accurate as the data you’ve put into them.
Wall acknowledged this truth seems fairly obvious but cautioned that lack of data integrity continues to trip up companies. Too often companies lean too heavily on outside lawyers and accountants without realizing those service providers can’t keep up with changes within a business if they don’t know about them.

The fact is the majority of stock-based compensation data has some underlying issues. For instance, RoseRyan has seen a company with vesting stock options for employees who left five years ago — which led to an overstatement when the information was uncovered. To make sure the data surrounding their equity plans are clean, companies need a system of checks and balances — such as reconciling awards granted with board minutes at least once a quarter and having a process to tie employee terminations to the equity records.

4. You have a lot to consider about your equity plans if an IPO is in your future.
One of the hardest truths hits in the time leading up to a public offering. This is when tough questions arise over all the decisions that have been made beforehand, Holm warned, and even more difficult choices will need to be made. Those who have a stake in the company will shift their focus from their percentage of ownership to the actual value of their shares. Companies going through the transition will need to determine whether they should consider amending their stock plans. They’ll also need to define their post-IPO equity pool size. And they’ll need to take a look at how they communicate beyond one-on-one pay agreements. It’s also a good time to consider what information will be publicly disclosed in your registration statement. For one, details about pay plans for the most highly paid senior leaders will be publicized, not only to investors and securities regulators but employees as well. There’s also a lot of information regarding the plans and award details included in SEC filings, and newly-public companies are burdened with additional disclosures around stock valuation.

While equity-based compensation comes with issues, Wall noted, managers can provide robust pay plans that do what they’re supposed to — retain top talent — as long as they operate with their eyes wide open with an awareness of how changes and new decisions will have consequences.

This post originally appeared here, on BayBio’s website.

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Bay Area entrepreneurs: inspiring stories, winning ideas

The announcement was just made for the Northern California CEOs who are regional semifinalists in EY’s Entrepreneur of the Year™ Awards program. In the months ahead, RoseRyan and other sponsors of this amazing program will interview these Bay Area leaders and get to know what makes them tick and how their high-growth companies stand apart from the rest. The actual regional winners will be announced at an awards gala June 10 at the Fairmont in San Jose.

But first, congratulations to all of the semifinalists who were announced last week. They are getting recognized as high-impact entrepreneurs who have barreled through challenges during shaky economic times to transform their great ideas into promising businesses. RoseRyan is proud to once again be a sponsor of the program, which is in its 28th year. It puts us in direct contact with CEOs who are innovative, highly motivated and representative of how business is evolving in our area.

This year’s impressive list of semifinalists reflects a very strong showing for Northern California, as the area tends to be well recognized in EY’s program. In fact, last year’s overall national winner was CEO Hamid Moghadam of real estate firm Prologis, which is based in San Francisco. With this region’s ever-changing pool of new companies, new technologies and new ideas, we continue to be an innovation engine.

Pride in our region is just one reason why it’s so exciting to take part in the awards program. Another is the chance to observe the diversity and dedication in all the nominees. These entrepreneurs are leading a mix of public, private, nonprofit and women-owned businesses. And many candidates are serial entrepreneurs who are sitting on fortunes. They don’t even have to work, but they love what they do. These leaders are a marvel to watch, and they’re inspiring.

Of course, a great idea and a passion for work will take an entrepreneur only so far. From my observations with the EY program over the last several years, I have also noticed the following common traits among the semifinalists:

  • They deal with business problems head-on, with flexibility and a strong sense of their company’s core strategies.
  • They recognize the value and strength of honest communication and transparency.
  • They have a clear vision and don’t sway from it.
  • They’re willing to take risks, based on their strong belief in themselves, their ideas and their team.
  • They know how to attract and retain talent. This is quite a challenge for any Bay Area company.

The stories that come out of these job creators and innovators will continue to evolve. Those of us who can watch from the sidelines will not only admire the changes and ideas that are afoot but be inspired as well. We all need insights into how to do things differently and explore whether we too should work in a new way or consider new strategies for hiring and retention. These entrepreneurs are bringing the best ideas to market, supported by solid teams and a healthy dose of enthusiasm and energy. Plus, they’re energizing our local – and national – economy. All of these achievements make RoseRyan a proud sponsor of the EY Entrepreneur Of The Year™ program.

Stan Fels is a director at RoseRyan, who joined the finance and accounting firm in 2006. In addition to helping the finance dream team keep their skills sharp and stay true to RoseRyan’s proven processes, he matches gurus to clients in the high tech and life sciences sectors.

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Why Bitcoin’s demise could be good for Silicon Valley

It’s the end of Bitcoin as we know it, and I feel fine.

My apparent giddiness over this news is not about Bitcoin per se — although my RoseRyan colleagues had tracked its progress and discouraged CFOs from taking on the risk — I wouldn’t wish such big losses on anyone.

But it has created buzz in more ways than one. I don’t think I have had more e-mails and comments from my friends and colleagues in the last few years than I have over the past several weeks regarding the cryptocurrency. The heat was turned up with the recent announcement that Tokyo-based Mt. Gox, one of the largest Bitcoin exchanges, rapidly closed up shop amidst a potential loss of $473 million of its users’ money.

Now the buzz will shift toward the complete revolution happening in the payments business and its effect on Silicon Valley, and this is a change I’m excited about. PayPal, Square, Google, Apple and others are transforming the world of payments, by inserting themselves into a process that has been owned by the banks (full disclosure: I actively use PayPal). Gartner estimates that mobile payments alone will top $720 billion by the year 2017, up from $235 billion last year. The expansion of payment options will mean everyday Americans will hopefully no longer get so nickel-and-dimed on financial transactions.

In regard to the next “big thing” mantra of Silicon Valley, the payments business is already in full frenzy. It is your classic innovators dilemma: Venture capitalists are funding young, innovative startups; midsize players are adopting the changes; and banks — typically slow moving elephants — are running scared. Why? Those teeny-weeny payments add up. There were $15 trillion worth of retail transactions last year. The upside is huge not only because of transaction fees but also the ability to harvest large troves of consumer data. Security concerns will be an issue as players position themselves for the gold rush. This fast-moving train is a tough one for bureaucrats, who try to promote innovation but who must also put in place adequate consumer protections.

With Bitcoin, things did move too fast. The Bitcoin issue reminds me of Napster. Initially, Napster was a site to share music files and was frequented mostly by teenagers who were not willing (or couldn’t afford) to pay for digital music files. Napster caught a lot of heat for allowing a forum of users to access illegally obtained music, and it was subsequently shut down. A result of the Napster shutdown was that Apple came into the same space and built an incredible music delivery engine — iTunes on the iPod, then the iPhone and now the iPad — off the back of 25 billion–plus songs that have been downloaded since 2003.

How does the disruption to the music industry relate to Bitcoin? Stay with me here. Bitcoin’s ubiquitous network has allowed people throughout the world to anonymously transact commerce. It was envisioned to have tremendous ease of use, to be something as simple as email.  Although there are many differences with the PayPal network (and other networks), a key differentiator is that Bitcoin does not take a toll every time a payment is made. Once you have created a digital wallet, it is very simple for you to exchange money pretty much the same way that you would purchase something with cash.

So where is this leading? I expect there to be many issues that will continue to impact Bitcoin (lack of a governing owner, security concerns, and exchanges going out of business are among its many challenges). And I do expect innovative firms to emerge in this digital cryptocurrency space — and perhaps there will be multiple winners. Bitcoin “could, in the long run, give rise to one or several very robust currencies,” writes George Selgin, an economics professor at the University of Georgia in a paper on Bitcoin’s properties. “That’s how competition works generally, with winners and losers but with quality generally improving as the struggle goes on.”

And in an MIT Technology Review article, Tom Simonite notes that “even if interest in Bitcoin fades, it could still have a lasting legacy as an inspiration to better-designed forms of digital money.” It took Apple 10 years to get to 25 billion downloads — perhaps the next cryptocurrency will have 25 billion transactions in 5 years!

Chris Vane is a director at RoseRyan, where he leads the development of the finance and accounting firm’s cleantech and high tech practices. He can be reached at [email protected] or call him at 510.456.3056 x169.

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The 5 key traits of trusted advisors

One of the greatest compliments is when clients consider us a trusted advisor. Recently, some encouraging words came from a client that was just getting used to a new accounting method. After working with this startup for months on an assignment, our consultant made them aware of an approach that would give them a more accurate view of their business. “My encouragement to you is to keep pushing us toward ways of working that would be better for us, not just the way we have always done them,” our client wrote in an email.

Not every client we work with needs to make significant changes to their processes, and we wouldn’t just go in and overhaul a client’s way of doing things (unless we were specifically asked to, of course), but there are times when employees and managers get stuck in their ways. We all do. Or we’re not able to see some strategic choices ahead. We all need trusted advisors who can pull us out of our rut, show us a better way, provide us with a new perspective, or just enlighten us on what others in our field are doing.

Similarly, many of us are in a position to be a trusted advisor. Whether you’re a CFO aiming for a tight relationship with your CEO, or a consultant wanting to be viewed as a business partner – and not merely as a “vendor” –  the term “trusted advisor” is a coveted label. It can take awhile to earn such a status, but once you do, you’ll have a whole new level of respect and a stronger working relationship that can lead to longer and better professional engagements.

Anyone who aims to be a trusted advisor and keep that status needs to have the following traits:

Altruism: Trusted advisors always put the clients’ needs ahead of their own. During RoseRyan engagements, we sometimes observe companies getting bogged down with manual processes that could be automated. We could keep our mouths shut about how the client can work more efficiently – and rack up the extra billable hours that result when things take longer to complete. But that is not what’s best for the client, and won’t earn us their trust and loyalty in the long run. By always viewing ourselves as an extended member of our client’s team, we are more likely to come up with solutions and processes that are in their best interest.

The ability to listen: A trusted advisor listens carefully to what clients say and don’t say. The client may not always know exactly what they need or the right questions to ask.  A trusted advisor is always asking questions, assessing the situation and offering recommendations. Trusted advisors are also listening for cues on the corporate culture so that they don’t overstep their bounds when it comes to how and when to make suggestions or implement changes.

A deep well of experience: Specific knowledge of a topic will get you only so far with a client. You may know the ins and outs of lease accounting rules, for instance, but what will really impress a client is your ability to confidently discuss how the rules have been implemented at other companies and play out in real life. Experience all feeds into my next point, as well; someone who has had practical experience and exposure to various corporate situations knows how to adjust to a client’s unique needs.

Adaptability: No client wants someone coming in from the outside with a big ego or an overbearing attitude who insists on doing things their way. This is especially true when a company is in the midst of a big change, like taking on new accounting software or becoming SOX compliant for the first time. Internal politics can really come to a head during such transitions, and stress levels can be high. A trusted advisor has a knack for understanding the politics, rising above it, and using a diplomatic yet direct approach to keep the client moving down the right path, in an efficient manner.

Candidness: Honesty is the best policy in any partnership, and that’s particularly true between clients and consultants. Being up-front with clients is a value we highly value here at RoseRyan, even when it involves awkward or tough conversations. If we have information that will help a client, we share it, hopefully with the right sense of urgency and diplomacy. For example, we pointed out to a finance leader when the privately held company’s finance department needed additional skills to transition the business to the public markets. We went above and beyond to help draft a new organizational chart, which incorporated the talents the company already had on the team as well as new ones to consider, such as people who had experience with SEC reporting.

Becoming a trusted advisor is a privilege that can easily evaporate if you are not careful. When you keep the qualities I mentioned in mind, you can differentiate yourself and become a respected partner.

The rewards of taking the time and effort to be perceived as a trusted advisor are too good to pass up. It engenders long-term client relationships with loyalty and repeat business. It can also lead to more challenging work, which we welcome wholeheartedly. We’re the type of people who thrive on a good challenge and love to have interesting work to sink our teeth into.

When one of your business partners has evolved into a trusted advisor, hold on to that person or firm and see what else they can do for you. They are not always easy to find.

Kathy Ryan is the CEO and CFO of RoseRyan. Since co-founding the firm in 1993, she has served as interim CFO at more than 50 companies.

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Many Silicon Valley companies lack a ‘share price strategy,’ survey reveals

RoseRyan and Assay Investor Perspectives just released their Share Price Survey Results after meeting individually with more than 20 senior finance leaders and directors and surveying others online. We intended to gain an understanding of what private and public companies are doing to actively manage their valuation and share price over time.

It turns out they are making some efforts but lack the expertise and long-term strategy to pull it off well. After the clever pre-IPO road show presentations and after all the investment bankers have gone home, there’s little thought put into creating a comprehensive “share price strategy.”

It’s a hot topic. Share price and valuation always get attention whenever RoseRyan provides thought leadership papers or events on this topic. That’s not so surprising since we are in Silicon Valley after all, surrounded by all the hoopla that accompanies the latest IPO, merger or acquisition – and all the valuations that go along with them.

The excitement is even greater these days as we are in the midst of a busy IPO market. In 2013, FireEye, Portola Pharmaceuticals, Twitter, Rocket Fuel, Veracyte, Marketo and others kicked it off. And the trend is continuing, with anticipation that Box, KineMed, Dropbox, Asterias Biotherapeutics, Square, Spotify, Airbnb and others will soon file as well.

It is amazing how much effort goes into preparing for an IPO. What comes next involves hard work as well. Companies that let the inevitable “post-IPO hangover” take too much of an effect miss out on critical opportunities. Those hot-shot companies will need to take their singular focus off getting to the IPO bell and spend a little time considering how they will maintain their share price and valuation. But most likely they will not. Too often, newly public companies don’t come up with a strategy for how they are going to not only maintain their lofty valuation but also increase it over time.

What to Do Next
Executives usually have two choices to increase their valuation – grow their income or increase their multiple. What the survey results and our discussions show is that companies really don’t understand what the buy-side analysts are looking for. The buy-side analysts’ focus is usually on the multiple and the levers that will move the multiple directly. Most companies focus on increasing net income, which is what most buy-side analysts don’t focus on.

Why is there such a big disconnect? It is centered on the nature of the people doing the work. Most investor relations representatives have either a communications or a sell-side background, and most buy-side analysts have advanced degrees or PhDs in mathematics. And most company executives have MBAs. These different backgrounds can lead to a mismatch in the way these groups speak to each other and understand each other. Basically, they are speaking different languages.

The results of our executive conversations show that this disconnect is causing issues in long-term valuations. Companies’ lack of a solid understanding of buy-side analysts and what really drives share price can expose them to undervaluation. A depressed (from where it should be) valuation impacts recruiting, brand, motivation and culture.

Senior leaders can reverse this trend by deploying strategies that really drive the multiple and having a focused strategy on communicating those strategies to analysts. This does not preclude companies’ need for focusing on increasing income; it just means if they want to supercharge their valuation, they need to have clear strategies that increase their multiple. Read our report, Share Price Survey Results 2013, for the details.

Chris Vane is a director at RoseRyan, where he leads the development of the finance and accounting firm’s cleantech and high tech practices. He is open to discussing ways to positively impact your company’s share price/valuation. Contact Chris at [email protected] or call him at 510.456.3056 x169.

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5 qualities every public-company CFO needs

I have seen a wide range of public-company CFOs in my work at RoseRyan and I’ve been one myself, having spent 13 years at Nasdaq-listed companies between 1997 and 2009. So when a RoseRyan client considering an IPO recently asked me what qualities are vital for a public-company CFO, I came up with the following list:

Experience. Nothing beats it. Having a CFO who has gone through the demands of public-company life is so important. This type of CFO knows what he’s getting into and will have the confidence to get started from day one. I don’t mind admitting now that when I first became a CFO of a public company, it was a huge step up. I had been the corporate controller of the company, so I knew the underlying accounting well, but nothing I had done previously could help me with the new experiences of strategic direction, public-company investors, and public-company boards and committees. It was the same company but a new world. It took me a year to get comfortable handling the new responsibilities. The bottom line was that I let the company drive me in that first year as opposed to me helping drive it. In my view, I did not add anything close to the value that a more experienced CFO would have done. I am all for training, but for this key role, you always want someone with experience.

The ability to multi-task. Most of my CFO roles have involved managing finance, IT, HR, operations, investor relations, and legal. You need someone who can juggle many balls in the air at the same time. If your CFO can’t easily switch gears between the different business areas and give a fair amount of attention to her many roles, she will sink and be ineffective – and your business will feel the consequence.

The resourcefulness to work constructively with the CEO. Most chief executives are very driven individuals, with a flair for marketing or product development but not finance. It’s up to CFOs to work closely with the CEO and get their viewpoints heard and inserted into the decision-making process. If they can’t do this, they will fail, critical decisions will not take place, and problems will arise. When I was CFO, I liked to think of the CEO as a peer, not as my boss. I preferred to think of the audit committee chair as my boss.

The resilience for handling investor relations. One key role of the CFO is the ability to market the company. They have to be salesmen, notably when they are on a roadshow or an investor call, but they can’t oversell at the same time. Finding the right balance is a fine art. Investors rely on a CFO’s every word and how it’s said, and they expect a lot. So the CFO has to fully understand the company’s products, market opportunity, and direction, and be able to handle a tough audience. More than any other executive, CFOs get grief when the stock price falls, or executives sell stock, or the company doesn’t meet investors’ expectations or preferences. When this happens, CFOs have to be professional and move on. They should not take it personally – it just comes with the territory. If your CFO cannot market or handle the tough calls, you have the wrong CFO.

The desire to manage the finance function. I have seen CEOs bring in CFOs who want to concentrate only on investor relations–related matters and ignore the finances of the company, the finance team, and the internal controls. That is the worst type of CFO. Finance chiefs are ultimately responsible for the financial integrity of the entire organization, and they should never forget it. Thus, they need to continually understand the numbers and actively manage their finance team. So often you see companies that have to restate their financials or that get dinged for internal control weaknesses because the CFO did not consider either to be important until it was too late. Don’t let that be your company.

Stephen Ambler is a director at RoseRyan, where he manages the development of the firm’s “dream team” of consultants. His interim CFO stints at RoseRyan have included a social media company and the management of the financial integration process at a company acquired by Oracle. He previously held the CFO position for 13 years at Nasdaq-listed companies.

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Tough love in finance: how to deliver bad news

When you work in finance and accounting, tough conversations go with the territory. At some point, you may have to tell someone their numbers are off, that they need to rethink a corporate strategy or a new hire, or that some part of a project or the company itself isn’t doing well.

While it’s understandably tempting to avoid awkward talks, your best bet is always to be honest and say what’s on your mind even when dealing with difficult topics. It’s a practice we regard highly at RoseRyan, where honest communication is a major part of the values we have embedded in the firm (Trustworthy, Excel, Advocate and Team).

The next time you have bad news to share with someone else, whether it’s your boss, a client, an employee, or an investor, I suggest you take a deep breath and keep the following tips in mind:

Pipe up early: As soon as you notice an issue, bring it up. If the people involved find out on their own, they may be surprised and upset, and less open to listening to what you say. During a RoseRyan engagement where a client had gradually expanded the scope of our work and the project had become more complicated, our project manager sat down with the client as soon as we realized the project was heading toward over-budget territory. Other service providers could have waited until billing time to spring this news on the client, but we don’t work that way. By proactively telling the full story and not waiting until the end of the project, RoseRyan was able to get the new budget approved and the client could plan accordingly.

Don’t hold back: If you’re tasked with helping others do their job better, you sometimes need to tell them something that they don’t want to hear or that they don’t even realize is happening. This scenario can happen at fast-growing companies when key people’s skill sets are not able to keep up with the more complex business’s needs. For example, a controller who has limited experience with complex revenue issues may be fine for a small startup in the development stages but may be in over his head as the company grows and starts to ship product. Supervisors and advisors may need to step in and alert the CEO that a change is necessary. While such conversations should be done in an honest and sensitive way, these issues are best dealt with as soon as possible before they affect the business.

Tread lightly: The topic of an under-skilled  team member is a highly sensitive one, of course. Whenever you’re dealing with personnel issues, it’s best to focus on the skills and talents required – and not get personal. In the finance department, this topic comes up all the time as new skills become needed and roles are expanded. If the situation requires bringing on board a more highly skilled professional for a particular role, it is best to communicate the specific requirements needed for the job to the individual getting reassigned, rather than dwelling on a list of failures in the past.

Keep the message brief: Rambling on about why something happened doesn’t do anyone any good and may make the situation worse. The person on the other end may even think the news is worse than it is. Take the time to plan out what you will say – I usually make an outline of the key points I want to make – so that you stay on message and don’t take all day to say it. Get to the point, and deliver the bad news clearly and quickly.

Suggest a solution: The communication process often provides an opportunity for turning a negative situation into a positive one. This is another reason to think carefully about what you’re going to say. Whatever happened, happened. Focus on the next steps and provide some options for resolving the problem. The recipient of your message will be grateful for the creative solutions.

Theresa Eng is a member of RoseRyan’s dream team. Her areas of expertise include financial planning and budgeting, finance operations, and SOX.

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3 quick tips for streamlining your stock-based pay plans

Keep your employees motivated with stock-based compensation, the thinking goes, and you will be rewarded with high productivity and gains in your company’s growth track. What managers often fail to consider is that if they make mistakes along the way—and we’ve seen many when it comes to equity-based compensation plans—they could actually end up with low employee morale, putting a crimp in the pace of the performance-aligned goals they have set up.

Whenever a company has to amend awards previously made or restate their financial statements because of adjustments in equity-based comp, employees will naturally have concerns—even when the change has little, if any, financial impact on them.

The risk of dents in morale is just one of many consequences RoseRyan has observed while helping clients with issues in their equity-based pay strategies. You’d be amazed at the range of problems we have seen—many of them due to honest mistakes. In our experience, 9 out of 10 companies have had some issue with their underlying stock data that affects their stock-based compensation expense.

To prevent such problems at your company, consider these three tips the next time you evaluate your stock-based compensation strategy (we’ll get into more detail about this topic at our February 26 luncheon called Compensation for Private Companies: The Ins and Outs of Equity, which will be held at BayBio with Kyle Holm, associate partner at compensation consulting firm Radford).

Be obsessive about looking for modifications: Some modifications are obvious (say, repricing a stock option); some modifications are less so (say, allowing a consultant to keep options after you hire that person as an employee). Keep an eye out not only for board decisions but also for management decisions, material transactions, and liquidity events. The rule is, any change to the award or the award holder’s status should trigger consideration of accounting modifications.

Identifying that you have a modification is just the first challenge; the accounting can be tricky as well. How you account for the modification will depend on the type of modification. Variations include measuring the incremental value only, accelerating the expense, or valuing the new award and reversing the value associated with the original award. You also need to be sure you’re entering the modification in your equity system in a way that captures the appropriate modification accounting.

Make sure performance-based awards are on everyone’s radar: Performance-based awards are great tools for both retaining employees and motivating goal-driven behavior. But there is accounting risk here as well. With performance-based awards, companies must assess the probability of achieving the metrics at each reporting date and adjust the expense accordingly. This step often doesn’t happen. Maybe the board minutes lay out the performance goals associated with an award, but the stock administrator gets only a spreadsheet of grants to administer, with no indication that vesting is contingent. Or maybe the stock administrator is aware of the performance targets but doesn’t flag performance-based grants in the equity system, so the accounting team doesn’t know they exist. Such miscommunication can lead to overstated stock-based compensation expense.

Tie your 409A valuations to major grant dates: For private companies, the rule of thumb is to obtain a 409A valuation of your stock at least once a year, and in conjunction with major events such as financings, significant transactions, or material changes to the business. Some companies instead tend to do their 409A at the end of the year, just because they’re doing other valuations and financial decompressions at the same time. But think about this example, from one of our clients that approved a major grant to executives and employees in June 2011, six months after valuing its common stock at $1.25 per share for its annual 409A. By that point, the value of the stock had increased significantly—to $3—based on several design wins and other economic factors. While that’s a nice problem to have, they suddenly faced additional stock-based compensation expense and time-consuming updates to their equity system, among other issues.

It’s easy to think your equity-based compensation is under control; however, we have found time and again that it’s an ever-evolving tool that needs tending to, as your headcount grows, the complexity of your company expands, and situations evolve.

Get in the mode of reevaluating your pay strategy during the RoseRyan February 26 Lunch & Learn seminar about equity in South San Francisco. It will be geared toward private companies. Click here to register. And for more details about these best practices as well as some others to consider, also check out the RoseRyan intelligence report I wrote called Stock options: do you have a problem?.

Kelley Wall leads RoseRyan’s Technical Accounting Group, which provides technical accounting and SEC expertise to public and private companies on complex accounting matters and implementation of new accounting pronouncements. 

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Bitcoins: should CFOs be willing to take the risk?

You are the CFO of a public company and your CEO suggests you invest in Bitcoins, as their value has gone up a lot over the past few weeks, and he thinks that will continue. He says it will make the bottom line on the income statement look stronger. What should you do?

You’ll first have to do a little explaining. Bitcoins are a very new and highly volatile virtual currency, and should be treated with caution, by both personal investors and companies that decide to invest in them or incorporate them into their payment systems. Here’s an example of their volatility: In early December 2013, Bitcoins were trading at $421 per coin, and just a month later, they were trading at well over $1,000 a coin. So if you had bought some in December, you would have looked like a hero in early January. Unfortunately, if you had bought some in November 2013, you would actually be showing a loss in January, as they were trading at $1,100 back then. You would have been looking really bad when the price dropped to $421 in December. But there’s more of an issue here than how you look.

Bitcoins are an unregulated currency in the U.S. at this time. If the U.S. ever decides to regulate them, expect the price to drop significantly when that regulation is announced. China’s decision to not allow conversion of Bitcoins into local Chinese currency back in December was one of the big reasons for the drop in their price. Will the U.S. decide to regulate? Hard to say, but Bitcoin is associated with money laundering, and that in itself may invite scrutiny of your company should you trade in them, and it may also be the driving force to regulation. In addition, as Bitcoins are not regulated, there is and will continue to be no protection to consumers who buy them and lose money on them, and of course they have no intrinsic value. No government wants its consumers to suffer losses, especially when it’s avoidable. My guess is that at some point soon there will be regulation.

In the meantime, some companies, such as Zynga, are starting to accept Bitcoins as a form of payment. However, most companies are still not having anything to do with them, because of the risk involved. I don’t know what Zynga or the other companies are doing with the Bitcoins when they get receipt of them, but I suspect they are converting the Bitcoins to established currencies as fast as they can, so they can minimize their risk. If they don’t convert, they are holding the Bitcoins as an investment. That raises a whole slew of issues, including whether they can even do it under their investment policy. Nearly all public companies have investment policies that restrict the type of investment they hold to, say, AAA-level investments. I am pretty sure Bitcoins fall outside that classification, so companies would be barred from holding them without changing their policy. It would be a brave board of directors that changed that policy given the downside risk.

So, back to the original question of what should you do? This is a classic case of risk assessment, and I personally suggest you proceed with a tremendous amount of caution. First, you should check your investment policy and see if it allows for such holdings. If it doesn’t, there will need to be a discussion at the board level about that policy and what the company is trying to achieve under its policy. If the policy doesn’t allow for investment and the board wants to invest in them, the board will need to adopt changes. Second, if you do decide to invest and the policy allows for it, consider the downside risk. If you are not willing as a company to stomach the downside, do not invest. If you and your company are tolerant of some risk, limit your investment to that level of risk.

You as the CFO are responsible for the financial actions of the company, and you will get all the attention, whether Bitcoins go sour or they actually soar. I remember a similar situation with mortgage-backed securities in the last decade. Back then, I was a CFO of a public company with $150 million in investments, and investors were screaming at me to buy them because they had great returns. Our returns were 4% whereas others had double-digit returns. I did not authorize buying them, as we had a very cautious investment policy and they were outside the scope, plus their nature just made me nervous and I was not going to recommend we change our policy. When their value crashed in 2008, there was a tremendous backlash on CFOs and companies that had held them. My 4% return suddenly looked very good, and my board was very happy with my actions. Unfortunately, many companies and CFOs paid the ultimate price. You don’t want to be the one in that situation.

So act with caution, and remember that it’s not all about making the income statement’s bottom line look good. It’s actually more about making sure the bottom line does not look bad!

For more information about the many aspects companies need to consider when contemplating the use of Bitcoins, see Compliance Week’s Virtual Currencies Come with Real Accounting Concerns (subscription required), which includes commentary from Stephen Ambler.

Stephen Ambler is a director at RoseRyan, where he manages the development of the firm’s “dream team” of consultants. His interim CFO stints at RoseRyan have included a social media company and the management of the financial integration process at a company acquired by Oracle. He previously held the CFO position for 13 years at Nasdaq-listed companies.

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