A Message from the President.

• Author: Melancon, Barry C.
• Position: Brief Article

"Earnings Quality" has been a subject of Securities and Exchange Commission investigations, articles in most, if not all, business publications, and significant debate in recent years. It is a matter of importance in the financial reporting and regulatory communities, and it impacts the confidence of investors in our financial markets. Consider that the U.S. controls 40% of the world's capital markets, and you get an appreciation for the global economic impact that shaken investor confidence could have. This is why we consider this subject so important that we are featuring a special report in this CPA Letter on Quality of Earnings, to communicate to all our members on their role in this process, whether they are part of the preparer, auditor, regulatory, government or academic communities.

The concept of Quality of Earnings goes back to preparers understanding the economic substance of a transaction, then reflecting it properly in the books and records of the company. However, this is not always easy, as accounting rules are not simply black and white, and the nature of transactions is ever more complex. This understanding can be improved when the chief financial officer, an expert in the management of process, technology and resources, is part of the decision-making process in a company and can help guide and shape decisions to make better sense within the context of GAAP and regulatory reporting requirements.

Managing the business and its operations to achieve a desired outcome or hit a target is entirely appropriate (the emphasis here is placed on managing the business); managing earnings, as we all agree, is not an acceptable practice to hit earnings targets. The AICPA will continue to provide guidance and education to ensure that our members, and others in the financial reporting community, report high-quality earnings and the necessary disclosures to enable the investing public to make better informed decisions.

One way to do this is through the creation of a robust performance measurement system incorporating both financial and nonfinancial measures that not only measure current positions, but are predictive of future conditions in the business. Knowing and understanding key metrics in a company can lead to better decision-making and reporting, and thus higher quality of earnings. Having an effective early warning system in place could obviate the need for managing earnings by giving more of an opportunity for managing operations.

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