The history of accounting is a ceaseless effort to put raw numbers into some context that enables good decisions. The questions of when to recognize revenue, what counts as revenue, how to value various assets a company owns, etc., never get fully answered. But GAAP and IFRS do a pretty good job, and allow you to answer otherwise incoherent questions like "is this bank a better bank than that airline is an airline?" That could be like asking whether Taylor Swift is better at music than John Roberts is at interpreting the Constitution, but if you develop sufficiently flexible, fungible measures of input and output, you can at least have a coherent argument about this.

But that same generality means that different companies will want to highlight different metrics, and slice them in different ways. Banks and airlines are both asset-heavy businesses that have to pay attention to how those assets are financed, but this plays out in completely different ways; banks have some semi-captive financing options and some backstops that aren't available to other industries, but face offsetting regulations that mostly keep them from abusing those. Airlines have expensive physical assets for which utilization is an important concern, but these assets stay on the books long enough that an airline's cash flow statement is a meaningful measure of operating performance, whereas a bank's will reflect other considerations.

So, companies will sometimes tell investors to pay attention to their particular technique for calculating how they're doing. There are, broadly, three cases of this:

1. Some metrics will be noisy over time in a way that mostly nets out. Quoting revenue growth ex-FX, for example, smooths out the impact of currency fluctuations. These do matter; if you earn money in a depreciating currency and pay expenses in an appreciating one, that gap is very real. But, unless your investors are professional FX traders, or you happen to have a Swiss company that earns all of its revenue in the form of long-term contracts denominated in Venezuelan Bolivars, it's more meaningful to present the FX-smoothed number and let investors decide whether or not they want to hedge it themselves.¹ This kind of reasoning also explains why it's legitimate for occasional acquirers to report a number that excludes one-time acquisition costs, or for a company to report an adjusted quarterly number that omits one-time severance costs from a layoff. In each of these cases, the number is both a steady-state metric and (conveniently!) a higher number than the actual. This kind of reasoning also explains why it's legitimate for occasional acquirers to report a number that excludes one-time acquisition costs, or for a company to report an adjusted quarterly number that omits one-time severance costs from a layoff. In each of these cases, the number is both a steady-state metric and (conveniently!) a higher number than the actual.

2. Some metrics are noisy in a different way: companies can have a consistent margin structure with respect to the underlying economics of what they do, but book gross revenue in one place and net revenue in another depending on exactly how that revenue is earned. This can show up when an adtech company has owned and operated properties, and also runs ads on third-party sites (e.g, Google) where it's splitting the revenue with the other publisher but reporting all of the revenue and then reporting the revenue split as a cost. In a case like that, their third- vs first-party mix can make margins swing around in a way that doesn't reflect the fundamentals of the business. Fintech companies that report their cut as revenue for fiat currency transactions and the entire value of the transaction for crypto (e.g, Block) also fit into this category. In general, these companies will normalize revenue recognition and offer guidance on that number, rather than the less meaningful gross number.

3. Companies can also cynically adjust out all sorts of costs that are recurring for them but one-time for others, or that it's just conventional to ignore. (Or, in extreme cases, just make a guess about future savings and treat that as an EBITDA add-back.) The cost of equity compensation is a good example of this: to the extent that it's compensation for employees, it's a cost to the employer.² It's a non-cash cost, and it will eventually show up in the form of dilution, or turn into a cash expense when the company buys back stock to offset this dilution, but it doesn't get any easier to analyze a business if they treat that cost as something they can adjust out of their profitability metrics. (The exception here is that lenders can exclude that cost—but they need to separately underwrite the risk that the stock declines enough that the company needs to switch back to cash compensation.) It's a non-cash cost, and it will eventually show up in the form of dilution, or turn into a cash expense when the company buys back stock to offset this dilution, but it doesn't get any easier to analyze a business if they treat that cost as something they can adjust out of their profitability metrics. (The exception here is that lenders can exclude that cost—but they need to separately underwrite the risk that the stock declines enough that the company needs to switch back to cash compensation.)

Internally, companies don't necessarily manage themselves to GAAP metrics. A few of them got a little too good at doing this in the late 90s, and investors learned some valuable lessons. In the first category, where there are genuine one-off costs, they matter to companies that are thinking about their liquidity situation, and one-time costs like acquisition and integration ideally get baked into the initial price of the acquisition against which future internal rates of return will be benchmarked. Internally, what the company is more or less doing is amortizing that cost over the life of the acquisition, just in the indirect sense that if the business needs to earn its cost of capital, and acquisition costs are included in that capital, they raise the benchmark for what it needs to earn. FX is a case where, while it's possible for a company to lose money because of currency risk, that's usually tied to some other risk—the currencies that go on indefinite, unexpected slides that aren't fully reflected in local interest rates are typically currencies issued by countries that have other problems, such that the meaningful risk to think about is political risk (and up your discount rate accordingly) not one specific way it plays out.

Consistent tweaks where a company indexes itself to a nonstandard metric are a tricky case, because they can be the second explanation for non-GAAP metrics—i.e. a better reflection of economic fundamentals—or the third, a way to put the word "earnings" in front of a higher number. EBITDA, for example, is not a direct substitute for earnings. But it's a very handy tool if your analytical process is to first look at the state of the business, then ask where the company will invest its cash, and then look at its financial structure to see where those cash flows will accrue.

There can be some feedback between this reporting and the optimal capital structure for a business, but in an indirect way: in general, a dollar of EBITDA can support more equity value than debt (a 5:1 ratio of debt to EBITDA is pretty spicy; a 5:1 ratio of enterprise value to EBITDA for a company with zero net debt is pretty cheap). But if a company is trying to maximize its returns to shareholders, one thing it wants to do is create the kind of EBITDA it can borrow against, so if it's maintaining some safer ratio, like 3:1 debt/EBITDA, every dollar of incremental durable EBITDA means $3 returned to shareholders by means of borrowing to fund a buyback. This dynamic encourages companies to find and lever up steadier sources of income, but that's also basically the goal of a mature business: once the main speed limit on their growth is GDP, the next variable they can influence is predictability, and if a more predictable business enables higher leverage, then that predictability translates directly into capital returns and a higher share price.

In the end, the numbers have to tie out. Companies that report adjusted metrics also walk through the adjustments they made, and it's much easier than it used to be to grab the numbers, pick which adjustments you want to keep, and come up with your own personal adjusted-EBITDA metric. And, in the very long term, purely cash-based metrics have to reconcile to net income, other consolidated income, or cash flows from financing; however big the cumulative adjustments or the gap between them and the underlying is: every adjustment has to get bridged to the original number, and every gap between reported revenue or costs and the ultimately realized revenue or cost shows up as a writeup or writedown eventually. In the very long term, cash and GAAP accounting tie out when a company gets liquidated, its net worth goes to zero, and every dollar is accounted for. Custom metrics are just a way to better understand what happens in the interim.

The goal of any mix of custom metrics is for the company and investors to be able to look at numbers and know what it means for their business when they change. GAAP does a reasonable first-cut job at this, though it's weaker for companies that make investments in the form of R&D spend and that realize subscription or usage revenue over time. A company like that can have identical or better economics to another business whose upfront costs are capitalized and depreciated rather than expensed and whose revenue is more front-loaded. Investors are aware of that in principle, but "can have" is doing a lot of work, and sometimes the best way to turn that into "does have" is to walk through a well-chosen set of numbers.

Accounting is a boring subject, in the sense that if you have a reasonable understanding of it you'll spare yourself some unpleasant excitement. In The Diff, we've covered it from several angles:

• We've looked at John Malone's constellation of companies, which introduced the world to EBITDA ($).

• In our CoreWeave S-1 writeup ($), we looked at which of their EBITDA adjustments did and didn't make sense. (Disclosure: long CRWV as a trade—specifically the cleanest bet that "pacing the frontier" means "accelerating less than we've recently realized we could" rather than decelerating at all.)

• We considered another accounting question: how to handle cases where companies' biggest assets are intangible ($).

• And in this note, a brief piece on how OpenAI and Anthropic use different revenue accounting ($), which makes Anthropic's number look bigger. Incidentally, Anthropic recently got flack for reporting a gross margin number to investors that was more consistent with OpenAI's treatment ($, FT).

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1  There is one fun exception here: some companies end up being a way for managers with an equity mandate to make an FX bet. IHG, the hotel chain, was listed in the UK, had shares quoted in pounds, but did most of its business in dollars (and calculated its dividend rate in dollars while converting the individual payments to pounds). So it was a way for UK investors to bet on their own currency depreciating in dollar terms.

2  One fun way to think about equity comp is to reverse the direction of the transaction: some companies are funded by VCs, but also by employees who provide a steady funding contribution in the form of below-market salaries, in exchange for RSUs.