What is Accounting Noise
Accounting noise is the distortion in a company's financial statements due to variance in application of accounting rules and regulations. Accounting noise makes it difficult for investors to easily ascertain a company's true financial condition, and may make a company's financial reports look more or less positive. Although common financial figures that are publicly reported such as earnings or sales per share may be relatively easy to understand, parsing through the supporting documentation requires professional knowledge of the underlying accounting methods and process.
BREAKING DOWN Accounting Noise
When a company distributes its financial statements outside of the company, Generally Accepted Accounting Principles (GAAP) must be followed. If a corporation's stock is publicly traded, financial statements must also adhere to rules established by the U.S. Securities and Exchange Commission (SEC). Some companies may use both GAAP and non-GAAP compliant measures when reporting financial results. GAAP regulations require that non-GAAP measures are identified in financial statements and other public disclosures, such as press releases.
Separating Facts and Noise
A simple example of accounting noise is when a company has recently undergone a significant merger and may appear to be unprofitable on the income statement because the merger caused significant one-time charges for the company. In this instance, the company would likely explain the cause and its significance in a press release. However, if the company didn't explain or provide documentation, investors would likely speculate as to the company's current financial condition and prospects. Conversely, an underperforming company could engage in earnings manipulation, creating accounting noise to hide its poor performance, and potentially creating a false financial profile.