Called to Account: Take-Two is instructing the media to calculate numbers the SEC forbids it to report

Take-Two Interactive Software sent journalists a veritable cookbook to calculate its first-fiscal-quarter earnings beat this week, since the favorable number is not found in the company’s earnings press release, as it’s forbidden under Securities and Exchange Commission rules for reporting non-GAAP metrics.

The videogame company TTWO, -1.92% emailed journalists prior to its earnings conference call on Monday to explain the math they needed to do to calculate a per-share number that would compare with analyst estimates, which it says are based on the company’s own financial measures, not GAAP, or Generally Accepted Accounting Principles, standards. Take-Two’s internal figures start from an adjusted top-line number that includes deferred revenue.

Take-Two’s deferred-revenue balance under new accounting rules applicable starting in 2018, according to its last 10-K filed with the SEC, consists of primarily “unsatisfied revenue related to the portion of the transaction price allocable to game related services of our full game software products.” Deferred revenue may also include payments for games that have been announced but not yet released.

However, Take-Two asked the media this week to report an adjusted EPS number — a figure that is not in its earnings release — that includes deferred revenue and also adjusts for expenses related to stock-based compensation and the impact of business reorganizations, acquisitions, or amortization or impairment of acquired intangible assets, like goodwill.

Take-Two did not respond to a request for comment. A spokeswoman for the SEC declined to comment.

Joseph Schroeder, an assistant professor of accounting at Indiana University, told MarketWatch the SEC rule on nonstandard numbers, called Regulation G, was meant to make things clearer, not murkier.

“The goal of Regulation G was to provide a universally accepted starting point, GAAP-compliant numbers, and provide a reconciliation to non-GAAP metrics the firm uses for internal evaluation purposes,” said Schroeder. “Companies and their management should provide transparent disclosure that makes it easier for investors to see the different components of these measures, not harder.”

And that’s not all.

“A further concern is that the companies are using journalists as intermediaries to take the information in the earnings announcement and transform it for purposes of comparison to analyst forecasts,” he said. “Investors shouldn’t have to go through massive exercises and/or subscribe to certain journalist services in order to understand the fundamentals of the company and how they are evaluated for valuation purposes.”

Using journalists to skirt the SEC’s rules is a tactic other companies have used. That’s because in 2016 the SEC cracked down on inappropriate and misleading use of non-GAAP numbers in earnings releases.

In 2016, Take-Two’s fellow gaming company Activision Blizzard ATVI, -2.57% got a letter from the SEC telling it to drop deferred revenue amounts from its reported non-GAAP numbers. So Activision did what Take-Two is now doing: It asked journalists to calculate an adjusted EPS figure that included deferred revenue, so that reports on its earnings would include numbers the SEC prohibits companies from reporting themselves.

For more on that story: This company found a unique way to skirt SEC accounting rules

Last year MarketWatch reported on how security company ADT Inc.’s ADT, -5.73% use of non-GAAP metrics was confusing and potentially misleading to investors, since it made that company’s numbers look better than they otherwise would. The SEC agreed, hitting the commercial and residential security company with a $100,000 fine last December, ordering it to cease and desist promoting nonstandard metrics in its earnings.

Three months later, nonstandard metrics were back, with ADT also asking journalists to make a calculation turning a loss into a profit by way of a metric the SEC has banned.

BlackBerry BB, -1.42% didn’t bother journalists to do its dirty work this June. The company reported first-quarter earnings that led with and were dominated by nonstandard numbers, including a headline on the earnings release that highlights the cybersecurity company’s non-GAAP revenue. The SEC does not generally allow companies to present non-GAAP metrics that adjust revenue.

The company then emailed reporters, including at MarketWatch, to tell them to use the non-GAAP revenue number, which was higher than GAAP revenue, as the comparison with consensus. That turned a revenue miss into a revenue beat. (MarketWatch declined to do so.)

See: BlackBerry violates SEC rules with use of non-standard metrics

Take-Two only reports one nonstandard financial metric on the face of its earnings press release, adjusted operating cash flow, which it defines as “GAAP net cash from operating activities, adjusted for changes in restricted cash.” Take-Two says it believes it is important to consider adjusted operating cash flow, in addition to net cash from operating activities, “as it provides more transparency into current business trends without regard to the timing of payments from restricted cash, which is primarily related to a dedicated account limited to the payment of certain internal royalty obligations.”

Read: Valeant is providing the media with an earnings metric that the SEC told it to stop using

The efforts to adjust numbers in this way may stem from the reluctance of companies such as Take-Two, and the analysts covering them, to adapt to new revenue-recognition accounting rules that became effective with the start of their first fiscal yearafter Jan. 1, 2018.

Take-Two adopted the new revenue-recognition rules beginning April 1, 2018 (its fiscal year ends on March 30), and the new accounting standards significantly changed how the company recognizes and reports net revenue and net income.

But, like 85% of public companies that adopted the new rules, the company implemented the new rules on a “modified retrospective” basis. That means it didn’t spend the time or money to recast financial data for periods prior to April 1, 2018, to allow for valid analysis and comparisons, which continue to confound analysts and investors.

More on this issue: Reporting on revenue recognition changes is still causing confusion—even for analysts

Plus: The revenue-growth rate that helped fuel Tesla’s rally relied on an apples-to-oranges comparison

Although Take-Two’s deferred-revenue adjustments may make positive or negative impacts on quarterly results, by year-end the cumulative result is always quite positive to revenue and, therefore, earnings and EPS, as MarketWatch shows in this chart:

Source: Analysis based on Take-Two disclosures in earnings press releases.
*Indicates the first reporting period with impact of ASC 606, the new revenue-recognition rule.

Take-Two is not only coaching journalists as to how to report an adjusted EPS figure that starts from revenue that incorporates deferred revenue for that quarter, in defiance of SEC rules; the company also uses adjusted non-GAAP revenue to determine annual cash incentives for its executives, according to its most recent proxy statement.

MarketWatch first reported Take-Two’s use of the adjusted revenue metric for executive compensation in November 2017. That’s the same metric that’s forbidden by the SEC for earnings reports.

Take-Two shares have gained 25% in 2019, while the S&P 500 SPX, -0.66% has risen 17% and the Dow Jones Industrial Average DJIA, -0.34% is up 13%.

Read: Take-Two Interactive is using a revenue metric the SEC does not allow to calculate bonuses

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