The CEO of a small-cap research company called RedChip has started his own blog about small-cap stocks. While I'm not very familiar with the company or his background, his initial post is interesting in its discussion on non-GAAP financial metrics, which rose to prominence during the Internet bubble.

For the uninitiated, non-GAAP metrics are any of the ways of reporting earnings that a company might use in addition to their regular GAAP (generally accepted accounting principles) earnings. EBITDA (earnings before interest, taxes, depreciation, and amortization) is probably the most common non-GAAP measure of earnings. Non-GAAP earnings allow room for all kinds of voodoo. For instance, a company could borrow money at 15% interest, and earn a 5% return on invested capital. While paying 15% to earn 5% is bad business, it is profitable based on EBITDA, because EBITDA is calculated without taking into account interest charges.

Dave Gentry goes on to retell an old joke about accounting attributed to Abraham Lincoln: How many legs does a dog have if you call the tail a leg? Answer: four, because a tail is not a leg. Companies can report earnings in all kinds of ways but, ultimately, it's the real state of the business that matters.

I don't know whether RedChip's future blog posts will be any good. But if they're as interesting as this one, it's worth bookmarking.

Bookmark this blog: Redchip.com originally appeared on BloggingStocks on Sat, 03 Mar 2007 12:10:00 EST. Please see our terms for use of feeds.