Chapter 4 — Non-GAAP Measures That May Be Misleading or Prohibited and Other Considerations Related to Common Non-GAAP Measures

4.14 Credit Agreement Covenants

Credit agreements often require registrants to comply with certain financial or non-financial covenants. The financial covenants, which may be based on GAAP or on non-GAAP measures such as EBITDA or adjusted EBITDA, are often material to an investor’s understanding of the registrant’s financial condition and liquidity. Accordingly, disclosure of information about covenants may be required in the MD&A section of a filing.

C&DIs — Non-GAAP Financial Measures

Question 102.09

Question: Item 10(e)(1)(ii)(A) of Regulation S-K prohibits “excluding charges or liabilities that required, or will require, cash settlement, or would have required cash settlement absent an ability to settle in another manner, from non-GAAP liquidity measures, other than the measures earnings before interest and taxes (EBIT) and earnings before interest, taxes, depreciation and amortization (EBITDA).” A company’s credit agreement contains a material covenant regarding the non-GAAP financial measure “Adjusted EBITDA.” If disclosed in a filing, the non-GAAP financial measure “Adjusted EBITDA” would violate Item 10(e), as it excludes charges that are required to be cash settled. May a company nonetheless disclose this non-GAAP financial measure?

Answer: Yes. The prohibition in Item 10(e) notwithstanding, because MD&A requires disclosure of material items affecting liquidity, if management believes that the credit agreement is a material agreement, that the covenant is a material term of the credit agreement and that information about the covenant is material to an investor’s understanding of the company’s financial condition and/or liquidity, then the company may be required to disclose the measure as calculated by the debt covenant as part of its MD&A. In disclosing the non-GAAP financial measure in this situation, a company should consider also disclosing the following:

the material terms of the credit agreement including the covenant;
the amount or limit required for compliance with the covenant; and
the actual or reasonably likely effects of compliance or non-compliance with the covenant on the company’s financial condition and liquidity. [Jan. 11, 2010]

As indicated in C&DI Question 102.09, a registrant must disclose in its MD&A material items affecting its financial condition or liquidity. The C&DI emphasizes that a registrant should disclose a measure that is calculated in accordance with a credit agreement when (1) the credit agreement is a material agreement, (2) the covenant is a material term of the credit agreement, and (3) information about the covenant is “material to an investor’s understanding of [its] financial condition and/or liquidity” (e.g., when the registrant is at risk of violating the covenant). Disclosure of the measure may be required even if the measure would otherwise be prohibited under Item 10(e) (see Section 4.1).

In addition to providing the non-GAAP disclosures required by Item 10(e), a registrant should consider the other disclosures described in C&DI Question 102.09.

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This SEC Reporting Interpretations manual provides comprehensive guidance; however, the manual does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.