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> But what you are missing is that many modern companies, and especially software companies (2/3 of labor expenses are R&D), have capital that is basically IP c

> But what you are missing is that many modern companies, and especially software companies (2/3 of labor expenses are R&D), have capital that is basically IP created by their employees, and so just as it's a good idea to sell equity to buy some metal stamping machine, and this does not dilute the equity of the firm or cheat any shareholders, so it's also a good idea to sell equity to hire the person to write your application, or create a vaccine, or design a new engine, and this also does not dilute equity or hurt the company. This is a useful way to think about R&D expenses, but it’s not a justification for different treatment of cash and stock comp for employees. It’s more like an argument that R&D investment should be capitalized - and it sometimes is. But whether you capitalize R&D shouldn’t depend on what portion of the expense is stock vs cash.

rsj_hn 5y ago
> but it’s not a justification for different treatment of cash and stock comp for employees. It is, because the firm will give stock comp -- which is a share of future profits, in proportion to the capital provided by employees -- if it doesn't the shareholders can police that as it will be seen via lower long term P/E ratios. Therefore you really only need the P/E ratios to guide you, you don't need anything else. There is simply no need for GAAP to insist that employee comp is always a current expense and is never a capital investment. That's the issue. > It’s more like an argument that R&D investment should be capitalized - and it sometimes is Tech firms can't expense worker comp as capital investment under GAAP. But worker comp accounts for most R&D. Thus tech can't really expense R&D under GAAP properly. That's the problem. That's why these software firms have to show huge GAAP losses when really they are making investments and show non-GAAP profits. It would be the same thing as if capital equipment purchase cost had to be on the income statement and could not be depreciated -- you'd also see huge losses in the first few years followed by absurd earnings. This is exactly the situation tech firms are in, and it explains why both investors and firms focus on non-GAAP earnings in this sector. What we need is the concept of capital expenditures funded by employee compensation, because the reality of how modern firms work. That's all that's going on here when software firms give stock options to key employees that develop the applications they sell. Instead, GAAP is biased towards the purchase of things like computers and equipment, which is actually a much less useful measure of the true capital that a tech firm has.
- fshbbdssbbgdd 5y ago
  At Uber, a large portion of compensation for engineers is in stock. At Netflix, it’s almost entirely cash. Why should non-GAAP earnings privilege Uber’s approach over Netflix’s approach? Wouldn’t it be better to make your non-GAAP earnings capitalize R&D expenses? Even at a company like Uber, plenty of stock goes to non-R&D employees, and plenty of cash does go to R&D, so it’s not even measuring what you want it to measure. Also, capitalizing R&D would mean that companies could also write down failed R&D investment, which is obviously necessary for accurate reporting if you never charged that investment as an expense.

rsj_hn 5y ago

> but it’s not a justification for different treatment of cash and stock comp for employees. It is, because the firm will give stock comp -- which is a share of future profits, in proportion to the capital provided by employees -- if it doesn't the shareholders can police that as it will be seen via lower long term P/E ratios. Therefore you really only need the P/E ratios to guide you, you don't need anything else. There is simply no need for GAAP to insist that employee comp is always a current expense and is never a capital investment. That's the issue. > It’s more like an argument that R&D investment should be capitalized - and it sometimes is Tech firms can't expense worker comp as capital investment under GAAP. But worker comp accounts for most R&D. Thus tech can't really expense R&D under GAAP properly. That's the problem. That's why these software firms have to show huge GAAP losses when really they are making investments and show non-GAAP profits. It would be the same thing as if capital equipment purchase cost had to be on the income statement and could not be depreciated -- you'd also see huge losses in the first few years followed by absurd earnings. This is exactly the situation tech firms are in, and it explains why both investors and firms focus on non-GAAP earnings in this sector. What we need is the concept of capital expenditures funded by employee compensation, because the reality of how modern firms work. That's all that's going on here when software firms give stock options to key employees that develop the applications they sell. Instead, GAAP is biased towards the purchase of things like computers and equipment, which is actually a much less useful measure of the true capital that a tech firm has.

fshbbdssbbgdd 5y ago
At Uber, a large portion of compensation for engineers is in stock. At Netflix, it’s almost entirely cash. Why should non-GAAP earnings privilege Uber’s approach over Netflix’s approach? Wouldn’t it be better to make your non-GAAP earnings capitalize R&D expenses? Even at a company like Uber, plenty of stock goes to non-R&D employees, and plenty of cash does go to R&D, so it’s not even measuring what you want it to measure. Also, capitalizing R&D would mean that companies could also write down failed R&D investment, which is obviously necessary for accurate reporting if you never charged that investment as an expense.