Financial Reporting Quality: Aggregate Accruals
Earnings can be decomposed into cash and accrual components. The accrual component (aggregate accruals) has been found to have less persistence than the cash component, and therefore (1) earnings with higher accrual component are less persistent than earnings with smaller accrual component, all else equal; and (2) the cash component of earnings should receive a higher weighting evaluating company performance.
Balance-Sheet-Based Accruals Ratio
Celgene Corp., balance sheet computation of aggregate accruals
US$ in millions
| Dec 31, 2018 | Dec 31, 2017 | Dec 31, 2016 | Dec 31, 2015 | Dec 31, 2014 | ||
|---|---|---|---|---|---|---|
| Operating Assets | ||||||
| Total assets | 35,480) | 30,141) | 28,086) | 27,053) | 17,340) | |
| Less: Cash and cash equivalents | 4,234) | 7,013) | 6,170) | 4,880) | 4,122) | |
| Less: Debt securities available-for-sale | 496) | 3,219) | —) | —) | —) | |
| Less: Equity investments with readily determinable fair values | 1,312) | 1,810) | —) | —) | —) | |
| Less: Marketable securities available-for-sale | —) | —) | 1,800) | 1,672) | 3,425) | |
| Operating assets | 29,438) | 18,099) | 20,116) | 20,502) | 9,793) | |
| Operating Liabilities | ||||||
| Total liabilities | 29,319) | 23,220) | 21,486) | 21,134) | 10,815) | |
| Less: Short-term borrowings and current portion of long-term debt | 501) | —) | 501) | —) | 606) | |
| Less: Long-term debt, net of discount, excluding current portion | 19,769) | 15,838) | 13,789) | 14,250) | 6,266) | |
| Operating liabilities | 9,049) | 7,382) | 7,197) | 6,884) | 3,944) | |
| Net operating assets1 | 20,389) | 10,717) | 12,919) | 13,618) | 5,850) | |
| Balance-sheet-based aggregate accruals2 | 9,672) | (2,202) | (699) | 7,768) | —) | |
| Financial Ratio | ||||||
| Balance-sheet-based accruals ratio3 | 62.19% | -18.63% | -5.27% | 79.80% | — | |
| Benchmarks | ||||||
| Balance-Sheet-Based Accruals Ratio, Competitors4 | ||||||
| AbbVie Inc. | — | — | — | — | — | |
| Amgen Inc. | — | — | — | — | — | |
| Bristol-Myers Squibb Co. | — | — | — | — | — | |
| Danaher Corp. | — | — | — | — | — | |
| Eli Lilly & Co. | — | — | — | — | — | |
| Gilead Sciences Inc. | — | — | — | — | — | |
| Johnson & Johnson | — | — | — | — | — | |
| Merck & Co. Inc. | — | — | — | — | — | |
| Pfizer Inc. | — | — | — | — | — | |
| Regeneron Pharmaceuticals Inc. | — | — | — | — | — | |
| Thermo Fisher Scientific Inc. | — | — | — | — | — | |
| Vertex Pharmaceuticals Inc. | — | — | — | — | — | |
Based on: 10-K (reporting date: 2018-12-31), 10-K (reporting date: 2017-12-31), 10-K (reporting date: 2016-12-31), 10-K (reporting date: 2015-12-31), 10-K (reporting date: 2014-12-31).
1 2018 Calculation
Net operating assets = Operating assets – Operating liabilities
= 29,438 – 9,049 = 20,389
2 2018 Calculation
Balance-sheet-based aggregate accruals = Net operating assets2018 – Net operating assets2017
= 20,389 – 10,717 = 9,672
3 2018 Calculation
Balance-sheet-based accruals ratio = 100 × Balance-sheet-based aggregate accruals ÷ Avg. net operating assets
= 100 × 9,672 ÷ [(20,389 + 10,717) ÷ 2] = 62.19%
4 Click competitor name to see calculations.
The financial reporting quality, as measured by balance-sheet-based accruals, exhibits significant volatility between 2015 and 2018, characterized by alternating periods of high positive accruals and negative accruals.
- Net Operating Assets Trend
- Net operating assets showed a consistent decline from 2015 to 2017, decreasing from US$ 13,618 million to US$ 10,717 million. This downward trend was abruptly reversed in 2018, with net operating assets increasing substantially to US$ 20,389 million, representing nearly a twofold increase from the previous year.
- Aggregate Accruals Performance
- Aggregate accruals transitioned from a high positive balance of US$ 7,768 million in 2015 to negative balances in 2016 and 2017, reaching a low of US$ -2,202 million. In 2018, aggregate accruals returned to a positive state, increasing sharply to US$ 9,672 million.
- Accruals Ratio Interpretation
- The accruals ratio reflects high variance, starting at 79.80% in 2015, before shifting to -5.27% in 2016 and -18.63% in 2017. The ratio then climbed to 62.19% in 2018. The elevated positive ratios in 2015 and 2018 indicate that a significant portion of reported earnings was not backed by cash flows, which may suggest lower earnings quality during those specific years. Conversely, the negative ratios observed in 2016 and 2017 suggest a period where cash flows exceeded reported accrual-based earnings.
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Cash-Flow-Statement-Based Accruals Ratio
Celgene Corp., cash flow statement computation of aggregate accruals
US$ in millions
| Dec 31, 2018 | Dec 31, 2017 | Dec 31, 2016 | Dec 31, 2015 | Dec 31, 2014 | ||
|---|---|---|---|---|---|---|
| Net income | 4,046) | 2,940) | 1,999) | 1,602) | 2,000) | |
| Less: Net cash provided by operating activities | 5,171) | 5,246) | 3,976) | 2,484) | 2,806) | |
| Less: Net cash used in investing activities | (6,418) | (2,891) | (1,002) | (6,259) | (1,438) | |
| Cash-flow-statement-based aggregate accruals | 5,293) | 585) | (975) | 5,377) | 632) | |
| Financial Ratio | ||||||
| Cash-flow-statement-based accruals ratio1 | 34.03% | 4.95% | -7.35% | 55.24% | — | |
| Benchmarks | ||||||
| Cash-Flow-Statement-Based Accruals Ratio, Competitors2 | ||||||
| AbbVie Inc. | — | — | — | — | — | |
| Amgen Inc. | — | — | — | — | — | |
| Bristol-Myers Squibb Co. | — | — | — | — | — | |
| Danaher Corp. | — | — | — | — | — | |
| Eli Lilly & Co. | — | — | — | — | — | |
| Gilead Sciences Inc. | — | — | — | — | — | |
| Johnson & Johnson | — | — | — | — | — | |
| Merck & Co. Inc. | — | — | — | — | — | |
| Pfizer Inc. | — | — | — | — | — | |
| Regeneron Pharmaceuticals Inc. | — | — | — | — | — | |
| Thermo Fisher Scientific Inc. | — | — | — | — | — | |
| Vertex Pharmaceuticals Inc. | — | — | — | — | — | |
Based on: 10-K (reporting date: 2018-12-31), 10-K (reporting date: 2017-12-31), 10-K (reporting date: 2016-12-31), 10-K (reporting date: 2015-12-31), 10-K (reporting date: 2014-12-31).
1 2018 Calculation
Cash-flow-statement-based accruals ratio = 100 × Cash-flow-statement-based aggregate accruals ÷ Avg. net operating assets
= 100 × 5,293 ÷ [(20,389 + 10,717) ÷ 2] = 34.03%
2 Click competitor name to see calculations.
The financial reporting quality from 2015 to 2018 is characterized by significant volatility in accruals relative to net operating assets, indicating fluctuating levels of alignment between reported earnings and actual cash flows.
- Net Operating Assets
- A downward trend was observed from 2015 to 2017, with values decreasing from 13,618 million USD to 10,717 million USD. However, this trend reversed sharply in 2018, with net operating assets increasing to 20,389 million USD, representing a nearly 90% increase over the previous year.
- Cash-Flow-Statement-Based Aggregate Accruals
- Aggregate accruals exhibited substantial variance over the four-year period. A high positive value of 5,377 million USD in 2015 shifted to a negative position of -975 million USD in 2016. Accruals returned to a positive but low level of 585 million USD in 2017 before spiking again to 5,293 million USD in 2018.
- Cash-Flow-Statement-Based Accruals Ratio
- The accruals ratio shows a pattern of extreme fluctuation. The ratio was high in 2015 at 55.24%, dropped to -7.35% in 2016, and remained relatively low at 4.95% in 2017. By 2018, the ratio climbed significantly to 34.03%.
The observed patterns suggest periods of diverging earnings quality. The high positive ratios in 2015 and 2018 indicate that a significant portion of the reported operating income was not supported by cash flows, which often signals a higher reliance on non-cash accounting entries. Conversely, the negative and low ratios in 2016 and 2017 suggest a period where cash flow from operations more closely tracked or exceeded reported accrual-based earnings, implying higher reporting quality during those specific years.
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