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
Builders FirstSource Inc., balance sheet computation of aggregate accruals
US$ in thousands
| Dec 31, 2022 | Dec 31, 2021 | Dec 31, 2020 | Dec 31, 2019 | Dec 31, 2018 | ||
|---|---|---|---|---|---|---|
| Operating Assets | ||||||
| Total assets | 10,595,160) | 10,714,343) | 4,173,671) | 3,249,490) | 2,932,309) | |
| Less: Cash and cash equivalents | 80,445) | 42,603) | 423,806) | 14,096) | 10,127) | |
| Operating assets | 10,514,715) | 10,671,740) | 3,749,865) | 3,235,394) | 2,922,182) | |
| Operating Liabilities | ||||||
| Total liabilities | 5,632,594) | 5,911,862) | 3,020,888) | 2,424,537) | 2,335,971) | |
| Less: Current maturities of long-term debt | 6,355) | 3,660) | 27,335) | 13,875) | 15,565) | |
| Less: Long-term debt, net of current maturities, discounts and issuance costs | 2,977,842) | 2,926,122) | 1,596,905) | 1,277,398) | 1,545,729) | |
| Operating liabilities | 2,648,397) | 2,982,080) | 1,396,648) | 1,133,264) | 774,677) | |
| Net operating assets1 | 7,866,318) | 7,689,660) | 2,353,217) | 2,102,130) | 2,147,505) | |
| Balance-sheet-based aggregate accruals2 | 176,658) | 5,336,443) | 251,087) | (45,375) | —) | |
| Financial Ratio | ||||||
| Balance-sheet-based accruals ratio3 | 2.27% | 106.27% | 11.27% | -2.14% | — | |
| Benchmarks | ||||||
| Balance-Sheet-Based Accruals Ratio, Competitors4 | ||||||
| Boeing Co. | -12.09% | — | — | — | — | |
| Caterpillar Inc. | 1.82% | — | — | — | — | |
| Eaton Corp. plc | 2.87% | — | — | — | — | |
| GE Aerospace | -7.82% | — | — | — | — | |
| Honeywell International Inc. | -1.99% | — | — | — | — | |
| Lockheed Martin Corp. | 15.67% | — | — | — | — | |
| RTX Corp. | 1.57% | — | — | — | — | |
| Balance-Sheet-Based Accruals Ratio, Sector | ||||||
| Capital Goods | -0.33% | 200.00% | — | — | — | |
| Balance-Sheet-Based Accruals Ratio, Industry | ||||||
| Industrials | 0.67% | 200.00% | — | — | — | |
Based on: 10-K (reporting date: 2022-12-31), 10-K (reporting date: 2021-12-31), 10-K (reporting date: 2020-12-31), 10-K (reporting date: 2019-12-31), 10-K (reporting date: 2018-12-31).
1 2022 Calculation
Net operating assets = Operating assets – Operating liabilities
= 10,514,715 – 2,648,397 = 7,866,318
2 2022 Calculation
Balance-sheet-based aggregate accruals = Net operating assets2022 – Net operating assets2021
= 7,866,318 – 7,689,660 = 176,658
3 2022 Calculation
Balance-sheet-based accruals ratio = 100 × Balance-sheet-based aggregate accruals ÷ Avg. net operating assets
= 100 × 176,658 ÷ [(7,866,318 + 7,689,660) ÷ 2] = 2.27%
4 Click competitor name to see calculations.
The analysis of balance-sheet-based accruals reveals a period of significant volatility between 2019 and 2022, characterized by a substantial spike in both net operating assets and aggregate accruals during the 2021 fiscal year, followed by a sharp normalization in 2022.
- Net Operating Assets Expansion
- Net operating assets experienced moderate growth between 2019 and 2020, rising from 2.10 billion to 2.35 billion. A significant expansion occurred in 2021, where assets surged to 7.69 billion, remaining relatively stable through 2022 at 7.87 billion. This suggests a major structural increase in the company's operating base during 2021.
- Aggregate Accruals Trend
- Balance-sheet-based aggregate accruals moved from a negative value of 45.38 million in 2019 to a positive 251.09 million in 2020. The figure peaked exceptionally in 2021 at 5.34 billion before dropping precipitously to 176.66 million in 2022. The magnitude of the 2021 spike indicates a temporary and severe divergence between reported accounting earnings and cash flow.
- Accruals Ratio Analysis
- The accruals ratio followed a volatile trajectory, starting at -2.14% in 2019 and increasing to 11.27% in 2020. In 2021, the ratio reached an extreme peak of 106.27%, signifying that accruals exceeded the total net operating assets. This level typically indicates low earnings quality or significant non-cash accounting adjustments. By 2022, the ratio corrected to 2.27%, suggesting a return to a more conservative financial reporting profile and a stronger alignment between earnings and cash flow.
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Cash-Flow-Statement-Based Accruals Ratio
Builders FirstSource Inc., cash flow statement computation of aggregate accruals
US$ in thousands
| Dec 31, 2022 | Dec 31, 2021 | Dec 31, 2020 | Dec 31, 2019 | Dec 31, 2018 | ||
|---|---|---|---|---|---|---|
| Net income | 2,749,369) | 1,725,416) | 313,537) | 221,809) | 205,191) | |
| Less: Net cash provided by operating activities | 3,599,231) | 1,743,549) | 260,067) | 504,046) | 282,830) | |
| Less: Net cash used in investing activities | (957,479) | (1,344,640) | (136,225) | (199,180) | (96,658) | |
| Cash-flow-statement-based aggregate accruals | 107,617) | 1,326,507) | 189,695) | (83,057) | 19,019) | |
| Financial Ratio | ||||||
| Cash-flow-statement-based accruals ratio1 | 1.38% | 26.42% | 8.52% | -3.91% | — | |
| Benchmarks | ||||||
| Cash-Flow-Statement-Based Accruals Ratio, Competitors2 | ||||||
| Boeing Co. | -50.32% | — | — | — | — | |
| Caterpillar Inc. | 3.26% | — | — | — | — | |
| Eaton Corp. plc | 4.55% | — | — | — | — | |
| GE Aerospace | -15.92% | — | — | — | — | |
| Honeywell International Inc. | -0.79% | — | — | — | — | |
| Lockheed Martin Corp. | -1.36% | — | — | — | — | |
| RTX Corp. | 0.87% | — | — | — | — | |
| Cash-Flow-Statement-Based Accruals Ratio, Sector | ||||||
| Capital Goods | -5.98% | -27.73% | — | — | — | |
| Cash-Flow-Statement-Based Accruals Ratio, Industry | ||||||
| Industrials | -2.30% | -17.51% | — | — | — | |
Based on: 10-K (reporting date: 2022-12-31), 10-K (reporting date: 2021-12-31), 10-K (reporting date: 2020-12-31), 10-K (reporting date: 2019-12-31), 10-K (reporting date: 2018-12-31).
1 2022 Calculation
Cash-flow-statement-based accruals ratio = 100 × Cash-flow-statement-based aggregate accruals ÷ Avg. net operating assets
= 100 × 107,617 ÷ [(7,866,318 + 7,689,660) ÷ 2] = 1.38%
2 Click competitor name to see calculations.
An analysis of the financial reporting quality between 2019 and 2022 reveals significant volatility in aggregate accruals and a substantial expansion of the balance sheet. The most notable shift occurred in 2021, characterized by a sharp increase in both net operating assets and the accruals ratio, followed by a stabilization in 2022.
- Net Operating Assets Trend
- Net operating assets remained relatively stable from 2019 to 2020, increasing from 2.10 billion to 2.35 billion. However, a substantial increase is observed in 2021, where assets surged to 7.69 billion, representing a growth of approximately 227% in a single year. This expansion continued marginally into 2022, reaching 7.87 billion.
- Cash-Flow-Statement-Based Aggregate Accruals
- Accruals transitioned from a negative value of -83.1 million in 2019 to 189.7 million in 2020. A peak occurred in 2021 with aggregate accruals reaching 1.33 billion, coinciding with the surge in net operating assets. By 2022, this figure normalized significantly, decreasing to 107.6 million.
- Cash-Flow-Statement-Based Accruals Ratio
- The accruals ratio exhibits a volatile trajectory. A negative ratio of -3.91% in 2019 indicates that cash flows exceeded accrual-based earnings. This ratio rose to 8.52% in 2020 and peaked at 26.42% in 2021. A high accruals ratio typically suggests a lower quality of earnings, as a larger portion of reported earnings is not backed by cash flows. However, the ratio corrected sharply to 1.38% in 2022, suggesting a return to high-quality reporting where earnings and cash flows are closely aligned.
The correlation between the spike in net operating assets and the peak in the accruals ratio during 2021 suggests a period of significant non-cash accounting adjustments or structural growth. The subsequent decline of the ratio to 1.38% in 2022 indicates that the volatility was transitory and that reporting quality improved toward the end of the period.
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