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
EMC Corp., balance sheet computation of aggregate accruals
US$ in millions
| Dec 31, 2015 | Dec 31, 2014 | Dec 31, 2013 | Dec 31, 2012 | Dec 31, 2011 | ||
|---|---|---|---|---|---|---|
| Operating Assets | ||||||
| Total assets | 46,612) | 45,885) | 45,849) | 38,069) | 34,268) | |
| Less: Cash and cash equivalents | 6,549) | 6,343) | 7,891) | 4,754) | 4,531) | |
| Less: Short-term investments | 2,726) | 1,978) | 2,773) | 1,413) | 1,787) | |
| Operating assets | 37,337) | 37,564) | 35,185) | 31,902) | 27,950) | |
| Operating Liabilities | ||||||
| Total liabilities | 23,893) | 22,360) | 22,063) | 14,545) | 14,341) | |
| Less: Notes converted and payable | —) | —) | 1,665) | —) | 1,700) | |
| Less: Short-term debt | 1,299) | —) | —) | —) | —) | |
| Less: Current portion of convertible debt | —) | —) | —) | 1,652) | 1,605) | |
| Less: Long-term debt | 5,475) | 5,495) | 5,494) | —) | —) | |
| Operating liabilities | 17,119) | 16,865) | 14,904) | 12,892) | 11,036) | |
| Net operating assets1 | 20,218) | 20,699) | 20,281) | 19,009) | 16,914) | |
| Balance-sheet-based aggregate accruals2 | (481) | 418) | 1,272) | 2,095) | —) | |
| Financial Ratio | ||||||
| Balance-sheet-based accruals ratio3 | -2.35% | 2.04% | 6.47% | 11.66% | — | |
| Benchmarks | ||||||
| Balance-Sheet-Based Accruals Ratio, Competitors4 | ||||||
| Advanced Micro Devices Inc. | — | — | — | — | — | |
| Analog Devices Inc. | — | — | — | — | — | |
| Applied Materials Inc. | — | — | — | — | — | |
| Broadcom Inc. | — | — | — | — | — | |
| Intel Corp. | — | — | — | — | — | |
| KLA Corp. | — | — | — | — | — | |
| Lam Research Corp. | — | — | — | — | — | |
| Marvell Technology Inc. | — | — | — | — | — | |
| Micron Technology Inc. | — | — | — | — | — | |
| NVIDIA Corp. | — | — | — | — | — | |
| Qualcomm Inc. | — | — | — | — | — | |
| Texas Instruments Inc. | — | — | — | — | — | |
Based on: 10-K (reporting date: 2015-12-31), 10-K (reporting date: 2014-12-31), 10-K (reporting date: 2013-12-31), 10-K (reporting date: 2012-12-31), 10-K (reporting date: 2011-12-31).
1 2015 Calculation
Net operating assets = Operating assets – Operating liabilities
= 37,337 – 17,119 = 20,218
2 2015 Calculation
Balance-sheet-based aggregate accruals = Net operating assets2015 – Net operating assets2014
= 20,218 – 20,699 = -481
3 2015 Calculation
Balance-sheet-based accruals ratio = 100 × Balance-sheet-based aggregate accruals ÷ Avg. net operating assets
= 100 × -481 ÷ [(20,218 + 20,699) ÷ 2] = -2.35%
4 Click competitor name to see calculations.
A consistent downward trend in the balance-sheet-based accruals ratio is observed between 2012 and 2015, indicating a significant shift in the relationship between reported accounting earnings and actual cash flows.
- Net Operating Assets
- Net operating assets remained relatively stable over the four-year period, increasing from 19,009 million USD in 2012 to a peak of 20,699 million USD in 2014, before experiencing a slight decrease to 20,218 million USD in 2015. This stability indicates that the operational scale of the company remained consistent while other financial quality metrics shifted.
- Aggregate Accruals
- A pronounced and steady contraction in balance-sheet-based aggregate accruals occurred throughout the analyzed period. Values declined from 2,095 million USD in 2012 to 1,272 million USD in 2013 and 418 million USD in 2014, eventually turning negative to reach -481 million USD by December 31, 2015.
- Accruals Ratio
- The accruals ratio mirrors the trajectory of aggregate accruals, decreasing from 11.66% in 2012 to 6.47% in 2013, and further to 2.04% in 2014, ending at -2.35% in 2015. This movement from a relatively high positive percentage to a negative percentage suggests an improvement in earnings quality, as reported earnings became less dependent on non-cash accruals. The negative ratio in 2015 implies that cash flows from operations exceeded accrual-based earnings for that period.
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Cash-Flow-Statement-Based Accruals Ratio
EMC Corp., cash flow statement computation of aggregate accruals
US$ in millions
| Dec 31, 2015 | Dec 31, 2014 | Dec 31, 2013 | Dec 31, 2012 | Dec 31, 2011 | ||
|---|---|---|---|---|---|---|
| Net income attributable to EMC Corporation | 1,990) | 2,714) | 2,889) | 2,733) | 2,461) | |
| Less: Net cash provided by operating activities | 5,386) | 6,523) | 6,923) | 6,262) | 5,669) | |
| Less: Net cash used in investing activities | (2,754) | (2,551) | (5,760) | (3,905) | (3,544) | |
| Cash-flow-statement-based aggregate accruals | (642) | (1,258) | 1,726) | 375) | 336) | |
| Financial Ratio | ||||||
| Cash-flow-statement-based accruals ratio1 | -3.14% | -6.14% | 8.79% | 2.09% | — | |
| Benchmarks | ||||||
| Cash-Flow-Statement-Based Accruals Ratio, Competitors2 | ||||||
| Advanced Micro Devices Inc. | — | — | — | — | — | |
| Analog Devices Inc. | — | — | — | — | — | |
| Applied Materials Inc. | — | — | — | — | — | |
| Broadcom Inc. | — | — | — | — | — | |
| Intel Corp. | — | — | — | — | — | |
| KLA Corp. | — | — | — | — | — | |
| Lam Research Corp. | — | — | — | — | — | |
| Marvell Technology Inc. | — | — | — | — | — | |
| Micron Technology Inc. | — | — | — | — | — | |
| NVIDIA Corp. | — | — | — | — | — | |
| Qualcomm Inc. | — | — | — | — | — | |
| Texas Instruments Inc. | — | — | — | — | — | |
Based on: 10-K (reporting date: 2015-12-31), 10-K (reporting date: 2014-12-31), 10-K (reporting date: 2013-12-31), 10-K (reporting date: 2012-12-31), 10-K (reporting date: 2011-12-31).
1 2015 Calculation
Cash-flow-statement-based accruals ratio = 100 × Cash-flow-statement-based aggregate accruals ÷ Avg. net operating assets
= 100 × -642 ÷ [(20,218 + 20,699) ÷ 2] = -3.14%
2 Click competitor name to see calculations.
The analysis of financial reporting quality from 2012 to 2015 reveals a period of significant volatility in aggregate accruals despite relatively stable net operating assets.
- Net Operating Assets Trend
- Net operating assets remained relatively consistent throughout the observation period. The balance increased from US$ 19,009 million in 2012 to a peak of US$ 20,699 million in 2014, before experiencing a slight contraction to US$ 20,218 million by the end of 2015.
- Aggregate Accruals Volatility
- Cash-flow-statement-based aggregate accruals exhibited substantial fluctuations. A modest positive value of US$ 375 million in 2012 rose sharply to US$ 1,726 million in 2013. This was followed by a pivot into negative territory, reaching -US$ 1,258 million in 2014 and -US$ 642 million in 2015.
- Accruals Ratio Interpretation
- The accruals ratio mirrored the volatility of the aggregate accruals, moving from 2.09% in 2012 to a peak of 8.79% in 2013. This spike indicates that earnings in 2013 were significantly supported by non-cash accruals relative to the asset base. The subsequent shift to negative ratios in 2014 (-6.14%) and 2015 (-3.14%) suggests a period where cash flows from operations exceeded reported accrual-based earnings, typically indicating higher earnings quality in those specific years.
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