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
Kimberly-Clark Corp., balance sheet computation of aggregate accruals
US$ in millions
| Dec 31, 2020 | Dec 31, 2019 | Dec 31, 2018 | Dec 31, 2017 | Dec 31, 2016 | ||
|---|---|---|---|---|---|---|
| Operating Assets | ||||||
| Total assets | 17,523) | 15,283) | 14,518) | 15,151) | 14,602) | |
| Less: Cash and cash equivalents | 303) | 442) | 539) | 616) | 923) | |
| Operating assets | 17,220) | 14,841) | 13,979) | 14,535) | 13,679) | |
| Operating Liabilities | ||||||
| Total liabilities | 16,626) | 15,060) | 14,500) | 14,208) | 14,427) | |
| Less: Debt payable within one year | 486) | 1,534) | 1,208) | 953) | 1,133) | |
| Less: Long-term debt, excluding payable within one year | 7,878) | 6,213) | 6,247) | 6,472) | 6,439) | |
| Operating liabilities | 8,262) | 7,313) | 7,045) | 6,783) | 6,855) | |
| Net operating assets1 | 8,958) | 7,528) | 6,934) | 7,752) | 6,824) | |
| Balance-sheet-based aggregate accruals2 | 1,430) | 594) | (818) | 928) | —) | |
| Financial Ratio | ||||||
| Balance-sheet-based accruals ratio3 | 17.35% | 8.21% | -11.14% | 12.73% | — | |
| Benchmarks | ||||||
| Balance-Sheet-Based Accruals Ratio, Competitors4 | ||||||
| Procter & Gamble Co. | — | — | — | — | — | |
Based on: 10-K (reporting date: 2020-12-31), 10-K (reporting date: 2019-12-31), 10-K (reporting date: 2018-12-31), 10-K (reporting date: 2017-12-31), 10-K (reporting date: 2016-12-31).
1 2020 Calculation
Net operating assets = Operating assets – Operating liabilities
= 17,220 – 8,262 = 8,958
2 2020 Calculation
Balance-sheet-based aggregate accruals = Net operating assets2020 – Net operating assets2019
= 8,958 – 7,528 = 1,430
3 2020 Calculation
Balance-sheet-based accruals ratio = 100 × Balance-sheet-based aggregate accruals ÷ Avg. net operating assets
= 100 × 1,430 ÷ [(8,958 + 7,528) ÷ 2] = 17.35%
4 Click competitor name to see calculations.
An examination of the financial reporting quality between 2017 and 2020 reveals significant volatility in the relationship between accounting earnings and cash flows, as evidenced by the balance-sheet-based accruals metrics.
- Net Operating Assets Trend
- Net operating assets experienced a decline from US$ 7,752 million in 2017 to US$ 6,934 million in 2018, followed by a steady recovery and growth, reaching US$ 8,958 million by December 31, 2020. This represents an overall increase in the asset base used to generate operating income over the four-year period.
- Aggregate Accruals Volatility
- Balance-sheet-based aggregate accruals exhibited substantial fluctuations. A positive balance of US$ 928 million in 2017 shifted to a negative US$ 818 million in 2018. A reversal occurred in 2019, with accruals returning to positive territory at US$ 594 million, before increasing sharply to a period peak of US$ 1,430 million in 2020.
- Accruals Ratio Analysis
- The accruals ratio demonstrates a highly inconsistent pattern. The ratio transitioned from 12.73% in 2017 to -11.14% in 2018, indicating a period where cash flow exceeded reported accounting earnings. Subsequently, the ratio rose to 8.21% in 2019 and surged to 17.35% in 2020. The marked increase in the 2020 ratio indicates that a larger portion of the reported earnings consists of non-cash accruals relative to the total net operating assets, which may suggest a decrease in the quality of earnings during that specific fiscal year.
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Cash-Flow-Statement-Based Accruals Ratio
Kimberly-Clark Corp., cash flow statement computation of aggregate accruals
US$ in millions
| Dec 31, 2020 | Dec 31, 2019 | Dec 31, 2018 | Dec 31, 2017 | Dec 31, 2016 | ||
|---|---|---|---|---|---|---|
| Net income attributable to Kimberly-Clark Corporation | 2,352) | 2,157) | 1,410) | 2,278) | 2,166) | |
| Less: Cash provided by operations | 3,729) | 2,736) | 2,970) | 2,929) | 3,232) | |
| Less: Cash used for investing | (2,305) | (1,042) | (902) | (851) | (732) | |
| Cash-flow-statement-based aggregate accruals | 928) | 463) | (658) | 200) | (334) | |
| Financial Ratio | ||||||
| Cash-flow-statement-based accruals ratio1 | 11.26% | 6.40% | -8.96% | 2.74% | — | |
| Benchmarks | ||||||
| Cash-Flow-Statement-Based Accruals Ratio, Competitors2 | ||||||
| Procter & Gamble Co. | — | — | — | — | — | |
Based on: 10-K (reporting date: 2020-12-31), 10-K (reporting date: 2019-12-31), 10-K (reporting date: 2018-12-31), 10-K (reporting date: 2017-12-31), 10-K (reporting date: 2016-12-31).
1 2020 Calculation
Cash-flow-statement-based accruals ratio = 100 × Cash-flow-statement-based aggregate accruals ÷ Avg. net operating assets
= 100 × 928 ÷ [(8,958 + 7,528) ÷ 2] = 11.26%
2 Click competitor name to see calculations.
Analysis of the period between 2017 and 2020 reveals a marked increase in the cash-flow-statement-based accruals ratio, signaling a shift in the relationship between reported accounting earnings and realized cash flows.
- Net Operating Assets
- A fluctuating trend is observed, with a decline from 7,752 million in 2017 to 6,934 million in 2018, followed by a steady expansion to 8,958 million by 2020. This represents a total increase of approximately 15.3% over the four-year period.
- Cash-flow-statement-based aggregate accruals
- Aggregate accruals exhibited significant volatility, shifting from a positive 200 million in 2017 to a negative 658 million in 2018. Following this trough, there was a rapid acceleration in accruals, reaching 463 million in 2019 and peaking at 928 million in 2020.
- Cash-flow-statement-based accruals ratio
- The ratio reflects the volatility of the aggregate accruals relative to the asset base. The ratio moved from 2.74% in 2017 to a negative 8.96% in 2018, before trending upward to 6.40% in 2019 and finishing at 11.26% in 2020.
The transition from negative accruals in 2018 to a peak of 11.26% in 2020 indicates a diminishing alignment between reported earnings and cash flow. While the negative ratio in 2018 suggests that cash flows exceeded accounting earnings, the sharp rise toward 2020 demonstrates that a larger proportion of the reported operating income is derived from non-cash accruals. This trend typically suggests a potential reduction in the quality of earnings as the accruals ratio increases.
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