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
United Rentals Inc., balance sheet computation of aggregate accruals
US$ in millions
| Dec 31, 2022 | Dec 31, 2021 | Dec 31, 2020 | Dec 31, 2019 | Dec 31, 2018 | ||
|---|---|---|---|---|---|---|
| Operating Assets | ||||||
| Total assets | 24,183) | 20,292) | 17,868) | 18,970) | 18,133) | |
| Less: Cash and cash equivalents | 106) | 144) | 202) | 52) | 43) | |
| Operating assets | 24,077) | 20,148) | 17,666) | 18,918) | 18,090) | |
| Operating Liabilities | ||||||
| Total liabilities | 17,121) | 14,301) | 13,323) | 15,140) | 14,730) | |
| Less: Short-term debt and current maturities of long-term debt | 161) | 906) | 704) | 997) | 903) | |
| Less: Long-term debt, excluding current maturities | 11,209) | 8,779) | 8,978) | 10,431) | 10,844) | |
| Operating liabilities | 5,751) | 4,616) | 3,641) | 3,712) | 2,983) | |
| Net operating assets1 | 18,326) | 15,532) | 14,025) | 15,206) | 15,107) | |
| Balance-sheet-based aggregate accruals2 | 2,794) | 1,507) | (1,181) | 99) | —) | |
| Financial Ratio | ||||||
| Balance-sheet-based accruals ratio3 | 16.50% | 10.20% | -8.08% | 0.65% | — | |
| 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
= 24,077 – 5,751 = 18,326
2 2022 Calculation
Balance-sheet-based aggregate accruals = Net operating assets2022 – Net operating assets2021
= 18,326 – 15,532 = 2,794
3 2022 Calculation
Balance-sheet-based accruals ratio = 100 × Balance-sheet-based aggregate accruals ÷ Avg. net operating assets
= 100 × 2,794 ÷ [(18,326 + 15,532) ÷ 2] = 16.50%
4 Click competitor name to see calculations.
An analysis of the balance-sheet-based accruals reveals a period of significant volatility followed by a sustained increase in the accruals ratio, suggesting a shifting dynamic in earnings quality between 2019 and 2022.
- Net Operating Asset Evolution
- Net operating assets experienced a temporary contraction in 2020, decreasing to US$ 14,025 million from US$ 15,206 million in 2019. However, a strong growth phase followed, with assets expanding to US$ 18,326 million by December 31, 2022, representing a 30.6% increase from the 2020 trough.
- Aggregate Accruals Fluctuations
- The aggregate accruals shifted from a minimal positive balance of US$ 99 million in 2019 to a substantial negative position of US$ -1,181 million in 2020. This was followed by a sharp reversal into positive territory, reaching US$ 1,507 million in 2021 and peaking at US$ 2,794 million by 2022. This rapid swing indicates a significant change in the timing of cash flows relative to revenue and expense recognition over the analyzed period.
- Accruals Ratio and Earnings Quality
- The balance-sheet-based accruals ratio transitioned from 0.65% in 2019 to -8.08% in 2020, before climbing steeply to 10.20% in 2021 and 16.50% in 2022. The negative ratio in 2020 suggests that cash flows exceeded accrual-based earnings during that year. Conversely, the subsequent ascent to 16.50% indicates that a growing proportion of reported earnings is derived from non-cash accruals rather than cash flows, which generally indicates a decline in the quality of earnings relative to the operating asset base.
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Cash-Flow-Statement-Based Accruals Ratio
United Rentals Inc., cash flow statement computation of aggregate accruals
US$ in millions
| Dec 31, 2022 | Dec 31, 2021 | Dec 31, 2020 | Dec 31, 2019 | Dec 31, 2018 | ||
|---|---|---|---|---|---|---|
| Net income | 2,105) | 1,386) | 890) | 1,174) | 1,096) | |
| Less: Net cash provided by operating activities | 4,433) | 3,689) | 2,658) | 3,024) | 2,853) | |
| Less: Net cash used in investing activities | (5,016) | (3,611) | (223) | (1,710) | (4,551) | |
| Cash-flow-statement-based aggregate accruals | 2,688) | 1,308) | (1,545) | (140) | 2,794) | |
| Financial Ratio | ||||||
| Cash-flow-statement-based accruals ratio1 | 15.88% | 8.85% | -10.57% | -0.92% | — | |
| 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 × 2,688 ÷ [(18,326 + 15,532) ÷ 2] = 15.88%
2 Click competitor name to see calculations.
An analysis of the financial reporting quality between 2019 and 2022 reveals a significant shift in the relationship between accrual-based earnings and cash flows. The period is characterized by a transition from negative accruals to increasingly positive accruals, coinciding with an expansion of the asset base.
- Cash-Flow-Statement-Based Accruals Ratio Trend
- The accruals ratio exhibited substantial volatility, moving from -0.92% in 2019 to a low of -10.57% in 2020, before reversing to 8.85% in 2021 and reaching 15.88% by the end of 2022. The negative values in 2019 and 2020 indicate that cash flows from operations exceeded accrual-based earnings during those periods. However, the sharp pivot to positive territory starting in 2021 suggests a growing divergence where reported earnings are increasingly supported by non-cash accruals rather than immediate cash inflows.
- Net Operating Assets Growth
- Net operating assets remained relatively stable between 2019 and 2021, fluctuating between 14,025 million and 15,532 million. A notable acceleration occurred in 2022, with assets increasing to 18,326 million. This expansion of the balance sheet aligns with the peak in the accruals ratio, suggesting that the increase in aggregate accruals may be linked to intensified investment in operating assets or changes in working capital management.
- Financial Reporting Quality Implications
- The transition from a negative accruals ratio to a positive one of 15.88% indicates a decline in the relative proportion of earnings backed by cash. While negative accruals are typically associated with higher earnings quality, the rising positive trend from 2021 to 2022 signifies that a larger portion of the reported profit is tied to accruals. This trend warrants further investigation to determine if the accruals are driven by sustainable business growth or potential aggressive accounting estimates.
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