Analyzing Earnings Quality - the Accruals Ratio

  • A company's accrual earnings has two components: cash earnings and aggregate accruals

Accrual Basis Earnings = Cash Earnings + Aggregate Accruals

Aggregate Accruals = Accrual Basis Earnings - Cash Earnings

  • When aggregate accruals are the dominant component of a company's earnings, mean reversion tends to occur more quickly and so earnings with a high accrual component can be considered lower quality.

  • Accruals Ratio - the accruals ratio is a simple measure for analyzing earnings quality. There are two approaches: the balance sheet approach and the cash flow statement approach.

  • Two approaches to the Accruals Ratio:

  • Balance sheet approach

  • Cash flow statement approach

Balance Sheet Approach to the Accruals Ratio

Steps in evaluating aggregate accruals: the Balance Sheet Approach to the Accruals Ratio

Steps in evaluating aggregate accruals: the Cash Flow Statement Approach to the Accruals Ratio.

NOTE: The two approaches to calculating a company's accruals ratio will not result in the same value, but there is a high correlation between the methodologies.

Membership
Learn the skills required to excel in data science and data analytics covering R, Python, machine learning, and AI.
I WANT TO JOIN
JOIN 30,000 DATA PROFESSIONALS

Free Guides - Getting Started with R and Python

Enter your name and email address below and we will email you the guides for R programming and Python.

Saylient AI Logo

Take the Next Step in Your Data Career

Join our membership for lifetime unlimited access to all our data analytics and data science learning content and resources.