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
Merck & Co. Inc., balance sheet computation of aggregate accruals
US$ in millions
| Dec 31, 2024 | Dec 31, 2023 | Dec 31, 2022 | Dec 31, 2021 | Dec 31, 2020 | ||
|---|---|---|---|---|---|---|
| Operating Assets | ||||||
| Total assets | 117,106) | 106,675) | 109,160) | 105,694) | 91,588) | |
| Less: Cash and cash equivalents | 13,242) | 6,841) | 12,694) | 8,096) | 8,062) | |
| Less: Short-term investments | 447) | 252) | 498) | —) | —) | |
| Operating assets | 103,417) | 99,582) | 95,968) | 97,598) | 83,526) | |
| Operating Liabilities | ||||||
| Total liabilities | 70,734) | 69,040) | 63,102) | 67,437) | 66,184) | |
| Less: Loans payable and current portion of long-term debt | 2,649) | 1,372) | 1,946) | 2,412) | 6,431) | |
| Less: Long-term debt, excluding current portion | 34,462) | 33,683) | 28,745) | 30,690) | 25,360) | |
| Operating liabilities | 33,623) | 33,985) | 32,411) | 34,335) | 34,393) | |
| Net operating assets1 | 69,794) | 65,597) | 63,557) | 63,263) | 49,133) | |
| Balance-sheet-based aggregate accruals2 | 4,197) | 2,040) | 294) | 14,130) | —) | |
| Financial Ratio | ||||||
| Balance-sheet-based accruals ratio3 | 6.20% | 3.16% | 0.46% | 25.14% | — | |
| Benchmarks | ||||||
| Balance-Sheet-Based Accruals Ratio, Competitors4 | ||||||
| AbbVie Inc. | 13.10% | -22.39% | -14.27% | -9.69% | — | |
| Amgen Inc. | -10.36% | 57.08% | 4.07% | 0.70% | — | |
| Bristol-Myers Squibb Co. | -3.21% | -7.12% | -3.86% | -13.40% | — | |
| Danaher Corp. | -3.94% | 3.48% | -1.55% | 16.41% | — | |
| Eli Lilly & Co. | 29.18% | 28.84% | 11.38% | 16.60% | — | |
| Gilead Sciences Inc. | -11.79% | 1.04% | -2.92% | -2.34% | — | |
| Johnson & Johnson | 10.61% | -21.13% | 19.84% | 3.75% | — | |
| Pfizer Inc. | -11.48% | 30.66% | 24.95% | -7.11% | — | |
| Regeneron Pharmaceuticals Inc. | 25.51% | 1.17% | 11.07% | 43.54% | — | |
| Thermo Fisher Scientific Inc. | 2.28% | 4.96% | -1.78% | 43.38% | — | |
| Vertex Pharmaceuticals Inc. | 42.13% | 61.24% | 14.07% | 18.20% | — | |
| Balance-Sheet-Based Accruals Ratio, Sector | ||||||
| Pharmaceuticals, Biotechnology & Life Sciences | 1.64% | 7.36% | 4.84% | 6.18% | — | |
| Balance-Sheet-Based Accruals Ratio, Industry | ||||||
| Health Care | 5.49% | 7.80% | 5.29% | 5.94% | — | |
Based on: 10-K (reporting date: 2024-12-31), 10-K (reporting date: 2023-12-31), 10-K (reporting date: 2022-12-31), 10-K (reporting date: 2021-12-31), 10-K (reporting date: 2020-12-31).
1 2024 Calculation
Net operating assets = Operating assets – Operating liabilities
= 103,417 – 33,623 = 69,794
2 2024 Calculation
Balance-sheet-based aggregate accruals = Net operating assets2024 – Net operating assets2023
= 69,794 – 65,597 = 4,197
3 2024 Calculation
Balance-sheet-based accruals ratio = 100 × Balance-sheet-based aggregate accruals ÷ Avg. net operating assets
= 100 × 4,197 ÷ [(69,794 + 65,597) ÷ 2] = 6.20%
4 Click competitor name to see calculations.
The annual financial reporting quality measures exhibit the following notable trends over the period from December 31, 2021, to December 31, 2024.
- Net Operating Assets
- There is a steady upward trend in net operating assets, increasing consistently each year. Starting at 63,263 million US dollars in 2021, the figure rises slightly to 63,557 million in 2022, followed by a more pronounced increase to 65,597 million in 2023, and further to 69,794 million in 2024. This indicates expanding asset utilization or investment in operations over the years.
- Balance-sheet-based Aggregate Accruals
- This metric shows significant fluctuations rather than a consistent trend. It begins at a high level of 14,130 million US dollars in 2021 but then drops sharply to 294 million in 2022. Subsequently, it increases again to 2,040 million in 2023 and doubles to 4,197 million by 2024. Such variability indicates changes in the timing differences between earnings and cash flows, which may have implications for earnings quality in these periods.
- Balance-sheet-based Accruals Ratio
- The accruals ratio mirrors the pattern observed in aggregate accruals but expressed as a percentage of net operating assets. After a high ratio of 25.14% in 2021, there is a sharp decrease to 0.46% in 2022. The ratio then rises to 3.16% in 2023 and further increases to 6.2% in 2024. These fluctuations suggest variations in accrual accounting relative to the size of operating assets, potentially reflecting changes in accounting policies, operational conditions, or earnings management practices.
Overall, while net operating assets show consistent growth, the balance-sheet-based accruals and their ratio depict considerable volatility, especially between 2021 and 2022, followed by a gradual increase in the latter years. The sharp drop and subsequent rise in accruals-related measures warrant closer examination to understand the underlying causes and their impact on financial reporting quality.
Cash-Flow-Statement-Based Accruals Ratio
Merck & Co. Inc., cash flow statement computation of aggregate accruals
US$ in millions
| Dec 31, 2024 | Dec 31, 2023 | Dec 31, 2022 | Dec 31, 2021 | Dec 31, 2020 | ||
|---|---|---|---|---|---|---|
| Net income attributable to Merck & Co., Inc. | 17,117) | 365) | 14,519) | 13,049) | 7,067) | |
| Less: Net cash provided by operating activities | 21,468) | 13,006) | 19,095) | 13,122) | 10,253) | |
| Less: Net cash used in investing activities | (7,734) | (14,083) | (4,960) | (16,421) | (9,443) | |
| Cash-flow-statement-based aggregate accruals | 3,383) | 1,442) | 384) | 16,348) | 6,257) | |
| Financial Ratio | ||||||
| Cash-flow-statement-based accruals ratio1 | 5.00% | 2.23% | 0.61% | 29.09% | — | |
| Benchmarks | ||||||
| Cash-Flow-Statement-Based Accruals Ratio, Competitors2 | ||||||
| AbbVie Inc. | 10.32% | -24.89% | -16.25% | -10.28% | — | |
| Amgen Inc. | -11.16% | 52.47% | 8.81% | -12.87% | — | |
| Bristol-Myers Squibb Co. | -4.97% | -5.99% | -9.10% | -12.73% | — | |
| Danaher Corp. | -1.25% | 8.20% | 1.44% | 18.48% | — | |
| Eli Lilly & Co. | 28.52% | 28.13% | 10.32% | 5.30% | — | |
| Gilead Sciences Inc. | -18.05% | -0.19% | -4.95% | -4.86% | — | |
| Johnson & Johnson | 10.58% | 13.66% | 10.78% | 8.23% | — | |
| Pfizer Inc. | -5.24% | 19.96% | 18.46% | 13.18% | — | |
| Regeneron Pharmaceuticals Inc. | 12.04% | 14.35% | 18.61% | 49.24% | — | |
| Thermo Fisher Scientific Inc. | 4.71% | 3.80% | -0.06% | 34.69% | — | |
| Vertex Pharmaceuticals Inc. | 43.34% | 62.03% | -14.45% | 1.38% | — | |
| Cash-Flow-Statement-Based Accruals Ratio, Sector | ||||||
| Pharmaceuticals, Biotechnology & Life Sciences | 2.07% | 9.68% | 2.52% | 8.19% | — | |
| Cash-Flow-Statement-Based Accruals Ratio, Industry | ||||||
| Health Care | 4.00% | 8.59% | 4.25% | 7.53% | — | |
Based on: 10-K (reporting date: 2024-12-31), 10-K (reporting date: 2023-12-31), 10-K (reporting date: 2022-12-31), 10-K (reporting date: 2021-12-31), 10-K (reporting date: 2020-12-31).
1 2024 Calculation
Cash-flow-statement-based accruals ratio = 100 × Cash-flow-statement-based aggregate accruals ÷ Avg. net operating assets
= 100 × 3,383 ÷ [(69,794 + 65,597) ÷ 2] = 5.00%
2 Click competitor name to see calculations.
The data reveals notable fluctuations and trends in the financial measures over the four-year period. The net operating assets demonstrate a consistent upward trajectory, indicating growth in the company's operating asset base. Specifically, this figure increased steadily from 63,263 million US dollars at the end of 2021 to 69,794 million dollars by the close of 2024, suggesting incremental investment or accumulation of operating assets.
The cash-flow-statement-based aggregate accruals show considerable variability. After a significant decrease from 16,348 million dollars in 2021 to 384 million dollars in 2022, the measure rebounded to 1,442 million dollars in 2023 and further increased to 3,383 million dollars in 2024. This pattern suggests a sharp correction or adjustment in accruals after 2021, followed by a gradual rise, which may reflect changes in accounting estimates, revenue recognition, or expense matching over the recent years.
Examining the cash-flow-statement-based accruals ratio reveals a similar trend, though expressed in percentage terms relative to the operating assets. This ratio dramatically declined from 29.09% in 2021 to 0.61% in 2022, indicating that accruals became a much smaller component of cash flow relative to net operating assets. Subsequently, the ratio increased to 2.23% in 2023 and to 5% in 2024, demonstrating a partial reversal, though it remained well below the initial 2021 level.
- Net Operating Assets
- Consistent growth over the entire period, increasing by approximately 10.3% from 2021 to 2024. This steady rise may reflect expansion or asset acquisition.
- Cash-Flow-Statement-Based Aggregate Accruals
- Sharp drop between 2021 and 2022, followed by a progressive increase through 2024. The initial high value in 2021 may have signaled elevated accrual activity, which moderated significantly in subsequent years before rising again.
- Cash-Flow-Statement-Based Accruals Ratio
- Mirrors the pattern of aggregate accruals but positioned relative to net operating assets. The ratio’s steep fall after 2021 implies a reduced reliance or recognition of accruals in the company's cash flows, with a partial recovery thereafter, though still far below the starting point.
Overall, the analysis suggests the company experienced a period of high accruals relative to operating assets in 2021, which subsequently normalized. The growth in net operating assets alongside rising but controlled accruals might indicate a strengthening asset base with more stable financial reporting quality in terms of accrual management during the latter years.