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.
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Procter & Gamble Co. pages available for free this week:
- Balance Sheet: Liabilities and Stockholders’ Equity
- Common-Size Income Statement
- Common-Size Balance Sheet: Assets
- Analysis of Profitability Ratios
- DuPont Analysis: Disaggregation of ROE, ROA, and Net Profit Margin
- Analysis of Reportable Segments
- Analysis of Geographic Areas
- Enterprise Value to EBITDA (EV/EBITDA)
- Dividend Discount Model (DDM)
- Debt to Equity since 2005
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Balance-Sheet-Based Accruals Ratio
Procter & Gamble Co., balance sheet computation of aggregate accruals
US$ in millions
Based on: 10-K (reporting date: 2024-06-30), 10-K (reporting date: 2023-06-30), 10-K (reporting date: 2022-06-30), 10-K (reporting date: 2021-06-30), 10-K (reporting date: 2020-06-30), 10-K (reporting date: 2019-06-30).
1 2024 Calculation
Net operating assets = Operating assets – Operating liabilities
= – =
2 2024 Calculation
Balance-sheet-based aggregate accruals = Net operating assets2024 – Net operating assets2023
= – =
3 2024 Calculation
Balance-sheet-based accruals ratio = 100 × Balance-sheet-based aggregate accruals ÷ Avg. net operating assets
= 100 × ÷ [( + ) ÷ 2] =
The analysis of the annual financial reporting quality measure data reveals several notable trends over the five-year period ending June 30, 2024.
- Net Operating Assets
- The net operating assets exhibited a consistent upward trajectory throughout the period. Starting at approximately 65,417 million US dollars in mid-2020, this figure increased annually, reaching around 73,537 million US dollars by mid-2024. The steady growth indicates ongoing expansion or accumulation of the operating asset base.
- Balance-sheet-based Aggregate Accruals
- Aggregate accruals demonstrated significant volatility during the five years. Initially, in mid-2020, the accruals were negative at -1,967 million US dollars, suggesting a net deferral or conservative accounting position. However, from mid-2021 onwards, the values became positive and remained elevated, peaking at 2,937 million US dollars in mid-2021 before gradually declining to 111 million US dollars by mid-2024. This decline in accruals over the latter years shows a movement toward more conservative or lower accrual levels.
- Balance-sheet-based Accruals Ratio
- The accruals ratio followed a pattern closely related to aggregate accruals but expressed relative to net operating assets. Starting from a negative ratio of approximately -2.96% in mid-2020, it moved sharply into positive territory with 4.39% in mid-2021. It then declined progressively through subsequent periods to just 0.15% by mid-2024. This downward trend in the ratio suggests a diminishing proportion of accruals relative to the size of the net operating assets, indicating potentially higher financial reporting quality or conservative earnings management in the recent years.
Cash-Flow-Statement-Based Accruals Ratio
Procter & Gamble Co., cash flow statement computation of aggregate accruals
US$ in millions
Based on: 10-K (reporting date: 2024-06-30), 10-K (reporting date: 2023-06-30), 10-K (reporting date: 2022-06-30), 10-K (reporting date: 2021-06-30), 10-K (reporting date: 2020-06-30), 10-K (reporting date: 2019-06-30).
1 2024 Calculation
Cash-flow-statement-based accruals ratio = 100 × Cash-flow-statement-based aggregate accruals ÷ Avg. net operating assets
= 100 × ÷ [( + ) ÷ 2] =
- Net Operating Assets
- The net operating assets showed a consistent increasing trend from June 30, 2020, to June 30, 2024. The value increased from 65,417 million USD in 2020 to 73,537 million USD in 2024, indicating steady growth in the company's asset base used in operations over the five-year period.
- Cash-flow-statement-based Aggregate Accruals
- The aggregate accruals exhibited high volatility during the observed period. In 2020, the figure was negative at -7,421 million USD, which significantly decreased in magnitude to -1,231 million USD in 2021. It then reversed to positive values in 2022 and 2023, reaching 2,443 million USD and 1,305 million USD respectively. However, in 2024, it reverted back to a negative value of -1,463 million USD. This pattern suggests fluctuations in the timing differences between earning and cash flow recognition, reflecting potential variability in earnings quality.
- Cash-flow-statement-based Accruals Ratio
- The accruals ratio also displayed notable fluctuations throughout the five years. Starting at -11.18% in 2020, it sharply increased to -1.84% in 2021 before turning positive in 2022 at 3.5%, then slightly declining to 1.81% in 2023. In 2024, the ratio fell to -1.99%, indicating a return to a cash flow dominance over accruals. These oscillations in the accruals ratio mirror the variability seen in aggregate accruals and imply an inconsistent relationship between accrual accounting and cash flows, which could affect the interpretation of earnings quality.