Accrual Quality: Reversals and Cash Conversion

• In Event: Measuring (the effects of) earnings quality
  In Paper Session: Measuring (the Effects of) Earnings Quality

Abstract

We propose and validate a measure of accrual quality based on the extent that accrual innovations convert into future cash flows. This measure is not based on the residual variance of accruals and can therefore separate accrual quality from operating volatility. For firms whose accrual innovations reverse within one year, we find that, on average, a one dollar innovation to accruals translates into 96 cents of cash flow in the subsequent fiscal year. The rate at which accrual innovations convert into cash flow is negatively associated with the likelihood that a firm receives an AAER.

Authors

• Matthew Bloomfield, The University of Chicago

• Joseph Gerakos, The University of Chicago

• Andrei Kovrijnykh, Arizona State University