The Quality of Accruals and Earnings: The Role of Accrual Estimation Errors
2002/03/01 by Patricia M. Dechow, Patricia Dechow, Ilia D. Dichev · 5,353 citations
Business, Management and Accounting · #Accounting #Accrual #Auditing, Earnings Management, Governance #Business #Cash flow #Computer science #Corporate Finance and Governance #Earnings #Earnings quality #Econometrics #Economics #Financial Reporting and Valuation Research #Measure (data warehouse) #Volatility (finance) #Working capital
paper · doi:10.2308/accr.2002.77.s-1.35
published in The Accounting Review 77(s-1), 35-59 (American Accounting Association)
openalex publication_date 2002/03/01 · openalex created_date 2025/10/10 · openalex updated_date 2026/08/05
Abstract
This paper suggests a new measure of one aspect of the quality of working capital accruals and earnings. One role of accruals is to shift or adjust the recognition of cash flows over time so that the adjusted numbers (earnings) better measure firm performance. However, accruals require assumptions and estimates of future cash flows. We argue that the quality of accruals and earnings is decreasing in the magnitude of estimation error in accruals. We derive an empirical measure of accrual quality as the residuals from firm-specific regressions of changes in working capital on past, present, and future operating cash flows. We document that observable firm characteristics can be used as instruments for accrual quality (e.g., volatility of accruals and volatility of earnings). Finally, we show that our measure of accrual quality is positively related to earnings persistence.
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