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A Reexamination of the Persistence of Accruals and Cash Flows

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  • JENNIFER FRANCIS
  • MICHAEL SMITH

Abstract

We reexamine prior studies' conclusion that accruals are less persistent than cash, focusing on two aspects of persistence that are crucial to determining its properties. The first (time specificity) refers to the fact that persistence describes how current‐period shocks to income translate into next‐period income. Traditional measures of accruals are, however, functions of current‐ and non‐current‐period transactions. We show that the inclusion of non‐current‐period transactions leads to a downward (upward) bias on the persistence of accruals (cash flows). We develop alternative measures of accruals and cash flows that are not misaligned and show that the differential persistence of cash flows over accruals is more than 70% smaller using these measures. The second aspect of persistence is firm‐specificity. Specifically, we evaluate persistence using firm‐specific estimations and find that more than 85% of firms show no evidence that accruals are less persistent than cash flows.

Suggested Citation

  • Jennifer Francis & Michael Smith, 2005. "A Reexamination of the Persistence of Accruals and Cash Flows," Journal of Accounting Research, Wiley Blackwell, vol. 43(3), pages 413-451, June.
    • Handle: RePEc:bla:joares:v:43:y:2005:i:3:p:413-451
    DOI: 10.1111/j.1475-679x.2005.00176.x
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    Cited by:

    1. Brett Govendir & Peter Wells, 2014. "The influence of the accruals generating process on earnings persistence," Australian Journal of Management, Australian School of Business, vol. 39(4), pages 593-614, November.
    2. Bajra, Ujkan & Čadež, Simon, 2018. "Audit committees and financial reporting quality: The 8th EU Company Law Directive perspective," Economic Systems, Elsevier, vol. 42(1), pages 151-163.
    3. Mary E. Barth & Greg Clinch & Doron Israeli, 2016. "What do accruals tell us about future cash flows?," Review of Accounting Studies, Springer, vol. 21(3), pages 768-807, September.
    4. Elnahass, Marwa & Salama, Aly & Trinh, Vu Quang, 2022. "Firm valuations and board compensation: Evidence from alternative banking models," Global Finance Journal, Elsevier, vol. 51(C).
    5. repec:mth:ijafr8:v:8:y:2018:i:2:p:126-151 is not listed on IDEAS
    6. Kothari, S.P. & Loutskina, E. & Nikolaev, V., 2006. "Agency Theory of Overvalued Equity as an Explanation for the Accrual Anomaly," Discussion Paper 2006-103, Tilburg University, Center for Economic Research.
    7. Bahman Banimahd & Sara Boustani & Mohsen Hamidian, 2014. "Relationship between Operating Cycle and Quality of Accounting Information in Tehran Stock Exchange Listed Companies," International Journal of Academic Research in Accounting, Finance and Management Sciences, Human Resource Management Academic Research Society, International Journal of Academic Research in Accounting, Finance and Management Sciences, vol. 4(4), pages 326-332, October.
    8. Miranda-Lopez, Jose E. & Nichols, Linda M., 2012. "The use of earnings and cash flows in investment decisions in the U.S. and Mexico: Experimental evidence," Journal of International Accounting, Auditing and Taxation, Elsevier, vol. 21(2), pages 198-208.
    9. Ujkan Bajra & Simon Cadez, 2018. "The Impact of Corporate Governance Quality on Earnings Management: Evidence from European Companies Cross†listed in the US," Australian Accounting Review, CPA Australia, vol. 28(2), pages 152-166, June.
    10. Brian Rountree & Konduru Sivaramakrishnan & Yanyan Wang & Lisheng Yu, 2024. "Debiasing earnings persistence estimates," Review of Accounting Studies, Springer, vol. 29(4), pages 3258-3292, December.
    11. Kothari, S.P. & Loutskina, E. & Nikolaev, V., 2006. "Agency Theory of Overvalued Equity as an Explanation for the Accrual Anomaly," Other publications TiSEM 3f380fcf-b0ca-4198-86f8-9, Tilburg University, School of Economics and Management.
    12. Chad R. Larson & Richard Sloan & Jenny Zha Giedt, 2018. "Defining, measuring, and modeling accruals: a guide for researchers," Review of Accounting Studies, Springer, vol. 23(3), pages 827-871, September.

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