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In: Accounting

Explain the relationship between accounts receivables and future cash flow as suggested by Barth, Cram and...

Explain the relationship between accounts receivables and future cash flow as suggested by Barth, Cram and Nelson (2001)

Solutions

Expert Solution

Building on the Dechow et al. 1998) model of the accrual process, this study investigates the role of accruals in predicting future cashflows.The model shows that each accrual component reflects different infor-mation relating to future cash flows; aggregate earnings masks this information.As predicted, disaggregating accruals into major components—changein accounts receivable, change in accounts payable, change in inventory, de-preciation, amortization, and otheraccruals—significantly enhances predictiveability. Each accrual component, including depreciation and amortization, issignificant with the predicted sign in predicting future cash flows, incrementalto current cash flow. The cash flow and accrual components cf current earn-ings have substantially more predictive ability for future cash flows thanseveral lags of aggregate earnings. The inferences are robust to alternativespecifications, including controlling for operating cash oyole and industrymembership.


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