This paper provides a systematic examination of the source of information in accruals about earnings quality. Our work extends work in Sloan (1996) demonstrating that high levels of accruals are a leading indicator of deterioration in earnings and stock returns. We extend Sloan's analysis in several ways. First, we extend the analysis of accruals from the subset of accruals considered by Sloan to include all accruals relating to firms operating activities.
Second, we separately analyze the information content of asset and liability accruals. Third, we separately analyze the information content of accruals related to growth in the operating activities of the firm versus accruals related to reduced efficiency of the operating activities of the firm.
Our results provide several important new insights. First, we show that information in accruals about earnings quality extends beyond the set of accruals considered by Sloan. In fact, we find that the additional accruals we consider provide relatively more information about future stock returns and future SEC enforcement actions than the original accruals considered by Sloan. Second, we show that liability accruals play a unique role in providing information about earnings quality.
While liability accruals, per se , have little direct information about earnings quality, they play an important role in extracting information about earnings quality from asset accruals. Third, we show that both the sales growth and efficiency components of accruals contribute to the information in accruals about earnings quality.
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Information in Accruals about the Quality of Earnings
