The relative predictive ability of earnings and cash flows

Abstract

Purpose – The purpose of this paper is to examine the relative predictive abilities of current earnings (and its components) and cash flows for next period cash flows in case of Shariah-compliant companies in India. Design/methodology/approach – The study uses the list of CRISIL NSE Index (CNX) Nifty Shariah Index companies as its sample for a period of 10 years for conducting the analysis. The study utilizes the cash flow prediction models to examine the relative predictive abilities of current earnings (and its components) and cash flows for next period cash flows. Findings – The study report that contrary to Financial Accounting Standard Board assertion, current cash flows have superior predictive ability of next period cash flows than current aggregate earnings in case of Shariah-compliant companies in India. The results further show that there are no gains from decomposing earnings into accruals and cash flows in predicting future cash flows. There is no increase in explanatory power (measured by adjusted R2) when aggregate earnings are disaggregated into accruals and cash flows to predict next period cash flows. Practical implications – The empirical findings of the study will enable the Shariah compliant investors to understand the role of current earnings (and its components) and cash flows in predicting next period cash flows in case of Shariah-compliant companies in India. Originality/value – To the best of author’s knowledge, this is the first study which examines the relative predictive abilities of current earnings (and its components) and cash flows for next period cash flows in case of Shariah-compliant companies in India.

The Review of Literature on the Role of Earnings, Cash Flows and Accruals in Predicting of Future Cash Flow

“…Researchers have used in their cash flow prediction studies as predictor variable and measured differently; for example, McBeth (1993), Farshadfar, Ng and Brimble (2008);Varun (2015) used cash flow information directly reported in cash flow statement, others researchers mathematically calculated by taking the difference between net income and accruals (Finger,1994;Ebaid,2011) …”

Islamic accounting research between 1982 and 2020: a hybrid review

“…The fourth stream is corporate Shariah governance in Islamic accounting literature and relevant studies in Shariah governance (Khalil and Taktak, 2020). The fifth stream is Shariah-compliant in Islamic accounting literature and relevant studies (Ho et al , 2012; Dawar, 2015). The sixth stream is accounting education in Islamic accounting literature by Nahar (2019) and Muhamad and Sudin (2015).…”

“…Relevant studies have paid attention to the methods of Shariah-compliant screening run by scholars in Islamic finance. These studies have examined the expected cash flow and components of current earnings for the next period of cash flows (Ho et al , 2012; Dawar, 2015).…”

Analisis Kemampuan Informasi Laba dan Arus Kas dalam Memprediksi Arus Kas Masa Depan

“…Selain laba, penelitian sebelumnya membuktikan jika kaitannya dengan arus kas masa depan, arus kas mempunyai kemampuan prediktif lebih unggul. Hal yang demikian didukung penelitian Mulenga (2015), Dawar (2015) dan Jemaa et al (2015) Penelitian ini mengacu pada penelitian Mulenga (2015) yang mengobservasi terkait kemampuan laba serta arus kas operasi dalam memperkirakan future cash flow dari operasi perusahaan India tahun 2002-2014 yang tercatat di Bursa Bombay. Penelitian Mulenga (2015) menggunakan laba sesudah pajak sebelum pos luar biasa serta arus kas operasi sebagai proksi, sedangkan penelitian ini lebih kepada komponen laba yaitu laba bersih dan komponen arus kas yakni arus kas operasi, arus kas investasi, serta arus kas pendanaan.…”