Using the Balance Sheet Changes Method of Accrual Computation

As discussed earlier in Chapter 2 (Section 2.5), according to this approach, total accrual is calculated by using the Balance Sheet changes. Therefore, total accrual is computed as the change in working capital, plus the change in non-current operating receivables,

less the change in non-current operating payables, less depreciation and amortisation

expenses. Then, cash flow from operations CFO is calculated as follows:

CFO = EBIT – TACC (4.3)

Table 4.2 summarises the research variables with their relevant items on the Extel database and their definitions when using the Balance Sheet changes method to

compute total accruals. The variables and their definitions may be summarised as follows:

Earnings before Interest and Tax (EBIT)

In the present study, EBIT is identified as earnings before interest and tax which is

calculated by sales minus total trading expenses.

Cash Flows from Operating Activities (CFO)

As mentioned above, cash flow from operations CFO is calculated as EBIT less total

accruals.

Total Accrual and Components of Accrual (TACC)

As noted above, the approach described in this thesis accepts a comprehensive measure of the net accrual (i.e. all operating accruals less operating deferrals) and calculates it as

the change in working capital, plus the change in non-current operating receivables

(∆LTR), less the change in non-current operating payables (∆LTOL), less depreciation

and amortisation expenses. This is referred to as operating accruals. This approach assumes that the long-term receivables (∆LTR) and long-term payables (∆LTOL) items

in accounting databases are related to operating activities. The total accrual based on this approach may be determined as:

TACC = (∆TAR + ∆INV + ∆PREP + ∆OCA) – (∆TAP +∆OCL) + ∆LTR – ∆LTOL –

DEPAM (4.4)

Change in Trade Accounts Receivable (∆TAR)

Change in trade accounts receivable is defined as:

Trade debtors [represents] amounts owed to the company

from the sale of goods or services on credit. (Thomson

One Banker –Extel)

Change in inventories (∆INV)

Change in inventories is identified as:

Stocks [relates to] the total of all types of stock (inventory).

Includes: (i) Raw materials; (ii) Work in progress;

(iii) Finished goods and goods for resale (excluding fixed

assets; (iv) Payments made and received in advance.

(Thomson One Banker –Extel)

Change in Prepayments (∆PREP)

Change in prepayments includes other prepayments and pension prepayments which are characterised as:

Other prepayments [represents] expenses paid and income

received in advance. Pension prepayments [relates to]

prepayments for pensions. (Thomson One Banker –Extel)

Change in Other Current Assets (∆OCA)

Other current assets is calculated by total current assets which is adjusted by the accounts are related to taxations (other tax recoverable, other certificates of tax deposit, other act recoverable and deferred tax) less trade accounts receivable, inventories and prepayments.

Change in Long-Term Receivables (∆LTR)

Change in long-term receivables is characterised as:

Long term debtors [represents] long term receivables due

from companies other than those classified as associated

co investment. (Thomson One Banker –Extel)

Change in Trade Accounts Payable (∆TAP)

Change in trade accounts payable is identified as:

Trade creditors [involves] amounts owed for the purchase

of goods or services on credit. Includes: Amounts due to suppliers etc relating to normal business operations. Excludes: Trade creditors specified as being attributable

to the life business of an insurance company. (Thomson

Change in Other Current Liabilities (∆OCL)

Change in other current liabilities is calculated by creditors less trade accounts payable, dividends and tax payables.

Change in Long-Term Operating Liabilities (∆LTOL)

Change in long-term operating liabilities includes non-current provisions, provisions for future pension liabilities and other long-term operating liabilities.

Depreciation and Amortisation Expenses (DEPAM)

Include depreciation of tangible assets and amortisation of intangible assets per the Income Statement.

Table 4.2

Definitions of Variables – Using the Balance Sheet Changes Method of Accrual Computation

The Research Variables Extel Item Name Definition

Trade Accounts Receivables (TAR)

EX. Current Assets Trade Debtors Trade debtors [represents] amounts owed to the company from the sale

of goods or services on credit, Includes: amounts due from customers relating to normal business operations. Excludes: trade debtors specified as being attributable to the life business of an insurance company (see life trade debtors).

Inventories (INV) EX. Current Assets Stocks Stocks [relates to] the total of all types of stock (inventory). Includes:

(i) Raw materials; (ii) Work in progress; (iii) Finished goods and goods for resale (excluding fixed assets; (iv) Payments made and received in advance

Prepayments (PREP) EX. Current Assets Other Prepayments Other prepayments [represents] expenses paid and income received in

advance This will include deferrable expenses (such as marketing costs) incurred in the gaining of insurance business and pension prepayments. Includes: Prepaid expenses and accrued income. Excludes: Accruals.

EX. Current Assets Pension Prepayments Pension prepayments [relates to] prepayments for pensions. Excludes:

(1) Prepaid expenses and accrued income except for pensions. Other Current Assets

(OCA)

EX. Current Assets less above items Total current assets after excluding taxation less above items.

Long Term Receivables (LTR)

EX. Finance Assets LT Debtors Long term debtors [represents] long term receivables due from

companies other than those classified as Associated co investment. Includes: (1) Long term receivables. (2) Trade (and other) debtors. Excludes: (1) Receivables from trade investments (2) Current asset receivables due after a year.

Table 4.2 Continued

The Research Variables Name Extel Item Name Definition

Trade Accounts Payable (TAP) EX. Creditors Trade Creditors Trade creditors [involves] amounts owed for the purchase of goods or

services on credit. Includes: Amounts due to suppliers etc relating to normal business operations. Excludes: Trade creditors specified as being attributable to the life business of an insurance company.

Other Current Liabilities (OCL) EX. Creditors

Less:

EX. Creditors Trade Creditors EX. Creditors Tax Due EX. Creditors Dividends Due

Creditors [represents] the total of creditors [including] Trade creditors, Bills of exchange, Due to market & clients , Due to agents etc, Due to policyholders, Due to insurance companies, Due to reinsurance companies, Accrued interest, Other accruals etc, Current provisions, Fixed asset payables, Deferred consideration, Trading investments – short, Tax due , Short term government grants, Dividends due, Items in transit, Notes in circulation, Reinsurance deposits , Intra- group payables and U&O creditors.

Long Term Operating Liabilities (LTOL) EX. Deferred Liabilities

EX. Other Liabilities EX. Other LT Liabilities Less:

EX. Deferred Tax

Table 4.2 Continued

The Research Variables Name Extel Item Name Definition

Earnings before Interest and Tax (EBIT) EX. Sales

Less:

Sales revenue represents turnover net of VAT and other sales taxes and duties. Excludes turnover known to be inclusive of sales taxes which cannot be shown separately.

EX. Trading Expenses Trading expenses relates to the total trading expenses of the company including cost of goods sold , selling and general and U&O by format 1 (the total of all components of trading expenses that cannot be reliably categorised by function).

Cash Flows from Operating Activities (CFO)

CFO = EBIT – TACC

Accruals TACC = (∆TAR + ∆INV + ∆PREP + ∆OCA)– (∆TAP +∆OCL) + ∆LTR – ∆LTOL – DEPAM

∆TAR Change in trade accounts receivable

∆INV Change in inventories

∆PREP Change in prepayments

∆OCA Change in other current assets

∆LTR Change in long-term receivables

∆TAP Change in trade accounts payable

∆OCL Change in other current liabilities

∆LTOL Change in other long-term operating liabilities

DEPAM Depreciation of tangible assets and amortisation of intangible assets per Income Statements