Intangible assets and the trend in the accruals-cash flow association


Recent research documents a weakening of the negative association between accruals and cash
flows and raises the concern that accounting usefulness may be declining. We provide evidence
that the documented weakening of the association does not result from a loss of accounting
usefulness per se, but from deficiencies due to a specific accounting practice and a specific design
choice made by researchers, which can be corrected. At the core of the problem is the departure
from the matching principle resulting from the current accounting treatment of intangible
investments. More specifically, the weakening of the negative association is driven by the
increasing level of intangible investments, which are expensed rather than capitalized, and by
researchers’ choice to scale accruals and cash flows by total assets, which are understated for
intangible-intensive firms. Treating intangible expenditures as capitalized investments and using
alternative scaling options practically eliminate the weakening trend in the correlation between
accruals and cash flows.