We wrap up our week’s analysis on Chesapeake Energy Corporation (NYSE:CHK) with an assessment of its Earnings Quality. Our previous posts on the company covered Fundamental Analysis, Corporate Actions, and Dividend Quality. CapitalCube’s analysis are peer-based. The peer-set used for Chesapeake is: Anadarko Petroleum Corporation (NYSE:APC), EOG Resources, Inc. (NYSE:EOG), Apache Corporation (NYSE:APA), Devon Energy Corporation (NYSE:DVN), Williams Companies, Inc. (NYSE:WMB), Noble Energy, Inc. (NYSE:NBL), Hess Corp. (NYSE:HES) and EQT Corporation (NYSE:EQT).
CHK-US’s relatively weak net income margins for the last twelve months combined with a level of accruals that is around peer median suggest that its reported net income is supported by a reasonable level of accruals.
The company’s accrual levels over the last twelve months are positive but around the peer median suggesting the company is recording a proper level of reserves relative to its peers.
Excluding the effects of change in revenue, the accounting categories causing the most impact on the movement of net income from the prior period to the current period are PP&E, Accounts Payable and Accounts Receivable.
Company numbers are TTM (trailing twelve months) or latest available. Share price data is previous day’s close unless otherwise stated.
Earnings: From Accounting or Cash Flow?
Net Income = Net Operating Cash Flow – “Accruals”
Accruals are estimates by company management of non-cash expenses, assets and liabilities that are recognized before they are paid. They are calculated as net operating cash flow less net income.
The analysis of accruals can help signal possible earnings management of reported net income and EPS results. For example, ‘Over-Accrued’ can signal under reported net income and/or the building of balance sheet reserve accounts, while ‘Under-Accrued’ can signal inflated Net Income results and/or release of balance sheet reserves to aid reported earnings.
Recent trend for CHK-US’s accruals
The annual trend suggests that CHK-US’s accruals to revenue ratio has increased 4.0 percentage points from last year’s low but is still below its four-year average accruals to revenue ratio of 66.6%. While its accruals to revenue ratio increased to 39.7% from 35.7% (in 2010), its peer median decreased during this period to 37.9% from 40.2%. Relative to peers, accruals to revenue ratio rose 6.3 percentage points (and ended higher than its peer median).
On a quarterly basis, CHK-US’s accruals to revenue ratio is its highest over the last five quarters and compares to a low of -11.8% in 2012-06-30. The increase in its accruals to revenue ratio to 95.7% from -11.8% was also accompanied by an increase in its peer median during this period to 65.2% from 18.4%. Relative to peers, accruals to revenue ratio rose 60.7 percentage points (and ended higher than its peer median).
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