CFA Level I · CFA Level I Exam · Financial Reporting Quality
An analyst finds that a company's cash flow from operations has fallen steadily while net income has risen, and accounts receivable have grown much faster than revenue. This pattern is most likely a warning sign of:
The pattern most likely signals aggressive revenue recognition. Receivables growing faster than sales and operating cash flow lagging net income suggest revenue is booked before cash is collected, meaning earnings may be overstated or of low quality, which warrants closer scrutiny.
- Aconservative revenue recognition
- Baggressive revenue recognitionCorrect
- Ca change to a lower tax rate
Explanation
Rising receivables well above revenue growth, together with falling operating cash flow relative to income, suggests revenue is being recognized early or without collection. Conservative recognition would tend to lower receivables and income. A tax rate change would not explain the receivables and cash flow divergence.
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