The Influence of Earnings, Cash Flow Components and Operating Working Capital on Future Cash Flow of Banking Sector in Indonesia

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1 Proceedings of The 7th Annual International Conference (AIC) Syiah Kuala University and The 6th International Conference on Multidisciplinary Research (ICMR) in conjunction with the International Conference on Electrical Engineering and Informatics (ICELTICs) 2017, October 18-20, 2017, Banda Aceh, Indonesia The Influence of Earnings, Cash Flow Components and Operating Working Capital on Future Cash Flow of Banking Sector in Indonesia * Fayeno Yunanda and Islahuddin Department of Accounting, Faculty of Economics and Business, Syiah Kuala University, Banda Aceh 23111, Indonesia; * Corresponding author: fyn.fayeno@gmail.com Abstract This study is aimed at examining the influence of earnings, cash flow components and operating working capital on future cash flow of banking sector in Indonesia for the period of Banking sector is considered in this study for its reputation as one of the fastest growing sector in financial services industry in Indonesia. A sample of 48 banks is drawn purposively from banking companies listed in IDX (Indonesian Stock Exchange) for the period of Multiple linear regression analyses are used to test the hypotheses. The result showed that earnings, cash flow components of operating cash flow, investing cash flow, and financing cash flow, and operating working capital are simultaneously influence future cash flow. In addition, only earnings influences future cash flow, while operating cash flow, investing cash flow, financing cash flow and operating working capital has no partial influence on future cash flow. Keywords: earnings, operating cash flow, investing cash flow, financing cash flow, future cash flow. Introduction Business stability has always been the objective of all companies. In order to achieve that objective, management attempt to provide good performance of business. Statement of Financial Accounting Concepts No. 8 on The Objectives of General Purpose Financial Reporting stated that management attempt to provide good performance of business to attract clients, creditors, and other potential investors to provide resources for the entity for their decision of buying, selling, holding equity and debt instruments, providing or settling loans and other forms of credit. However, the business activity is always fluctuated. Consequently, financial statements become essential and important to be reported regularly. Shocking scandals in early 2000s have raised the awareness of preparing financial statements. W.T Grant (USA), Target (USA), Enron (USA), Aixtron Aktiengesellschaft (DEU) and WorldCom (UK) experienced bankruptcy while they have good profits. These cases have shown that predicting future cash flow is important. Cash flow statement is well known as a key to the valuation of firm s security compared to other statements in financial reporting. Rattachut and Vittalda (2014) confirmed that a firm without profit may be able to survive for a while, but without cash flow a firm 228

2 Fayeno Yunanda and Islahuddin can become insolvent, and is subject to bankruptcy. Therefore, predicting future cash flow is important to be conducted. In regard with the importance of predicting future cash flow, some questions have been raised: do past cash flow and past earnings have the capability to predict future cash flow? Which one is more useful to forecast future cash flow, past earnings or past cash flows? It is well known that earning has been used as a superior indicator of the performance of companies as depicted in their income statement. However, some researchers argued that future cash flow is much more influenced by past performance of cash flow itself rather than earnings (Ayu Indira & Dwi Ratnadi, 2014; Jen Surya, 2011; Rai Dwi & I Gede A.W., 2015). This study also seeks to examine operating working capital as an important traditional measurement of company's liquidity which affects future cash flow of the company. The role of operating working capital in predicting future cash flow has been studied by Nasrulloh and Hassan (2013), Richard (1996), Dan Givoly et al., (2008), and Mahmood et al., (2012) and it gave various results. As there were inconsistency results of previous studies, it is interested to examine the influence of earnings, cash flow components and operating working capital on future cash flow of banking sector in Indonesia. Banking sector has been selected for the reason that companies reputation has been one of the fastest growing sectors in financial services industry in Indonesia. Moreover, it is the most secured sectors as it is highly regulated and supervised as by Financial Services Authority (OJK). Besides, future cash flow will provide financial details of banking companies for proposed projects or lenders. In this case, future cash flow is less about solvency and more focused on longevity of the business to minimize the risk of liquidity. Literature Review Statement of cash flow represents a detailed summary of all cash inflow and outflow, about the sources and the uses of cash during an accounting period and useful in assessing the company s liquidity, financial flexibility, and overall financial performance (Nasrulloh & Hasan, 2013). Several studies about forecasting cash flows have been conducted. In fact, the result on factors that influences future cash flow still inconsistent. Surya (2011) found that earnings and cash flows have ability to predict future operating cash flow when they have positive profit, but when companies have negative profit, the earnings are not significant to predict future operating cash flows, while current operating cash flows still have the ability to predict future operating cash flows. Ayu Indira and Dwi Ratnadi (2014) found that operating cash flow is not significantly different with net income to predict future cash flow on consumer goods companies. However, Bilinski (2014) suggested that when earnings quality reduces, analysts should be more likely to supply their earnings forecasts with cash flow estimates. Cash flow forecast accuracy depends on the accuracy of the accrual estimates and the precision of accrual forecasts for firms with low quality earnings. The decrease and deficiencies in cash flow is able to pronounce a risk of bankruptcy for creditors and other groups who have interest in the company (Zwaig & Pickett, 2001 in Nasrollah, 2013). Other similar research was conducted by Hadri & Handojo (2004) using variable of operating working capital which is calculated by deducting operating cash flow with current liabilities. Operating working capital is defined as a fund needed by company to meet the needs of day-to-day operations, such as purchasing raw materials, payment of wages, pay debts and other payments (Kieso, 2010 p. 1269). Operating working capital is important in the operation on a company, because it is directly affecting company s sustainability. By increasing long-term working capital, it 229

3 Proceedings of The 7th Annual International Conference (AIC) Syiah Kuala University and The 6th International Conference on Multidisciplinary Research (ICMR) in conjunction with the International Conference on Electrical Engineering and Informatics (ICELTICs) 2017, October 18-20, 2017, Banda Aceh, Indonesia directly wills also increasing company future cash flow. Increases in working capital correspond with negative cash flows, as more cash is required to achieve the higher level of working capital, while decreases in working capital correspond with positive cash flows (James, 2013). Based on the description above, the model of this study can be figured out as follows: Earnings Operating Cash Flow Investing Cash Flow Future Cash Flow Financing Cash Flow Operating Working Capital Figure 1. Research framework Taking the literature review and previous findings as the point of departure, the hypotheses of this study are formulated as follows: H 1 : Earnings, cash flow component, and operating working capital simultaneously influences future cash flow. H 2 : Earnings positively influence future cash flow. H 3 : Operating Cash Flow positively influences future cash flow H 4 : Investing Cash Flow positively influences future cash flow H 5 : Financing Cash Flow negatively influences future cash flow H 6 : Operating Working Capital positively influences future cash flow. Research Method In this study, future cash flow is treated as the dependent variable, which is derived from the statement of cash flow of the observed year as proxy by the amount of operating cash flow (Dahler & Febrianto, 2007). Earnings, cash flow components, and working capital were treated as independent variables. This research follows the formula that has been used by Kusumawardana et al., (2013). Moreover, operational variable of operating working capital in this research is calculated by adding cash flow from operations and the change in current assets other than cash and deducted by the change in current liabilities other than short term debt. This study follows the formula which has been used by Rai and I Gede (2015) and Mahmood et al., (2012) and is computed as follows: ΔWCFO= ( ) ( ) ( ) Definition: ΔWCFO = Operating Working Capital CFO = Operating cash flow ODES = Current liability except short-term debt OCAC = Current assets except cash t = Observed year t-1 = Year before observed year 230

4 Fayeno Yunanda and Islahuddin To investigate the influence of earnings, cash flow components, and operating working capital on future cash flow, this study employs multiple regression models of the panel data as follows: Y= α + β 1 + β 2E + β 3OCF+ β 4ICF + β 5FCF+ + β 6WCO+ ɛ where Y is future cash flow, α is constant term, β1, β2, β3, β4 are the estimated parameters for earnings (X 1 ), operating cash flow (X 2 ), investing cash flow (X 3 ), financing cash flow (x 4 ), operating working capital (X 5 ) and ɛ is the error term. Results and Discussion Following tables show the observations of all research variables from year It presents the results of classical assumption tests of Earnings, Operating Cash Flow, Investing Cash Flow, Financing Cash Flow, Operating Working Capital, and Future Cash Flow of Banking Sector in Indonesia. Table 1. One-Sample Kolmogorov-Smirnov Test. Unstandardized Residual N 48 Normal Mean Parameters a Std. Deviation Most Extreme Differences Absolute.074 Positive.066 Negative Kolmogorov-Smirnov Z.897 Asymp. Sig. (2-tailed).397 a. Test distribution is Normal. Based on the table above, it can be seen that the value of the researched variables using the Kolmogorov-Smirnov test is The value is greater than the significance value which is 0.05 (5%) as the results the data are distributed normally. 1 Model Table 2. Multicollinearity test results. Unstandardized (Constant) Standardized Collinearity Statistics B Std. Error Beta Tolerance VIF Earnings , OCF , ICF , FCF , OWC , ,914,260,893 1,120 a. Dependent Variable: ROE Multicollinearity test aims to test whether the regression model found a correlation among the independent variables (Ghozali, 2006). Based on the result above, the tolerance value of all variables is greater than 0.10 and also the VIF values is less 231

5 Proceedings of The 7th Annual International Conference (AIC) Syiah Kuala University and The 6th International Conference on Multidisciplinary Research (ICMR) in conjunction with the International Conference on Electrical Engineering and Informatics (ICELTICs) 2017, October 18-20, 2017, Banda Aceh, Indonesia than 10. Therefore, there is no multicollinearity between each independent variable in this regression model. Table 3. Heteroscedasticity test results. Model Unstandardized Standardized T Sig. B Std. Error Beta (Constant) , ,604 -,118,906 Earnings 1,550,542,542 2,861,007 1 OCF,021,123,024,167,868 ICF 1,125,649,440 1,733,090 FCF -,147,386 -,102 -,381,705 OWC , ,914,260 1,806,078 a. Dependent Variable: Future Cash Flow. Based on Table 4.3 it shows that the regression model used is free from the classical assumption infringement. Where it can be seen from the level of significances of each variable that indicates the number above 0.05 (5%). It can be concluded that the heteroscedasticity test is acceptable. Table 4. The significance of the effects of earnings, operating, investing, and financing cash flow on future cash flow. Model Sum of Squares df Mean Square F Sig. Regression , ,387 2,367,000b 1 Residual , ,951 Total , a. Dependent Variable: Future Cash Flow b. Predictors: (Constant), OWC, FCF, OCF, Earnings, ICF As shown in Table 4, it can be seen that the significant value is and lower than the significance level of 0.05 (5%). As the results, the first hypothesis (H 1 ) is accepted. The independent variables are simultaneously influenced the future cash flow. Table 5. Hypotheses testing results of earnings, operating, investing, and financing cash flow on future cash flow. Model Unstandardized Standardized T Sig. B Std. Error Beta 1 (Constant) , ,604 -,118,906 Earnings 1,550,542,542 2,861,007 OCF,021,123,024,167,868 ICF 1,125,649,440 1,733,090 FCF -,147,386 -,102 -,381,705 OWC , ,914,260 1,806,078 a. Predictors: (Constant), OWC, FCF, OCF, Earnings, ICF b. Dependent Variable: Future Cash Flow From Table 5 above, multiple regression equation of this research can be derived as follows: Y = ,613 +1,550 X1 + 0,021 X2 + 1,125 X3-0,147X ,6 X5 + ɛ 232

6 Fayeno Yunanda and Islahuddin It can also be written in the form of research proxy based on the variables used within this study: FCF = 68746,613 +1,550 E + 0,021 OCF + 1,125 ICF - 0,147 FCF ,6 OWC + ɛ Table 6. Coefficient determination result of earnings, operating, investing, and financing cash flow on future cash flow. Model R R Square Adjusted R Square Std. Error of the Estimate Durbin- Watson 1,486 a,236, ,003 2,192 a. Predictors: (Constant), OWC, FCF, OCF, Earnings, ICF b. Dependent Variable: Future Cash Flow The table above shows that R Square value is (24%). It means that 24% from the change in future cash flow can be explained by earnings (X 1 ), operating cash flow (X 2 ), investing cash flow (X 3 ), financing cash flow(x 4 ), and operating working capital (X 5 ). Meanwhile, the rest is influenced by other variables that are not examined in this study. Discussion Based on the result of multiple linear regressions, the value of R square of shows that the independent variables in the model explain 24% of the dependent variable. Meaning that independent variables have a slightly medium influence at explaining future cash flow. Thus to sum up, the first hypothesis (H 1 ), which stated earnings, operating cash flow, financing cash flow, and operating working capital influence on future cash flow is substantiated. The variable of earnings (X 1 ) has a value of t 2,861 with the significance level of 0,007 lower than the significance level of 0.05 (5%). It shows that earnings positively influence future cash flow. This result is in line with the results from Nasrollah & Hassan Karimi (2013) who did the study on all the companies listed in Tehran stock exchange. Therefore, H 2 which stated that earnings positively influence future cash flow is substantiated. The variable of operating cash flow (X 2 ) has t value of 0,167 with the significance level of 0,868 which is higher than the significance level of 0.05 (5%). It shows that operating cash flow does not influences future cash flow because the relation of dependent variable (future cash flow) and operating cash flow is on perfect correlation which impact on the variable move in tandem. Meaning that the possible of significant influence to predict future cash flow is become deteriorated. As the results, H 3 is not substantiated. The variable of Investing Cash Flow (X 3 ) has t value of 1,733 with the significance level of 0,090 which is greater than the significance level of 0.05 (5%). It shows investing cash flow does not influence future cash flow. This is because investing cash flow may be difficult to predict future cash flow, but possible to determine the need for future investment (Nawazish, 2013). Therefore, H 4 is rejected. The variable of financing cash flow (X 4 ) has t value of -0,381 with the significance level of 0.705, which is greater than the significance level of 0.05 (5%). It shows that the financing cash flow does not influence future cash flow. As the result, H 5 is rejected and financing cash flow is not a good proxy for predicting future cash flow. 233

7 Proceedings of The 7th Annual International Conference (AIC) Syiah Kuala University and The 6th International Conference on Multidisciplinary Research (ICMR) in conjunction with the International Conference on Electrical Engineering and Informatics (ICELTICs) 2017, October 18-20, 2017, Banda Aceh, Indonesia The variable of operating working capital (X 5 ) has t value of 1,806 with the significance level of 0,056 which is greater than the significance level of 0.05 (5%). It shows that operating working capital does not influences future cash flow. As the results, H 5 is rejected. Therefore, it can be concluded that operating working capital is not relevant to predict future cash flow. Conclusion Our main aim in this study was to address the inconsistency of previous researchers findings on the influence of earnings, operating cash flow, investing cash flow, financing cash flow, and operating working capital on banking companies listed in IDX from The results showed that earnings, operating cash flow, investing cash flow, financing cash flow, and operating working capital simultaneously influence future cash flow of banking companies listed on Indonesia Stock Exchange year In addition, partially earnings does influence on future cash flow. Meanwhile operating cash flow, investing cash flow, financing cash flow, and operating working capital has no partial influence on future cash flow of banking companies listed on Indonesia Stock Exchange year These findings have several significant implications for both practical contribution and theoretical contribution. For practical contribution, the present research is aimed to provide additional information for investor and management on predicting future cash flow. Meanwhile, in theoretical contribution the study is expected to provide an additional knowledge to the academicians and literatures about the influence of earnings, cash flow components, and operating working capital on future cash flow as well as references for students who are interested to conduct further research about future cash flow. References Al-Debie, Mamoun M Are Operating Cash Flows a Superior of Future Operating cash Flows than Earnings? Evidence from Jordan. European Journal of Economics, Finance and Administrative Sciences, ISSN Issue 40 Ayu Indira Laksmi & Ni Made Dwi Ratnadi The Ability of Cash Flow and Earnings to Predict Future Cash Flow. E-Jurnal Akuntansi Universitas Udayana. 9.1: 88-96, ISSN: Belkaoui, Ahmed Riahi Accounting Theory, fifth edition, USA: Thomson Learning, ISBN Billinski, Pawel Do Analyst Disclose Cash Flow Forecasts with Earnings Estimates when Earnings Quality is Low?. doi: /jbfa Vol.41, Issue 3-4 Carl S. Warren, James M. reeve, & Jonathan Introduction to Accounting and Business, 25 th Edition, South-Western, USA. Dahler, Y & Febrianto R The Ability of Cash Flow and Earnings to Predict Future Cash Flow. Jurnal Ilmiah Akuntansi Dan Bisnis. Vol.2 No.2, Retrieved from Faidah, Eni Analysis of Change in Profitability Ratio to Predict Future Earnings (Study on Indonesian Go Public Companies Listed in IDX Period of ). Skripsi. Solo: Universitas Muhammadiyah Surakarta. Financial Accounting Standards Board (FASB) Objectives of Financial Reporting by Business Enterprises. Statement of Financial Accounting Concepts No.8. Stamford, CT: FASB. Financial Accounting Standards Board (FASB) Elements of Financial Statements. Statement of Financial Accounting Concepts No.6, CT: FASB. François et al The Role of Accruals in Predicting Future Cash Flows and Stock Returns. Working Paper Series. WCRFS: Ghozali, Imam Multivariate Analysis with SPSS. Semarang: Badan Penerbit Universitas Diponegoro. 234

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