The Economic Usefulness of Accounting

In a recent paper, you examined the ‘economic usefulness’ of accounting for private firms. What did you find?

For some privately-held firms, the costs of providing high-quality, accrual-based financial statements outweigh the benefits of accommodating the demands of their stakeholders — who may rely more on cash flows or have direct access to management. But for other private firms, greater stakeholder demand for their financial information necessitates highquality accounting.

Using a large sample of U.S. private firms, we confirmed that accrual quality in private firms is associated with the ability of accruals to predict future cash flows; next, we found that accrual quality increases with the demand for monitoring by equity investors, lenders and suppliers. Overall, our evidence suggests that for private U.S. firms, accrual quality is useful, has economic consequences, and varies predictably with certain firm characteristics.

Why did you focus on private firms?

I’ve been interested in private firms and their accounting issues for some because we always hear in the media about publicly-listed companies. Yet, if you aggregate the economic activity in private firms, they have, in total, four times as many employees; three times the total revenue; and twice as much in total assets and scale as publicly-listed companies.