2.2　Private and public firms

2.2.1　What are“private firms and public firms？”

Before comparing the EM of private and public firms，it is worth discussing the definition of a“private firm”.Different definitions of a private firm may lead to different interpretations or views on their EM.For instance，extant literature defines a private firm as one with a small societal and/or economic impact and，by contrast，public firms are those with a significant impact on society（and/or the economy，Minnis and Shroff，2016）.

This book does not include any notion of“societal impact”in the definition of a private firm. Instead，for the purpose of this study，a public firm is viewed as a firm which offers or trades its company stock（shares）to the general public on the stock market exchanges.Therefore，they have publicly traded equity，which private firms do not have.However，prior studies have arguments on what is meant by capital or whether one should only consider equity but not debt and capital to determine private or public firms（Katz，2009；Minnis and Shroff，2017）.For example，Katz（2009）classified firms with private equity but publicly traded debt as private firms.In the context of this study，they are public firms.In the instance of private firms with publicly traded debts，they are considered as being public，and Teoh et al.（1998）document that firms which go public are subject to higher level of EM.

Of course，no definition could cover all issues and perfectly segregate all firms as being either private or public.It is very important to highlight private firms and raise interest in their EM.Although most of the literature has studied public firms，private firms’financial reporting choices are of crucial importance because most companies are incorporated as private worldwide.For instance，in 2010，only 0.06% of the 5.7 million US firms were listed.Furthermore，Asker et al.（2014，p.350）report：

“ Private U.S.firms accounted for 52.8% of aggregate non-residential fixed investment，68.7% of private sector employment，58.7% of sales，48.9% of aggregate pre-tax profits .”

Similarly，the majority of the EU economy is also constituted by private firms.With 90% of firms registered as private firms，they represent more than 75% of European GDP（FEE，2016）.IKEA，Trafigura，Lidl，Aldi，LEGO and Rolex are examples of famous private firms in the EU.

2.2.2　The differences between private and public firms

As mentioned above，private firms are important to the world economy.They differ from public firms in many important ways，and these differences are viewed as fundamental factors driving differential EM between the two types of firms.

Firstly，private and public firms are different in size.A private company，also known as a proprietary company，is limited in size by its constitution.It must have at least one shareholder and up to a maximum of 50 non-employee shareholders.Conversely，a public company must have a minimum of one shareholder，typically more than 50 non-employee shareholders with no maximum limit.In the case of public firms，a minimum amount of capital is set at not less than EUR 120，000（EU，2016）. Overall，public firms are generally larger than private firms.

The relative costs of financial reporting vary with size because of economies of scale.There are economies of scale both in preparing and auditing financial reporting information，so costs tend to be proportionately higher for private firms（Singleton-Green，2015）.The benefits of financial reporting vary with size principally because，on average，the larger the firm，the more money is at stake and the greater the number of people who transact with it and are otherwise affected by its activities.

Secondly，the way of raising revenue is also different between private and public firms.Private firms by definition are unlisted and restricted from raising capital by selling shares to the public.Funding for these enterprises typically originates from the outside of public markets，usually their directors or commercial lines of credit.Capital is also raised by offering shares to existing shareholders or employees.

On the other hand，public firms can be listed or unlisted，and are entitled to collect funds by providing securities in itself to the public，allowing the entity to raise large amounts of capital quickly.These shares are listed on the stock market，except for unlisted public companies.Due to the nature of their revenue raising capacity，public entities are also obliged to disclose corporate financial information and abide by stringent compliance rules，further distinguishing them from their private counterparts（e.g.，Arjoon，2005；Burgstahler et al.，2006；Asker et al.，2011；Hope et al.，2013）.

Finally，the regulatory bodies for companies also differ depending on their types，and whether they are listed or unlisted.The European Regulation NO.1606/2002，from 2005，has mandated the adoption of IAS/IFRS in all the member states of the European Union for the consolidated accounts of companies with securities traded on a regulated market（“publicly traded companies”，Palea，2013）.With the decision to mandatorily apply IFRS for consolidated accounts of public firms，the EU aimed to improve transparency and the comparability of firms’reporting statements，as well as contribute to the efficient and cost-effective functioning of the capital market in order to protect investors and maintain confidence in capital markets（ibid）.However，the adoption for private firms is voluntary.

2.2.3　How are private firms' financial reporting regulated across countries？

Private enterprises are faced with substantially different financial reporting requirements.For example，according to different countries，financial statements are required to be publicly disclosed and audited.Although the purpose of this paper is not to describe all the possible regulations faced by a variety of companies，we discuss a wide range of regulations because heterogeneity reveals the extent to which different approaches have been adopted to regulate private enterprises.At the risk of serious oversimplification，we divide countries into two systems：limited regulation and scale regulation.We discuss these two systems in this section.

“Limited regulation”refers to the fact that private firms are hardly regulated from the perspective of financial reporting.The two countries most suitable for this system are the United States and Canada.With a few exceptions，private firms in these countries do not need to have their financial statements audited by public accountants or submit their financial statements publicly，regardless of their size.Companies that need to publicly disclose financial statements in these countries are only required to have decentralized ownership in certain types of securities.In the United States，for example，there are two criteria for determining a company’s public disclosure requirements：（1）the company has at least $10 million in assets and（2）more than 500 people own its securities（debt or equity）.

A striking feature of this definition is that the SEC regulates companies based on the“securities”issued，rather than necessarily focusing on equity.Under this definition，companies with tight equity but publicly traded debt are public companies，not private ones.Besides，size requirements（$10m in assets）are not usually binding.Lisowsky and Minnis（2016）used a confidential data set containing all corporate returns filed with the Internal Revenue Service（IRS）between 2008 and 2010.They found that in any given year，about 70，000 companies in the United States had at least $10 million in assets but did not file with the Securities and Exchange Commission.Thus，the public filing requirement is based primarily on the distribution of ownership of its securities（nominally only based on the size of the company）.Multibillion-dollar companies like Cargill，Inc.，Koch Industries，Inc.and Uber，for example，have no public disclosure requirements in the US or Canada，and similar rules exist in China.In short，the regulatory regimes in the US and Canada have largely eliminated the need for any financial reporting or auditing requirements for private firms.That is，private firms are essentially able to remain private（and choose the type of financial reporting they follow，or even whether to prepare financial reports），while public firms not only publicly disclose their financial results，but their financial statements are verified by independent auditors.

Contrary to the above，in countries with scale based regulatory regimes，the regulation faced by companies is not related to the dispersion of securities holdings，but is based on the size of the company.As a result，many private firms（by our definition）face financial reporting regulation because of their size，regardless of whether they have few（or even only one）owners and no debt.In these countries，private limited liability firms that exceed a certain size threshold must publicly disclose their financial statements and be audited.As far as we know，most countries fall into this category with the exception of the United States，Canada and China.However，this does not mean that all countries in this category have the same set of rules.The rules of Japan，South Korea，Australia and other countries are different，and the rules of EU countries are also different.In addition，we face heterogeneity—even if it is the focus of European regulation.

In Europe，the level of financial disclosure and verification by independent auditors depends on size.Business size is classified according to three dimensions：assets，turnover（i.e.，sales revenue）and number of employees.Other studies take a detailed look at the financial reporting rules of European countries（for example，CNA Interpreta，2011；Bernard et al.，2015），so we will discuss only briefly here.We summarize the rules intuitively in two ways.First，in a study for the European commission，CNA Interpreta produces an“accounting matrix”for each country.

Bernard et al.（2015）also documented a set of reporting requirements for nine major European countries between 2003 and 2011.The study focused only on disclosure and audit related regulations and reported size thresholds relating to headcount，total assets and sales turnover beyond which firms must more fully disclose income statement and balance sheet items or audit their financial statements.First，while the European Commission has provided guidance on the size threshold，we see differences between countries，with Germany and Denmark typically setting the maximum size threshold and Ireland and France setting the minimum.Second，we have seen deregulation in almost all countries（with the exception of Ireland）over time.These include changes in settings resulting from inflation adjustment and regulatory authorities explicitly changing regulations to reduce the reporting burden on smaller entities（Ball and Shivakumar，2005；Kausar et al.，2016）.Third，most of the changes（across countries and over time）relate to assets and sales rather than numbers of employees.In terms of number of employees，France has the strictest regulations on information disclosure and is the only country to fine-tune the regulatory threshold.Finally，the charts highlight that，in addition to significant heterogeneity within Europe，these countries are，on the whole，much more closely linked to each other than the“limited regulation”regimes in the US and Canada.

Back to the question we are discussing：why regulate the financial reporting of private firms？It is worth noting how the two major economic regions have chosen very different methods to regulate the financial reporting of private firms.The United States and Canada are almost entirely focused on the decentralization of ownership of securities，and the scale is generally unconstrained.As a result，there are basically no reporting requirements for private firms.European regulations，on the other hand，focus on company size（along with three dimensions）.As we will discuss next，it is not without costs to regulate the financial reporting of private firms.We also know that there is no academic research to prove whether regulation has net benefits（i.e.，whether the benefits of regulation exceed its costs）.Therefore，while we can emphasize the costs and benefits of private firms reporting regulation and provide some insights on which arguments are supported in the data，it is not possible to judge at this point which approach is more desirable in terms of maximizing social welfare.Moreover，since institutional characteristics vary from country to country，any such analysis needs to take these characteristics into account（Leuz，2010）.

One of the main purposes of financial reporting is to reduce agency problems among a firm’s many stakeholders.Agency problems exist between managers and investors，between existing investors and potential investors，between current investors and minority shareholders，between debt investors and equity investors，and between firms and customers and suppliers.Broadly speaking，financial reporting helps to reduce agency costs by reducing information asymmetry and promoting contracts among corporate stakeholders.Despite ample evidence that the firm，through transparent financial reporting and by reducing the agency cost to audit the financial statements，thereby gains economic benefits（see Dechow et al.，2010；and Leuz and Wysocki，2016）through the literature，this does not mean that financial reporting should be regulated，or firm should be forced to disclose financial statements or the audit（Ross，1979；Easterbrook and Fischel，1984）.On the contrary，it is precise when firms make net gains from disclosure（or obtaining audits）and these gains provide an incentive for firms to voluntarily disclose（and receive audits），thus making regulation unnecessary.Previous studies，such as Jensen and Meckling（1976），Ross（1979），and Grossman et al.（1981），have shown that the costs of confusion and non-disclosure end up being borne by the firm（i.e.，its current investors，including managers）at least some，if not all.Therefore，the firm has a strong market incentive mechanism to disclose financial statements to stakeholders and obtain audit，thus reducing agency costs borne by the company.The economic rationale for financial reporting regulation is often based on the premise that market solutions are unlikely to produce socially desired levels of disclosure and transparency.The study of regulatory economics puts forward many arguments to justify the regulation of financial reporting.Before discussing the arguments that apply specifically to the private sector，we have first discussed some important arguments for why regulation is beneficial in general.Of course，the benefits of regulation come with significant costs，which we’ll discuss as well.In subsequent discussions，for the sake of brevity，disclosure and audit are collectively referred to as financial reports.We make clear distinctions where we need them.

Externalities and spillover effects of financial reporting

One of the main theoretical bases for regulating financial reporting and disclosure is its externality to other firms（Dye 1990；Admati and Pfleiderer，2000；Lambert et al.，2007）.Since firms operating in an economy are affected by common economic conditions，such as common demand，supply and cost conditions，the disclosure of a firm can help stakeholders of other firms understand these common economic factors.In addition，if the disclosure of an individual firm provides information about technological innovation，governance arrangements（such as compensation practices），then even economically irrelevant firms can provide information.A growing number of studies have found that one firm’s disclosure can have significant economic effects on other related firms，and this view is supported by empirical evidence.For example，Bushee and Leuz（2005）found that regulatory changes requiring US OTC Bulletin Board（OTCBB）firms to comply with reporting requirements under the 1934 US Securities and Exchange Act resulted in a positive stock price response and a permanent increase in liquidity，even for those firms that had complied with these requirements.Their evidence suggests that tighter regulation of disclosure generates positive externalities in the form of liquidity spillage.Badertscher et al.（2013）found that in the United States，firms operating in industries with a large proportion of listed firms make better investment decisions than those operating in industries with a small proportion of listed ones.They argue that US public firms disclose a lot of information because of mandatory disclosure requirements and voluntary disclosure incentives.

By contrast，US private firms are not required to publicly disclose information（and rarely do so）.Thus，the composition of private and public firms in the United States has a significant impact on the information environment of the industry，leading to differences in the quality of corporate investment decisions between industries with a large and small number of listed firms.They further suggest that the proportion of UK listed firms does not affect the quality of investment decisions，depending on the need for public disclosure of financial statements by UK private firms.So the evidence of Badertscher et al.（2013）is consistent with disclosure with positive externalities.

Shroff et al.（2014）found that peer disclosure helps to reduce the agency problem of MNCs because it can better inform the parent firm of the economic environment of its foreign subsidiaries.Shroff et al.（2016）found that peer disclosure helps to reduce the cost of capital of other enterprises in the industry，and this externality is time-varying；firms benefit most from the disclosure of peer firms when they are young，and there is little public information about them.As the firm grows older and starts to provide more information disclosure directly，the benefits of information disclosure of peer firms will gradually disappear.However，other studies have shown that if the quality of information disclosure is not high，it will produce negative externalities.For example，Durnev and Mangen（2009）found that a firm’s false report can lead to the distortion of investment decisions of peer firms.Although the above studies focus on the spillover effect of financial reports on peer investment behavior，some recent studies also examine the externality of one firm’s disclosure on other firms’disclosure behavior.For example，Baginski and Hinson（2016）found that the decision of some firms to stop providing management forecasts prompted peer firms in the same industry to start providing management forecasts to compensate for the information loss（through information transmission）caused by the first firms’decision.Breuer et al.（2016）and ARIF and De George（2016）provide similar evidence for the interaction of disclosure decisions between peer firms.

In general，previous studies provide evidence of positive externalities of public disclosure in various environments.This finding is important because firms are unlikely to consider the benefits of their financial statements and disclosures to the stakeholders in peer firms when choosing the best level of disclosure.Therefore，if the externalities of these disclosure are positive enough，the regulation of these externalities may bring benefits to the whole economy.

Financial reporting regulation can save money by standardizing information and making it easier for users to process（Mahoney，1995；Zingales，2009）.Even if firms are perfectly willing to make public disclosures，there are several ways to measure performance and prepare financial statements.In the absence of standardization，stakeholders，particularly lenders and potential equity investors，face additional cost of making the disclosures of different firms comparable when evaluating and comparing the performance of them.Therefore，the regulation of normative disclosure and financial statements can benefit market participants.Consistent with this argument，some recent studies have found that the adoption of international Financial Reporting standards（IFRS）in several different countries has helped to reduce the cost of information processing for foreign investors.The adoption of IFRS has increased cross-border investment and enhanced comparability and familiarity with financial statements by foreign investors in their home countries who have also adopted IFRS（see for example，DeFond et al.，2011；Florou and Pope，2012，Yu and Wahid，2014.See De George et al.，2015 for a literature review）.

Due to the lack of financial reporting regulation，managers and stakeholders may have to negotiate disclosure requirements.Such negotiations are expensive in terms of the time involved by managers and stakeholders.When financial reporting regulation helps to reduce repeated efforts to negotiate disclosure requirements with different stakeholders，especially when the outcome of such private negotiations is unlikely to vary significantly，financial reporting regulation can save costs for the economy as a whole（Mahoney，1995）.For example，all stakeholders of a firm need some basic information，such as balance sheet and income statement.In this case，requiring firms to provide minimum disclosure，including balance sheet and income statement，can save the cost of the whole economy by providing standardized solutions.

Finally，market-based solutions and private contracting arrangements usually have fewer choices in terms of punitive power.Generally speaking，violation of private contracting arrangements can only lead to supervisory penalties and sanctions.However，public regulators generally have the power to impose criminal penalties in the event of a violation（Jackson and Roe，2009）.The ability to impose criminal penalties is particularly important when the net worth of entrepreneurs seeking capital is small，which limits the maximum possible regulatory penalties.Regulatory solutions can also help by imposing non unitary，perhaps criminal，penalties if the punishment required to motivate the desired behavior exceeds the wealth of the party（Shavell，1986）.

Related to the above situation，private parties will only bring lawsuits when the expected benefits exceed the expected costs.In other words，stakeholders are willing to invest in law enforcement and litigation against wrongdoers，provided that they at least make ends meet in this operation.However，regulators can enforce cases even if fines/sanctions for misconduct are lower than the cost of enforcement.This benefit is particularly important when financial reporting irregularities cause significant losses because it is the best way to stop other potential violators（Polinsky，1980）.

Costs of financial reporting regulation

It is important to recognise that regulation imposes huge costs，which need to be balanced against the benefits of regulation.Coase’s（1960）main criticism of traditional regulatory theory is that it compares market failure to an idealized form of regulatory intervention，in which regulators are not affected by institutional problems and information asymmetry.Some of the significant costs of regulation are as follows.

The regulatory process is far from perfection，because regulators also have institutional problems.That is to say，regulation is usually created by political processes，which have many disadvantages.Previous studies have found that incumbents are opposed to a regulatory regime that weakens their competitive position，but advocate a regulatory regime that protects their position.For example，Rajan and zingeles（2003）and granja（2016）found that existing enterprises object to disclosure because it promotes competition and makes it easier for new entrants to raise funds.Regulatory solutions must be designed in the public interest，not the special interest.

Individual firms know more about financial reporting and the costs and benefits of disclosure to them than regulators do.For example，firms are more aware of the proprietary costs of disclosure.If mandatory disclosure forces firms to disclose important proprietary information，they may choose to reduce their investment in projects that generate proprietary information（such as research and development）.While the competitive position of individual firms is not particularly important from a social welfare perspective，regulation does have a negative impact on social welfare if mandatory disclosure requirements discourage some prior investment.

Considering a recent example，Bernard（2016）assumes that information about corporate financing constraints is proprietary in nature because competitors can use this information to attack weaker firms.As empirical evidence to support this hypothesis，he found that if information about competitor financing constraints is disclosed，cash rich companies can force them out of business by reducing industry profits and competitors’cash flow.In view of this evidence，shroff（2016）discussed that capital constrained enterprises had to make a difficult choice of：（1）taking leverage which can promote faster growth，but at the same time，also expose the enterprises to cash rich rivals with a higher risk of predation，or（2）maintaining low leverage and financing constraints，even though this means a slower growth rate of settlement.At present，regulators are less aware of the costs of financial reporting and disclosure than firms themselves，and as the above example shows，regulation of financial reporting can lead to reduced benefits.

A more subtle cost of regulation is that it hides the information contained in business choices.Firms，like other economic entities，make decisions based on the analysis of costs and benefits.Such decisions may involve whether certain information is disclosed，whether an audit is obtained，and so on.By looking at the firm’s choices in financial reporting decisions（for example，whether to be audited），stakeholders can learn new and relevant information about the firm.In other words，a firm’s“disclosure preference”for disclosure（or non-disclosure）can convey information about the type of firm and its future prospects to stakeholders（e.g.，Spence，1973；Jensen and Meckling，1976；Melumad and Thoman，1990）.For example，earlier studies such as Blackwell et al.（1998）and Minnis（2011）attempted to control firms’voluntary choice of audit，while the latest study by Lennox and Pittman（2011）and Kausar et al.（2016）explicitly simulated firm choice（and thus，controlled for the“therapeutic effect”of audit）.These studies found that observing the choice of enterprises to audit financial statements itself provides external financiers with incremental information about enterprises，which is helpful to reduce information asymmetry and financing friction.So regulation that forces firms to act in a certain way can lead to the loss of information that is part of their choices.

Although most empirical evidence shows that disclosure has positive externalities，it may also have negative externalities.For example，Fishman and Hagerty（1989）argue that the increase in information disclosure will attract investors away from other firms，resulting in lower price efficiency（if investors follow only a limited number of firms，for example，due to limited attention and information processing costs）.Durnev and Mangen（2009）provide evidence that when a firm discloses misleading information，other firms in the industry will make suboptimal investment decisions based on the misleading information.

Finally，the act of enforcing mandatory reporting requirements is expensive，even if it is done effectively.Only when these rules are properly implemented and enforced can welfare regulations be realized.As a result，enforcement systems play an important role in reporting regulation（e.g.，Daske et al.，2008；Christensen et al.，2016）.

The above discussion on this point is not directed at private firms.However，in the agency problem，private firms and public firms are different.Specifically，the investor base of private firms is relatively small，which is conducive to the information exchange between investors（and managers and investors），thus reducing the problem of information asymmetry.It is important that the investor base of private firms will be more stable over time than that of public firms，since there is no mobile secondary market to facilitate the transfer of securities interests of private firms.Finally，private firms are usually managed by a majority of shareholders，resulting in little separation of ownership and control.Therefore，the separation of ownership and control，one of the main agency costs of public firms，is not a problem in private firms.It is far from clear whether firms，which are typically characterized by little separation of ownership and control，benefit from the public disclosure of their financial statements.Specifically，the lack of separation of ownership and control reduces the cost of information asymmetry between owners，thus limiting the importance of public disclosure to the disclosing firm.The reason why we emphasize“public”disclosure is obviously because other stakeholders of the firm，such as creditors，employees，suppliers and customers，will also ask for financial information.However，these stakeholders can effectively access the firm’s financial information through private channels（e.g.，Cassar et al.，2015；Minnis and Sutherland，2016）.As a result，one of the main motivations for public disclosure of corporate information，delivering information to external investors，can be said to be lacking（or at least less relevant）in the private firm environment.

The fact that few private business owners disclose their financial statements to the public without authorisation（in countries such as the US，for example）is preliminary evidence that public disclosure of financial statements by private firms is unlikely to generate net gains.Lisowsky and Minnis（2016）found that the majority of private firms in their sample（limited to those with assets of at least $10 million）usually prepare financial statements in accordance with GAAP.Interestingly，they further found that most of the financial statements were unaudited.However，few，if any，of these firms disclose and disseminate their financial statements to the public.Bernard（2016）found similar evidence in German private firms.In particular，most of private firms had failed to comply with public disclosure requirements before the enforcement in 2006.As a result，it appears that private firms either did not benefit much from public disclosure and dissemination of financial statements，or found that the costs of public disclosure outweighed the benefits.If we believe that private firms have little incentive for voluntary public disclosure，leaving their financial reporting unregulated，research suggests that from a social welfare point of view，this may lead to a lack of disclosure supply（since few private firms publicly disclose their financial statements）.

In particular，many of the benefits of financial reporting regulation are broadly applicable to all firms，whether they are public or private.Arguments in favour of externalities，standardisation（particularly for lenders and other stakeholders such as customers/suppliers），and reducing the cost of repeated negotiations are broadly applicable to both public and private firms.Therefore，the economic cost of not requiring private firms to publicly disclose their financial statements is considerable.However，we are anxious to point out that most of the regulatory costs discussed above apply to both private and public firms，so financial reporting may still not generate net benefit.More research is needed to further understand the costs and benefits of financial reporting regulation in the private sector.

What is the value of auditing for private firms？

Regulators around the world impose different audit requirements on private firms，ranging from exempting all private firms from auditing to mandatory auditing（except for the smallest ones）.Over time，they have also changed regulatory requirements，from introducing mandatory auditing to private firms that meet certain scale standards to substantially raising the threshold of audit exemption scale.In addition，some people believe that audit is an easyto-implement commodity and therefore does not add value to customers（for example，Goldman and Barrev，1974）.In addition，value creation is considered to put audit quality at risk.However，other scholars believe that auditors add value to their clients because of value-added items related to audit services，such as business risk analysis，management letters and feedback on internal processes of clients（Eilifsen et al.，2011）.The special nature of audit，which is unique due to different customer characteristics，audit team，timing of work，risk assessment and procedure use，is also considered to translate into quality and value（Knechel et al.，2013）.The value of audit can be defined as the positive difference between the utility of audit to various stakeholders and audit related costs（Lambert et al.，2016）.Like listed firms，improving and communicating the reliability of accounting information to stakeholders is one of the main aspects of the audit value of private firms.However，especially in the private sector，auditors may provide benefits to private firms in addition to improving the quality of financial reporting.

These are intrinsic benefits.Next section discusses the external or actual economic benefits of private firm auditing.In this section，we focus more on internal interests.Clearly，some internal benefits may eventually translate into external benefits.For example，since auditors provide assurance by comprehensively evaluating a firm’s accounting operations and controls，audits can reduce the likelihood of management fraud by verifying the effectiveness of cash transfers and monitoring throughout the firm（Cassar，2011）.As Van Tendelo and Vanstraelen（2008）point out，private firms auditing can help alleviate agency conflicts between owners，managers and banks，and can also be used for management performance evaluation，as these firms lack market measures of enterprise value.As for agency conflicts，Hope et al.（2012）found that auditors of private firms in Norway spent more energy（represented by audit costs）in auditing firms with higher agency costs.In addition，as mentioned earlier，auditors are seen as valuable in supporting management decisions or obtaining business advice（for example，Chow，1982）to compensate for organizational dysfunction in a hierarchical organization owned by management（Abdel Khalik，1993）or to improve operational efficiency and effectiveness.In fact，one reason for firms valuing auditors is the need for other services they provide，such as guidance on the application of accounting principles，internal control advice，and general business advice（Beattie et al.，2000）.Demand for these non-audit services（NAS）by private firms may be even higher（Cassar and Ittner，2009）.There is a debate in the audit literature about the costs and benefits of non-audit services.

On the one hand，NAS is supposed to enhance auditor competency.On the other hand，it may undermine auditor independence.Since the Enron case，the provision of NAS to public interest entities has gradually been limited in the US and Europe.However，in many countries，auditors are still allowed to make NAS available to their private clients.Some studies have explored the impact of audit quality on the private firms，but the results seem to be inconclusive.For example，based on a sample of private audit firms in Sweden，Svanstrom（2013）found that audit quality（a measure of audit quality perceived by discretionary accruals and managers）was positively correlated overall with the provision of NAS and accounting services.This would support knowledge spillovers rather than undermine independence.In contrast，for a sample of private firms in the US，Causholli and Knechel（2015）found evidence of a negative correlation between audit quality and audit tenure，which was captured by internal audit quality measures of audit firms.

The value generated by private firm audit also seems to depend on the type of relationship between the client and its external auditor.Fontaine and Pilote（2012），based on the survey of financial executives of private enterprises in Canada，believe that the preferred type of relationship is a relational approach，which means trust，long-term and cooperative relationships.At the same time，they find out that clients do want to keep a distance for auditor independence.Lambert et al.（2016）focused on the value creation paradigm derived from service marketing and enterprise management literature，indicating that value creation may be beneficial to the internal and external value of audit financial statements.Although their research results are based on listed companies，the results are likely to be applicable to private settings and consistent with Knechel et al.（2015），who believe that audit will be more effective if there is interaction and collaboration between auditors and the entity in order to reduce information asymmetry between clients and auditors.

According to Barton and Waymire（2004），mandatory audit is an important policy mechanism used by the government to regulate the provision of reliable accounting information to investors.In fact，many studies provide empirical evidence that auditors have a positive impact on the financial reporting attributes of private firms.Only a few compared the quality of financial reporting of private firms with audited financial statements with that of private firms without audited financial statements.For example，Dedman and Kausar（2012）studied the impact of voluntary audit choice on earnings quality by using the changes in the main audit exemption threshold of British private firms in 2004.Their results showed that firms that chose not to be audited reported less conservatively.Langli（2015）studied a similar problem in Norway，where the smallest private firms were exempted from mandatory auditing in 2011.While this result does not support a general decline in earnings quality for firms that choose not to be audited，he does find that earnings quality declines for firms that opt out and have greater earnings management potential.More recently，in the same context，Downing and Longley（2016）found that firms that did not choose to be audited had lower quality reporting systems（using measures constructed by the authors according to the Norwegian Tax Office’s inspections）than those that chose to remain audited.In addition，quality continued to decline for firms that chose not to be audited，but some mitigated this decline by hiring outside consultants.

However，most studies have focused on the impact of auditor characteristics or related institutional settings on the quality of financial reporting by private firms subject to mandatory audits.Most of these studies examine the impact of auditor type（whether it is a big N auditor）.Some of these studies found differences in the quality of financial reporting by big N and non-big N large auditors in private firms.For example，in the Spanish context，Arnedo Ajona et al.（2008）found that big N auditors were associated with lower discretionary accruals.Cano Rodriguez（2010）also investigated the environment in Spain and suggested that the level of conservatism could be used as an indicator of the quality of financial reporting.His results show that private clients of big N auditors exhibit more conditional conservatism than private clients of non-big N auditors，reflecting the higher contractual efficiency of these big N auditors.At the same time，the auditees of big N auditors also showed higher unconditional conservatism when facing higher litigation and reputational risk，which reduced the quality of accounting information.Van Tendeloo and Vanstraelen（2008）predicted that audit quality of private firms would be affected by four major factors only in countries with high tax consistency.In these countries，tax authorities would conduct more rigorous examination of financial statements，so the probability of audit failure might be higher.Consistent with these predictions，Van Tendelo and Vanstraelen（ibid）found that the Big Four accounting firms were more able to constrain the earnings management of private firms than non-Big Four accounting firms，but only in the high-tax union countries.A recent report by Che et al.（2016）on the sample of private firms in Norway shows that the level of earnings management of firms moving from non-Big Four accounting firms to Big Four accounting firms is low.

On the other hand，some studies have found no evidence to support the quality differentiation of audit firms in private customer market segmentation.For example，Vander Bauwhede and Willekens（2004），taking private firms in Belgium as samples，found that there was no difference in the discretionary accruals between the six major auditors and the non-six auditors，nor did they find that the size of their other auditors had a significant effect on the discretionary accruals.Based on these findings，Gaeremynck et al.（2008）found that there was no difference in the quality of financial reporting between the big six private and the non-big six in Belgium.However，they did find that the audit firm’s portfolio characteristics，such as visibility and financial health，can predict the quality of financial reporting better than the traditional big N indicator variables，and that the audit firm’s clients usually have larger and healthier clients，so the quality of financial reporting is higher.There are also some studies that compare the quality of financial reporting between listed and private firms.In this regard，the papers of Burgstahler et al.（2006）are widely cited.

Based on the sample of firms from different EU countries，they found that the earnings management of private firms is significantly higher than that of listed firms，especially in countries with low quality of law enforcement.Similarly，Ball and Shivakumar（2005）found that private firms are less timely in consolidating losses than public firms Similar studies have been carried out in individual countries，but they do not always lead to similar conclusions.For example，Vander Bauwhede et al.（2003）found that the level of earnings management of public firms in Belgium is higher than that of private firms when their profit is higher than the target and they have the motivation to reduce the profit.

In addition to improving the reliability of financial information，auditing is expected to bring real economic benefits to the firms whose financial statements are audited.Many studies have investigated the problem of private enterprise settings and produced some interesting insights.Blackwell et al.（1998）found in an early study that for a sample of private firms in the United States，37%voluntarily accept audit，and the interest rate of the audited firms on revolving bank loans is significantly lower than that of the non-audited firms，although these audited firms are more risky than the non-audited ones.At the same time，the author found that the interest rate savings showed a downward trend in the size of enterprises.On the whole，the firm’s savings are about 50% to 28% of the total cost of the audit.Allee and Yohn（2009）further found that compared with non-audit，private firms in the United States are more likely to obtain credit when they choose to audit financial statements.In different environments，Kim，et al.（2011）used samples of private Korean firms to examine the impact of voluntary audit and audit quality（proxy Big 4 and non-Big 4 dichotomy）on bond pricing under certain scale threshold of voluntary audit.They found that the interest rates of voluntary auditing private firms are much lower than those of non-auditing private firms both statistically and economically，but the interest rates do not differ significantly according to the types of auditors.In addition，the results show that the clients from non-audit to voluntary audit enjoy more interest rate savings than those from non-audit to compulsory audit，which shows that，as the author said，voluntary audit can improve the credibility of financial statements more than compulsory audit.

Based on the research，the relationship between audit pricing and debt is further studied.Minnis（2011）believes that audit will improve the forecasting ability（accrual basis component）to report net profit for future cash flow and reduce information asymmetry，which explains why the company’s audited financial statements are expected to have a lower cost of debt than the company’s unaudited financial statements.In line with forecasts，Minnis（ibid）studied a large proprietary dataset of US private firms，and pointed out that only 25% were audited.The interest rate paid by audited firms was significantly low and the debt providers placed more weight on audited information than the nonaudited information in determining the price of debt.In other words，Minnis’s empirical evidence confirms Blackwell et al.（1998）who argues that and Kim et al.（2011），who argues that the validation of financial statements affect the pricing decisions of banks and the average pricing of debt.In addition，lenders also use audited financial statements to focus more on establishing interest rates.

Previous studies have found that audited firms benefit from lower debt financing and credit rationing（e.g.，Blackwell et al.，1998；Allee and Yohn，2009），and these studies generally compare voluntary audit of private firms with non-audited firms.In contrast，Lennox and Pittman（2011）are the first natural experiments to investigate the transition from mandatory auditing to voluntary auditing in the UK.As discussed earlier，some changes in the size threshold for mandatory audits of private firms have enabled more and more private firms to be exempt from these mandatory audits，thus making auditing voluntary.Considering firms that are subject to audit under mandatory and voluntary systems，researchers can separate the signalling role of audit from the assurance benefits provided by audit because the latter will not change when shifting from mandatory system to voluntary system.In fact，as Lennox and Pittman（2011，p.1659）pointed out：“private companies provide an appropriate environment for analyzing assurance and signalling benefits of audit，because their information structure is usually worse than that of listed companies.”In line with their expectations，the results show that the credit rating upgrades for the British private firms voluntarily choosing to maintain audit，allowing exceptions，and downgrade for the firm withdrawing from the voluntary audit.After the change of voluntary audit regime，it shows that voluntary audit does have a signalling role and a mandatory setting for the missing role.Using the same regime transfer，Dedman and Kausar（2012）found that the results were consistent with that of Lennox and pitman（2011）.In the UK，they showed that private firms choosing to maintain audit credited scores higher than those withdrawing from the audit，although the firms had lower profitability than those without audit.

Similar to Lennox and Pittman（2011），Dedman and Kausar（2012），Langli（2015）used the environment in Norway as a natural experiment because the smallest private firms were exempt from mandatory audit in 2011.However，Langli（ibid）found that there was no evidence to support the negative impact of interest rates and credit on small private firms in Norway，which chose not to be audited after the regime change.At the same time，Langli（ibid）did find that the quality of tax returns of the firms that chose to quite declined，but only when these firms did not get help from accountants.Taking the United States as the background，Cassar et al.（2015）studied whether and to what extent different information sources information symmetry，the possibility of refusing loans and the cost of debt.They found that the provision of audited financial statements had no effect on the refusal of loans or the cost of debt.Recently，Kausar et al.（2016）further utilized the natural experimental environment provided by the change of British regime to supplement Lennox and Pittman（2011）.They found that firms that voluntarily retained audit significantly increased their debt（4-7%）and investment（7-12%），reduced the cost of debt（4-9%）and increased operating income（6-12%）.Similarly，firms that returned to mandatory auditing reduced their debt and investment and had higher debt costs because，as the authors poined out，their audit choices became unobservable.The authors believed that their research not only showed the verification benefit of audit，but also the additional information contained in retained audit（i.e.audit selection）.Therefore，consistent with Lennox and Pittman’s（ibid）conclusion，the authors pointed out that the mandatory audit of private firms will cover up the information that firms choose to audit voluntarily.Finally，like Broye and Weill（2008）and Francis et al.（2011），Hope et al.（2011）also considered the credibility of financial reporting in an international context.For the sample of private firms from 68 countries，they studied the impact of financial reporting credibility and the effect of corporate holding on financing constraints.They found that firms with financial statements audited by external auditors had less problems in obtaining external financing.This effect was more obvious when there were controlling shareholders，but it was only limited to firms in countries with weak creditor’s rights.

For the sample of private audit firms，studies generally show that the type of auditor and the audit results are critical to the degree of economic benefit enjoyed.DeFranco et al.（2011）focus on the private company discount（PCD），and previous studies have shown that this discount exists when a company sells all its stocks or assets.In this case，they point out，the incentives to improve earnings management are particularly strong，suggesting the benefits of hiring a high-quality（Big Four）auditor，especially given the relatively poor information environment in the private sector.According to their argument，DeFranco et al.（ibid）found that compared with non-Big Four accounting firms，American private firms with Big Four accounting firms had lower PCD.Karjalainen（2011）and Cano-Rodriguez and Sanchez Alegria（2012）both studied the relationship between audit quality and debt cost.For a sample of all Finnish private firms subject to mandatory audits，Karjalainen（2011）indicated that firms with four major auditors and multiple responsible auditors had a lower cost of debt.In addition，audit report modification and accrual items of lower quality associated with the that had higher debt costs.These results suggest that perceived audit quality（auditor type）and audit outcome（audit report type and earnings quality）both affect the cost of private firm’s debt.For a sample of Spanish public and private firms，Cano-Rodriguez and Sanchez Alegria（2012）investigated whether debt providers take audit quality（obtained by choosing between N and non-N large auditors）into account when pricing debt.They found that Big N auditors were associated with significantly lower debt costs for private firms，but not for public firms.In the authors’opinion，this is due to the high degree of information asymmetry between private enterprise managers and external stakeholders，as well as the lack of other supervision mechanisms for private enterprise managers.

In contrast，Fortin and Pittman（2007）did not find evidence consistent with the above results that private firms can benefit from hiring quality auditors.For a sample of audited US private firms，they examined the relationship between audit quality and debt pricing and found that bond yield spreads or credit ratings for private firms were not associated with auditor choice（Big Four versus non-Big Four accountants）.They found that these results also applied to private firms that were likely to have a particularly high information asymmetry（and thus would benefit most from hiring a high-quality auditor）.The authors caution that their findings may not be generalized to users of financial statements other than those considered in the study，encouraging future research to consider the issue in a broader context.

Private firms around the world face vastly different financial reporting rules.In a few countries，such as the US and Canada，for example，the financial reporting regulatory environment for private firms is fairly relaxed.Firms are not required to publicly report their performance，nor are they required to audit their financial statements.In Europe，by contrast，many private firms are required to do both.In this article，we discuss the definition of private firm，review the theoretical arguments for and against the regulation of private firm financial reporting，offer empirical evidence to investigate these theories，and provide new investigative evidence that highlights the views of regulators（standard-setters）and regulatees（European private firms）.This evidence is consistent with theory in most respects，but not all：on an individual level，firms have limited perceived benefits from public disclosure，and there are concerns about the cost of ownership.If regulation is lifted，most firms will not continue to publicly disclose their financial results.However，the evidence also shows support for the benefits of public disclosure.Firms disclose that they download financial reports from competitors，suppliers and customers and believe that their competitors/suppliers/customers do the same.Moreover，while most firms would not disclose financial statements if they had the option，most still believe public disclosure should be required.We believe that these points reveal the positive externalities of mandatory disclosure.While public disclosure may have no net benefit for the disclosed private firm，it benefits collectively as the information environment improves.

The view of financial statement audit authorization is different from the view of public disclosure.Most firms currently auditing their financial statements report that they will continue to buy in the absence of regulation.However，most firms say they are reluctant to accept audit mandates.Compared with open reporting，the public interest in audit tasks seems limited（e.g.，overall improvement of the information environment）.The main public interest in auditing appears to be ensuring compliance（that is，outsourcing government oversight），but most respondents to the firm do not think this is sufficient to justify authorization.Auditor costs and management time are major concerns of audit assignments，but it is interesting to note that a significant number of firms do not benefit from audits.After reviewing the theory and evidence，what is our position on regulating the financial reporting of private enterprises？The evidence for the optimal level of financial reporting regulation is far from clear.For example，the evidence supports the benefits of public disclosure，but is this sufficient to offset the costs？The US and Canadian governments have little financial reporting regulation，and there is no evidence that these economies are at a disadvantage as a result.In contrast，under the European model，firms are able to take advantage of positive externalities but may suffer from underinvestment，such as the cost of ownership.And ultimately，we think this is an interesting，important，fundamental research problem that needs to be solved.

Countries differ on whether there are audit requirements for private firms，even if they have financial reporting and filing requirements for these firms.There is also disagreement as to whether audit requirements should be the same for all firms or differentiated between firms，for example，based on their public or private status and size.Opinions vary as to how much of an audit is merely a burden，or whether the benefits outweigh the costs.Therefore，the value problem of private firm audit is a legal and can not be ignored.Recently，Langli（2015）calculated the net savings（that is，the savings from not paying audit fees，adjusted for other effects，including increased fees paid to accountants and higher lending rates）of Norwegian small companies that chose to be audited after the system switch，at about NKR 20，000（or EUR 2，000）per company.It is worth noting that Langli（ibid）further found that since the revenues of the audit industry in Norway remained relatively unchanged during the period of regime change，the audit industry seemed to be well managed.Data from different countries also show that the majority of private firms choose to continue to be audited after being granted exemptions（e.g.，Rennie et al.，2003；Collis et al.，2004；Niemi et al.，2012）.

At the same time，concerns have been raised about the trend toward increasing thresholds for scale exempting private firms from auditing.In particular，following Barton and Waymire（2004），mandatory audit is an important policy mechanism that can be used by the government to regulate the supply of reliable accounting information.As a result，there is concern that increasing audit immunity could lead to a decline in the quality of financial reporting by private firms.This argument has some merit because many studies provide empirical evidence that auditors have an impact on financial reporting attributes and a positive impact on the quality of earnings in the private sector.However，the results of Lennox and Pittman（2011）showed that compared with firms that voluntarily chose to continue to be audited，firms that decided to withdraw from the audit after being granted an exemption had relatively lower audit costs.This means that private firms with low requirements for quality audit can find such auditors.As a result，mandatory auditing does not guarantee high-quality auditing，which seems most obvious to private firms，where auditors may be more prone to independence problems.

Does Accounting Matter in Private Firms？

If we believe the general conclusion drawn above that the quality of accounting in the private sector may be（on average）lower than in the public sector，the natural question arises as to whether the accounting in the private sector matters at all.In our opinion，most of the previous studies have concluded that the quality of financial reports of private firms is lower than that of listed companies，but this does not mean that accounting is less important to private firms than to listed firms.In fact，we see this as a promising area for future research into the role of accounting in the private sector in greater depth.A second，but rather important，question is whether private sector stakeholders have the same concept of“high quality”financial reporting as public firms.For example，stakeholders may consider only“cash flow predictability”to be an important attribute of the financial reporting standards for private firms，while the literature on listed firms highlights a more multifaceted view of the financial reporting standards，including aspects such as restatement and perceived failure behaviour.In this article，we take no position on these issues.However，we would like to make a number of arguments to highlight the potential of accounting to be particularly important in the private sector and provide some research findings on the benefits of high financial reporting standards for the private sector.Private firms typically disclose less non-accounting information，and as a result，there are fewer competing sources of information（for example，Hope et al.，2016），increasing the potential importance of financial accounting information to the monitoring and management activities of external capital providers.

In particular，sell-side financial analysts have far less coverage of private firms than listed ones，and previous research has shown that analysts not only disseminate information but also provide new information to the market.Moreover，the private sector，on average，receives less media attention（and media censorship）.Like analysts，journalists can interpret existing information and provide new information to interested parties.Finally，since private firms are not listed on stock exchanges，they do not provide the additional documentation and up-to-date information required by exchanges and securities regulators，and they are usually public.In short，accounting information is likely（at least certainly likely）to account for a greater proportion of the total information in the private sector than it does in the public sector.

In addition，the management activities of listed firms are partly restricted by market mechanism.For example，listed firms are more vulnerable to takeovers that help control agency conflicts（Lennox，2005）.In the absence of market-based enterprise value measures and other sources of information，such as financial analysts，high-quality reporting may be particularly important in evaluating management performance to support personnel and compensation decisions.For example，Indjejikian and Matejka（2009）emphasized the importance of accounting information in private enterprise compensation contracts.Similarly，McNichols and Stubben（2008）emphasized the role of accounting information in internal decision-making.Finally，private firms are less likely to have independent management accounting systems and financial accounting systems（e.g.，Drury and Tayles，1995），which may enhance the importance of accounting in corporate internal decision-making.Consistent with this view，McNichols and Stubben（2008）emphasize that low-quality financial information means distorted information for decision-makers，which leads to inefficient investment decisions.

Although the above arguments raise the possibility of accounting playing an important role in private firms，we further provide direct evidence.Previous studies provide evidence of audit usefulness in the context of private firms（e.g.，Allee and Yohn，2009；Hope et al.，2011；Minnis，2011；Clatworthy and Peel，2013；Kausar et al.，2016）.In recent studies，Hope et al.，（2016）used a large sample of US private firms to show that the quality of accruals in private enterprises is related to the ability of accruals to predict future cash flows.Chen et al.（2011）examined the role of financial reporting quality in private firms in emerging markets.An existing set-up study shows that fianncial reporting quality is not conducive to alleviating the consistency between inefficient investment（i.e.，countries with low investor protection，bank oriented financial systems，and stronger tax and financial reporting rules）.Despite this“tension”，the author uses the World Bank’s enterprise level data to conclude that the quality of financial reporting has a positive impact on investment efficiency.It is also often claimed that the over emphasis on taxation reduces the informational role of income，and that the focus on minimizing tax revenue is more obvious for private firms.So far，however，there is very little empirical evidence on this issue.The trade-off analysis proposed by Chen et al.（2011）is an exception.Specifically，Chen et al.（ibid）found that the relationship between financial income and investment efficiency is declining in the tax-oriented revenue minimization incentive.Previous literature only asserted this connection，but did not test it.

In addition，a more important benefit of providing high quality financial reporting may be debt financing with preferential terms.Although previous sectors have extensively reviewed the literature on the impact of debt financing on private firms，representative examples of such studies include Van Canegham and Van Campenhout（2012）and Vander Bauwhede et al.（2015），where the authors report that higher accounting quality reduces borrowing costs.Consistent with these findings，Chen et al.（2011）also showed that in bank financing，the impact of financial reporting quality on investment efficiency increased.

To sum up，the above evidence shows that（1）private firms are very important to the economy，and（2）accounting information is indeed very important to private firms in economy.We focus on the heterogeneity of internal financing sources in private firms—we predict that different capital providers（such as households，governments，private equity companies，banks and suppliers）will face different agency conflicts and information asymmetry，so they will have different financial reporting needs.The research on the heterogeneity of internal financing in private firms is a natural extension of the more basic comparative study between public and private firms.The evidence discussed in the following sector is basically consistent with the view that preparers’reporting incentives respond to the different needs of different capital providers for financial reporting.

Private firms get their money from a variety of sources.Traditional sources of funding include，inter alia，debt financing（including bank financing，leasing and government guarantees），equity financing（including household ownership，government ownership，private equity financing and employee ownership）and trade credit（including supplier credit and factoring）.We are also looking at other non-traditional and new sources of online funding，such as crowdfunding.Despite the large number of potential sources，external financing constraints on private firms remain particularly severe because they are generally smaller than public firms（Gross and Verani，2013）and cannot access public equity.

While the impact of ownership structures on listed firms has been investigated in a variety of contexts，research within the private sector is relatively new.The private sector differs from the public sector in many important ways.Private firms tend to be more tightly controlled，with less formal governance mechanisms and more managerial ownership.In addition，major providers of capital often have access to corporate information from within（e.g.，banks）and can play a more active role in management（e.g.，venture capitalists）.Therefore，the factors that affect the accounting of public firms may not affect the accounting of private firms in the same way.

We look at the influence of different sources of financing on the choice of financial reporting.Following the research of Hope and Dushyantkumar（2016），we first discuss debt financing（especially bank loans，leasing and government credit guarantee），then discuss equity financing（first discuss the two main types of concentrated ownership，family and government ownership，and then the private equity and venture capital financing），trade credit（including the supplier credit and factoring），finally，a new online alternative sources of finance—the end of the raise.For each source of funding，we begin with a brief background to discuss the economic incentives and conflicts generated by financing structures，and then discuss the impact of these incentives on firms’financial reporting choices.

Given their lack of access to public capital markets，private firms naturally have a capital structure made up of private equity and/or private debt.In addition，considering the availability of private equity are often concentrated in certain industries，geographic location or business life cycle phase，it’s easy to speculate that private firms' average leverage ratio is higher than the listed firms.This view has been supported by the descriptive statistics from the British firms（Agkuc et al.，2015）and US private equity firms（Baderscher et al.，2015）.It means that debt financing may be more important in the private sector than in the public sector（Berger and Udell 1998；Brav 2009），and the demand of creditors may be a key factor influencing the quality of financial reporting by private borrowers.

The influence of debt financing on corporate financial reporting comes from two different mechanisms.The first mechanism，which usually applies to the credit-granting decision-making phase，relates to the role of financial reporting in reducing information friction faced by external capital providers.The channel forecasts that lenders require borrowers to provide high-quality accounting reports to reduce their information risk in predicting future cash flows.The second mechanism is related to the lender’s subsequent continuous monitoring.The lender requires high-quality financial reporting to improve the efficiency of debt contracting.A large amount of financial economics literature has studied the reliance of lenders on contracts to alleviate agency conflicts between shareholders，managers，and bondholders（for example，Jensen and Meckling，1976；Myers，1977；Smith and Warner，1979；Aghion and Bolton，1992；Haugen and Senbet，1988）.The bank generally requires the borrower to remain in compliance with a“maintenance”covenant，which is based on a financial ratio using GAAP accounting figures.Breach of contract can result in the transfer of control to creditors.However，the effectiveness of these contracts based on financial ratios for proper allocation of state contingent control（and accordingly，the efficiency of these debt contracts）depends on the quality of the underlying accounting figures—poor quality accounting indicators will not adequately reflect the underlying state（Aghion and Bolton，1992）.

Both mechanisms generally apply to both public and private firms and indicate that firms with access to debt financing will issue reliable financial information to reduce their cost of capital and subsequently produce highquality financial statements to continuously monitor bank compliance with the contract.Noting，however，that this statement is not repeated—as Berger and Udell（1998）have pointed out，non-accounting information is also often used by lenders for credit assessment and may be more important for small private firms.In addition，the firms may conduct earnings management to avoid breach of contract.Investigative evidence suggests that bankers often ask privately held borrowers to provide financial reporting information.For example，Collis and Jarvis（2000）survey managers of small firms in the UK，report that 69% of their sample provide their statutory accounting reports to banks and other capital providers.Collis and Jarvis（2002）recognize the role of bank financing in the borrower’s financial reporting and point out that statutory accounting reports are helpful to maintain the relationship with the bank.Collis（2008）conducted a survey of small private firms and reported that the majority of respondents（64%）found the published accounts useful to creditors.Although the above studies have shown that bankers require high-quality financial statements to improve the prior efficiency of their credit issuance decisions，Goncharov and Zimmerman（2007）have shown that Russian private firms may have an incentive to subsequently manage earnings in response to bank monitoring activities.

Findings on the usefulness of financial statements to bankers are clearly diverse and contextual—for example，CAN Interpreta（2011）Pan-European survey shows that information other than accounting reports，such as business reports and bank information，is more useful among respondents.Howorth and Moro（2012）also report anecdotal evidence from Italy that bank managers do not find statutory financial reporting information very useful because it may be considered subject to tax strategies and other irrelevant factors.Casa et al.（2015）studied loan decisions of small US borrowers and found that although the use of accrual accounting did not affect loan approval or rejection decisions，it was associated with lower loan interest rates under the conditions of approval.Minnis and Sutherland（2015）studied the small business bank loan database and recorded u-shaped relation between，the borrower risk and the bank’s demand for financial statements.That is，the monitoring of financial statements for reputable low-risk borrowers did not increase efficiency，and for those risky borrowers who have little reputation to lose，this is not credible.The author further reveals the interchangeability between tax returns and financial statements.

A large number of literatures infer the demand and supply of financial reporting information of private firms by studying their actual loan results.For example，Blackwell et al.（1998）studied a sample of 212 revolving credit agreements related to small private firms in the United States and reported that firms that audited their finances paid lower interest rates.Allee and Yohn（2009）conducted a sample survey of small private firms in the United States using data from the Small Business Financial Survey of the United States，and found that the interest rate of debt financing obtained by firms preparing accrual accounting statements was on average 70 basis points lower than that of other firms in the sample.Minnis（2011）reported similar findings that the cost of debt of audited US private firms was 69 basis points lower，indicating the role of audit certification.Similarly，Hope et al.（2011）used a sample of private firms from 68 countries to demonstrate that private firms with audited financial position face lower financing costs and constraints.Gassen and Fuelbier（2015）studied a data set composed of European private firms from 1998 to 2007 and found that firms with higher debt levels had higher revenue stability and this relationship was stronger in countries with higher bankruptcy and contract enforcement costs（see also Hope，2015）.Their findings are in line with creditors’demands for more revenue smoothing for contractual efficiency reasons.Chi et al.（2013）studied the voluntary declaration of financial statements of private enterprises in Taiwan，and found that the voluntary declaration enjoys lower debt cost.

We then discuss an important branch of the bank—state-owned banks or state-owned bank loans.During most of the 20th century，the share of stateowned banks in total bank assets increased to 67 per cent in 1970，but then fell sharply to 41 per cent in 1995 and further to 22 per cent in 2009（La Porta et al.，2002；World Bank，2013）.In spire of this in developing countries such as Egypt and China，state-owned banks still dominate.Buffered by stable depository banks and supported by the government，state-owned banks have been able to continue lending to important economic and social sectors during the downturn.In this case，the role of state-owned banks is particularly important as small private firms appear to have been adversely affected by the reduction in bank lending during the crisis（OECD，2009）.

Sapeinza（2004）referred to the potential mitigation of the consequences of the general bankruptcy of the private banking sector as the“social view”of government bank ownership，that is，state-owned banks contribute to the general social and economic welfare and development.Sapienza（ibid）also describes two opposite negative views.The“political view”of the state banks argues that such entities are inefficient compared with private sector banks，suggesting that politicians use them inefficiently to channel resources to their friends and relatives or pet project supporters.The“institutional perspective”suggests that even if these entities are created from a“social perspective”，the agency costs of bureaucracy impede effective supervision of bank managers and can lead to corruption in the banking sector.Moreover，the reliance of state-owned banks on government support could crowd out the private sector and make the sector as a whole chronically inefficient.

What financial reporting incentives do state-owned banks offer to potential and existing borrowers？This could be an interesting avenue for future research.On the one hand，are the information needs of state-owned banks related to the realization of social goals，but not to the predictability of cash flow？In this context，traditional earnings quality indicators may be meaningless（emphasizing corporate social responsibility reporting instead）.On the other hand，if stateowned banks are professionally managed and regularly monitor their borrowers，they may instead have a positive impact on the quality of their earnings.

As noted earlier，private firms are generally less mature than public firms，and thus are more restricted in their access to bank loans（Zecchini and Ventura，2009；Green，2003；Roper，2011）.Empirical evidence shows that the government credit guarantee to improve the possibility of a small business to obtain bank credit—evidence including Riding et al，（2007）in Canada，KPMG（1999）in the UK，Zecchini and Ventura（2009）in Italy，Boocock and Shariff（2005）in Malaysia，Uesugi et al.（2010）in Japan，and Lelarge et al.（2008）in France.As a natural extension，researchers have also attempted to examine whether easing financing constraints through loan guarantees affects the performance and probability of default of recipient companies，and have reported a variety of evidence.For example，Arraiz et al.（2011）report that participation in the Colombian loan guarantee scheme resulted in higher growth in employment and output，but no improvement in investment and productivity.Similarly，Oh et al.（2009）reported growth in sales，employment and wage levels of companies participating in Korea’s credit guarantee schemes，but found no evidence of impact on productivity，R&D or investment intensity.For the French project participants，Lelarge et al.（2008）reported an improvement in employment and investment growth，but noted that participating firms subsequently exhibited a higher probability of default.uesugi et al.（2010）have recorded a similar deterioration in default rates.Their study on the sample of Japanese firms and the sample of Chilean firms by Cowan et al.（2008）shows that，as a negative by-product of reducing banks’risk exposure，bank regulatory incentives may be reduced.That is，banks have less supervision over loans planned to be guaranteed by the government，rather than borrowers’personal guarantees.

While bank lending is a major source of financing for private firms，small and opaque private firms face significant restrictions on access to bank financing（European Central Bank，2012；OECD，2006）.According to a eurozone survey（2012 by the European Central Bank），leasing is the third largest source of financing for SMEs in Europe，after traditional bank loans and other forms of revolving bank credit.A lease can be seen as an asset-based financing—the lessor lends the asset to the lessee for the term specified in the contract in return for a pre-determined payment in the contract（IAS 17）.Although the contract structure varies，leasing involves a separation of legal ownership and economic use of the assets.The lessor retains legal ownership of the leased asset，so the asset is used as collateral for such financing.Leasing is an attractive financing option for young and small opaque firms with high growth needs（Ayadi，2009；Oxford Economics，2011；Sharpe and Nguyen，1995；Eisfeldt and Rampini，2008）.A serious information asymmetry for such firms can discourage unsecured lending and using different types of corporate assets as collateral can be prohibitively expensive because of economic growth.Gallardo（1997）argued that，unlike cash lenders who focus on principal and interest，the lessor is mainly concerned with the borrower’s ability to pay the lease on a regular basis.

For young firms，the risks of adverse selection are huge but the leased assets are also vital to the operation of the business，so any default is very expensive for the lessee.In other words，the lessor owns the assets and therefore knows more about the underlying industries and asset markets than the traditional bank（Schmit and Stuyck，2002）.As the de facto collateral，the leased assets further reduce the credit risk faced by the lessor.Research confirms that leasing has a lower credit risk than other forms of financing（e.g.，Schmit，2005；De Laurentis and Mattei，2009）.On the demand side，leases are attractive to renters for a variety of price，accounting，regulatory and time reasons（Oxford Economics，2011）.

A relatively large institutional study examines the structure of leasing，namely operating or capital leasing，to achieve balance sheet accounting for 16 publicly listed firms in the United States by Lasfer and Levis（1998）.This is an example based on a UK study that examines public leasing and the determinants of leasing.It also records the importance of taxes，capital investment intensity，firm size，and leverage in determining leasing decisions.However，the study is careful to suggest that these determinants vary depending on the size of the firm（which can be considered representative of the set of external financing opportunities）and small firms with high growth potential are particularly likely to use leasing as a source of financing.Bathala and Mukherjee（1995）examined a group of small American firms，some of which may be privately held，and found that manufacturing firms（in their sample）exhibit high growth rates and leverage and are likely to use lease financing.The firms they surveyed also suggested off-balance-sheet accounting as an advantage of leasing.Beatty et al.（2010）studied leasing and purchase decisions in a sample of US listed firms and reported that firms with low accounting quality showed more use of leasing，and this relationship weakened when traditional bank lenders had greater incentives and ability to monitor borrowers’investments.Beatty et al.（2010）also pointed out that the context of private firms can provide interesting future research.In addition，although the literature tends to focus on leasing decisions，we do not yet know the role of reviewing financial statements in accounting in influencing the cost of lease financing and other terms.Future research may also shed light on specific aspects of lessee FRQ that are important to lessor and traditional bank lenders.

The importance of family businesses to the global economy is well documented—they account for 70-90 per cent of global GDP（the Family Business Institute，2008）.Che and Langli（2016）reported that 80% of US firms are family-owned，accounting for more than half of the US GDP.In the rest of the world，family businesses are equally important，accounting for 44 per cent of large firms in Western Europe and more than two-thirds of those in East Asia（Cheng，2014；Prencipe et al.，2014；Claessens et al.，2000）.Family businesses permeate all important sectors of the economy，including the heavily regulated utilities and finance industries（Chen et al.，2008）.Although there is no single definition of family businesses，they are generally defined as firms where the founder and his or her family members or descendants occupy the highest positions in the management，sit on their board，or are controlling or majority shareholders（Cheng，2014）.

Family businesses have three important characteristics（Cheng，2014）.First，family owners have concentrated equity in their firms，but unlike other block holders who may be professional equity investors，family owners are often poorly diversified and thus have a lot of“skin in the game”—their personal wealth is directly influenced by their firm’s decisions.Second，family owners typically invest for longer periods than other active block holders，largely because family businesses are passed from one generation to another（the Ford family，for example，has been actively involved in management for years）.Third，the founding family is actively involved in the management of the firm，usually in senior management positions，such as chief executive officer，and often appointing family members on the firm’s board of directors（Anderson and Reeb，2003，2004）.As described below，this active participation in the management of the business greatly mitigated the typical owner-manageragent conflict and ensured that the founding family’s business interests and preferences were well protected.These unique characteristics of family businesses affect the universality and degree of agency conflicts among different stakeholders.First，the concentrated and undiversified equity portfolio of family firms means that，for family firms，the typical free-rider problems faced by diversified shareholding firms have been significantly alleviated（Shleifer and Vishny，1986）.Family business owners have a strong incentive to oversee the management of their firms，thereby reducing conflicts of interest between ordinary shareholders and managers（Jensen and Meckling，1976；Hope et al.，2012）.Second，the negative effect of centralized ownership is that controlling shareholders may acquire“private interests of control”at the expense of minority shareholders（for example，pet projects pursuing destructive value and direct wealth expropriation）（Shleifer and Vishny 1986；Demsetz，1983）.This potential is compounded when household owners enjoy control disproportionate to their right to cash flow.Therefore，although family ownership structure alleviates the conflict between shareholders and managers，it may exacerbate the conflict between large and minority shareholders.Third，because of the intergenerational nature of family businesses，compared with other businesses，family owners are less concerned with short-term career issues and have significantly longer investment horizons.This long-term positioning of family firms also affects long-term business relationships with other stakeholders，such as trading partners and bankers.

The agency conflicts discussed above are particularly serious for large firms with professionally employed（external or non-family）management and widely dispersed minority shareholders.In other words，the ability of family ownership to mitigate or exacerbate agency conflicts is most likely to prevail in listed firms.It is not surprising，then，that the research evidence on family businesses tends to focus on the founding families’impact on listed firms.

The relationship between family ownership and business performance is of primary importance.In 2003，Anderson and Reed conducted an active study on the long-term ownership conflicts between family businesses.In 2006，Lee and Reery produced a long-term report on alleviating family business ownership conflicts，while others reported negative correlations（Stewart and Hitt，2012）.Similarly，the limited evidence for private family businesses tells a delicate picture.Sciascia and Mazola（2008）and Westhead and Howorth（2006）found no significant relationship between family ownership and corporate performance between Italian and UK-based private firms.Che and Langli（2016）reported the U-shaped relationship between family ownership and performance of private family enterprises in Norway.They also found that corporate performance was positively correlated with the ownership of the second largest owner，the proportion of family members in the firm’s board of directors and family power.Arosa et al.（2010）analysed the private sector in Spain and recorded how this relationship changed with the family generation（first or later）that managed the business.Research on listed family firms shows that the ownership structure of family firms has good corporate governance effect and is related to higher quality of financial reporting（FRQ）.For example，Wang（2006）found that among the stocks in S&P 500 index，the income quality of family firms was higher than that of non-family ones.Tong（2007）and Jiraborn and Dadlt（2009）reported supporting evidence using S&P 500 and S&P 1500 firm samples respectively.Ali et al.（2007）also used the sample of firms in the S&P 500 index and reported that the quality of earnings of family firms was higher than that of non-family firms.However，they found that family firms disclosed less information than non-family firms（also see Chen et al.，2008）.Taking Italian listed firms as samples，Prencipe et al.（2011）found that the income smoothing behaviour of family-controlled firms was less.Cascino et al.（2010）also analysed listed Italian firms and reported that family ownership was associated with higher quality returns.

Research evidence on the financial reporting of private family firms is limited and usually focuses on auditing.For example，Hope et al.（2012）used detailed data on the financial status and family relationships of private firms in Norway to study the relationship between auditor efforts and agency conflicts，and recorded that agency conflicts change systematically with family involvement.Carey et al.（2000）studied the results of private family firms，showing that the universality of external audit（an indicator to measure the credibility of financial reports）of family firms is positively correlated with the degree of internal agency conflicts and the debt level.Niskanen et al.（2010）studied small privately held firms in Finland and reported a negative correlation between family ownership and the use of the Big Four auditors（a proxy for audit quality）.Stockmans and Lybaert Voordeckers（2010）studied the Flemish private small and medium-sized enterprises，and the report says，although the home owner（especially the first generation of owner and founder）give priority to the public purpose，they have the motive for upward earnings management to cover up the negative results（and avoid reducing the“social emotional wealth”，which is similar to reputation capital）.

The aftermath of the financial crisis has seen a vigorous debate on regulation and the extent to which government should be involved in business.As detailed by Hope（2013），state-owned enterprises are not new and limited to Europe or Asia—governments around the world support enterprises through various financing means at different points in time to promote economic growth.Government involvement in business gained momentum around the world between 1900 and 1970，but the decades before the 2008 crisis saw massive privatisation and widespread government austerity in the developed world（The Economist，2012）.Lately，however，the narrative has become more nuanced，with many viewing the spectacular growth of China and other East Asian countries as a shining example of the success of“state capitalism”（The Economist，2012；Hope，2013）.These governments provide financial support in the form of（1）direct equity ownership of the company and（2）indirect support through credit guarantees，subsidies and tax credits.Perhaps the most obvious form of government involvement is equity ownership.Some of the world’s most influential business entities are state-owned enterprises（firms in which the government has a large stake）.Prominent examples in the energy sector include Russia’s Gazprom，Norway’s Statoil and China National Petroleum Corporation.State ownership is also widespread in non-energy sectors，from railways（such as Amtrak and Indian Railways）to mobile communications（such as China Mobile and BSNL）to ports（such as the Dubai Port Authority）.These stateowned behemoths are influential in the global economy and tend to go public because of their size and importance.

Existing literature has proved from both theoretical and empirical aspects that equity structure plays an important role in the formation of corporate governance and corporate performance（for example，Shleifer and Vishny，1997）.Most of the research evidence on the effect of government shareholding focuses on listed firms.This is not surprising，given the limitations of the data which are particularly acute for state-owned enterprises，as there is little empirical evidence of unlisted soes.Thus，the following evidence relates primarily to listed state-owned enterprises，followed by speculations as to how government ownership might have different effects on private firms.Much empirical research on state-owned enterprises tends to focus on China，mainly because China has one of the highest ratios of state-owned enterprises in the world（Hope，2013）.The state is directly or indirectly the controlling shareholder of one third of China’s listed firms（Tian，2001）.Evidence on the link between ownership and performance in SOEs in China is mixed（Wang And Judge，2011）.Several papers document differences in financial reporting incentives between state-owned and non-state-owned enterprises in China，particularly in the case of IPOs.These studies provide interesting evidence for reporting incentives for private firms before they switch to listing status.For example，Chen et al.（2015）studied 437 Chinese IPO firms and reported that compared with non-state-owned enterprises，the earnings management level of SOEs’IPOs was lower，and state-owned enterprises’access to bank financing（i.e.，lower financing constraints）was the fundamental factor to reduce the need for income management.Aharony et al.（2000）Studied the earning management situation of 83 China’s SOEs for public listing between 1992 and 1995，and found that there is an earnings management behaviour of ROA decline for unprotected industry firms after the IPO，which is statistically significant.The unprotected industry firms in the process of IPO selection are unlikely to get the favour of the state，while the protected industries such as energy and raw materials are favoured by countries，so the protected industry firms don’t need to manage earnings to select the IPO.Wang and Yung（2011）report that stateowned enterprises benefit from government protection，so they are less inclined to manage earnings（see also Ding et al.，2007）.Chen et al.（2011）studied Chinese listed firms and proved that the impact of audit quality on earnings management and cost of equity was more significant in non-state-owned enterprises than in state-owned enterprises.

The evidence on unlisted state companies is sparse.Capalbo et al.（2014）studied a sample of 5，349 private state-owned enterprises in Italy and reported that，although these enterprises engaged in earnings management，the degree of earnings management was lower than that of non-state-owned enterprises.We believe that while most of the above studies involve pre-IPO or post-IPO Chinese companies，the implications are also broadly applicable to privately held companies.We speculate that potential governance problems and interests stemming from state ownership may be magnified and kept out of the public eye.For example，on the one hand，corrupt politicians can more easily exploit corporate resources without being disciplined by market threats.On the other hand，the government can more easily guide state-owned enterprises to achieve specific social goals in the long run，without being often responsible for the stock market.The average swing direction of the pendulum is still an empirical problem.

A privately held firm，as its name implies，raises money from private sources.In this section，we will examine the agency of early stage private equity financing（PE）to firms with high growth potential（often referred to as VC financing）and the incentives that arise.Venture capital usually invests in start-ups，but money can be made available to firms at different stages of development.Over the past few years，annual financing for venture-backed firms worldwide has increased dramatically，from $45.2 billion in 2012 to$130.9 billion in 2015（KPMG Risk Pulse，2016）.Private equity in general，and venture capital in particular，has a high degree of information asymmetry that is inherent in young and high-growth potential firms.As Cochrane（2001）pointed out，venture capital is often not a pure financial investment because venture capital firms provide valuable consulting and support services to the investors.In other words，VC firms are active financial intermediaries，not only playing a supervisory role，but also actively supporting and guiding business management by providing advisory services（Kaplan and Stromberg，2001；Bander et al.，2002；Bottazzi et al.，2004），unlike bank debt investors that are primarily focused on downside risk and actively monitor compliance with specific covenants and terms to protect them from this downside risk.The economics and venture finance literature shows that this active monitoring and support provided by private equity investors leads to significant changes in corporate governance systems and affects the professional management and performance of portfolio firms（Sahlman，1990；Lerner，1995；Sapienza et al，1996；Hellman and Puri，2002；Cowling，2003；Kaplan and Stromberg，2004）.Consistent with this argument，Gompers and Lerner（1999）report that private equity has a positive demonstrative effect on portfolio firms，rather than merely easing financing constraints.

A limited but concluding set of papers calls for such an active governance role for private equity firms and examines the relationship between the investments of private equity investors and the financial reporting practices of portfolio firms.Beuselink et al.（2004）studied a hand-collected data set made up of Belgian private firms that received private equity financing，and reported that these firms managed their returns before investment to attract the interest of PE investors.An interesting lateral finding in this study is that private（nongovernment）private equity investors have a stricter governance function than government private equity investors.Katz（2006）reports supporting evidence，using a sample of publicly traded debt but unlisted equity in the United States—such quasi-private firms sponsored by private equity firms exhibit higher FRQS than non-private equity backed firms.Davilla and Foster（2005）studied field evidence from 78 US start-ups，including a high percentage of venture-backed firms，and reported positive links between venture capital and the ubiquity of professional management and financial planning and evaluation systems.They further report the management control system of risk investment firm valuations of positive influence，and 11 of 67 portfolio risk investment firm as sample，indirectly suggests that management and financial reporting system for the value of a venture capitalist.Kaplan and Stromberg（2004）also reported that venture capitalists often involved in the implementation of information and accounting control system，etc.Hand（2005）reported supplementary evidence of the correlation between financial statement information and venture capital investors by recording the value correlation between the financial statements of 204 American biotechnology firms and venture capital investors.In addition，Hand（ibid）reported that with the maturity of portfolio firms，the relevance of financial statement information would increase.Armstrong et al.（2006）reported similar research results on the correlation between financial statement information and the valuation of venture-backed firms based on samples from 502 venture-backed firms that conducted IPOs in the United States from 1996 to 2000，while investment costs such as R&D expenses were positively correlated with the valuation of venture capital firms.While this evidence does not directly examine the quality of reported financial data，it does suggest that venture capital investors value financial statement information and are therefore likely to demand high-quality reporting.

Using a sample of 270 unlisted Belgian private equity backing firms from 1985 to 1999，Beuselinck and Manigart（2007）report a counterintuitive finding that portfolio firms with a high proportion of private equity investors have lower FRQ.The authors attribute this finding to the fact that private equity investors with larger stakes can monitor firms more closely through private communications without requiring public financial statements.In other words，FRQ and PE shareholding ratio are considered as alternative corporate governance mechanisms in this study.The literature examines a particular environment in which the incentive to manage returns is likely to be prominent—the timing of the exit of venture capital investors through the IPO of a portfolio firm.Morsfield and Tan（2006）and Hochberg（2008）believe that venture capital firms play an active role in corporate governance，and compared with non-venture-backed firms，the abnormal accruals recorded by American venture-backed firms in the fiscal year of IPO are lower.Liu（2014）also used the sample of IPO in the United States and found that the real earnings management of venture-backed firms also had similar inhibitory effects，but he pointed out that this governance effect was diluted during the Internet bubble.Wongsuwai（2013）showed that earnings management of US IPO firms（including based on actual earnings and accrued profits）during the IPO year was lower for those firms supported by high-quality venture capital.Gotkan and Muslu（2015）reported the finding that IPOs of U.S.firms backed by listed PE firms had similar duration—IPOs of firms backed by listed PE firms reported lower disposable accruals and more conservative earnings，which was consistent with the positive spillover effect of listed PE firms by investors.Lee and Masulis（2011）also reported similar research results—IPO firms backed by more reputable venture capital firms showed lower earnings management level，and this effect was magnified in IPOs underwritten by more well-known investment banks.

We believe that while the literature on financial reporting for venturebacked firms is nascent，more needs to be done to understand what it means to have high-quality financial reporting（assuming they care about financial reporting first）.Another interesting approach is to examine the efficiency of venture capital decision-making—is the relative weight of financial and nonfinancial information given by venture capitalists reflected in post-investment performance？

Government-backed venture capital appears to be an important feature of these markets around the world，although it has an impact on corporate performance and the achievement of goals.What role，if any，does financial reporting play in this form of financing？At present，it is not clear because there are no existing empirical studies except for Beuselinck et al.（2004）.They examined private firms in Belgium that received private equity investment and found that firms backed by government-backed private-equity firms exhibited lower conservatism in returns，consistent with more lax regulation by government-backed private-equity firms.The role of financial reporting in attracting government interest is an area worth studying—the invitee who revises his business proposition to demonstrate that achieving social policy objectives is likely to be more successful in attracting government funds.In addition，although a lower conservatism was reported by Beuselink et al.（ibid），future studies can examine whether other elements of the invitee’s financial reporting and performance have been improved due to the government’s potential long-term vision（for example，has the need for real earnings management been reduced？）.

The focus of research on private firms finance has been largely on debt and equity financing，which is not surprising given the reasons for the availability of data.One source of financing that is often overlooked in research is supplier credit（also known as trade credit）.Simply put，supplier credit is short-term procurement financing provided by a firm’s suppliers—suppliers deliver goods while providing credit to customers.However，the importance of supplier credit in terms of scale has been well documented—for large listed firms in G7 countries，Rajan and Zingales（1995）report that between 11.5 per cent and 17 per cent of total assets are financed by supplier credit.Giannetti（2003）reported a slightly higher rate of private enterprise in Europe.Casciano et al.（2013）provide consistent evidence by citing a 2006 survey of European enterprises，which showed that most of the surveyed companies sold more than three quarters of their goods and services on credit.Beck et al.（2008）provide survey evidence related to 48 countries，showing that supplier credit is used to finance about 20% of all external financing investments.As Wilson and Summers（2002）have pointed out，supplier credit is particularly important for small and fastgrowing private firms with limited access to other external financing channels（also see Berger and Udell，1998；Cunat，2007）.Providing trade credit to startups allows the buyer’s firm to build a repayment credit history，which helps to secure bank financing later（Cook，1999；Garcia Appendini，2007）.

Although supplier credit is similar to short-term debt，Cunat and Garcia-Appendini（2012）see three major differences.First，unlike bank loans，supplier credit is actually a short-term loan of goods and services（that is，it is“in kind”rather than cash）.Second，trade credits are characterized by bilateral or industry practices and usually do not come with formal contracts.Finally，suppliers are not financial institutions，so financing is not their primary business activity.

Although theoretical research has modeled supplier credit as a mechanism to reduce information asymmetry between suppliers and customers（e.g.，Smith，1987），the theoretical relationship between supplier credit and FRQ has not been explicitly modeled（e.g.，whether they are substitutes or complements）.Some empirical studies based on surveys，however，have addressed this problem.Collis et al.（2013）interviewed management in small and medium-sized private companies in Finland，the United States，the United Kingdom and South Africa.They found that suppliers rarely used financial statements when providing credit to customers，often relying instead on reports of payment defaults，customers’ages，their previous relationships with customers，and the knowledge they learned when dealing with customers.In contrast，Garcia Teruel et al.（2014）studied the data set of SMEs in Spain and found that firms with higher accrual quality were more likely to obtain trade credit，which indicated that the information needs of suppliers were similar to those of other capital providers.Similarly，Hope et al.（2016）studied private firms in the United States and reported evidence of consistency with the high-quality financial statements that suppliers require from their privately held customers.They want to maintain long-term quality/price relationships with other suppliers.

We would like to highlight some studies using data from listed firms，but the findings may also apply to privately held firms.Costello（2013）studied long-term supply contracts collected from public firm documents filed by the US Securities and Exchange Commission（SEC），and found that specific investments，information asymmetry and FRQ affect the customer-supplier contract design.Specifically，information asymmetry is reflected in the distance between suppliers and customers，which is associated with shorter contract terms and higher contract usage，while lower FRQ is associated with lower contract usage.Radhakrishnan et al.（2014）also documents according to the SEC to infer the main customer-supplier relationships，and found that the profitability of the supplier’s and customer’s information quality is related to the capital markets，such as providing the earnings forecasts，reported earnings quality，as well as analysts and credit rating agencies reported.Dou et al.（2013）conducted an empirical analysis of a sample of listed firms from 39 countries，and the results showed that firms in industries with a greater relationship to specific investments sought greater revenue smoothing，presumably to maintain and enjoy the benefits of trading relationships.In future research，supplier credit provides fertile ground for testing theories on the impact of information asymmetry on capital providers.First，after controlling information asymmetry，can we infer that the degree of information asymmetry dependent on supplier credit is compared with other financing sources such as bank loans？Second，with the exception of Costello（2013），supplier credit terms are largely ignored in the literature.We acknowledge that there are significant data constraints on access to supply contracts related to private firms.The issue could therefore be subject to investigation-based or field-based research.

Alleviating the information asymmetry between borrowers and lenders（especially for small borrowers who have no financial records and are not transparent）often leads to the demand for asset-based financing.Factoring is a special form of asset financing.The client firm sells the accounts receivable to the bank or special factoring firm，and the ownership of the accounts receivable is usually transferred to the lender.Auboin et al.（2016）pointed out that part of the reason for the rapid growth of factoring business was the general decrease in bank loans to SMEs during the financial crisis.However，Bakker et al.（2004）point out that the importance of factoring as a proportion of GDP varies widely among countries（for example，factoring in Italy is more extensive than in the United States and Germany）.Berger and Udell（2004）argue that factoring solves the serious information asymmetry inherent in high-risk borrowers—loan underwriting is not based on the overall reputation of the enterprise，but on the quality of accounts receivable（also see klapper，2006）.Therefore，the key credit risk exposure that this factor concerns is the debtor’s risk exposure.Berger and Udell（2004）also pointed out that in countries with strong information environment，factoring may be useful for enterprises with less creditor rights and accounts receivable belonging to the debtor.The empirical evidence for the use of factoring is limited.Soufani（2002）studied the determinants of factoring by using survey data based on interviews in the UK and found that factoring is particularly useful for SMEs.The study points out that although these factors often require borrowers to provide financial statements，the decision-making of credit granting is not affected by the strength of financial statements.The author points out that poor financial condition is an obvious feature of many small companies，so factoring can play a role in easing financing constraints，as they often cannot obtain normal bank loans based on financial statements.Generally speaking，although there is no clear evidence to support the interaction and use of financial reports or factoring，we would like to have space to study and examine that：（1）does the credit evaluation of discount stores affect the financial statements of the debtor of the account（i.e.，the transparency of the financial report of the account’s debtor affects the terms of the seller’s transaction？），and（2）although not directly，the seller’s FRQ has a supporting role，especially when factoring is a right recourse？

Recently，crowdfunding（or crowdsourcing）has become another source of external financing for entrepreneurs，helping them fund early projects.Similar to other alternative financing forms，crowdfunding has become more and more attractive to SMEs due to the general tightening of traditional bank credit since the financial crisis.In fact，crowdfunding will surpass traditional venture capital in the foreseeable future—from $880 million in 2010 to $34 billion in 2015（Forbes，2015）.In terms of relative importance，crowdfunding accounts for more than 80% of the entire European online alternative financial market（Wardrop et al.，2015）.Different from traditional bank financing or private equity investment，crowdfunding relies on an online P2P financing platform，matching a large number of online potential investors with entrepreneurs，and each investor only provides a small amount of capital.The investment rules of crowdfunding platforms are different，but it can be generally divided into five types：loan type，equity type，mixed type，royalty type and donation type（or incentive type）crowdfunding.

A major concern for financing young and relatively unknown companies is the serious information asymmetry between investors and investees（e.g.，Hildebrand et al.，2016），so the need for pre due diligence and post event monitoring is very urgent.However，unlike traditional bank loans or venture capital，decentralization（and the small scale and potentially immature nature of many retail crowdfunding）hinders effective monitoring.Therefore，it is not surprising that the mechanism used by investors to reduce information asymmetry has attracted the attention of regulators and academia.Many studies have examined the signaling mechanisms used by investees to reduce information asymmetry，including the use of voluntary disclosure.Many researches are conducted on crowdfunding in the context of personal loans，which are provided on P2P lending platforms，such as prosper.com.Most of these loans are personal，although a large proportion are loans for clear business reasons.Crowdfunding investors rely primarily on hard facts（e.g.，credit ratings）for investment decisions，but they also consider soft facts，especially when borrowers have low credit ratings（Iyer et al.2009；Michel，2012）.Crowdfunding investment decisions are positively correlated with the results of previous similar projects，actions of other crowdfunding people，popularity ranking，blog posts，media reports，platform features，etc.（ward and Ramachandran，2010；Autumn，2013）.In the mobile application industry，early investments managed by“experts”are associated with increased financing possibilities，as experts are seen as signals of credibility（Kim and Viswanathan，2014）.In addition，external references，recommendations from friends and acquaintances，and social networks are all positive signals，increasing the possibility of financing（Mollick，2014；Liu et al.2014；Moritz et al.，2014；Everett，2015）.In the context of equity crowdfunding，companies with more board members，higher education level and better network are positive signals to investors，so they are more likely to obtain investment（Ahler et al.，2015）.

Dorfleitner et al.（2016）also found that the soft factors derived from the description text are related to the financing probability and default probability of the two leading P2P platforms in Europe.This is because soft information helps entrepreneurs build trust with crowdfunding providers，so they are associated with higher probability of successful financing，lower interest rate and lower probability of loan default（Allison et al.，2015；Duarte et al.，2012；Gao and Lin，2014；herzenstein et al.，2011；Ravina，2012；Yang，2014；Feng et al.，2015）.Maier（2014）found that voluntary verification of information was related to the reduction of borrowing costs.The above study emphasizes that investors can make financing decisions based on other information sources even in the absence of credible financial reporting information.However，in this market，the possibility of fraud is everywhere，and the long-term feasibility of financing based on this customized information collection method remains to be observed.After all，today’s crowdfunding market，especially the equity market，has something in common with the stock market before the Securities and Exchange Commission（SEC）—a systemic surge in fraud and even a general concretization of risk（for example，corporate failure）can trigger calls for regulatory intervention.In future research，we believe that crowdfunding environment is an ideal choice to test the usefulness of financial statement information，rather than other new companies with soft information sources.On the one hand，only the preparation of financial statements can bring credibility to enterprises.On the other hand，it is for such early risks that investors need timely and forward-looking information that traditional financial statements cannot provide.

Another common form of ownership concentration is employee ownership.According to the National Center for Employee Ownership（NCEO），36% of U.S.employees（about 28 million Americans）hold shares in the firm through shares or stock options.Employees can acquire equity in the firm in a variety of ways，including the most common ESOPs，stock and profit-sharing bonus plans，and other widely granted stock options and equity awards.The total assets of ESOP and similar ESOP in the United States are estimated by NCEO to be about$1.3 trillion，92% of ESOP and ESOP like plans are privately owned firms.Excessive management during the financial crisis has rekindled the interest of regulatory and academic circles in non-traditional forms of governance and monitoring.As far as employee ownership connects the long-term interests of employees with the firm，employee ownership seems to be an ideal choice for research and policy interests.The impact of employee ownership on corporate performance has attracted a lot of research attention（Bova et al.，2014）.In contrast，limited research has been conducted on the impact of ordinary employees and financial reporting results.For example，Bova et al.（ibid）tested the hypothesis of“incentive alignment”and“rent extraction”in US listed firms.They found that voluntary disclosure is positively correlated with employee ownership，and this effect increases with the bargaining power of employees in the firm.Jiraporn（2007）also studied the listed firms in the United States，and reported the negative correlation between the degree of employee ownership and earnings management.In other words，in addition to the direct impact of ESOP on improving performance in the past 27 years，there seems to be additional indirect benefits from strengthening voluntary disclosure and reducing earnings management.In general，although ESOP is of great economic importance to private firms，there is evidence of a link between ESOP and financial reporting，especially in countries outside the United States.The sample is fairly sparse，which is surprising given the importance of employee ownership in many jurisdictions.We believe that this is a mature field of empirical research.For example，given the general situation of other firms with centralized ownership within private enterprises（e.g.，family ownership and government ownership），does employee ownership have a significant impact on the financial reporting results？In addition，does the impact of employee ownership vary according to the legal and institutional environment（e.g.，a more employee friendly environment vs.a less friendly environment）？

Some researches look at the motivations of capital providers（i.e.，crowdfunders）and capital seekers（i.e.，investors）.Crowdfunders’motivations are often heterogeneous，motivated by social and other non-monetary factors in addition to direct financial motivations（Lin et al.，2014；Allison et al.，2015）.There are many reasons why firms seek crowdfunding rather than other traditional sources of funding.First，access to a large number of online investors can ease the capital shortage（Belleflamme et al.，2013），because enterprises often face a capital gap in the initial stage of start-up.Crowdfunding also enables young firms to capture the public’s attention（without the regulatory burden associated with going public），obtain feedback on their products and services，and form relationships and networks（Belleflame et al.，2013；Hui et al.，2012）.Moreover，crowd funding has also increased awareness and product consumption（Burtch et al.，2013），promoted customer contact，strengthened news coverage，and attracted the interest of potential employees and external donors（Mollick and Kuppuswamy，2014）.

In the above，we find that financing structure is an important factor that drives earnings quality and earning management in private firms. TJ/A2vZT5LC5jJ6TgFRo/vvwXeDwXwxVGgCdwTG6w3tputtkMJUSJOTPGtkMDv35