Accrual Accounting and Access to External Funds: Evidence from Small Businesses
52 Pages Posted: 18 Aug 2018
Date Written: August 1, 2018
Abstract
This paper examines two related questions. First, does accrual accounting, in comparison to cash accounting, facilitate small businesses’ access to external funds? Second, does it also affect the nature of the firm’s borrowing relationships, i.e., arm’s length financing as opposed to relationship-based financing? These questions are prompted by theory that suggests information problems can lead to credit rationing, particularly for small businesses since they tend to be more opaque. We find a positive relation between a firm’s use of accrual accounting and its access to lines of credit and trade credit, two primary forms of external financing of small businesses. We find accrual accounting is positively associated with both the amount and terms of borrowing for these forms of financing. We also find accrual accounting facilitates a larger number of credit relationships and relationships with more distant financial institutions. Additionally, accrual accounting is associated with a shorter duration of borrowing relationships and lowered reliance on personal contact in communications with financial institutions. Overall, the evidence supports the argument that the use of accrual accounting can play a significant role in easing the credit constraints of small businesses and in facilitating greater use of arm’s length financing.
Keywords: Accrual Accounting, Trade Credit, Lines of Credit, Relationship-Based Financing
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