Damage Control: Earnings Management by Firms Facing Product Harm Crises

Présentation de Michel Magnan (Concordia University)

Michel Magnan - Professeur, Concordia University
In collaboration with Like Jiang (The University of Melbourne), Lixin (Nancy) Su (Lingnan University) and Shafu Zhang (Concordia University)

Abstract : A product harm crisis is a publicized event whereby a firm’s product is either reported as being defective and/or fails to fulfill a mandatory safety standard. Such crises undermine a firm’s reputation and its managers’ career outlook. We find evidence that managers engage in income-increasing earnings management when their firms experience product harm crises, and such earnings manipulation reduces the likelihood of customer loss and CEO forced turnover in the short-run. Various tests suggest that our finding is consistent with opportunistic earnings manipulation rather than a signaling explanation. Collectively, our results point toward managers employing financial reporting discretion to mitigate the reputation impairment and potential personal costs associated with product harm crises. At the margin, customers and board of directors appear to be influenced by such opportunistic behavior.

Keywords: product harm crisis, earnings management, implicit claim, firm reputation