Earnings management and judicial recovery: evidence for brazilian companies

Purpose: This study investigated the relationship between judicial recovery and insolvency with the Real Earnings Management (REM) level of publicly traded Brazilian companies in the period 2016-2020. Methodology: The estimated econometric model was panel data regression. The dependent variable was the level of REM measured based on Roychowdhury (2006), which estimates the manipulation of real activities through the analysis of abnormal movements in operating cash flow, discretionary expenses and production costs. The sample collected from 2016 to 2020 consists of 723 non-financial companies. Results: As main results, the study was able to demonstrate that there is an inverse relationship between judicial recovery and insolvency with earnings management. In other words, companies that are in judicial recovery or insolvent tend to have less earnings management. The findings of this research suggest that managers of companies undergoing judicial recovery have less incentive to engage in discretionary practices, as they are thus able to highlight their financial difficulties and obtain the judicial benefits of the process. Contributions of the Study: Although many studies evaluate the factors that influence earnings management, this work seeks to contribute to the study of accounting earnings management and uses an operational proxy, associating it with companies undergoing judicial recovery. Furthermore, with evidence of less earnings management by these companies, there is a possible improvement in the shareholders' perspective regarding the future of the company's finances, thus also contributing to investors' decision-making.