Earnings management and corporate governance during COVID-19: Evidence from the European capital market

Abstract

The objective of this paper is to analyse the impact of COVID-19 on the earnings manipulation of firms and whether corporate governance has a mitigating effect. The methodological approach consists of two steps: in the first stage, a pooled ordinary least squares (OLS) regression model has been implemented to compute the earnings management proxies, whereas in the second stage panel data regression analysis has been adopted to test the effects of corporate governance variables on the earnings management proxies themselves. Using data from STOXX Europe 600 as a proxy for the European capital market, it is found that the level of companies’ earnings manipulation increased during the pandemic. In particular, companies have engaged in more accounting and real earnings management (REM) practices. The findings show that a larger board helps to mitigate the positive relationship between COVID-19 and earnings manipulation, whereas no mitigating effect for board independence, board diversity and chief executive officer (CEO) duality has been found. In addition, an industry analysis has been developed both for robustness purposes and in order to check which sectors have been most and least affected by the pandemic. In particular, the findings show how the most affected industries reported a higher level of earnings management, resulting in a worse reporting quality. This paper provides additional evidence on the impact of COVID-19 on earnings management using a strong multi-country level governance setting. The results of this study provide useful suggestions for business practice, investors and policymakers.