Effect of recapitalization obligation regulation on earnings management: post-COVID-19 pandemic evidence from Italy

Purpose This paper aims to investigate the role of governmental regulation's interruption at the end of the pandemic crisis in driving firms' decision to engage in earnings management (EM). Design/methodology/approach This study focuses on the Italian Government's choice to interrupt the recapitalization obligation (RO) suspension, introduced in response to the COVID-19 outbreak, to help firms respect the going concern assumption. Literature suggests that introducing RO suspension decreased EM practices in Italy. This study investigates whether reintroducing the RO as of 1st January 2023 has increased EM practices. It focuses on a sample of unlisted firms and uses Larcker and Richardson's (2004) model to detect EM. The results show that EM increased with the reintroduction of the ROs. Findings Relying on the positive accounting theory framework, the results indicate that regulation drives managers' decisions to manipulate earnings and that reintroducing a previously suspended regulation does not necessarily improve the accounting quality. Originality/value Thus, the results indicate the usefulness of accounting information in understanding that accounting quality depends on accounting standards and management practices in response to governmental measures reimplemented after the COVID-19 outbreak.