Financial distress and earnings management: Indian scenario

Purpose: This study explores the relationship between phases of financial distress and earnings management strategies on a sample of companies listed on India's Bombay Stock Exchange (BSE).Motivation: As India is an emerging economy with evolving laws, Indian companies lack stringent corporate governance norms, leading them to practice more earnings management during difficult phases of the business cycle.Design/methodology/approach: The study examines a sample of 1377 companies for the period from 2017 to 2023 with the help of panel data regression analysis.Findings: It concludes that during the initial phase of distress, companies resort to real earnings management to improve their financial status, while during severe financial distress, managers opt for accrual earnings management and classification shifting.Research implications: Investors need to be aware of earnings management's impact on financial indicators. To mitigate the risks associated with earnings management, regulatory authorities should strengthen corporate governance norms, improve financial disclosure practices, and enhance the role of auditors.Originality: It contributes to existing literature in three ways. Firstly, it is based on a large sample size, taking all the listed manufacturing companies. Second, it examines three types of earnings management: accrual and real earnings management, and classification shifting. Third, it studies the earnings management scenario through companies’ different financial stages.