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 outlooks. We find evidence that managers engage in income-increasing earnings management when their firms experience product harm crises. 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 boards of directors appear to be influenced by such opportunistic behavior.
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