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We examine whether firms engage in classification shifting to meet performance targets during mergers and restructuring. Using a sample of listed firms that complete major asset restructuring and sign performance commitment agreements from 2008 to 2019, we find that during the commitment period, nearly 39% of firms ‘step on the line’ to achieve net income before non-recurring items, i.e., the realised performance slightly exceeds the promised performance target. Compared to control firms and non-commitment years, firms that ‘step on the line’ to meet the target are more likely to achieve this by misclassifying recurring expenses as non-operating losses. Furthermore, this effect is more pronounced in firms with larger committed amounts, firms using stock to compensate for non-performance, and firms audited by non-Big 4 auditors. Overall, our paper extends the research on incentives for classification shifting and has implications for regulators to strengthen the regulation of accounting treatment in performance commitments.

Major asset restructuring performance commitments and classification shifting through non-recurring items