An empirical study of the usefulness of accounting ratios to describe levels of insolvency risk

Abstract This study aims to explore the usefulness of accounting ratios to describe levels of insolvency risk. Previous studies have used the statistical technique of discriminant analysis to derive models for preducting whether a firm will or will not fail. This study will use the same statistical technique but with three differences (a) the ratios to be used in the discriminant analysis are selected by a method which ensures that no arbitrary limit is placed on their number, (b) because the significance of accounting ratios can vary from industry to industry, four industries are separately analysed; manufacturing, retail, property and finance, (c) the statistical probabilities yielded by the analysis are used to measure a firm's current level of insolvency risk. The study is concluded by interpreting the characteristic patterns of insolvency risk which emerge; an analysis of the factors causing the differences in these patterns throws new light on the causes, symptoms, and remedies of financial distress

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