Financial early‐warning models on cross‐holding groups

Abstract

Purpose -This paper primarily uses statistical methods to establish financial early-warning models that make it possible to predict, in advance, the probability of a company experiencing financial distress. Design/methodology/approach -In its empirical analysis, this is the first study that attempts to use financial ratios and non-financial ratios as variables to analyze business groups, and the present study uses the (K-S tests), and (M-U tests) and logit regressions model. Findings -Financial ratio variables remain the primary variables for predicting corporate financial distress. Upon examining the predictor variables for corporate financial distress at one, two, and three years prior to distress, it was found that financial ratio variables were the main ones at one and two years prior to distress, while at three years prior to distress there was one financial ratio variable and two ownership structure variables that showed significant differences. Financial structure, solvency, profitability, and cash flow indicators are the principal financial ratio variables. Ratios of director and supervisor ownership stakes after pledging of shares differed significantly between financially distressed and non-distressed companies. Establishing independent directors and supervisors can lower the likelihood of financial distress. Research limitations/implications -As the time remaining before occurrence of financial distress grows shorter, test results show that the number of financial ratios with significant differences goes up. But the longer the time that remains before occurrence of financial distress, the more the financial ratios show non-significant differences. That is why a number of scholars hold that the longer the period under study, the less explanatory power it has. Originality/value -The mean contribution of this paper is that establishing independent directors and supervisors can lower the likelihood of financial distress. The paper is useful to researchers or practitioners who are focused on financial risk management and corporate governance implementation.

Modeling corporate financial distress using financial and non-financial variables

“…It is the ratio of net income to average net equity (Geng et al , 2015; Huang et al , 2017). Higher the ROE for the company, the more income for shareholders, as it reflects the bottom-line measure of performance (Lieu et al , 2008; Ross et al , 2013). It is one of the vital predictors for measuring financial distress and has a negative role in predicting corporate failure.…”

“…Net profit margin (NPM) is defined as the ratio of net profit after tax to net sales. The higher the NPM, the better it is for the firm (Lieu et al , 2008). Udin et al (2017) found NPM to be negatively associated with the probability of financial distress, which suggests that decreasing profit margin for the firm leads to increased chances of corporate failure.…”

Does the efficiency of corporate governance and intellectual capital affect a firm's financial distress? Evidence from Egypt

“…In the framework of seeking to build such an early warning system for financial distress, recent studies related to financial distress also suggest that CG mechanisms and IC could have a significant impact on the likelihood of a firm's financial distress (Cardoso et al , 2019; Udin et al , 2017; Shahwan, 2015; Elloumi and Gueyie, 2001; Demirkan and Platt, 2009; Li et al , 2008; Lieu et al , 2008; Parker et al , 2002). For instance, Cardoso et al (2019) support the existence of a significant U-shaped format between the board size and the likelihood of firm financial distress.…”

“…However, the association between managerial ownership and the probability of financial distress is insignificant. Lieu et al (2008) argue that financial distress is less likely to have occurred when a firm increasingly depends on independent directors and supervisors.…”

Unsupervised neural networks approach for understanding fraudulent financial reporting

“…According to Lieu et al (2008), the consideration over time span prior to distress is important upon examining the predictor variables for corporate financial distress. The study found that financial ratios were the main predictors at one and two years prior to distress, while at three years prior to distress there were one financial ratio and two ownership structure variables that showed significant explanatory power.…”