The efficacy of liquidation and bankruptcy prediction models for assessing going concern

Abstract

Although previous research generally find bankruptcy prediction models to outperform auditors' going concern opinion accuracy in identifying failing companies, recent research questions whether bankruptcy is the best proxy for assessing going concern since filing for bankruptcy is not synonymous with the invalidity of the going concern assumption. Furthermore, in contrast to debtor-oriented countries such as the US, liquidation is the most likely outcome of corporate insolvency in creditor-oriented countries such as the UK, Germany, Australia and New Zealand. This suggests that bankruptcy prediction models have limited use for assessing going concern in creditor-oriented countries. Previous research has not recognised this distinction between corporate bankruptcy and liquidation in developing statistical models as an audit tool for assessing going concern. This study examines the efficacy of a corporate liquidation model and a benchmark bankruptcy prediction model for assessing company liquidation. It finds that the liquidation model is more accurate in predicting company liquidations in comparison with the benchmark bankruptcy prediction model. Most importantly. Type 1 errors for the liquidation prediction model is significantly lower than for the bankruptcy prediction model, which indicates its greater efficacy as an analytical tool for assessing going concern. The results also suggest that bankruptcy prediction models may not be appropriate for assessing going concern in countries where the insolvency code is creditor-oriented.

Failed, not finished: A narrative approach to understanding venture failure stigmatization

“…Moreover, the regulatory environment is not supportive of business failure with liquidation of the business being the most common outcome of insolvency (Kuruppu et al, 2003). This is contrasted with the debtor-oriented approach in the USA where insolvent organizations are encouraged to continue operating as a going concern (Franks et al, 1996).…”

From Riches to Rags: A Narrative Approach to Entrepreneurs’ Experience of Venture Failure

“…However, strong entrepreneurial activity is not the same as business acumen and there is evidence of higher than average failure rates and bankruptcy in this country (Lee et al, 2011). Moreover, the regulatory environment is not supportive of business failure with liquidation of the business being the most common outcome of insolvency (Kuruppu, Laswad & Oyelere, 2003). This is contrasted with the debtororiented approach in the USA where insolvent organizations are encouraged to continue operating as a going concern (Franks, Nyborg & Torous, 1996).…”

Efficacy Assessments of Z-Score and Operating Cash Flow Insolvency Predictive Models Insolvency Predictive Models

“…Previous researches show that statistical bankruptcy prediction models consistently outperform auditors' going concern judgment in discriminating between bankrupt and non-bankrupt companies. The [14] research worry is that in countries such as the US where the insolvency laws are debtor oriented, corporate bankruptcy procedures encourage companies in financial difficulty to continue as going concerns. This concern was shared by [15].…”

“…The argument of [14] is that given the differences in debtor and creditor oriented insolvency frameworks. The research aimed at finding ways and procedures that can assist auditors in choosing appropriate business failure prediction models as an analytical technique for assessing going concern.…”

“…A research on the efficacy of liquidation and bankruptcy prediction models for assessing going concern was carried out by [14]. The purpose of the study is to examine the efficacy of statistical corporate liquidation prediction models for assessing client going concern status.…”