Bankruptcy, international style: What financial factors predict corporate bankruptcy globally

August 02, 2010

The only uniform corporate indicator predicting a firm's bankruptcy in three of the world's major economies is a company's sales turnover.

Other predictive indicators of corporate bankruptcy vary by country and market system, according to University of Cincinnati research to be released on Aug. 4 regarding 23 financial variables associated with corporate bankruptcy from 1995 to 2009. For instance, only in the United States does it appear that a company's size is a risk factor for bankruptcy. In the U.S., the smaller a company, the greater the apparent risk for bankruptcy.

The research project, Forecasting Corporate Bankruptcy: International Evidence, was conducted by UC's Yan Yu, associate professor of quantitative analysis and operations management, and Shaonan Tian, UC doctoral student in quantitative analysis.

Yu and Tian will present their findings and the predictive corporate bankruptcy model they have developed at the Joint Statistical Meeting (JSM), the largest gathering of statisticians in North America, to be held in Vancouver July 31-Aug. 5, 2010.

The JSM is held jointly by the American Statistical Association, the International Biometric Society, the Institute of Mathematical Statistics, the Statistical Society of Canada, the International Chinese Statistical Association and the International Indian Statistical Association.


Yu and Tian, both from UC's College of Business, examined international bankruptcy records dating from 1995 to 2009 in order to determine which corporate financial variables are likely to lead to bankruptcy of a firm in the U.S., the United Kingdom and Japan. They studied both companies that went bankrupt and those that did not: More than 4,500 publicly traded companies in Japan, of which 100 went bankrupt; more than 3,500 companies in the U.K., of which 65 went bankrupt; and more than 18,000 firms in the U.S., of which almost 500 went bankrupt.

It's research taking on a new level of importance given that corporate bankruptcies are on the rise in the U.S., climbing by 40 percent between 2008 and 2009 alone.

"This is information and a model valuable to regulators, lenders, investors, corporate leaders and the economy as a whole. Corporate bankruptcies are now occurring at higher rates than at any time since the 1930s. There is a corresponding rise in the economic costs of bankruptcies. In 2002, corporate bankruptcies in the U.S. represented an estimated loss of $100 billion to the economy. Now, economic losses due to corporate bankruptcy defaults have increased to trillions of dollars," explained Yu.

In testing 23 financial variables within the bankruptcy records, Yu's data-mining model exhibited a 97 percent correlation rate with a subsequent bankruptcy in one year's time. It exhibited accuracy of more than 80 percent in correlating with a firm's bankruptcy in two- or three-year's time. The 23 variables studied included the five classic financial ratios from Altman's Z-score, including the important profitability indicator of Sales/Total Assets (sales turnover).

She said, "The study confirms that in different countries, different financial factors are correlated with bankruptcy, mainly due to varying financial and business structures. For example, leverage activities (techniques to multiply gains and losses) seem to be more important to forecasting bankruptcy in Japan, while liquidity (the ability of a company to quickly turn assets into cash) is essential to predict bankruptcy in the U.K."



Liquidity is a crucial measure of a company's ability to quickly sell non-cash assets in order to obtain cash. And unhealthy ratios related to liquidity seem to be the strongest predictors of a coming bankruptcy for firms in the U.S. and the U.K.

Other indicators are specific to individual country or shared with only one other country in the study.




The most important financial ratio for predicting corporate bankruptcy in Japan is related to leverage, the ability to multiply gains and losses via borrowing, use of derivatives or other means.

Said Yu, "Because the U.S. and U.K. operate under the free-market system, high liquidity is desired to prevent a firm's bankruptcy. In contrast, it's likely that Japan's 'main-bank system' may release companies from the liquidity demands common in a free market. It's a system where every corporate company is associated with a limited number of major commercial banks. Since each firm is closely related to at least one major commercial bank, it's very unlikely that firms go bankrupt due to liquidity variables. So, leverage variables then become a firm's key risk factor in Japan."

Other variables, if unhealthy, predict bankruptcy in Japan. One of these (Working Capital/Total Assets) is shared with the U.K.

Funding for this research was provided by a Title VI Grant sponsored by the U.S. Department of Education. Grant amount was $8,000.


Yu and Tian will now further refine their predictive model. As it currently exists, the model focuses on company-specific financial data. As a next step, they will now incorporate macro-economic market variables, such as short-term interest rates, into the model to see the specific effects of these macro factors in tandem with company-specific financial factors.


For the purposes of this study, bankruptcy was defined as either Chapter 7 (liquidation) or Chapter 11 (reorganization).

For this research project, Yu mined information from the CompuStat Global database, an international financial database, and then introduced a robust model-selection technique called adaptive lasso for a data-driven variable selection for a bankruptcy logistic regression model. She then applied a dynamic discrete hazard model to the adaptively chosen financial ratio covariates using time-varying panel data. Next, bankruptcy prediction accuracy was investigated for different time horizons (one, two and three years).

University of Cincinnati

Related Bankruptcy Articles from Brightsurf:

One in two Americans fear a major health event could lead to bankruptcy
As the COVID-19 pandemic continues to put lives and livelihoods at risk, 1 in 2 Americans say they fear a major health event could lead them to file for bankruptcy, marking a 5% increase since 2019.

Partnerships with bankrupt companies could be double-edged sword for investors
New research from the Indiana University Kelley School of Business found that when a company is in bankruptcy, its advertising and research and development investments can cut both ways.

New study examines impact of major life events on wellbeing
Researchers examined the effect of 18 major life events on wellbeing.

New economic model may prevent stops of capital flow
The 'sudden stops of capital flows' model enables the adequacy of macroeconomic policies, one year in advance, against the risk of a sudden contraction of international. investments.

Financial pressure makes CFOs less likely to blow the whistle
A recent study finds that corporate financial managers do a great job of detecting signs of potential fraud, but are less likely to voice these concerns externally when their company is under pressure to meet a financial target.

Comparing cancer costs is challenging, despite new price transparency rules
A federal rule that requires hospitals to publicly list standard charges for services and procedures -- the foundation of price transparency -- does not facilitate comparison shopping for a standard radiation treatment for prostate cancer at National Cancer Institute-designated cancer centers, according to a study led by University of North Carolina Lineberger Comprehensive Cancer Center researchers.

American cancer survivors face substantial financial hardship and financial sacrifices
American cancer survivors, particularly those 64 years or younger, faced substantial medical financial hardship and sacrifices in spending, savings, or living situation, according to data from a survey.

UBC study finds siblings of problem gamblers also impulsive, prone to risk-taking
Biological siblings of people with gambling disorder also display markers of increased impulsivity and risk-taking, according to a new UBC psychology study.

Inequality gap grew before the Great Recession and after, study finds
The Great Recession hit Americans across the socioeconomic spectrum, but the drivers behind these socioeconomic divides were mounting before the decline even hit, according to a paper published in PLOS ONE.

Experts discover historic roots of Medicare for All, public option and free-market proposals
As political leaders debate the future of the US health care system, a pair of health financing experts discovered that all of the current proposals -- from Medicare for All to 'repeal and replace' -- have been circulating in various forms since the 1940s.

Read More: Bankruptcy News and Bankruptcy Current Events is a participant in the Amazon Services LLC Associates Program, an affiliate advertising program designed to provide a means for sites to earn advertising fees by advertising and linking to