Bankruptcy is a concept not new to any person. However, to predict that bankruptcy can be filed is very difficult. Sometimes, people make it easy for themselves to file bankruptcy by not considering any other possibilities of solutions for debt issues that they face, like IVA, debt management, DRO, trust deeds, etc. Different online forums like an IVA forum, bankruptcy forum etc, can help them out in getting them information on the different solutions for debt issues but they do not either know or just do not want to know. They just directly go to a lawyer to file the petition.
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Academic area of bankruptcy prediction
Predictions whether it will be filed or not is an academic area of research. Many experts are there in the academic world to make judgments over the issues faced by different people/companies as to when they will file bankruptcy and when not. They use different models; some of them are explained as follows:
The Altman Model
Edward Altman is regarded as the guru for bankruptcy predictions through a stepwise way he developed in 1968 for predicting as to when the bankruptcy can be filed by people under what conditions. He used a multiple discriminate analysis to develop his model with high frequency of accurate results. The accuracy rate he achieved from his model results is 91% almost. He took a sample of around 66 companies in which 33 were successful and 33 failed. He developed his model as under:
Z = 1.2A + 1.4B + 3.3C + 0.6D + 0.99E
Where:
A - Working capital/total assets owned B - Retained earnings/total assets owned C - EBIT/total assets D -Market value of equity/total book value of debts E - Sales/total assets owned
Here if the value of Z is less than 2.675, the company is said to have failed. Another model that predicts the possibility for a company to file bankruptcy is the Fulmer Model.
Fulmer Model
Fulmer in around 1980's used the same discriminatory analysis over 60 companies (half failed, half successful) with an average asset worth of around 450,000 Dollars, with different financial ratios. His model is as under:
H = 5.528 (V1) + 0.212 (V2) + 0.073 (V3) + 1.270 (V4) - 0.120 (V5) + 2.335 (V6) + 0.575 (V7) + 1.083 (V8) + 0.894 (V9) - 6.075
Here his values are as follows:
V1 - Retained earnings/Total assets owned V2 - Sales/Total assets owned V3 - EBT/Total equity V4 - Cash flow/Total debts V5 - Total debts/Total assets V6 - Current liabilities/Total assets V7 - Log tangible total assets V8 - Working Capital/Total Debt V9 - Log EBIT/Interest
Here if the value of H is less than 0, the company is regarded failed. This scientist reported to have 98% accurate results in comparison to the above model. He defined that he could tell one year before hand if one company will be failed or successful.
If some company wants to know more, it should hire professional financial experts to save a future from bankruptcy, easy paying off debts, and managing financial issues.
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