Financial Rations as Bankruptcy Indicators: The case of Financially Distressed Firms in Sweden

Abstract

Financial distress and corporate bankruptcy has been a common occurrence back into the century and of late has witnessed a multiplier effect in the global market; firms are running short of cash flows to meet up not only with their debt financing, but also with the cost of daily operations. This study examine some financial ratios using financial reports of groups of Swedish bankrupt and active companies for the period 1996 to 2003 with the aim to determine most significant and reliable ratios for predicting bankruptcy. Cross sectional analysis has been used to compare similar financial ratios for the two groups of companies with the aim to explain the association between the explanatory variables and business failure. Statistical models were also used to test the predictive power of the financial ratios. The empirical results indicate that the ratios of credit sales-total sales and total sales-total assets are not related to financial distress. Four most significant single bankruptcy indicators ratios includes; net profit-total assets, operating profit-turnover, quick ratio and long term debt-total equity.