Traditional financial ratios and cash flow ratios : Tools for financial distress prediction / Dayang Hafiza Abang Ahmad

Financial distress is a well-known problem among businesses. Such situation is a concern to many stakeholders and therefore, there is a need to have a suitable tool and technique in predicting the likelihood of financial distress. Undeniably, it has a substantial impact on firm performance, capital structure and investment decision. This study aims to examine further into this issue. Specifically, this study examine whether ratio analysis is associated with financially distressed firms. This study investigates the differences in the mean score of ratios between financially distressed firms and non financially distressed firms. This study also attempts to identify the components of ratios that can become the most significant predictor of financial distress. The total sample of the study is 210 firms consisting of 105 financially distressed firms and 105 non financially distressed firms from various industries. Financially distressed firms were selected based on PN17 list updated by Bursa Malaysia. The financially distressed firms were then matched paired with the non-financially distressed firms of similar industry and size. The data was obtained from the financial statements of the firms over five years prior to the financial distress year. The independent sample t-test and logistic regression
analysis were used to analyse the data. The result shows that there is a significant difference in the mean score of ratios between the two groups. Significant relationship between financial distress and predictor variables were also examined. The results show that RCACL, RWCTA, RCFTA and RCFTFA were found to be significantly associated with the probability of financial distress. Such results indicate that liquidity and efficiency were the most significant predictors of financial distress. This study is significant not only from the theoretical perspective but also from the perspectives of the practitioners and regulators in determining the causes of financial distress.