Financial Ratios as a Means of Forecasting Bankruptcy

Tamari, Meir
July 1966
Management International Review (MIR);1966, Vol. 6 Issue 4, p15
Academic Journal
Those responsible in banks and in industrial and commercial firms for the granting of credit have to have some way of determining the degree of risk arising from the financial position of their clients. At the same time, shareholders, potential investors and management need various criteria for measuring profitability, risk, and the long-term financing of their investments or enterprises. One system often used to examine the position of a firm as reflected in its financial statements is ratio analysis. The capacity of a firm to pay its expenses and debts as they mature is generally measured by the current ratio, the turnover of inventory and the turnover of receivables. In financial and banking circles there are some who believe that it is difficult to obtain a clear picture of the degree of risk involved in an individual company from a study of the balance sheet and profit and loss statement, since the financial ratios may point in opposite directions. It may be worthwhile, for example, to give credit to a company with a high rate of profit despite its low current ratio, or to ignore the small share of equity capital in granting short-term credit, owing to the rapid turnover of receivables.


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