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A comparison of alternative bankruptcy prediction models

Wu, Sean, Gaunt, Clive, & Gray, Stephen (2010) A comparison of alternative bankruptcy prediction models. Journal of Contemporary Accounting and Economics, 6(1), pp. 34-45.

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Abstract

Early models of bankruptcy prediction employed financial ratios drawn from pre-bankruptcy financial statements and performed well both in-sample and out-of-sample. Since then there has been an ongoing effort in the literature to develop models with even greater predictive performance. A significant innovation in the literature was the introduction into bankruptcy prediction models of capital market data such as excess stock returns and stock return volatility, along with the application of the Black–Scholes–Merton option-pricing model. In this note, we test five key bankruptcy models from the literature using an upto- date data set and find that they each contain unique information regarding the probability of bankruptcy but that their performance varies over time. We build a new model comprising key variables from each of the five models and add a new variable that proxies for the degree of diversification within the firm. The degree of diversification is shown to be negatively associated with the risk of bankruptcy. This more general model outperforms the existing models in a variety of in-sample and out-of-sample tests.

Impact and interest:

14 citations in Scopus
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ID Code: 45533
Item Type: Journal Article
Keywords: Bankruptcy prediction models
DOI: 10.1016/j.jcae.2010.04.002
ISSN: 1815-5669
Subjects: Australian and New Zealand Standard Research Classification > COMMERCE MANAGEMENT TOURISM AND SERVICES (150000) > ACCOUNTING AUDITING AND ACCOUNTABILITY (150100)
Australian and New Zealand Standard Research Classification > COMMERCE MANAGEMENT TOURISM AND SERVICES (150000) > BANKING FINANCE AND INVESTMENT (150200) > Finance (150201)
Australian and New Zealand Standard Research Classification > COMMERCE MANAGEMENT TOURISM AND SERVICES (150000) > BANKING FINANCE AND INVESTMENT (150200) > Investment and Risk Management (150205)
Divisions: Current > QUT Faculties and Divisions > QUT Business School
Current > Schools > School of Economics & Finance
Deposited On: 29 Aug 2011 14:11
Last Modified: 01 Mar 2012 00:20

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