An Alternative Proposal for Forecasting the Financial Status of a Firm

Assessing the insolvency risk is certainly a central issue for economic and financial analysis and of prime importance to financial intermediaries. Despite that, no mainstream yet exists. Institutional factors peculiar to each country and a large variety of causes, which can lead to the failure of a firm, in fact, obstruct the way to a theory, which can be generally applied. It is instead necessary to deal with this issue, not only because it is central to credit management by banking operators, but also for its overall impact on the economy. This paper analyzes how to forecast the financial status (non-defaulting/defaulting) of a firm. To this aim, we tested alternative procedures on the same data set. Specifically, after analysing the adequacy of Altman’s Z-score model, we (i) attempt to solve its well-known limit due to the consideration of the same number of non-defaulting and defaulting firms in the group, (ii) select new explicative variables related to firm’s bankruptcy risk and (iii) use an alternative approach based on panel data to divide firms in the non-defaulting/defaulting sub-groups. In this way, we progressively obtain a considerable improvement in the firm financial status forecasting error.