More than a Dummy: The Probability of Failure, Survival and Acquisition of Private Firms in Financial Distress

T. B. ASTEBRO, J. Winter

European Management Review

Spring 2012, vol. 9, n°1, pp.1-17

Departments: Economics & Decision Sciences, GREGHEC (CNRS)

Keywords: Financial distress, Forecasting, Multinomial logit

We discuss three methodological issues concerning forecasts of the outcome of financial distress. First, we argue that rather than using a binary model the outcome of financial distress should be modeled using a multinomial specification that distinguishes between failure, survival as going concern, and acquisition. We also argue for a random rather than matched-pair sampling technique to better reflect decision making reality. Finally, we investigate the value of using industry-mean adjusted regressors. We find that the binary bankruptcy model is mis-specified relative to the multinomial model, that the matched sampling technique overstates model accuracy and that industry specific intercepts have better explanatory power than industry-adjusted regressors.