The risk of bankruptcy has always been an integral part of any entrepreneurial activity in a market environment, extending not only to the person or company that suffered losses as a result of conducting its business activities, but also to persons who collaborated with this company or entrepreneur by providing them with funds in any form.
The legislation of the Russian Federation considers bankruptcy as the inability of an economic entity to make obligatory payments, debt obligations to creditors, and to finance current detail, as there are not enough funds for this. The sooner bankruptcy is diagnosed, the more chances a company has of avoiding it. Bankruptcy diagnostics can be carried out using one of many methods, or it can be carried out using several different methods, which will give a more accurate result. Each method allows you to identify trends in bankruptcy and implement an assessment of the likelihood of each of them.
Bankruptcy Diagnosis: Common Valuation Factors
There are a number of factors that indicate the difficult situation of the enterprise, if they are timely identified and taken into account, this will not only prevent a possible risk, but also predict bankruptcy. Among these factors, we can distinguish:
- unstable profit;
- low liquidity ratios;
- low profitability of products or services;
- a sharp drop in the value of assets and securities of the company;
- a significant percentage of borrowed funds, which provokes a large value of the effect of financial leverage, which exceeds the value of the level of economic profitability of assets;
- low liquidity ratios;
- high rates of common factors of commercial risk;
- reduced return on investment.
If all these indicators or some of them are revealed, then this already indicates a significant probability of bankruptcy, the exact assessment of which can be carried out by comparing the organization’s commercial activities with similar activities of other firms, individual entrepreneurs or organizations.
Bankruptcy Diagnostics: Key Approaches
In the process of diagnosing and assessing the probability of bankruptcy, approaches are applied that are based on the analysis of a fairly extensive system of signs and criteria, or on the use of a limited range of indicators, including integral ones. There is a conditional separation of the total set of features that are capable of indicating the likelihood of bankruptcy.
The first group is usually classified as signs that indicate the likelihood of deterioration of the situation of the enterprise or company in the future:
- low level of capital investments;
- inefficient use of technical equipment and resources of the enterprise;
- irregular work and forced downtime;
- Absolute dependence on a particular market, type of equipment or asset, etc.
The second group includes indicators that determine the probability of bankruptcy in the near future:
- the availability of stocks of raw materials or products significantly exceeding the norm;
- deficit of working capital of the company and the increase in the duration of the period of its turnover;
- the presence of outstanding monetary obligations to the founders of the company;
- chronic arrears to creditors or debtors and other indicators.
If the entity is not able to repay the resulting debt within three months, then this acts as a determining indicator of the significant likelihood of bankruptcy.
The bankruptcy petition can be submitted to the judicial authorities either by the management of the enterprise itself, or by authorized bodies, or by the creditors of the enterprise.