Empirical Evaluation of Bankruptcy Models Estimated by University of Nairobi Masters in Business Administration (MBA) Studies

Abstract

A contemporary threat to businesses today, despite their size and nature of operations is insolvency. The developments in the corporate environment highlight the importance of default prediction both in academia and industry. In developed countries, bankruptcy prediction models have been developed and are continually improved to match with the economic changes. In Kenya, various bankruptcy prediction models have been proposed by Masters in Business Administration (MBA) students but they are not being widely used by the industry though there are reported cases of unpredicted bankruptcies as firms go under. This historical study tests the validity of six bankruptcy prediction models in a Kenyan context. The population for this study consisted of all firms listed at the Nairobi Securities Exchange from 1970 to 2009. Of the business failure prediction models tested over a period of five years on ten failed and ten non-failed firms, three of the models had prediction of accuracy of above 80%. Specifically, the models that incorporate profitability, leverage and liquidity ratios seem to be accurate predictors of business failure. There are however certain firms, that the models would classify in - accurately mostly because of environmental or firm specific factors. The findings also infer that specialized industry specific models like the insurance industry or banking industry models may not be applicable in general company bankruptcy prediction.