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A three-stage dynamic model of financial distress

Umar Farooq, Muhammad Ali Jibran Qamar and Abdul Haque

Managerial Finance, 2018, vol. 44, issue 9, 1101-1116

Abstract: Purpose - The purpose of this paper is to explain the multi-stage dynamic process of financial distress. An attempt is made to explore multiple adverse heterogeneous events of financial distress leading a firm closer to bankruptcy progressively. Design/methodology/approach - Sample comprises 321 ongoing, 54 suspended and 91 delisted non-financial firms from Pakistan Stock Exchange. Financial distress is segregated into three stages, i.e. profit reduction, mild liquidity (ML) and severe liquidity (SL). Flow diagrams are used to explain the transition of healthy firms through proposed stages of financial distress. Findings - Results showed that firms liquidated/winding-up by court documented SL problems and closed their operations well before the delisting year. It is found that healthy firms are more likely to face SL when faced ML problem at first stage. Distressed firms can recover to a healthy position at any stage, however after approaching to SL, recovery is less expected. Practical implications - The proposed process will provide a foundation for future studies to develop more relevant, robust and accurate early warning system of corporate failure that will help stakeholders to respond potential crisis accordingly and timely. Originality/value - Previously, most of the studies used the

Keywords: Bankruptcy; Financial distress; Insolvency (search for similar items in EconPapers)
Date: 2018
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