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Using Combined Accrual and Cash Ratio Analysis to Determine Pre-Bankruptcy Status

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  • Alexey Litvinenko

    (University of Tartu, Estonia)

Abstract

Research Questions- 1) To what extent does the combined use of accrual-based and cash-based ratio analysis provide comprehensive insights into a company’s solvency, liquidity, profitability and efficiency? 2) Does the combined accrual-based and cash-based ratio analysis help in revealing manipulations in accrual financial statements? 3) How does the analysis of profitability and efficiency explain the results and levels of solvency and liquidity in a company? Do solvency and liquidity depend on external or internal sources of financing? 4) Does the present method of analysis indicate which company is closer to the pre-bankruptcy stage? Motivation- despite high demand from business practice and academics, there are not enough literature and methods combining cash-based and accrual-based ratio analyses in the specific dimensions of solvency, liquidity, profitability and efficiency for the determination of the pre-bankruptcy state of production companies. Idea- in this paper, the author created a method of analysis combining cash-based and accrual-based ratios in four dimensions (solvency, liquidity, profitability and efficiency) for the determination of the pre-bankruptcy state of production companies. Data- historical panel data for the years 2013-2022 obtained from the annual, managerial, and auditor’s reports of two production companies listed on the Baltic Stock Exchange. Tools- The mixed methods were used combining quantitative ratio calculations based on the historical panel data from financial statements with qualitative explanatory information from financial reports. Findings- The developed combination of ratio counterparts proves to be highly informative. The ratios used across all dimensions complement each other, providing a comprehensive picture of the companies' financial positions. Discrepancies within the ratio pairs suggest possible manipulations in accrual-based ratios. Low profitability and efficiency results during the first five years of analysis predicted a subsequent decrease in solvency and liquidity. Maintaining high levels of profitability and efficiency, and avoiding reliance on debt is crucial to sustain solvency and liquidity. A company is closer to pre-bankruptcy if the ratio analysis reveals significant discrepancies between the counterparts, with negative results prevailing. Contribution- the paper contributes to both business practice (accountants, auditors, financial managers) and the ongoing academic discussion with the dual method of ratio analysis for a more precise determination of the pre-bankruptcy state of the companies. This method allows to determine manipulations in accrual-based financial statements more effectively.

Suggested Citation

  • Alexey Litvinenko, 2024. "Using Combined Accrual and Cash Ratio Analysis to Determine Pre-Bankruptcy Status," Journal of Accounting and Management Information Systems, Faculty of Accounting and Management Information Systems, The Bucharest University of Economic Studies, vol. 23(4), pages 826-869, December.
    • Handle: RePEc:ami:journl:v:23:y:2024:i:4:p:826-869
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    References listed on IDEAS

    as
    1. Jaan Alver, 2005. "Preparation and Analysis of Cash Flow Statements: The Net Profit Approach and Operating Profit Approach," Working Papers 127, Tallinn School of Economics and Business Administration, Tallinn University of Technology.
    2. Stephen Foerster & John Tsagarelis & Grant Wang, 2017. "Are Cash Flows Better Stock Return Predictors Than Profits?," Financial Analysts Journal, Taylor & Francis Journals, vol. 73(1), pages 73-99, January.
    3. Julio Pindado & Luis F. Rodrigues, 2004. "Parsimonious Models of Financial Insolvency in Small Companies," Small Business Economics, Springer, vol. 22(1), pages 51-66, February.
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    More about this item

    Keywords

    cash flow ratios analysis; accrual-based ratios analysis; solvency analysis; liquidity analysis; profitability analysis; efficiency analysis;
    All these keywords.

    JEL classification:

    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • M42 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Auditing

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