Using Financial Ratios to Predict the Bankruptcy: An Empirical Study of Indian Micro Small and Medium Enterprises

Abstract: In response to the Indian government's strong focus on promoting small and medium enterprises (SMEs), there is a pressing need to address the declining financial stability of these businesses. Small and unorganized borrowers face challenges in obtaining financial support, particularly in securing bank loans, leading to a growing number of loan defaults among SMEs. These defaults often stem from inadequate creditworthiness assessment and monitoring practices, compounded by limited collateral and data at the initial loan application stage. While existing research addresses financial resource utilization in SMEs, there is a notable gap in understanding credit profiling of SMEs. This research initiative aims to develop a model using logistic regression to calculate the probability of SME default or bankruptcy, based on key financial ratios (such as Return on Assets, Current Ratios, and Debt/Equity). Additionally, the research seeks to compute the Altman Z Score as a measure of the financial health of SMEs. This effort has the potential to significantly improve the financial resilience of SMEs and enhance their access to credit facilities.

Keywords: Bankruptcy Laws, Banks, Small and Medium Enterprises 

JEL Classification Number: F31, F41