Looking Beyond the Financial Numbers: The Relationship Between Macroeconomic Indicators and the Likelihood of Financial Distress

Abstract

The current article aims to identify important macroeconomic variables that could indicate the likelihood of financial distress among 294 Indian firms included in the BSE 500 index. Twelve years of financial data and macroeconomic indicators were analysed through a logit model. The study applied a synthetic measure of financial distress adopted from Bhattacharjee and Han (2014, China Economic Review, 30, 244–262.) which is based on the interest coverage ratio. A significant negative relationship is reported between the likelihood of financial distress among firms and three macroeconomic indicators, namely, the index of industrial production (IIP), exchange rate and a 10-year bond yield. Accordingly, the classification accuracy reported for the full, training and testing samples was 75.51, 79.49 and 70 per cent, respectively. With respect to theoretical contribution, the study has underlined the difference between financial distress and bankruptcy. An additional classification test was conducted wherein the harmonic mean based on the current dataset characteristics was the discriminating score. A prediction accuracy of 76.92 and 70 per cent with respect to the training and testing sample was reported.