A study in the Global Business and Economics Review suggests that the failure of small and medium-sized enterprises (SMEs) can be predicted as much as three years before insolvency. The work could offer lenders, investors, and business owners an early warning of financial problems years in advance.
The researchers analysed data from more than 24500 European companies over an eight-year period. From this data, they developed a forecasting model that has an overall accuracy of about 82 per cent. It could identify more than 70 per cent of insolvencies three years in advance on test data with known outcomes. The final model relies on seven financial indicators: cash ratio, contribution per interest paid ratio, solvency ratio, short-term financing, leverage, debt-assets ratio, and return on assets. These measures capture a company’s liquidity, debt burden, financial resilience, and profitability. However, the model could yet be improved if there were greater disclosure from SMEs. That said, this is highly unlikely given the nature of smaller businesses.
The researchers say the work addresses a big gap in the corporate finance literature. Traditionally, this has focused on large publicly listed companies. However, SMEs account for most businesses in OECD economies and roughly two-thirds of employment, making their stability an important economic issue.
Silva, S. (2026) ‘Corporate failure prediction model for European SMEs’, Global Business and Economics Review, Vol. 34, No. 4, pp.395–419.
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