The failure of a number of big businesses in the last two decades has raised a lot of interest in trying to predict failure of businesses before they occur. As highlighted in the last article businesses don’t fail overnight. It has been observed that usually, company failure take years.
Company failure or insolvency results in the company’s affairs being wound up and its assets being sold in execution and the net proceeds, if any, being distributed amongst its stakeholders. The impact of company failures has far-reaching consequences for stakeholders, as has been observed in previous company failures.
Shareholders in a company stand to lose the most as the value of their investment deteriorates or disappears entirely. Creditors might receive partial or no repayment for their loans to the company. Other stakeholders such as employees lose their jobs, and the Government will lose its tax collections from both the company and employees earnings. To establish a company’s financial health is therefore very important for all stakeholders since this impacts on their survival as well.
Most of these stakeholders would use different sources of information to assess the financial health of the company. Some rely on published financial statements, or stockbroker reports or the daily financial newspapers to evaluate the performance of the company; whether it will operate for the foreseeable future or not. Some of the stakeholders incorporate the information in a financial failure prediction model to support their decision making process.
The challenge is that some of these predictive models are very sophisticated for the ordinary stakeholder to use. Notwithstanding these challenges, the early prediction of company financial distress or failure is essential to protect each stakeholder’s interests. A number of failure prediction models have been developed, based on various techniques. The most common models use financial ratio analysis to diagnose whether the company is likely to succeed or fail in future. Financial data constitutes the most significant element in monitoring the performance of a firm and in predicting the trend toward failure.
Financial figures can therefore be considered as an indicator in predicting the possibility of failure. However a number of analysts have found that the inclusion of non-financial variables to aid in the prediction of company failure is very important as it highlights certain issues that are not observable in financial information.
The early detection of a company’s financial distress is critical as it could potentially increase the likelihood of turning a company around to a positive financial health. The chances of returning the company to good financial health deteriorates over time if no action is taken in time to remedy the distress situation, hence the need for a company failure predictive model.
A number of models have been developed since the mid-sixties to predict company failure. These models use a number of financial variables based on audited financial results, using a number of statistical techniques which use either single financial variables or a number of financial variables simultaneously. These models have been able to predict company failure with reasonable accuracy. Each of the models has strengths and weaknesses as well as being limited in their applicability to certain industries.
A number of studies on financial ratios as a predictor of company failure have confirmed that ratios generally can be used to predict company failure successfully. However this does not apply to all ratios and their applicability vary over time and over industries. The commonly accepted financial indicators of impending failure include: low profitability related to assets and commitments, low equity returns, poor liquidity, high gearing and high variability of income. Some of the ratios are grouped below.
Debt-repaying ability of a company:
The following ratios would be used: inventory turnover in days (or average inventory days), debt to equity ratio, interest coverage ratio (times interest earned ratio) current ratio, acid test ratio (quick ratio) and accounts receivable turnover in days.
The above ratios would show whether a company is not able or able to meet its debt obligations.
Earning ability of the company:
The following ratios would be used to assess the earning capability of the company: earnings per share, return on equity, net profit margin and gross profit margin. Profitability is very important in determining the ability of a company to operate into the future.
The ratios look at the way the business is being funded whether it’s through debt or equity or a combination of both. The debt to debt plus equity ratio is mostly used. This would indicate whether a company is highly geared or not. A company which is highly geared means that it’s being financed through a bigger proportion of debt and this could prove challenging when the company is not performing well because the company could easily fail to repay its debt and thereby be liquidated. The level of gearing ratio that is regarded as healthy depends on the type of industry.
The management efficiency ratios assess how effective the company is using the assets of the company in generating sales and profit. The following ratios are used: Inventory turnover (average inventory turnover), fixed assets turnover (turnover over fixed assets), equity turnover (turnover over equity) and accounts receivable turnover (turnover over accounts receivable)
The above ratios are measured against a certain benchmark and reviewed over a period of time to assess the financial status of the company.
In some failure predictive models, the ratios are combined into a single score, called a ‘Z score’, which when the score is low it usually indicates poor financial health. The ratios are in five categories, namely liquidity, profitability, leverage, solvency, and activity. The ratios used in calculating the Z score are: working capital/total assets, retained earnings/total assets, profit before interest and tax/total assets, market value of equity/book value of debt and sales/total assets
In the next article I will discuss the non-financial variables that can be used in predicting the failure of a company.
l Stewart Jakarasi is a business and financial strategist and a lecturer in business strategy, advanced performance management and entrepreneurship. For assistance in implementing some of the concepts discussed in these articles please contact him on the following contacts: firstname.lastname@example.org, call on +266 58881062 or WhatsApp +266 62110062.
Short courses for ex-mineworkers
THE Lesotho Diamond Academy has introduced mining short courses, particularly to ex-mineworkers, to help them re-enter the mining sector.
The Essential Introductory Courses, which will run for two weeks, will start from June this year. The courses are meant particularly for people who worked in mines in South Africa.
The Academy’s CEO, Relebohile Molefe, unveiled the new courses during the graduation of 18 students last week, four of whom are now armed with Cutting and Polishing certificates while 14 graduated with Rough Diamond Evaluation certificates.
The new courses include the Essential Certificate in Diamond Grading and the Essential Certificate in Diamond Evaluation.
“The decision to offer these courses aligns with the Academy’s dedication to bridge the gap and ensure that individuals with valuable experience can seamlessly reintegrate into the diamond and jewelry industry,” Molefe said.
“By providing short courses, the academy does not only impart essential skills but also contributes to the sector’s growth by reactivating experienced individuals who had lost access to the industry due to no formal documents showing their experience in the industry,’’ she said.
During the graduation celebration, Molefe also unveiled a new sponsorship programme for various courses.
One outstanding student previously sponsored, who demonstrated exceptional proficiency in Rough Diamond Evaluation, was granted a fully funded bursary to further his studies into Advanced Certificate in Round Diamond Brilliantering.
In pursuit of its multifaceted objectives, one of which is to serve as a catalyst for employers in the diamond and jewelry sector to devise skills development strategies, the Academy is set to sponsor four additional students in the upcoming intake starting from February 15.
Two of these bursaries will afford a 30 percent discount on overall fees for two students progressing from Cutting and Polishing to advanced studies in Rough Diamond Evaluation.
Two will be fully funded bursaries to study for a Certificate in Diamond Cutting and Polishing.
Additionally, the institution will extend two fully funded bursaries to the public, fostering inclusivity and expanding opportunities.
The Academy says it plans to announce the search for two deserving Basotho individuals on its social media pages and website.
“Importantly, the bursary programme bears no age restrictions, reflecting a commitment to fairness and inclusiveness, ensuring that opportunities are accessible to all, irrespective of age,” it says in a statement.
The Academy says it seeks “to be a dynamic force in shaping the industry, not just within national borders, but also on regional and international platforms”.
“The emphasis on competitiveness within these markets underscores the institution’s commitment to producing graduates who are not only proficient but also globally competitive,” the statement reads.
“The recent graduation ceremony symbolises a milestone in the Academy’s journey. The success of its students is a testament to the quality of education and the foresight embedded in the curriculum.”
The Academy says its decision to sponsor further education for outstanding performers reflects a belief in nurturing talent and contributing to the continuous improvement of the diamond industry.
The Lesotho Diamond Academy was founded by the late Mpalipali Molefe, a prominent educator, diamond trader and an MP, who recognised the imperative to elevate professionalism in the diamond industry.
Bank hands over uniforms to students
THE Lesotho Post Bank donated uniforms to students at Leqele High School worth a staggering M60 000 as part of its Back-To-School campaign.
The bank said it did this “to keep needy children in school and to promote their education”.
A teacher at the school, Tšepo Semethe, said the uniforms will likely motivate the students to work harder in their studies.
Semethe insisted on giving the bank the names of the students so that it could check their performance at the end of the year.
“At Leqele High School, we work very hard because what we want is excellence above all. To us, hard work pays,” he said.
The bank’s Chief Risk Officer, Molefi Khama, said they are getting old, they will soon retire and Lesotho Post Bank will be in the hands of these children.
He pleaded with the students to work harder.
“This is why we decided to come here to support the students in their education so that when coming to school, they should be confident,” Khama said.
“We are watching you and waiting on you,” he said.
The school’s head prefect, Tholoana Monatsi, said from now on, “no student will be identified by what they wear”.
“(Lesotho) Post Bank made us one and we thank them for that because what we wear cannot stand before our education. We indeed thank you and forever you will hold special places in our hearts,” she said.
A parent, ’Marorisang Latela, said they were very grateful for the gift from Lesotho Post Bank adding that they must also donate to other schools.
Minister of Trade, Mokethi Shelile, promised to go back to the school to discuss how the children could learn in comfortable surroundings.
Mamello School of Special Needs wins prize
MAMELLO School of Special Needs is the first-place winner of Standard Lesotho Bank’s Scaled-Up Pitching Den held at Maseru Avani on Tuesday.
The school has secured a grand prize for an all-expenses-paid trip to Kenya to participate as a finalist representing Lesotho at the Standard Bank Africa Awards.
The school, pioneered in 2020 during the early days of the Covid-19 pandemic through Zoom classes, deals with children who live with conditions such as autism, attachment disorders, Attention Deficit Hyperactivity Disorder (ADHD) dyslexia, Down syndrome and slow learners.
STKTM Solutions claimed the second-place spot, receiving a commendable M10 000, while Masia Farms secured third place and a M5 000 prize.
Pheello Masia of Masia Farms, thanked Standard Lesotho Bank for backing their vision and that of other Basotho entrepreneurs.
He acknowledged that the bank’s faith in their endeavours serves as a source of inspiration, propelling them to work harder and foster growth within the community.
The event, aimed at fortifying support and fostering regional integration for Basotho entrepreneurs across the African continent, showcased the bank’s commitment to driving the growth of Lesotho.
Malatola Phothane, Head of Enterprise Banking at Standard Lesotho Bank, set the tone in his welcoming remarks.
“As Standard Lesotho Bank, through business and commercial banking, we strive to turn possibilities into opportunities,” Phothane said.
“Lesotho is our home, and we drive her growth,” he said.
His words resonated with the bank’s dedication to nurturing local talent and fostering economic development.
Phothane acknowledged the eight finalists, commending them for their resilience and passion for their businesses.
He emphasised how each entrepreneur had stood their ground, displaying knowledge and unwavering commitment.
The recognition not only highlighted the achievements of the finalists but also underscored the bank’s role in recognising and uplifting the entrepreneurial spirit within the community.
Aliciah Motšoane, founder of Prestige Furnitures and Sentebale Gap Funeral Services, played a significant role at the event as a motivational speaker, sharing her entrepreneurial journey filled with challenges and triumphs.
She recounted her humble beginnings when she was selling bread in high school, leading to the establishment of Prestige Furnitures in 1998.
Despite facing a significant setback after her shop was burnt down during the riots and incurring a loss of M5 million, Motšoane never gave up.
She said business is always a demanding endeavour adding that it needs hard work and a unique mindset.
She urged entrepreneurs to embrace their roots, seek inspiration, and persevere through challenges.
The keynote speaker, the bank’s Head of Business and Commercial Clients, Keketso Makara, said the bank is committed to foster a thriving business environment, highlighting the pivotal role of youth collaboration across diverse economic sectors.
Makara said their mandate aims to empower youths in steering the private sector towards growth, contributing to economic diversification.
Makara urged the eight finalists to actively involve bankers in refining their proposals for maximum impact on economic stimulation and sustainable development.
The bank said the Scaled-Up Pitching Den not only served as a stage for entrepreneurs to present their ventures but also acted as a driving force for networking, collaboration, and collective empowerment.
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