Liquidity and solvency of healthy and bankrupt entities: Do financial statements show any differences?

Abstract

The aim of this paper is reflected in the analysis of the connection between the financial operations presented in companies' financial statements and the fact whether bankruptcy proceedings have been initiated against the observed companies. Namely, the fundamental indicators of a company's business success, including liquidity and solvency, are of immense significance for all stakeholders, and can also be used to predict the probability whether bankruptcy proceedings will be opened. Bankruptcy authorities make the decision to initiate bankruptcy proceedings, not solely on the basis of the results presented in the financial statements, but predominantly on the basis of the reasons defined by law. However, the question arises whether the fact that bankruptcy proceedings have been initiated correlates with the financial situation as shown in the financial statements. The paper's research sample is made up of the financial reports of two groups of companies, the first group of which includes all the companies in the Republic of Serbia that initiated bankruptcy proceedings in 2019, while the second group consists of randomly selected "healthy" companies. By applying two variables, i.e., liquidity and solvency, we are witnessing a difference in the results of the healthy versus the bankrupt companies. Healthy companies are largely liquid and solvent (47%), but it can be noticed that a number of healthy companies have problems with liquidity. Bankrupt companies are faced with a high liquidity risk, while a small number of them face the problem of insolvency.