Test Of Relevance Of Altman Z-score Model In Predicting Bank Failure In Kenya

Abstract

Owing to the important role played by commercial banks in an economy, understanding the determinants of their survival and viability is important. This study therefore sought to test the relevance of Altman Z-Score model in predicting failure within the Kenyan banking industry. Such a study would enable formulation of a proactive response to distress signs meant to mitigate against business failure. The study adopted a diagnostic research design and covered all banks in Kenya. It further utilized an online survey and collected secondary data published by these banks. The study adopted Altman’s (1968) model for failed and non-failed Bank and examined relevant ratios for two failed banks in Kenya i.e., Dubai Bank, and Imperial Bank against 41 non-failed banks. The above ratios were analyzed further with the help of the Statistical package for Social Sciences (SPSS) and generally found to be useful in predicting firm’s failure. However, the type of ratios that best discriminate between failing and successful companies differ. It was established that Liquidity, Earned surplus leverage, Earning power, Solvency, Sales generating capability ratios were significant in predicting failure. The study therefore concluded that the Altman Z-score model was reliable in predicting financial distress in Kenyan banks. According to the results, most of Kenyan banks are financially distressed mainly due to insufficient retained earnings. The study thus recommends that the banks should enhance their sales generating capacity. Finally, due to the critical role played by corporate governance and other qualitative aspects, it is important to undertake studies on the effects of such aspects on business failures in the Kenyan banking industry.