Relationship Between Financial Ratios & Share Prices And Prediction Of Financial Failure: Evidence From Sri Lanka

in this paper, a thorough analysis regarding the listed companies on Colombo Stock Exchange is conducted. The main objective of this study is to determine a relationship between share price and financial ratios of the companies which are listed on the Colombo Stock Exchange for the period 2011 to 2013 using an econometric model called panel data regression. Then a group of companies are categorized by their share price using factor analysis. Finally the financial failure of companies is predicted using k-nearest neighbor discriminant analysis. The results of the study showed that there is a high positive relationship between the share price and Earnings per share (EPS). At the same time there is a moderate positive relationship between share price and Dividends per share (DPS). Also there are significant low positive associations between share price and Return on Equity (ROE), Return on Assets (ROA), Asset Turnover, Price to Book (PB) and Net profit Margin (NP margin) respectively. Using panel data regression analysis, a feasible generalized least squares (FGLS) model is fitted to determine the share price using the variables DPS, EPS, ROE, PB Ratio and NP Margin. Then using factor analysis, hidden relationships are examined by considering 10 stocks which are listed one Colombo Stock Exchange. Using the analysis, three factors are found. They are general market component, multinational company component and diversified component. Finally the financial failure of companies is predicted using k-nearest neighbor discriminant analysis. The predicted financial failure is the compared with the results that were obtained using Altman Z score. It is found that the percentage of classifying, a successful company and an unsuccessful company correctly are 65% and 95% respectively.

REFERENCES

[1] Baltagi H.B (2005). Econometric Analysis of Panel Data (Third edition). Sussex: John Wiley & Sons,Ltd.