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Table II.
Financial strength bands
with at any one time around 1.5 per cent of the database, being information on
companies which have failed. Every item of available data is recorded and the model
then tries to identify which items of data are predictive of failure. The aim is to
correlate information which has led to either final unfavourable closure or the start of
legal proceedings which have led to closure. D&B indicate that around 30 to 40 pieces
of data are represented on the failure scorecard at any one time. D&B stress that they
are not attempting to predict voluntary closure but only occasions where debt has been
left behind. Examples of the type of data which have shown to be a significant
indicator of risk of failure include the age of principals in a company, levels of
association with failed businesses and changes in payment habits. The failure score is
translated to the headline score using the conversion chart outlined in Table III.
The statistical model accounts for 95 per cent of the assigned ratings with a further
3 per cent based on expert rules (e.g. detrimental auditors report) and 2 per cent based
on manual ratings (e.g. following mergers and acquisition). The ratings are dynamic
and updates are triggered by the emergence of new data. The database is updated on a
monthly basis for ageing measures such as whether the accounts are now overdue.
To illustrate the type of ratings produced, detailed below are the financial strength
ratings and risk indicators for four UK companies as at 1 May 2002 (Table IV).
4. Application of the D&B model to property
Theoretically the conventional measure of a single asset’s risk is the standard
deviation of the distribution of future returns. Because the future return distribution is
not directly observable, the volatility of future returns must be estimated. A standard
approach is to measure the volatility of past returns and assume that the future will
resemble the past (Hendershott and Hendershott, 2002). Alternatively, estimates of
Failure scorecard “Headline” 1 to 4 risk rating
86 to 100 1
51 to 85 2
16 to 50 3
1 to 15 4
Table III.
Failure score conversion
Company D&B rating Explanation
Specsavers Optical Superstores Ltd 3A1 A financial strength of £7-£15 million and an overall
condition which is strong (minimal risk)
Carphone Warehouse Ltd 5A3 A financial strength of £35 þ million and an overall
condition which is fair (slightly greater than average
Starbucks Coffee Holdings (UK) Ltd N3 A financial strength which is negative and an overall
condition which is fair (slightly greater than average
Dixons Group Holdings Ltd 5A2 A financial strength of £35 þ million and an overall

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