Religion and Ratio Analysis: Towards an Islamic Corporate Liquidity Measure
54 Pages Posted: 17 Aug 2016 Last revised: 15 Sep 2016
Date Written: August 13, 2016
This paper contributes to the emerging literature on the effect of religion on corporate decision making and financial reporting. We argue that financial statement analytical tools could violate several commands of the Islamic law. Specifically, traditional liquidity ratios imply undervaluation, uncertainty, and interest bearing aspects that are strictly prohibited in the Islamic law. We propose an Islamic-compliant measure of corporate liquidity. In order to validate our proposed ratio as a measure of corporate liquidity, we incorporate it in the traditional corporate bankruptcy prediction models. Our measure significantly improves the accuracy of the corporate bankruptcy prediction models of Altman (1968) Z-score and Ohlson (1980).
Keywords: Islamic finance, ratio analysis, corporate liquidity, bankruptcy
JEL Classification: G31, G33, M41
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