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Predicting and Interpreting Business Failures with Supervised Information Geometric Algorithms :

Predicting and Interpreting Business Failures with Supervised Information Geometric Algorithms :. Caroline Ventura (UAG Martinique – CEREGMIA) Fred Célimène (UAG Martinique – CEREGMIA) Richard Nock (UAG Martinique – CEREGMIA) Frank Nielsen (Sony – CS Labs , Tokyo). Introduction.

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Predicting and Interpreting Business Failures with Supervised Information Geometric Algorithms :

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  1. Predicting and Interpreting Business FailureswithSupervised Information GeometricAlgorithms: Caroline Ventura (UAG Martinique – CEREGMIA) Fred Célimène (UAG Martinique – CEREGMIA) Richard Nock (UAG Martinique – CEREGMIA) Frank Nielsen (Sony – CS Labs, Tokyo)

  2. Introduction • Much has been said and done in the field of business failureprediction in the last 40 years • However, we have foundsome place for improvementwith the latestmethods of supervisedlearning • Easilyunderstandablemodels • Withmisclassification rates 10 times lowerthanclassicresults

  3. Methodologicalchoices

  4. Information GeometricAlgorithms • Focuses on performances on unseen cases • Smallerrisk of over-fitting • Relies on last decadeworks in information geometric • Learnspowerful and interpretablemodels • Decisiontrees (simple recursivepartitioning) • Disjonctive Normal Forms (conjunction of tests over description variables)  mucheasier to interpret

  5. BoostingAlgorithm • Principle: repeatedlycallinganotherlearningalgorithm and making a linearcombination of all classifiersobtained • Loss in interpretability • Dramaticallyimproves the accuracy of single models • Gives an idea of the smallestrisksachievable • No over-fitting

  6. Time dimension of business failure • Failureis not an acute event, there are differentpaths to failure (typical, chronic, acute) • A few works have introduced a time dimension in business failurestudies • Trends and differences (Laitinen, 1993) • Retarded variables (Cybinski, 2001) • CUSUM procedures (Theodossiou, 1991) • Currentwork on time series of yearlypublished data of 6 years long • Time seriesprocessedusingwavelet expansion

  7. Wavelet Expansion Principles • Provides a processing of time seriewhichis: • Standard (Haarwavelets) • Easilyunderstandable • Easilyapplied to longer time series

  8. Wavelets for pattern recognition • Considering conditions on the differentwavelet coefficients wecandefine, on relevant variables, patterns of failingfirmspossiblymanyyearsbeforefailureoccurs

  9. Usefulness in business failureprediction

  10. Dataset • 1 000 french companies for which we possess the yearly company tax return from 2003 to 2008 and an identification of the ones gone in legal procedures • Validation of the method on two sets of variables : • Variables associated to solvency and liquidity  Blinkers • Cash Flow (for liquidity) - CF • Supplier’s Debt (for solvency) - SD • Fiscal and Social Debt (for both liquidity and solvency) - FSD • Laitinen ratios considered in his works on failure patterns (1993) • ROI (for profitability) • Quick Ratio (for static liquidity) • Traditional Cash Flow to Net Sales (for dynamic liquidity) • Shareholder capial to total assets (for static solidity) • Traditional Cash Flow to Total Debt (for dynamic solidity)

  11. DNFs’ drawing of Failure Patterns • High probability of failure (98%) if : • (Year >= 1999) • (FSD mean >= 39.6) • (SD start trend >= 3.7) • (CF end trend >= 1.3) • High probability of failure (99%) if • (CF start trend >= 0) • (SD start trend <= 0.3) and (SD end trend <= 0.1) • (FSD start trend >= 2.3) and (FSD end trend <= -1.3)

  12. Improvements due to the use of DecisionTrees

  13. Improvements due to the use of time series • Predicting the risk of failureafter 2 years, longer time seriesprovidebetterresults

  14. Conclusion • Information GeometricAlgorithmsstill have much to bring in financialfieldssincetheyallow to improveprediction performances but alsoprovidefor of-the-shelftools to explore important datasets • Variable selection : • Improvementsin hardware performance nowallows to input all available variables in the programs • Optimal number of variables isidentified by the machine • Choice of variable is not constrainedanymore by commonknowledge

  15. Thankyou for listening

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