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FRM Part II · FRM Exam Part II · Distress Symptoms and Remedies

A risk analyst at a credit fund reviews a mid-sized manufacturer. Which of the following is the most direct indicator of financial distress, as opposed to economic distress?

Being unable to pay interest from operating cash flow and negotiating with lenders is the most direct sign of financial distress, because the problem is meeting debt obligations. Falling market share, weak returns and obsolescence are economic or operating weaknesses that may cause distress later.

  1. AReturn on invested capital has stayed below the cost of capital for several years
  2. BThe firm's market share has fallen steadily as competitors introduced cheaper products
  3. CThe firm cannot meet scheduled interest payments from operating cash flow and is negotiating with lendersCorrect
  4. DThe firm's products are becoming technologically obsolete

Explanation

Financial distress concerns inability to meet debt obligations or liquidity needs, so missing interest payments and renegotiating with lenders is the direct symptom. The other options describe poor operating or economic performance, which may lead to distress but do not by themselves show a debt-servicing problem.

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