Z Score |
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Z Score |
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In the 1960s, Edward Altman, Professor of Finance at New York University School of Business, combined five ratios into what become known as the Altman Z Score, the best-known predictor of bankruptcy. The Z Score combines five financial ratios, assigning each ratio a different weighting. Further refinement led to the development of Z Scores for closely held companies and for small business or service companies.
Note: |
The Z Scores calculated in the RMA database use net worth for both retained earnings (X2) and market value of equity (X4). |
If a company's Z Score is 1.81 or less, there is a very good chance the business could go bankrupt in the coming year. If the total Z Score is 3.00 or better, there is little danger of bankruptcy.
= 1.2(X1) + 1.4(X2) + 3.3(X3) + 0.6(X4) + 0.999(X5)
= 0.717(X1) + 0.847(X2) + 3.107(X3) + 0.42(X4) +0.998(X5)
= 6.58(X1) + 3.26(X2) +6.72(X3) +1.05(X4) +0.0( X5)
The ratio of working capital (current assets less current liabilities) to total assets is considered a reasonable predictor of ongoing trouble. A company with repeated operating losses will generally suffer a reduction in working capital relative to its total assets.
The ratio of net worth to total assets indicates the extent to which a company has been able to reinvest its earnings in its ongoing operations. Since an older company will have usually accumulated more earnings, this measurement is favorably biased towards older companies.
This ratio adjusts earnings for income tax factors and adjusts for leveraging. These adjustments allow a more effective measurement of the company's utilization of assets.
This ratio indicates how much assets can decline before debts exceed assets.
This ratio measures how well the company uses its assets to generate sales.