Altman Z-Score

Altman Z-score is another important metric in relation to the financial analysis of the financial statements with regard to specific organization. You have read and understood the various metrics in relation to liquidity and solvency followed by leverage and liquidity, activity to have a precise assessment of the financial health of any organization. Altman Z-score integrates all those metrics in one formula which can be utilized to effectively test the likelihood of the bankruptcy for any manufacturing concern.

Altman Z-score is actually based on five important ratios that used to be computed from the company’s financial statements. The lower the score the higher is the probability in relation to the company going bankrupt.

Formula of the Altman Z-Score

The formula for the Z-Score can be demonstrated using the following relation that is:

Z-Score = 1.2A + 1.4B + 3.3C + 0.6D + 1.0E

In the above formula, A represents the ratio of working capital to the total assets of the company. B manifests the ratio of the retained earning to the total assets controlled by the organization. C represents the ratio of the quantum of earnings before the interest and tax to the total assets of the concern. D is the ratio in relation to the market value of the equity to the total liabilities of the company and last but certainly not least E is the representation of the ratio of the sales of the organization to the total assets.

You can observe that each of the important metrics in relation to the financial health of the company whether it is profitability, leverage, activity find its place in the Altman Z-score. This way Altman Z-score is a comprehensive measure of the soundness of the financial health o f the company.

Altman Z-score and Stakeholders

The low score on the scale of Altman Z-score is representative of the high probability of the company going bankrupt. The score can be effectively used in relation to the evaluation of the companies notwithstanding to the fact that they are public, private, US-based or non-US based and likewise manufacturing or non-manufacturing concern. Stakeholders can easily assess from the Altman Z-Score low score that there needs to be a restructuring of the financial management policies. Likewise, a good Altman Z-score of 2.6 or more can be satisfactory for the shareholders of the organization that their financial management operations are sound and the company has the ability to withstand the going concern assumption in the long term.

Altman Z-score Zones

In order to facilitate the stakeholders in relation to the making of the key economic decisions, there are defined Altman Z-scores’ zones that can help the stakeholders to quickly judge the condition of the financial health of the company.

Distress Zone It can also be referred to the red zone and the companies that score 1.1 are used to be placed in this zone.

Grey Zone It is a middle zone and represents the significant risk in relation to going bankrupt. The companies that score in the slab of 1.1 to 2.6 usually placed in this zone.

Safe Zone The zone every company wishes for and it asks for hard work on the part of the company in terms of financial operations. The score is for the companies that score 2.6 or more.