Altman Z-score
The Altman Z-score combines five balance-sheet and income-statement ratios into one number that ranks the risk of a company going bankrupt within the next two years. Below 1.81 signals the distress zone; above 2.99, the safe zone; in between, the grey zone. It was designed in 1968 for listed manufacturers and there are variants for other sectors.
How it is calculated
The five ratios: A, working capital over total assets; B, retained earnings over total assets; C, earnings before interest and taxes over total assets; D, market value of equity over total liabilities; E, sales over total assets. With A = 0.10, B = 0.20, C = 0.15, D = 1.5 and E = 0.9: Z = 1.2 × 0.10 + 1.4 × 0.20 + 3.3 × 0.15 + 0.6 × 1.5 + 1.0 × 0.9 = 0.12 + 0.28 + 0.495 + 0.9 + 0.9 = 2.70. Grey zone: neither imminent distress nor comfort. The largest coefficient, 3.3, goes with return on assets: it weighs most per point of ratio, even though in this example D and E contribute more.
The figures in the example are invented and rounded so the arithmetic can be redone by hand. They are not data from any real company.
What it is NOT
It is not a probability of bankruptcy as such, but a score calibrated on US manufacturers of the 1960s; it does not work for banks and insurers (their balance sheet has no "working capital" in that sense) and there are different versions for private companies and service businesses (Z’ and Z″). Nor does it anticipate a bankruptcy from fraud or a sudden event: it reads the deterioration already in the accounts.
Formula
Z = 1.2·A + 1.4·B + 3.3·C + 0.6·D + 1.0·E See also
See it on real data
Celsmar computes this from the accounts companies file with their regulator, and shows which line every figure comes from. Free to start, no card.
Definition for informational purposes. It is not financial advice nor a recommendation to buy or sell.