I am interested in doing some investment-related research on a few public companies. I recall (from a long-ago finance course), that the “Z” ratio and the “Quick” ration togetehr give a concise snapshot of a firm’s financial health-any accounts know about this? How is the “Z” ration computed?
Below is the formula. This is more in the realm of correlation, not causation. The formula was derived by running regression and finding the best fit. It is still a decent predictor of financial stability. A z-score above 3 is pretty good. It is obviously not theoretically sound, because it does not take into account any future events. However, it’s fairly useful; especially in comparing firms in similar circumstances.
Altman’s Z - Score Formula:
Z= 0.012A + 0.014B + 0.033C + 0.06D +0.99E
A= Working Capital / Total Assets
B= Retained Earnings / Total Assets
C= Earnings before Interest & Taxes / Total Assets
D= Market Value of Equity / Book Value of Total Liabilities
E= Sales / Total Assets