Altman Z-Score Calculator

We designed this Altman Z-Score calculator to help you easily calculate the Altman Z-Score. Altman Z-Score is one of the most famous bankruptcy prediction models. It is widely used to quantify the probability of a company going default.

We prepare this article to help you understand what is Altman Z-Score and how to calculate it using the Altman Z-Score formula. We will also help you understand what is a good Altman Z-Score. However, before we talk about how to interpret the Altman Z-Score, let's first make sure we understand the definition of this metric.

Altman Z-Score is a bankruptcy prediction model designed by Professor Edward Altman in 1968 to quantify the probability of a company going default. The Altman Z-Score is the product of the discriminant analysis performed by Professor Altman.

Unlike other bankruptcy predicting methods, the Altman Z-Score can incorporate various ratios into a single equation. This allows user to avoid over-relying on a particular financial ratio to assess the credit risks of a company.

The following example will help us to understand the Altman Z-Score calculation precisely .

Let's take Company Alpha as an example to help us understand the concept of the Altman Z-Score in our Altman Z-Score calculator. Company Alpha reports the following information:

• Number of shares outstanding: 1,000,000;
• Share price: $20;
• Dividend per share: $0.50;
• Sales: $10,000,000;
• EBIT: $4,000,000;
• Net income: $1,000,000;
• Accounts receivable: $200,000;
• Accounts payable: $100,000;
• Inventory: $300,000;
• Total assets: $50,000,000; and
• Total liabilities: $20,000,000.

We need to calculate 5 ratios to compute the Altman Z-Score. The whole process takes 6 steps:

1. Calculate net working capital / total assets ratio

   This ratio measures the short-term liquidity risk of a company and is calculated as:

   NWC/TA ratio = NWC / TA,

   where,

   • NWC - Net working capital; and
   • TA- Total assets.

   The NWC can be calculated using the formula below:

   NWC = accounts receivable + inventory - accounts payable

   For Company Alpha:

   NWC/TA ratio = ($200,000 + $300,000 - $100,000) / $50,000,000 = $400,000 / $15,000,000 = 0.008.

2. Calculate retained earnings / total assets ratio

   The RE/TA ratio measures the accumulated profitability of a company and you can calculate it using the formula below:

   RE/TA ratio = RE / TA,

   where,

   • RE - Retained earnings.

   The RE can be calculated as:

   RE = net income - dividend per share * number of shares outstanding

   For Company Alpha:

   RE/TA ratio = ($1,000,000 - $0.50 * 1,000,000) / $50,000,000 = $500,000 / $15,000,000 = 0.01.

3. Calculate EBIT / total assets ratio

   The next ratio to calculate is the EBIT/TA ratio and it measures a company's profitability. Its formula is:

   EBIT/TA ratio = EBIT / TA,

   where,

   • EBIT - Earnings before interests and taxes.

   For our example:

   EBIT/TA ratio = $4,000,000 / $50,000,000 = 0.08. You can also use our ebit calculator to calculate the EBIT.

4. Calculate market value of equity / total liabilities ratio

   This ratio tells you about the company's leverage. It is calculated as:

   MVE/TL ratio = MVE / TL,

   where,

   • MVA - Market value of equity; and
   • TL - Total liabilities.

   The formula for MVE is:

   MVE = share price * number of shares outstanding

   In our example, Company Alpha's MVE/TL ratio is:

   MVE/TL = ($20 * 1,000,000) / $20,000,000 = $20,000,000 / $20,000,000 = 1.0.

5. Calculate sales / total assets ratio

   The last ratio to calculate is the sales/TA ratio, which measures a company's ability to generate revenue. The formula for this ratio is:

   sales/TA ratio = sales / TA

   For our example:

   sales/TA ratio = $10,000,000 / $50,000,000 = 0.2.

   You can also check out our total asset turnover calculator.

6. Compute the Altman Z-Score

   Now that we have all the ratios calculated, it's time for us to compute the Altman Z-Score. The metric can be calculated using this formula:

   Altman Z-Score = 1.2 * NWC/TA + 1.4 * RE/TA + 3.3 * EBIT/TA + 0.6 * MVE/TL + 1.0 * sales/TA

   The Altman Z-Score for Company Alpha is:

   Altman Z-Score = 1.2 * 0.008 + 1.4 * 0.01 + 3.3 * 0.08 + 0.6 * 1 + 1.0 * 0.2 = 1.0876.

In general, when it comes to what is a good Altman Z-Score, the higher the score, the better. The higher the Altman Z-Score, the lower the probability of a company defaulting.

To put the topic into more context, let's quantify the Altman Z-Score. The following are the standard method to interpret the Altman Z-Score:

• If the Altman Z-Score is lower than 1.81, it means there is a high probability of the company defaulting;
• If the Altman Z-Score is higher than 3, it means there is a the probability of the company defaulting is low; and
• If the Altman Z-Score is between 1.81 and 3, it means there is no clear indicator, and further analysis is needed to be done to draw a conclusion

As a general rule of investing, it is usually dangerous to base your decision on merely one metric. Hence, always confirm your conclusion by looking at other similar metrics.