After suffering the heavy losses in few of my earlier stocks in Chinese companies, I was away from the stock market. Few weeks were very painful to overcome the fear of investment. Though, the reason of the stocks got bankrupt, were simple. Both the companies – China Agritech (CAGC) & Wonder Auto (WATG) was a fraud and de-listed from the New York Stock Exchange (NYSE).
So, What’s the Likelihood of company going bankrupt?
Here comes the Altman Z-score to gauge the possibility of solvency a corporate (credit-strength test) for publicly traded manufacturing company.
What is the ‘Altman Z-Score’?
Altman Z-score is based on 5 financial ratios that are calculated from the company balance sheet found in quarterly statements.
For manufacturing sector z-score= 1.2A + 1.4B + 3.3C + 0.6D + 1E
For non-manufacturing sector z-score= 6.56A + 3.26B + 6.72C + 1.05D
Where A, B, C, D and E are following parameters:
A= Working Capital / Total Assets [Liquid assets measurement]
B = Retained Earnings / Total Assets [Profitability Measurement]
C = Earnings Before Interest and Taxes / Total Assets [Operating efficiency Measurement]
D = Market Value of Equity / Book Value of Total Liabilities [Valuation measurement]
E= Sales/ Total Assets. [Asset turnover measurement]
My Notes on Altman Z-Score check
- Altman z-score is a likelihood and not a prediction. The score measures the probability of default due to the financial distress based on the current financial statistics of the company.
- I invest strategically for the long-term. Though, I have many example where this proved incorrect. So, I consider this an important information.
- This is not full-proof test. It’s rather for statistical satisfaction. I do due diligence on 7-checks of highly effective investors. Stay tuned for next posts.
At what frequency need to calculate Altman Z-Score?
Since the price of the stock changes in market, I calculate it before buying. (actually, on many website, it is readily available). I check sites like morningstar, marketwatch, or simply Google. Easy isn’t it?