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# Altman Z-Score Calculator

What is Altman Z-Score?How to calculate Altman Z-Score? The Altman Z-Score formulaHow to interpret the Altman Z-Score?FAQs

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.

## What is Altman Z-Score?

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 .

## How to calculate Altman Z-Score? The Altman Z-Score formula

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.

## How to interpret the Altman Z-Score?

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.

FAQs

### What is EBIT?

EBIT stands for earnings before interests and taxes. In short:

EBIT = net income + interest expenses + taxes.

It is usually interpreted as the operating income.

### How is the Altman Z-Score equation formed?

Unlike the usual credit analysis models, which are derived qualitatively, the Altman Z-Score is a quantitate model. The Altman Z-Score formula was designed by Professor Edward Altman and its coefficients are determined using discriminant analysis

### What is a good Altman Z-Score?

As a general rule of thumb, a Altman Z-Score that is higher than 3 signifies a healthy company. On the other hand, a Altman Z-Score lower than 1.81 means that the probability of the company defaulting is significant.

### Can Altman Z-Score be negative?

Mathematically, yes, since EBIT and net working capital can be negative. However, this is quite rare as the sales and market value of equity figures are usually a lot larger than these figures.