1111

Dr. Edward AltmanNYU Stern School of Business

Z-Score History & Credit Market Outlook

CT TMANew Haven, CTSeptember 26, 2017

Scoring Systems

2

• Qualitative (Subjective) – 1800s• Univariate (Accounting/Market Measures)

– Rating Agency (e.g. Moody’s (1909), S&P (1916) and Corporate (e.g., DuPont) Systems (early 1900s)

• Multivariate (Accounting/Market Measures) – Late 1960s (Z-Score) - Present– Discriminant, Logit, Probit Models (Linear, Quadratic)– Non-Linear and “Black-Box” Models (e.g., Recursive Partitioning Neural Networks,

1990s)

• Discriminant and Logit Models in Use for– Consumer Models - Fair Isaacs (FICO Scores)– Manufacturing Firms (1968) – Z-Scores– Extensions and Innovations for Specific Industries and Countries (1970s – Present)– ZETA Score – Industrials (1977)– Private Firm Models (e.g., Z’-Score (1983), Z”-Score (1995))– EM Score – Emerging Markets (1995)– Bank Specialized Systems (1990s)– SMEs (2000s)

• Option/Contingent Claims Models (1970s – Present)– Risk of Ruin (Wilcox, 1973)– KMVs Credit Monitor Model (1993) – Extensions of Merton (1974) Structural Framework

3

Scoring Systems(continued)

• Artificial Intelligence Systems (1990s – Present)– Expert Systems

– Neural Networks

– Machine Learning

• Blended Ratio/Market Value Models– Altman Z-Score (Fundamental Ratios and Market Values) – 1968

– Bond Score (Credit Sights, 2000; RiskCalc Moody’s, 2000)

– Hazard (Shumway), 2001)

– Kamakura’s Reduced Form, Term Structure Model (2002)

– Z-Metrics (Altman, et al, Risk Metrics, 2010)

• Re-introduction of Qualitative Factors/FinTech– Stand-alone Metrics, e.g., Invoices, Payment History

– Multiple Factors – Data Mining (Big Data Payments, Governance, time spent on individual firm reports [e.g., CreditRiskMonitor’s revised FRISK Scores, 2017], etc.)

– Enhanced Blended Models (2000s)

44

Major Agencies Bond Rating Categories

Moody's S&P/Fitch

Aaa AAAAa1 AA+Aa2 AAAa3 AA-A1 A+A2 AA3 A-

Baa1 BBB+Baa2 Investment BBBBaa3 Grade BBB-Ba1 High Yield BB+Ba2 ("Junk") BBBa3 BB-B1 B+B2 BB3 B-

Caa1 CCC+Caa CCC

Caa3 CCC-Ca CC

CC D

4

5

Problems With Traditional Financial Ratio Analysis

1 Univariate Technique

1-at-a-time

2 No “Bottom Line”

3 Subjective Weightings

4 Ambiguous

5 Misleading

6

Forecasting Distress With Discriminant Analysis

Linear Form

Z = a1x1 + a2x2 + a3x3 + …… + anxn

Z = Discriminant Score (Z Score)

a1 an = Discriminant Coefficients (Weights)

x1 xn = Discriminant Variables (e.g. Ratios)

Examplex

xx

xx

xx

x

x

xx

x

x x x

xx

x

x

xx

x x

xx

x

x

x

xx

xx

x x

x

x

xxx

EBIT

TA

EQUITY/DEBT

7

Z-Score Component Definitions and Weightings

Variable Definition Weighting Factor

X1 Working Capital 1.2

Total Assets

X2 Retained Earnings 1.4

Total Assets

X3 EBIT 3.3

Total Assets

X4 Market Value of Equity 0.6

Book Value of Total Liabilities

X5 Sales 1.0

Total Assets

8

Zones of Discrimination:Original Z - Score Model (1968)

Z > 2.99 - “Safe” Zone

1.8 < Z < 2.99 - “Grey” Zone

Z < 1.80 - “Distress” Zone

Time Series Impact On Corporate Z-Scores

9

• Credit Risk Migration- Greater Use of Leverage- Impact of HY Bond & LL Markets- Global Competition- More and Larger Bankruptcies

• Increased Type II Error

10

Estimating Probability of Default (PD) and Probability of Loss Given Defaults (LGD)Method #1

• Credit scores on new or existing debt

• Bond rating equivalents on new issues (Mortality) or existing issues (Rating Agency Cumulative Defaults)

• Utilizing mortality or cumulative default rates to estimate marginal and cumulative defaults

• Estimating Default Recoveries and Probability of Loss

Method #2

• Credit scores on new or existing debt

• Direct estimation of the probability of default

• Based on PDs, assign a rating

or

11

Median Z-Score by S&P Bond Rating for U.S. Manufacturing Firms: 1992 - 2013

Sources: Compustat Database, mainly S&P 500 firms, compilation by NYU Salomon Center, Stern School of Business.

Rating 2013 (No.) 2004-2010 1996-2001 1992-1995

AAA/AA 4.13 (15) 4.18 6.20* 4.80*

A 4.00 (64) 3.71 4.22 3.87

BBB 3.01 (131) 3.26 3.74 2.75

BB 2.69 (119) 2.48 2.81 2.25

B 1.66 (80) 1.74 1.80 1.87

CCC/CC 0.23 (3) 0.46 0.33 0.40

D 0.01 (33) -0.04 -0.20 0.05

*AAA Only.

12

All Rated Corporate Bonds*1971-2016

Mortality Rates by Original Rating

*Rated by S&P at IssuanceBased on 3,280 issues

Source: Standard & Poor's (New York) and Author's Compilation

Years After Issuance

1 2 3 4 5 6 7 8 9 10

AAA Marginal 0.00% 0.00% 0.00% 0.00% 0.01% 0.02% 0.01% 0.00% 0.00% 0.00%Cumulative 0.00% 0.00% 0.00% 0.00% 0.01% 0.03% 0.04% 0.04% 0.04% 0.04%

AA Marginal 0.00% 0.00% 0.20% 0.06% 0.02% 0.01% 0.01% 0.01% 0.02% 0.01%Cumulative 0.00% 0.00% 0.20% 0.26% 0.28% 0.29% 0.30% 0.31% 0.33% 0.34%

A Marginal 0.01% 0.03% 0.11% 0.12% 0.09% 0.05% 0.02% 0.24% 0.07% 0.04%Cumulative 0.01% 0.04% 0.15% 0.27% 0.36% 0.41% 0.43% 0.67% 0.74% 0.78%

BBB Marginal 0.32% 2.34% 1.24% 0.98% 0.49% 0.22% 0.25% 0.16% 0.17% 0.33%Cumulative 0.32% 2.65% 3.86% 4.80% 5.27% 5.48% 5.71% 5.86% 6.02% 6.33%

BB Marginal 0.92% 2.04% 3.85% 1.95% 2.42% 1.56% 1.44% 1.10% 1.41% 3.11%Cumulative 0.92% 2.94% 6.68% 8.50% 10.71% 12.11% 13.37% 14.32% 15.53% 18.16%

B Marginal 2.86% 7.67% 7.78% 7.75% 5.74% 4.46% 3.60% 2.05% 1.73% 0.75%Cumulative 2.86% 10.31% 17.29% 23.70% 28.08% 31.29% 33.76% 35.12% 36.24% 36.72%

CCC Marginal 8.11% 12.40% 17.75% 16.25% 4.90% 11.62% 5.40% 4.75% 0.64% 4.26%Cumulative 8.11% 19.50% 33.79% 44.55% 47.27% 53.40% 55.91% 58.01% 58.28% 60.05%

13

All Rated Corporate Bonds*1971-2016

Mortality Losses by Original Rating

*Rated by S&P at IssuanceBased on 2,714 issues

Source: Standard & Poor's (New York) and Author's Compilation

Years After Issuance

1 2 3 4 5 6 7 8 9 10

AAA Marginal 0.00% 0.00% 0.00% 0.00% 0.01% 0.01% 0.01% 0.00% 0.00% 0.00%Cumulative 0.00% 0.00% 0.00% 0.00% 0.01% 0.02% 0.03% 0.03% 0.03% 0.03%

AA Marginal 0.00% 0.00% 0.03% 0.02% 0.01% 0.01% 0.00% 0.01% 0.01% 0.01%Cumulative 0.00% 0.00% 0.03% 0.05% 0.06% 0.07% 0.07% 0.08% 0.09% 0.10%

A Marginal 0.00% 0.01% 0.04% 0.05% 0.05% 0.04% 0.02% 0.02% 0.05% 0.03%Cumulative 0.00% 0.01% 0.05% 0.10% 0.15% 0.19% 0.21% 0.23% 0.28% 0.31%

BBB Marginal 0.23% 1.53% 0.70% 0.58% 0.26% 0.16% 0.10% 0.09% 0.10% 0.18%Cumulative 0.23% 1.76% 2.44% 3.01% 3.26% 3.42% 3.51% 3.60% 3.70% 3.87%

BB Marginal 0.55% 1.18% 2.30% 1.11% 1.38% 0.74% 0.78% 0.48% 0.73% 1.09%Cumulative 0.55% 1.72% 3.98% 5.05% 6.36% 7.05% 7.78% 8.22% 8.89% 9.88%

B Marginal 1.92% 5.38% 5.32% 5.20% 3.79% 2.45% 2.34% 1.13% 0.91% 0.53%Cumulative 1.92% 7.20% 12.13% 16.70% 19.86% 21.82% 23.65% 24.52% 25.20% 25.60%

CCC Marginal 5.37% 8.68% 12.49% 11.45% 3.42% 8.61% 2.32% 3.34% 0.40% 2.72%Cumulative 5.37% 13.58% 24.38% 33.04% 35.33% 40.89% 42.27% 44.19% 44.42% 45.93%

14

Classification & Prediction AccuracyZ Score (1968) Failure Model*

1969-1975 1976-1995 1997-1999Year Prior Original Holdout Predictive Predictive PredictiveTo Failure Sample (33) Sample (25) Sample (86) Sample (110) Sample (120)

1 94% (88%) 96% (72%) 82% (75%) 85% (78%) 94% (84%)

2 72% 80% 68% 75% 74%

3 48% - - - -

4 29% - - - -

5 36% - - - -

*Using 2.67 as cutoff score (1.81 cutoff accuracy in parenthesis)

15

Z Score Trend - LTV Corp.

-1.5-1

-0.50

0.51

1.52

2.53

3.5

1980 1981 1982 1983 1984 1985 1986

Year

Z S

core

Grey Zone

Bankrupt

July ‘86

Safe Zone

Distress Zone

2.99

1.8

BB+BBB-

B- B-CCC+

CCC+

D

16

IBM CorporationZ Score (1980 – 2001)

00.5

11.5

22.5

33.5

44.5

55.5

6

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

Year

Z S

core

Operating Co.Safe Zone

Consolidated Co.

Grey Zone BBB

BB

B 1/93: Downgrade AAA to AA-

July 1993: Downgrade AA- to A

17Note: Consolidated Annual Results. Data Source: S&P Capital IQ, Bloomberg., Edgar

Z-Scores BRE

12/31/16 1.19 B-

12/31/15 1.30 B

12/31/14 1.41 B

12/31/13 1.52 B

12/31/12 1.49 B

12/31/11 1.59 B

12/31/10 1.56 B

12/31/09 0.28 CCC

03/31/09 (1.12) D

12/31/08 (0.63) D

12/31/07 0.77 CCC+

12/31/06 1.12 B-

12/31/05 0.96 CCC+

Z-Score Model Applied to General Motors (Consolidated Data):Bond Rating Equivalents and Scores from 2005 – 2016

18

Z-Score Model Applied to GM (Consolidated Data):Bond Rating Equivalents and Scores from 2005 – 2016

Z- Score: General Motors Co.

CCC+B-

CCC+

D

CCC

B B

D

B BB

B B-

-1.50

-1.00

-0.50

0.00

0.50

1.00

1.50

2.00

Dec

-05

Dec

-06

Dec

-07

Dec

-08

Dec

-09

Dec

-10

Dec

-11

Dec

-12

Dec

-13

Dec

-14

Dec

-15

Dec

-16

Z-Sc

ore

Z-Score

Ch. 11 Filing 6/01/09

Upgrade to BBB-by S&P9/25/14

Full Emergence from Bankruptcy

3/31/11

Emergence, New Co. Only, from Bankruptcy, 7/13/09

19

Applying the Z Score Models to Recent Energy & Mining Company Bankruptcies

Source: S&P Capital IQ

BREsZ-Score Z'‘-Score

t-1* t-2** t-1* t-2**# % # % # % # %

ABBB+BBBBBB-BB+ 1 2%BB 0 0%BB- 3 5%B+

2 6%1 2% 1 2%

B 3 5% 13 24%B- 3 5% 6 11%

CCC+5 16% 12 39%

1 2% 8 15%CCC 2 4% 8 15%CCC- 4 7% 9 16%D 26 84% 17 55% 41 75% 6 11%

Total 31 100% 31 100% 55 100% 55 100%

* One or Two Quarters before Filing** Five or Six Quarters before Filing

2015-9/15/2017

20

Additional Altman Z-Score Models:

Private Firm Model (1968)

Non-U.S., Emerging Markets Models for Non Financial Industrial Firms (1995)

e.g. Latin America (1977, 1995), China (2010), etc.

Sovereign Risk Bottom-Up Model (2010)

SME Models for the U.S. (2007) & Europe e.g. Italian Minibonds (2016), U.K. (2017), Spain (?)

21

Z’ ScorePrivate Firm Model

Z’ = .717X1 + .847X2 + 3.107X3 + .420X4 + .998X5

X1 = Current Assets - Current Liabilities

Total Assets

X2 = Retained Earnings

Total Assets

X3 = Earnings Before Interest and Taxes

Total Assets

X4 = Book Value of Equity

Total Liabilities

X5 = Sales

Total Assets

22

Z” Score Model for Manufacturers, Non-Manufacturer Industrials; Developed and Emerging Market Credits (1995)

Z” = 3.25 + 6.56X1 + 3.26X2 + 6.72X3 + 1.05X4

X1 = Current Assets - Current Liabilities

Total Assets

X2 = Retained Earnings

Total Assets

X3 = Earnings Before Interest and Taxes

Total Assets

X4 = Book Value of Equity

Total Liabilities

23

US Bond Rating Equivalents Based on Z”-Score Model

Z”=3.25+6.56X1+3.26X2+6.72X3+1.05X4

aSample Size in Parantheses. bInterpolated between CCC and CC/D. cBased on 94 Chapter 11 bankruptcy filings, 2010-2013.Sources: Compustat, Company Filings and S&P.

Rating Median 1996 Z”-Scorea Median 2006 Z”-Scorea Median 2013 Z”-Scorea

AAA/AA+ 8.15 (8) 7.51 (14) 8.80 (15)

AA/AA- 7.16 (33) 7.78 (20) 8.40 (17)

A+ 6.85 (24) 7.76 (26) 8.22 (23)

A 6.65 (42) 7.53 (61) 6.94 (48)

A- 6.40 (38) 7.10 (65) 6.12 (52)

BBB+ 6.25 (38) 6.47 (74) 5.80 (70)

BBB 5.85 (59) 6.41 (99) 5.75 (127)

BBB- 5.65 (52) 6.36 (76) 5.70 (96)

BB+ 5.25 (34) 6.25 (68) 5.65 (71)

BB 4.95 (25) 6.17 (114) 5.52 (100)

BB- 4.75 (65) 5.65 (173) 5.07 (121)

B+ 4.50 (78) 5.05 (164) 4.81 (93)

B 4.15 (115) 4.29 (139) 4.03 (100)

B- 3.75 (95) 3.68 (62) 3.74 (37)

CCC+ 3.20 (23) 2.98 (16) 2.84 (13)

CCC 2.50 (10) 2.20 (8) 2.57(3)

CCC- 1.75 (6) 1.62 (-)b 1.72 (-)b

CC/D 0 (14) 0.84 (120) 0.05 (94)c

24

Z and Z”-Score Models Applied to Sears, Roebuck & Co.:Bond Rating Equivalents and Scores from 2014 – 2016

Z and Z”- Score: Sears, Roebuck & Co.

0.00

0.50

1.00

1.50

2.00

2.50

3.00

2014 2015 2016

Z-Score Z"-Score

B+

B B-

D

CCC

CCC

25 2525

Current Conditions and Outlook in Global Credit Markets

Benign Credit Cycle? Is It Over?

26

• Length of Benign Credit Cycles: Is the Current Cycle Over? No.

• Default Rates (no)

• Default Forecast (no)

• Recovery Rates (no)

• Yields (no)

• Liquidity (no)

27

1978 – 2017 (Mid-year US$ billions)

Size of the US High-Yield Bond Market

Source: NYU Salomon Center estimates using Credit Suisse, S&P and Citi data.

$1,622

$-

$200

$400

$600

$800

$1,000

$1,200

$1,400

$1,600

$1,80019

7819

7919

8019

8119

8219

8319

8419

8519

8619

8719

8819

8919

9019

9119

9219

9319

9419

9519

9619

9719

9819

9920

0020

0120

0220

0320

0420

0520

0620

0720

0820

0920

1020

1120

1220

1320

1420

1520

1620

17

$ (

Bil

lio

ns

)

Straight Bonds Only Excluding Defaulted Issues From Par Value Outstanding, (US$ millions), 1971 – 2017 (9/18)

Historical H.Y. Bond Default Rates

28

Year

Par Value Outstandinga

($)

Par Value Defaults

($)

Default Rates

(%)

2016 1,656,176 68,066 4.110

2015 1,595,839 45,122 2.827

2014 1,496,814 31,589 2.110

2013 1,392,212 14,539 1.044

2012 1,212,362 19,647 1.621

2011 1,354,649 17,963 1.326

2010 1,221,569 13,809 1.130

2009 1,152,952 123,878 10.744

2008 1,091,000 50,763 4.653

2007 1,075,400 5,473 0.509

2006 993,600 7,559 0.761

2005 1,073,000 36,209 3.375

2004 933,100 11,657 1.249

2003 825,000 38,451 4.661

2002 757,000 96,855 12.795

2001 649,000 63,609 9.801

2000 597,200 30,295 5.073

1999 567,400 23,532 4.147

1998 465,500 7,464 1.603

1997 335,400 4,200 1.252

1996 271,000 3,336 1.231

1995 240,000 4,551 1.896

1994 235,000 3,418 1.454

1993 206,907 2,287 1.105

1992 163,000 5,545 3.402

1991 183,600 18,862 10.273

1990 181,000 18,354 10.140

a Weighted by par value of amount outstanding for each year.

Year

Par Value Outstanding*

($)

Par Value

Defaults ($)

DefaultRates

(%)

1989 189,258 8,110 4.285

1988 148,187 3,944 2.6621987 129,557 7,486 5.778

1986 90.243 3,156 3.497

1985 58,088 992 1.708

1984 40,939 344 0.840

1983 27,492 301 1.095

1982 18,109 577 3.186

1981 17,115 27 0.158

1980 14,935 224 1.500

1979 10,356 20 0.193

1978 8,946 119 1.330

1977 8,157 381 4.671

1976 7,735 30 0.388

1975 7,471 204 2.731

1974 10,894 123 1.129

1973 7,824 49 0.626

1972 6,928 193 2.786

1971 6,602 82 1.242

StandardDeviation

(%)

Arithmetic Average Default Rate (%)

1971 to 2016 3.133 3.363

1978 to 2016 3.347 3.191

1985 to 2016 3.820 3.312

Weighted Average Default Rate (%)*

1971 to 2016 3.490

1978 to 2016 3.494

1985 to 2016 3.508

Median Annual Default Rate (%)

1971 to 2016 1.802

Source: NYU Salomon Center and Citigroup/Credit Suisse estimates

2017 (9/18) 1,622,365 21,481 1.324

Quarterly Default Rate and Four-Quarter Moving Average

1989 – 2017 (9/18)

Source: Author’s Compilations

Default Rates on High-Yield Bonds

29

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

4 -Q

uart

er M

ovin

g A

vera

ge

Qua

rter

ly D

efau

lt R

ate

Quarterly Moving

Filings for Chapter 11

30

Number of Filings and Pre-petition Liabilities of Filing Companies

1989 – 2017 (9/18)

Note: Minimum $100 million in liabilitiesSource: NYU Salomon Center Bankruptcy Filings Database

Mean 1989-2016: 75 filingsMedian 1989-2016: 57 filings

0

40

80

120

160

200

240

280

$0

$100

$200

$300

$400

$500

$600

$700

$800

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

(9/1

8)

$ B

illi

on

Pre- Petition Liabilities, in $ billions (left axis) Median Liabilities Number of Filings (right axis) Median No. of Filings.

2016 (9/18)

77 filings and liabilities of

$111.6 billion

2017 (9/18)

63 filings and liabilities of $81.1 billion

June 01, 2007 – September 18, 2017

Sources: Citigroup Yieldbook Index Data and Bank of America Merrill Lynch.31

YTM & Option-Adjusted Spreads Between High Yield Markets & U.S. Treasury Notes

200

400

600

800

1,000

1,200

1,400

1,600

1,800

2,000

2,200

6/1/

2007

9/14

/200

7

12/3

1/20

07

4/15

/200

8

7/29

/200

8

11/1

1/20

08

2/26

/200

9

6/11

/200

9

9/24

/200

9

1/11

/201

0

4/26

/201

0

8/9/

2010

11/2

2/20

10

3/7/

2011

6/20

/201

1

10/3

/201

1

1/18

/201

2

5/2/

2012

8/15

/201

2

11/2

8/20

12

3/15

/201

3

6/28

/201

3

10/1

1/20

13

1/28

/201

4

5/13

/201

4

8/26

/201

4

12/9

/201

4

3/26

/201

5

7/9/

2015

10/2

2/20

15

2/8/

2016

5/23

/201

6

9/5/

2016

12/1

9/20

16

4/5/

2017

7/19

/201

7

Yield Spread (YTMS) OAS Average YTMS (1981-2016) Average OAS (1981-2016)

YTMS = 539bp,OAS = 544bp

12/16/08 (YTMS = 2,046bp, OAS = 2,144bp)

6/12/07 (YTMS = 260bp, OAS = 249bp)9/18/17 (YTMS = 397p, OAS = 368bp)

32

Comparative Health of High-Yield Firms (2007 vs. 2012/2014/3Q 2016)

Comparing Financial Strength of High-Yield Bond Issuers in 2007& 2012/2014/3Q 2016

33

YearAverage Z-Score/

(BRE)*Median Z-Score/

(BRE)*Average Z”-Score/

(BRE)*Median Z”-Score/

(BRE)*

2007 1.95 (B+) 1.84 (B+) 4.68 (B+) 4.82 (B+)

2012 1.76 (B) 1.73 (B) 4.54 (B) 4.63 (B)

2014 2.03 (B+) 1.85 (B+) 4.66 (B+) 4.74 (B+)

2016 (3Q) 1.97 (B+) 1.70 (B) 4.44 (B) 4.63 (B)

*Bond Rating EquivalentSource: Authors’ calculations, data from Altman and Hotchkiss (2006) and S&P Capital IQ/Compustat.

Number of Firms

Z-Score Z”-Score

2007 294 378

2012 396 486

2014 577 741

2016 (3Q) 581 742

Financial Distress (Z-Score) Prediction Applications

External (To The Firm) Analytics

Lenders (e.g., Pricing, Basel Capital Allocation)

Bond Investors (e.g., Quality Junk Portfolio

Long/Short Investment Strategy on Stocks (e.g.

Baskets of Strong Balance Sheet Companies &

Indexes, e.g. STOXX, Goldman, Nomura)

Security Analysts & Rating Agencies

Regulators & Government Agencies

Auditors (Audit Risk Model) – Going Concern

Advisors (e.g., Assessing Client’s Health)

M&A (e.g., Bottom Fishing)

Internal (To The Firm) & Research Analytics

To File or Not (e.g., General Motors)

Comparative Risk Profiles Over Time

Industrial Sector Assessment (e.g., Energy)

Sovereign Default Risk Assessment

Purchasers, Suppliers Assessment

Accounts Receivables Management

Researchers – Scholarly Studies

Chapter 22 Assessment

Managers – Managing a Financial Turnaround

MANAGING A FINANCIAL TURNAROUND: APPLICATIONS OF THE Z-SCORE MODEL

THE GTI CASE

35

Objectives

• To demonstrate that specific management tools which work are available in crisis situations

• To illustrate that predictive models can be turned “inside out” and used as internal management tools to, in effect, reverse their predictions

• To illustrate an interactive, as opposed to a passive, approach to financial decision making

36

Z-Score Component Definitions

Variable Definition Weighting Factor

X1

Working Capital

Total Assets1.2

X2

Retained Earnings

Total Assets1.4

X3

EBIT

Total Assets3.3

X4

Market Value of Equity

Book Value of Total Liabilities0.6

X5

Sales

Total Assets.999

37

Z-Score Distressed Firm Predictor:Application to GTI Corporation (1972 – 1975)

0.00

1.00

2.00

3.00

4.00

5.00

6.00

1972 1973 1974 1975

Z-Score

EPS = $0.09

EPS = $0.52

EPS = $0.19

EPS = ($1.27)

DistressZone

GreyZone

SafeZone

38

Management Tools Used

• Altman’s Distressed Firm Predictor (Z-Score)

• Function / Location Matrix

• Financial Statements

• Planning Systems

• Trend Charts

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Strategy Reason Impact

Consolidated Locations Eliminate Underutilized Assets

Z-Score

Drop Losing

Product Lines

Eliminate Unprofitable Underutilized Assets

Z-Score

Reduce Debt Using Funds Received from

Sale of Assets

Reduce Liabilities

and Total Assets

Z-Score

Managerial & Financial Restructuring Actions and Impact on Z-Score

40

Z-Score Distressed Firm PredictorApplication to GTI Corporation (1972 – 1984)

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

1972 1974 1976 1978 1980 1982 1984

Z-Score

EPS = $0.09

$0.52

$0.19

($1.27)

DistressZone

GreyZone

SafeZone

$0.15$0.28($0.29)

$0.70 $0.34

$0.40

41