The Bankruptcy Risk Meter gives a visual representation of how likely a company is to head into serious financial difficulty within the next two years.
The meter is derived from the Altman Z-Score, a statistical bankruptcy indicator generated from a set of balance sheet ratios. If the meter is in the safe zone (*indicating a Z-Score greater than 3*) the financial health of the company is good, whereas a company is in serious trouble if the meter is in the distress zone (*indicating a Z-Score less than 1.8*). Tests have shown that the Distress Zone is 80-90% accurate in predicting bankruptcy.
Bhp Billiton has an Altman Z2 of 4.92 indicating
the company is likely to be in good financial health.
The Altman score is based on multi-variate analysis. However, the following tests give an indication for the key factors driving the Z-score (by assessing whether Bhp Billiton is closer to the average value for bankrupt vs. non-bankrupt firms):
Are liquid assets a significant proportion of the assets?
Ordinarily, a firm experiencing consistent operating losses will have shrinking current assets in relation to total assets. Altman found this to the most helpful liquidity ratio (the current and quick ratio were subject to contradictory trends amongst failing firms). This is however the least significant of the five factors.
Testing:
Working Capital/Total Assets > 0.2375
Bhp Billiton Details:
Working Capital/Total Assets = 0.019
Do reinvested earnings make up a significant portion of the assets?
This measures cumulative profitability over time as a proportion of total assets. This discriminates against younger firms (c. 50% of all failings companies do so in their first five years of existence). In addition, this measures the leverage of a firm (high scoring firms have financed their assets through retention of profits, rather than debt). Note: the Retained Earnings figure used includes all shareholder reserves. Altman notes that these are subject to "manipulation" via corporate quasi-reorganizations, so this could require further adjustment.
Testing:
Retained Earnings/Total Assets > -0.1355
Bhp Billiton Details:
Retained Earnings/Total Assets = 0.49
Are the assets relatively productive in terms of earnings?
This is the most significant factor in the Altman score. It measures the true productivity of the firm’s assets, independent of any tax or leverage factors.Since a firm’s ultimate existence is based on the earning power of its assets, Altman found that this measures continually outperforms other profitability measures in assessing the risk of corporate failure, including cash flow.
Testing:
Earnings Before Interest and Taxes/Total Assets > -0.082
Bhp Billiton Details:
Earnings Before Interest and Taxes/Total Assets = 0.12
Does firm value compare favourably to its liabilities?
Bhp Billiton Details:
Market Value of Equity/Book Value of Total Liabilities = 2.34
For further information on how the Z-Score is calculated click here.
For a list of the stocks with the worst Altman Z Scores click here.
