Case 1: Bankruptcy Prediction

The Z-score bankruptcy prediction model uses balance sheet and income information to
arrive at a Z-Score, which can be used to predict financial distress:

EBIT is earnings before interest and taxes. MV Equity is the market value of common equity,
which can be determined by multiplying stock price by shares outstanding.
Following extensive testing, it has been shown that companies with Z-scores above
3.0 are unlikely to fail; those with Z-scores below 1.81 are very likely to fail. While the
original model was developed for publicly held manufacturing companies, the model has
been modified to apply to companies in various industries, emerging companies, and
companies not traded in public markets.
Instructions
(a) Use information in the financial statements of a company like Walgreens or Deere & Co.
to compute the Z-score for the past 2 years.
(b) Interpret your result. Where does the company fall in the financial distress range?

Case Solution

The Annual reports of 2 different companies of food and allied industry for the year 2012
and 2011 have been collected from Dhaka Stock Exchange (DSE). The current stock prices of
the companies are collected form the website of DSE. The various components required for
calculating the Z-score are then inserted in the Microsoft Excel sheet and the Z-score is
computed according to the formula provided in the case. The components along with the Z-
score for the two years are shown in the following table:

Fu-Wang
Foods (2012)
Fu-Wang
Foods (2011)
British American
Tobacco (2012)
British American
Tobacco (2011)
Current Assets 474,731,242 471,814,728 9,172,866 7,774,415
Current Liabilities 260,109,346 245,131,079 7,029,777 6,300,705
Working Capital 214621896 226683649 2,143,089 1,473,710
Retained Earnings 105,398,985 61,966,056 6,368,044 5,246,404
EBIT 103,701,847 104,820,171 6,501,462 4,913,656
Sales 758,459,050 709,168,568 90,174,080 75,357,351
Stock Price 24.4 28.4 1,709.9 902.9
Shares outstanding 53,433,600 41,104,833 60,000,000 60,000,000
MV Equity 1303779840 1167377257 102,594,000,000 54,174,000,000
Total Assets 999,896,891 909,734,784 15,034,493 13,151,049
Total Liabilities 260,109,346 245,131,079 8,001,553 7,239,749
Z-score 4.51 4.40 7701.2 4497.3

We can see that both the companies have Z-scores which are above 3.0 which mean they
are unlikely to fail. The Z-score of Fu-Wang Foods was 4.40 in 2011 and 4.51 in 2012
(increase of 0.11), which means the likeliness of Fu-Wang Foods of getting in financial
distress has decreased and its financial condition has improved. Same goes for British
American Tobacco (BAT), but in case of BAT, the increase is of 3203.9. The Z-scores of the
two consecutive years was already, way above 3.0 and hence BAT is financially in a good
position.
According to Z-score bankruptcy prediction model, both Fu-Wang Foods and British
American Tobacco are financially unlikely to fail, but British American Tobacco is certainly
not going to be in financial distress, theoretically.

Bibliography