What is a Z-Score?

As one of the common indicators used to gauge the stability of a business, the z-score is a measure of the difference between the value of the company and the average value of companies of similar size and functioning as part of the same industry. Sometimes referred to as a standard score, it is a principle that is requires investigation into several different aspects of the business operation in order to be effective.

The z-score often involves careful research, so that a number of ratios regarding aspects of the corporation can be developed and applied. Among the data that is collected is the rate of production, average pay per hourly employee, marketing budget, capital assets, and growth projections for the next several years. Along with this, the measure will also include a thorough credit analysis. The financial condition of the company, including the credit-worthiness of the corporation, provides a great deal of relevant information that can be compared with industry averages.

Each of the components that make up the final score are rated independently, but each component does not carry equal weight in the final determination. The exact emphasis on each factor may vary slightly from one industry to another. It is important to note, however, that a low z-score often indicates that the company has serious issues that should be addressed. Essentially, one under two indicates there is a strong chance of the company going into bankruptcy.

One of most helpful applications of the final z-score involves the determination to invest in a company. Because the measurement helps to not only affirm the financial and operational stability of the company, this tool demonstrates how the corporation measures up to the competition. This means that a high score will indicate that the corporation is stable, currently profitable, and exhibits the potential to expand over the next several years.