Corporate insolvency can be very difficult and time consuming to predict, so shortcut measures have become popular ways to asses the creditworthiness and risk of companies. In a recent ABI Journal article, Brattle Associates Nitin Bajaj and Dr. Adrienna Huffman and Principal David Plastino review various solvency shortcut measures –including the Altman Z-Score – and conduct an empirical analysis to assess the ability of these measures to predict future insolvency.
In their review, the authors found that – while bankruptcy shortcut measures are predictive of insolvency – no single measure is perfect, and the predictive power of the different methods is dependent on each company’s characteristics. Although the simplicity of using a single ratio or metric can be advantageous, analyzing multiple metrics as a best practice will likely lead to more robust predictions.
The full article, “Solvency Shortcuts: The Use and Misuse of Simple Tools for Predicting Financial Distress,” is available below.