Factoring Invoices in a Slowing Economy

When your company is being negatively impacted by a slowing economy, you might consider using accounts receivable factoring as a financial resource. It is important to perform an analysis of your current financial health to see if you're a candidate for factoring. One way to do that is to calculate a Z-score. This analysis was developed in the 1960's by a statistician named Edward Altman. The Z-score is a combination of various financial statement ratios taken from both the balance sheet and income statement. The formula is as follows:

Ratio Weighted Average
1. EBIT/Total Assets 3.3
2. Net Sales/Total Assets .999
3. Equity Mkt. value/Total liabilities .60
4. Working Capital/Total Assets 1.2
5. Retained Earnings/Total Assets 1.4

The model asserts the following:

A Score over 3: reflects a company on solid footing
Between 2.7 and 2.99: The factoring company should exercise caution and require increased monitoring.
Between 1.8 and 2.7: There is a good chance of the company going bankrupt within 2 years.
Less than 1.8: 94% chance that the company will need to file bankruptcy within the next year.

The Z-score is widely used as a barometer of financial health and a predictor of bankruptcy in the short term. Other fundamental methods should be used in conjunction with the Z-score such as financial trend analysis of revenues, expenses, and profits. In addition, there may be internal and external factors that could change the ratios in the future such as new product roll-outs, mergers, and new competitors in the industry.

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