In the late 1960s, a junior professor at NYU, Edward Altman, published a formula that would change finance: the Altman Z-score. Altman researched nearly 70 bankrupt manufacturing companies’ financial statements pre-bankruptcy to determine what these companies had in common. This research gave rise to an easy-to-use equation that could predict bankruptcy.
Altman’s Z-score has since been modified to address sector specificity and accounting changes, but the original version is still utilized by investors, professors, and business students alike to predict a company’s chance of default. Considering that a bankruptcy is tremendously destructive to value, it is imperative to factor this scenario into your forward-looking analysis.
With BlackBerry Ltd (NASDAQ:BBRY)’s admission that it needs help by forming a strategic committee to “explore strategic alternatives to enhance value and increase scale in order to accelerate BlackBerry 10 deployment,” it’s a good time to visit its Z-score.
What’s in a Z-score?
The Altman Z-score uses income statement and balance sheet line items in the following equation:
Below are the unweighted calculations of each category and the final weighted Z-score for the last 12 months, 2013, and 2012.
While no formula is perfect, Altman’s original work predicted bankruptcy roughly 80%-90% of the time. You can see that BlackBerry Ltd (NASDAQ:BBRY) has entered the “gray area.” However, the trend should be a reason for concern. Falling sales and EBIT have led to a Z-score ~30% lower than 2012.
What’s bruising BlackBerry?
Techies are a fickle bunch. What is cool and “in” one year, quickly fades with new entrants, updates, and iterations. BlackBerry Ltd (NASDAQ:BBRY) never quite caught on to this fact. Anecdotally, it was more concerned with a full-sized keyboard than developing a robust suite of apps to bolster its ecosystem. Its myopic focus on hardware and handsets allowed competitors like Apple Inc. (NASDAQ:AAPL) and Google Inc (NASDAQ:GOOG) to create or partner with handset creators to produce stronger, more durable ecosystems. As a matter of fact, Apple recorded more revenue from its iTunes/software/services category (4.0 billion) than BlackBerry did in total (3.0 billion) last quarter. Google took a different approach in developing its ecosystem. It decided to partner with handset makers through its Android OS to bolster search in the mobile market — and it worked. According to COMSCORE, Inc. (NASDAQ:SCOR), Google’s percentage of search was 67% in July, and an eye-opening report from Business Insider Intelligence pegged Google’s mobile search market share at 97% in May 2012. Both competitors have established strong moats that may be fatal to BlackBerry.