Zeta Model - Definition

A model used to predict the likelihood that a publicly-traded company will file bankruptcy in the coming two years. The zeta model derives a company's Z-Score, in which a high z-score indicates low likelihood of bankruptcy. The z-score is calculated as follows:

Z-Score = 1.2a + 1.4b + 3.3c + 0.6d + e

The variables are as follows:

a: the ratio of working Capital to total assets;

b: the ratio of retained Earnings to total assets;

c: the ratio of EBIT to total assets;

d: the ratio of the market value of the equity to total liabilities; and

e: the ratio of sales to total assets.

While several researchers had made attempts at bankruptcy prediction from as early as the 1930s, the original zeta model was the first real success. The zeta model was released in 1968 and, at that time, its purpose was more educational than predictive. It was used for several years in the academic world as a method of predicting corporate success or failure.

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