Altman's Z Score Model for Business

There are several criticisms of Altman's 'Z' score model. The model is based on ratios which are calculated from historic data. Clearly, past data is not necessarily a good indication of future performance and unexpected external factors can suddenly arise and have an effect on the company. Altman's 'Z' score model is able to predict company failure and this prediction is likely to be more and more accurate as we approach the failure date.

This prediction is at least 68% accurate from four years prior to the failure date and increases to 93% accurate one year before the failure date. In the years before this, the model is relatively inaccurate. Another criticism of Altman's model is the fact that it has a lack of a conceptual base. Altman's weightings relating to each of the ratios used in the equation have been tested and proven to be very accurate, but it is not stated how these figures were calculated and the theories and concepts behind these figures.

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Altman has defined the ratios that should be used when calculating the 'Z' score for a company from his model, but sometimes these ratios can contradict each other and some are more important than others. Altman's model is based upon the symptoms of the company's failure; by looking at how similar the ratio's and figures are to those of other companies that have failed in the past. The model does not look into any of the causes of the failure. There are also several criticisms of Argenti's model.

This model shows the defects and management mistakes of the concerning company. It has been criticised because these indicators may not be appropriate. There could be other important indicators of the future company failure that have been overlooked by Argenti, but that could equally show the company may not survive much longer. Another criticism is that the weightings that are assigned to each defect or mistake may not be suitable. They are assigned according to how important they are considered to be, but one analyst may consider them to be more important than another.

The final criticism of Argenti's model is that the time factors may not be fully taken into account. The model does not give any indication of when the company is likely to fail, unlike Altman's model which becomes more accurate nearer the failure date. It is clear that both of the models have a good reputation for being accurate, but are based on different aspects of the company failure. Altman's model is based on the symptoms of the company failure and Argenti's model is based on the causes of the company failure.

As we have recently entered an era of computer assisted work, the quickest and easiest model to use for the future would undoubtedly be Altman's 'Z' score model as this is the most uniform. However, it is useful to base a decision on results from a variety of analytic techniques. In this case I would use both Altman's method and Argenti's as they are based on such different aspects. There are also several other techniques such as: Balanced Scorecard, Economic Value Analysis and Tafler's model which could be used to give the user more information.