It was no surprise to see prominent mention of business information services like Dun & Bradstreet, Info USA, Equifax, and Hoovers for checking a company’s creditworthiness. Less familiar to me was the z-score, a credit check calculation that anyone can perform without the assistance of a third-party service.
The z-score formula adds together the ratios of five common financial metrics to total assets or liabilities: working capital, retained earnings, earnings before interest and taxes (EBIT), market or book value and sales. For non-manufacturing companies, final calculations that fall below 2.6 are considered cause for concern. For more information on the calculation and how to interpret the results, I encourage you to read the article.
Now, as the article points out, this is not an exercise you would want to perform with every supplier. The focus should be on strategic suppliers. And I would place in that category those vendors you are considering to help streamline your sourcing, procurement, or payable operations.
Because of the growth potential in these markets, many niche vendors are looking to exploit them. After listening to a business presentation and viewing the product demo, make sure to ask for the company’s balance sheet, income statement, and market valuation of equity, so you can calculate the z-score. This information is readily available for public companies but requires more sleuthing for small, private companies.
Taking this step could prevent you from entrusting vital business applications to a financially struggling company that may not be able to support you long term. In this case, a little due diligence can go a long way.
So tell me...if you vendor is in the black...will you get the blues?