ACCT6003 Fundamental Analysis for Equity Investment
Week 12 Assignment on Financial distress
Marks: 6/100
Deadline for submission: Before the lecture of Week 13.
In April 2020, Virgin Australia, one of Australia’s two major airlines filed for voluntary administration. Its major competitor and industry leader, Qantas, also experienced financial difficulties due to the COVID-19 crisis. This exercise seeks to explore whether the problems that led to Virgin’s demise were specific to the pandemic crisis and the restrictions to movement imposed by world governments, or they were a result of past problems leading to the COVID-19. We also seek to understand the financial health of Qantas during the same period given that it was the key competitor to Virgin and was impacted in a similar manner by the COVID-19 crisis.
You are required to use the provided Excel spreadsheet template to perform credit analysis using the Altman (2000) z-score model and fundamental analysis using the Piotroski (2002) F-score. In the lecture of Week 11 we briefly presented the Altman z-score, and at the end of this assignment, you are provided with a summary of both the Altman z-score and the Piotroski F-score models. You are required to self-learn more about both models by reading the articles by Altman (2000) and Piotroski (2002) that are available on Canvas under the Week 11 Readings. You will be judged on your ability to read and apply the knowledge and instructions from these two articles. In the Week 12 Canvas webpage, you are also provided with the annual reports of Qantas and Virgin.
Required
Using the provided Excel template, for both Virgin Australia and Qantas and for all years from 2016 to 2019 inclusive, you are required to:
(1) Discover information from annual reports to calculate the annual Altman z-scores using the template provided the worksheet ‘Q1. Altman z-score ’. [1 mark]
(2) In the worksheet named ‘Q2. Atlman discussion ’ and in no more than 150 words, explain the usefulness or the limitations of the Altman z-score in helping predict financial distress for Virgin and Qantas. [1.5 marks]
(3) Discover information from annual reports to calculate the annual Piotroski F-scores using the template provided the worksheet ‘Q3. Piotroski F-score ’. [2 marks]
(4) In the worksheet named ‘Q4. Piotroski discussion ’ and in no more than 150 words, explain the usefulness or the limitations of the Piotroski F-score in helping predict financial distress for Virgin and Qantas. [1.5 mark]
Altman Z-score formula with time indices
To calculate the Altman Z-scores use this formula:
Piotroski’s F-score summary
Joseph Piotroski’s F-score is a composite measure of the firm’s credit risk and fundamental performance. It is calculated as the sum of nine binary variables on profitability, financial leverage/liquidity, and operating efficiency. The nine binary variables are defined as follows:
Profitability variables
• 1 if the return on total assets is positive.
• 1 if the reported cash flow from operations is positive.
• 1 if the current year’s return on assets is greater than the prior-year’s return on assets.
• 1 if the reported cash flow from operations is greater than net income.
Credit risk and source of funds variables
• 1 if total debt is lower than the previous year’s total debt.
• 1 if the current-year current ratio is higher than its previous year’s current ratio.
• 1 if the firm has not issued new common stock to the market in the current year.
Operating efficiency variables
• 1 if the gross profit margin is higher than the previous year’s gross profit margin.
• 1 if the asset turnover ratio is higher than the previous year’s asset turnover.
In the end, add up the binary indicators to a total score of 0 to 9; the closer to 9 the better the company’s fundamental performance.
Note that Piotroski’s definition of ratios, such as “return on total assets” or “asset turnover ratio”, might be different from what you have been taught in ACCT6003. You are required to learn how these variables must be computed in accordance to Piotroski’s instructions.