SIX

Recently, Moody’s released a list of what they call “Bottom Rung Companies” which is based on the company’s ability, or lack thereof, to pay back the debt it owes. The 283 companies on the list roughly represent the riskiest 15% of all firms that Moody’s tracks. Moody’s does not always designate the most appropriate ratings (Fannie Mae and Freddie Mac were rated AAA before defaulting), so we decided to take their list into our own hands and provide the true bottom rung companies.

With so much negative news going around and many companies declaring bankruptcy, it is no surprise that measures of a firm’s financial strength, such as the Altman Z-Score (likelihood of a company to go bankrupt in the next 2 years), have been re-gaining popularity in the current market environment. So to help with our analysis, we used the Z-Score metric to analyze the companies on Moody’s list, as well as The Applied Finance Group’s (AFG’s) screening variables to determine how attractive these firm’s are from a valuation standpoint, and how each company’s forecasted profitability for their fiscal 2009 year looks (Forecasted Economic Margin). As a result, ValueExpectations.com has put together a list of the 17 “riskiest” companies to avoid. Each of these companies have “at risk” level Z-Scores, unattractive valuations, and are forecasted to achieve negative profitability (EM) for their 2009 fiscal year, all of which indicate that they will be more likely to underperform.

Below the table is a short description of the Altman Z-score and a breakdown of what the scores mean, along with a brief description of what Economic Margin (EM) is and how it is calculated.

 17 Companies At Risk of Bankruptcy

 The Altman Z-score defined: A metric that gives insights into the likelihood of a firm going bankrupt in the next 2 years. The model was developed by Professor Edward I. Altman of the NYU’s Stern School of Business and first published in The Journal of FINANCE in September 1968.

The Altman Z-Score breaks down firms into 3 zones:

• >2.99 – Not Likely to go Bankrupt

• 1.8 - 2.99 – Gray Area

• <1.8 – Likely to go Bankrupt in the Next 2 Years

Economic Margin (EM) Defined: A measure of corporate performance that captures off balance sheet items, by looking at how much a company is earning above or below their cost of capital. EM is expressed in a % or margin. The Economic Margin Framework™ is more than just a performance metric as it encompasses a valuation system that explicitly addresses the four main drivers of enterprise value: profitability, competition, growth and cost of capital. more EM details (PDF)

 Economic Margin Calculation:

Related Article: EPS Increased.....Company Underperformed?

Related: Read our Economic Margin white paper which was published in the book: Value-Based Metrics: Foundations and Practice Edited by: Frank J. Fabozzi and James L. Grant Pages 157 – 178: Click Here

Rick Newman with U.S. News and World Reports put together an interesting piece about 15 companies that may not survive 2009 because these firms all carry large amounts of debt with very little cash on their books. These 15 firms all have been labeled with "very high" credit risks by Moody's.

By using The Applied Finance Group's (AFG’s) intrinsic value chart, one would have identified many of these companies as possessing great investment risks, long before they became red flags among the masses. Let's take a look at what AFG thinks of the 8 publicly traded firms by using AFG’s Intrinsic Value Chart and a brief explanation of the chart.

AFG’s Intrinsic Value Chart: identifies how far a stock’s trading range deviates from its intrinsic value (target price assuming immediate decay), which helps you recognize potentially mispriced stocks and pursue long and short opportunities.

• The Blue Bars represent the high and low trading range for a stock for 1 year.
• The red dotted line represents Applied Finance Group’s (AFG’s) historical Intrinsic Value through time.
• When the red line (Intrinsic Value) is above the blue bars (trading range) the company looks to be undervalued.
• When the red line (Intrinsic Value) is below the blue bars (trading range) the company looks to be overvalued.

AFG’s Intrinsic Value Chart also contains a company’s Value Score (ranked valuation attractiveness), Economic Margin Change (expected improvement of economic profitability), and Accuracy (how well AFG’s default valuation has tracked the company) information.

A quick takeaway from the charts is: From AFG’s perspective, TRMP, SIRI, SIX, and RAD shares are currently worth nothing. KKD’s intrinsic value is below its latest trading price. DTG, BBI, and LNY shares appear to be worth more than where they are traded at. AFG’s valuation framework estimates a company’s equity value by subtracting debt and other liabilities from the total enterprise value. The total enterprise value is estimated by discounting projected future cash flows, utilizing analysts conensus, Economic Margin methodology, and the Decay concept which addresses the perpetuity bias in the traditional DCF model. In the case of TRMP, SIRI, SIX, and RAD, those companies are so leveraged that the values of their future cash flows are not sufficient to pay off their debt obligations.

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