KZ index

What is the Kaplan-Zingales (KZ) index?

The KZ index is a relative measure of a company’s dependence on external financing. 

Formula:

KZ Index = -1.001909 x Cash flows / K + 0.2826389 x Q + 3.139193 x Debt / Total capital + -39.3678 x Dividends / K + -1.314759 x Cash / K

Where:

• Cash Flows = (Income before extraordinary items_t + Total depreciation and amortization_t )
• K = Property, Plant, and Equipment_t-1
• Q = (Market capitalization_t+ Total shareholder's equity_t- Book value of common equity_t- Deferred tax assets) / Total shareholder's equity_t
• Debt = Total long term debt_t+ Notes payable_t+ Current portion of long term debt
• Dividends = Total cash dividends paid_t(common and preferred)
• Cash = Cash and short-term Investments_t

Note that the model is a probabilistic model, so it will not perfectly predict which companies are financially constrained and which are not. In any case, it should help raise warning flags.

What does the KZ index mean?

The higher the KZ index, the more difficult the financial situation will be for a company when financial conditions worsen, as they may have difficulty financing current activities.