Credit Risk Glossary
Credit risk, term by term
The vocabulary of credit assessment and credit management — credit scoring, creditworthiness, risk appetite, PD/LGD/EAD and more — defined in plain English. Pairs with our Credit Risk Hub.
A
- Altman Z-Score
- A classic bankruptcy-prediction formula combining five financial ratios (working capital, retained earnings, EBIT, market value of equity, and sales relative to assets) into a single score. Below the distress threshold, the model flags a materially elevated probability of insolvency within two years.
C
- Concentration risk
- The extra risk that comes from exposure being clustered — a few large customers, a single sector, or one geography. High concentration means one adverse event can move the whole portfolio, even when every individual counterparty scores well.
- Counterparty risk
- The risk that the other side of a contract or transaction fails to perform. In trade credit, the counterparty is usually a customer buying on open terms; in lending it is the borrower.
- Credit limit
- The maximum outstanding exposure a business is willing to carry against a single counterparty at one time. Limits are set from the credit score, the counterparty's financial size, and the seller's own risk appetite, and are reviewed as circumstances change.
- Credit policy
- The written rulebook for how a company grants credit: who must be assessed, which documents are required, what scores qualify for which terms, and who can approve exceptions. A clear policy keeps credit decisions consistent and auditable.
- Credit rating
- An opinion on creditworthiness expressed on a defined scale, from agency grades (AAA to default) down to the internal grades used by lenders and trade creditors. Ratings rank relative risk; a credit score estimates the probability of default directly.
- Credit scoring
- A statistical method that turns financial statements, payment behaviour, sector and country data into a numeric score predicting the likelihood that a company will fail to pay. Scores are used to automate approvals, set limits, and rank a portfolio by risk.
- Credit terms
- The conditions under which goods or services are sold without immediate payment — the payment window (e.g. net 30), any early-payment discount, and the credit limit. Terms translate a credit decision into day-to-day trading behaviour.
- Creditworthiness
- A qualitative or quantitative assessment of whether a counterparty is both able and likely to meet its obligations. It draws on payment history, financial strength, business stability and external context, and underpins every credit decision.
D
- Days Sales Outstanding (DSO)
- The average number of days it takes to collect payment after a sale. Rising DSO across a customer base is an early warning of deteriorating payment discipline; within a single account, stretching payment is often the first sign of distress.
- Default
- Failure to meet a payment obligation when it falls due. In credit risk modelling, default is the event scores try to predict — typically defined as 90 days past due, insolvency, or a formal restructuring of the debt.
E
- Expected Credit Loss (ECL)
- The forward-looking accounting measure of credit losses, required under IFRS 9, that combines probability of default, loss given default and exposure at default across the lifetime of an exposure. It replaced the older incurred-loss approach with earlier recognition of deteriorating credit.
- Exposure at Default (EAD)
- The total amount owed or at risk at the moment a counterparty defaults — outstanding invoices, undrawn credit lines likely to be drawn, and accrued interest. One of the three core inputs to expected loss.
I
- Insolvency
- The state of being unable to pay debts as they fall due, or of liabilities exceeding assets. Formal insolvency proceedings (liquidation, administration, examinership) are the hardest default events and typically end the credit relationship.
L
- Loss Given Default (LGD)
- The share of exposure that is actually lost after a default, once recoveries, collateral and guarantees are accounted for. Secured or insured exposures have lower LGD than unsecured trade credit.
P
- Payment behaviour
- The record of how a company actually pays its bills — on time, habitually late, or erratically — drawn from trade payment data and ledger history. Behavioural signals often move before financial statements do, which is why monitoring matters.
- Probability of Default (PD)
- The estimated likelihood that a counterparty defaults within a defined horizon, usually twelve months. PD is the primary output of a credit scoring model and the first input to expected loss calculations.
R
- Risk appetite
- The amount and type of credit risk an organisation is willing to accept in pursuit of its commercial goals, set by leadership and expressed in concrete limits — maximum single-name exposure, sector caps, minimum scores for open terms. Credit policy operationalises risk appetite.
- Risk-based approach
- Allocating assessment effort in proportion to risk: higher-risk counterparties get deeper checks, tighter limits and more frequent review, while low-risk relationships are handled with proportionate, faster processes.
- Risk mitigation
- Techniques that reduce exposure without ending the relationship — credit insurance, guarantees, letters of credit, shorter terms, partial prepayment, or reduced limits. Mitigation lowers LGD or EAD rather than the counterparty's PD.
S
- Stress testing
- Modelling how a credit portfolio behaves under adverse scenarios — a sector downturn, a currency shock, a major customer failure. Stress tests reveal concentration and resilience issues that single-name assessments miss.
T
- Trade credit
- The credit a supplier extends to its customers by selling on open payment terms instead of demanding cash up front. For most B2B companies, trade credit is the largest unmanaged credit exposure on the balance sheet.
Keep reading on credit risk
The full guide to credit risk management, worked case studies of public corporate failures, and our latest credit risk insights.
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