Credit risk
Virtually every organization that sells on credit is exposed to credit risk. By identifying risks early and actively managing them, you can avoid financial surprises and protect your cash flow, profitability, and business continuity.
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What is credit risk?
Credit risk is the risk that a customer, supplier, or other business partner will fail to meet its financial obligations or will fail to do so on time. As a result, an organization may face late payments or even a total financial loss if outstanding invoices ultimately go unpaid.
For organizations that extend credit to businesses—for example, by supplying goods or services on credit—credit risk is a daily reality. The larger the customer base and the higher the outstanding balances, the more important it becomes to actively manage this risk.
For organizations that extend credit to businesses—for example, by supplying goods or services on credit—credit risk is a daily reality. The larger the customer base and the higher the outstanding balances, the more important it becomes to actively manage this risk.
A sound credit risk policy helps organizations to:
- to limit financial losses;
- make better business decisions;
- to build healthy customer relationships;
- to ensure the continuity of the organization.
What types of credit risk are there?
Not all credit risks are the same. Depending on the business relationship and the situation, different types of credit risk may arise.
⇨ Accounts receivable risk
Accounts receivable risk is the most common type of credit risk. It involves the possibility that customers will not pay their invoices or will pay them late. This leads to higher outstanding balances, additional collection costs, and pressure on liquidity.
For organizations that frequently deliver on account, this often poses the greatest financial risk.
⇨ Supplier Risk
Suppliers can also pose a credit risk. If a key supplier runs into financial difficulties or goes bankrupt, this can lead to supply problems, production downtime, or higher purchasing costs.
Supplier risk is therefore increasingly being factored into supply chain risk management.
Check out the Supplier Risk Intelligence platform by Altares.
⇨ Concentration Risk
When a large portion of revenue comes from a single customer, a limited number of customers, or a specific industry, a concentration risk arises.
Even when individual customers are creditworthy, an economic downturn in a single industry can have a major impact on your organization.
By diversifying the customer portfolio sufficiently, this risk is reduced.
⇨ Country Risk
Doing business internationally involves additional risks. Political instability, economic recessions, currency risks, or changes in legislation can result in foreign customers or suppliers being unable to fulfill their obligations.
That is why an understanding of country risk is also essential in international credit management.
Read the blog about getting control over international credit risks
How do you measure credit risk?
Credit risk cannot be determined by a single number. Organizations combine various data sources and indicators to obtain a comprehensive picture of the risk.
Credit Score
A credit score provides an at-a-glance indication of the risk that a company will fail to meet its payment obligations.
The score is based on a combination of historical data and predictive risk models.
More about: Credit score.
And about the D&B Rating and Scores and the D&B Paydex®.
Credit Report
A credit report contains the underlying information on which a credit assessment is based.
In this document, you will find, among other things:
- company information;
- financial figures;
- payment experiences;
- structural concerns;
- legal events;
- credit scores;
- risk assessments.
Interesting read: Credit report.
Creditworthiness
A company's creditworthiness describes how likely it is that an organization will be able to meet its financial obligations.
Creditworthiness is one of the most important indicators in credit risk management.
More about: Kredietwaardigheid.
Payment behavior
Organizations that habitually pay late generally pose a greater credit risk than those that consistently pay on time.
What factors influence credit risk?
An organization's credit risk is determined by a combination of internal and external factors.
Internal factors
Much of the credit risk arises because organizations lack sufficient control over their own credit process.
Examples of this include:
- no clear credit approval;
- lack of credit limits;
- insufficient monitoring of payment behavior;
- no periodic credit ratings;
- lack of or limited monitoring;
- fragmented customer information.
When credit decisions are based primarily on experience or gut feelings, the risk of financial setbacks increases.
External factors
- economic recessions;
- rising interest rates;
- inflation;
- industry trends;
- customer bankruptcies;
- changing laws and regulations;
- geopolitical developments.
These external factors can cause even financially sound companies to suddenly run into trouble.
Managing Credit Risk: The Key Steps
An effective credit policy consists of several sequential steps. By applying these steps systematically, organizations can significantly reduce credit risk.
1. Screen new customers in advance
Before extending credit, it is wise to first assess a company’s creditworthiness. This will help you avoid doing business with organizations that are already experiencing financial difficulties.
Interesting read: Perform a credit check.
2. Set an appropriate credit limit
Not every customer needs to be given the same payment terms. By setting an appropriate credit limit for each customer, you can prevent the financial risk from becoming unnecessarily high.
Interesting read: Set a credit limit.
3. Monitor customers continuously
A credit rating is just a snapshot.
Companies are constantly changing. New debts, changes in management, payment problems, or bankruptcy filings can significantly affect a company’s risk profile.
Continuous monitoring ensures that you are automatically notified of important changes.
Meet The intelligent credit risk platform for modern credit teams
4. Take action early
When risks increase, you can take steps to prevent problems from arising.
Examples include:
- Adjust credit limit;
- request an advance payment;
- shorter payment terms;
- require additional collateral;
- more intensive accounts receivable management.
By taking action early, you can prevent greater financial losses.
Automating Credit Risk
Many organizations still assess credit risk manually, for example, when establishing a new customer relationship. However, as the number of customers grows, this approach becomes less and less effective.
Automated credit information makes it possible to manage credit risk continuously and at scale.
By integrating credit information with CRM, ERP, or financial systems, organizations can:
- perform automatic credit checks;
- receive real-time risk alerts;
- automatically monitor credit limits;
- process changes immediately;
- make consistent credit decisions.
As a result, credit risk management becomes less reliant on manual checks, leading to a more efficient credit process.
Manage credit risk by using the D&B Finance Analytics platform.
What are the costs of failing to manage credit risk?
Inadequate management of credit risk often has consequences that go beyond just a few unpaid invoices.
Possible consequences include:
- accumulating payment arrears;
- higher DSO (Days Sales Outstanding);
- rising collection costs;
- write-offs of accounts receivable;
- liquidity problems;
- higher financing costs;
- loss of profitability.
If multiple customers experience payment difficulties at the same time, this could even put the continuity of your own organization at risk.
By systematically monitoring credit risk and making timely adjustments, these risks remain manageable.
Interesting read: Reducing DSO and Accounts Receivable Management.
Manage credit risk with up-to-date business information
Do you want to not only assess credit risk, but also manage it on an ongoing basis?
With the Credit Risk Management Solutions Altares provides you with insights into the creditworthiness, credit limits, and risk indicators of companies worldwide. By utilizing up-to-date company information and continuous monitoring, you can respond more quickly to changes and mitigate financial risks.
Check out the Credit Risk Management Solutions or download the white paper “Three Steps to Credit Risk Automation”.
Credit score is part of credit risk management. Read more about it here on our Credit Risk Management page.
Direct contact with a Credit Risk specialist.
Be sure to check out our other Learn pages for additional insights and in-depth knowledge.
