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4 common credit analysis mistakes and how to avoid them

Kate Randazzo
July 31, 2026
0 min read

The credit mistakes we keep making

Commercial lenders have access to more information than ever before, yet problem loans still happen. The following are four common credit analysis mistakes that lenders can avoid by asking better questions and identifying risk before it becomes obvious.

This article covers these key topics: 

1Trusting the numbers too much

Financial statements remain the foundation of commercial credit analysis, but reported earnings, strong leverage ratios, or favorable debt service coverage can create confidence that isn't always warranted.

Profitability does not necessarily translate into cash generation, and borrowers with healthy-looking financial statements may still experience significant liquidity pressure. Working capital trends, changes in receivables, inventory turnover, or payment behavior often reveal developing stress well before earnings begin to decline.

Likewise, management adjustments, normalization assumptions, and optimistic projections deserve thoughtful scrutiny rather than automatic acceptance.

You might also like this webinar, "Borrower assessment mistakes: Looking beyond the financial statements"

Watch the webinar

In a recent Abrigo webinar, Senior Consultant Kent Kirby warned lenders not to confuse accounting performance with repayment capacity. Strong credit judgment requires understanding how cash actually moves through the business and whether the borrower can continue generating enough cash to meet future obligations.

Kirby recalled an example from his own career: a rundown neighborhood strip center that seemed to be failing. Occupancy dropped from roughly 80% to about 50%, tenants moved out, and the financial statements during the renovation would almost certainly have shown deteriorating debt service coverage.

But what looked like deterioration was actually a carefully planned repositioning. The owner intentionally emptied the property, renovated it completely, upgraded the tenants, and accepted two years of weaker financial performance to create a much stronger property afterward.

2Failing to understand the business

Hand in hand with not relying solely on numbers is a second mistake: failing to understand the nature of a borrower's business. During the webinar, Kirby encouraged lenders to replace technical interrogation with genuine curiosity.

Rather than asking a borrower to explain maintenance capital expenditures, ask, "What did you have to replace last year?" Instead of questioning a growth projection, ask, "What are you planning to do to grow the business?" Those conversations often reveal risks or strengths that financial statements alone cannot. As Kirby noted, most business owners enjoy talking about their businesses. If they don't, that itself may be a warning sign.

A working capital line, an equipment loan, and a growth investment each carry different risks and require different analytical approaches. Looking at every loan through the same financial lens can cause lenders to focus on the wrong issues and miss what really drives repayment.

To sum up these first two common errors: "Don't mistake precision for understanding the business," Kirby said. “A lender focused only on declining ratios might downgrade the loan unnecessarily. A lender who understands the borrower's plan sees temporary weakness as part of a long-term strategy.”

3Missing early signs of deterioration

Problem loans rarely become problems overnight. Most begin with relatively small warning signs that are easy to explain away: slowing receivable collections, inventory growth, repeated covenant exceptions, declining margins, or subtle shifts in management behavior.

One common challenge is delayed risk recognition. Over time, covenant exceptions may become routine, annual reviews can turn into documentation exercises, and lenders may become accustomed to explaining away incremental deterioration rather than investigating its cause.

Strong portfolio monitoring means revisiting the original underwriting assumptions throughout the life of the loan. Are the conditions that supported the original approval still valid? Has the borrower's business changed? Have industry conditions shifted? Are management's original projections still realistic?

Kirby emphasized that rapid growth can consume cash just as quickly as declining performance. Lenders should investigate why cash is disappearing before assuming deterioration.

Every review should ask whether the borrower's story has changed and whether previously identified risks are evolving. Recognizing early warning signs allows financial institutions to engage borrowers sooner, explore potential solutions, and reduce the likelihood that manageable issues become significant credit problems.

4Letting bias shape credit decisions

Even experienced lenders are susceptible to biases that influence judgment. Confirmation bias encourages analysts to seek information that supports their existing conclusions while overlooking contradictory evidence. Strong customer relationships may create pressure to maintain favorable opinions despite emerging concerns. Groupthink can discourage individuals from asking difficult questions during committee discussions, while overconfidence may lead experienced lenders to underestimate evolving risks.

These influences often feel reasonable in the moment because they reinforce existing beliefs. Unfortunately, assumption-driven decisions can quickly unravel when business conditions change.

Healthy credit cultures recognize that thoughtful disagreement strengthens decision-making. Institutions that encourage independent thinking, constructive debate, and objective review are often better positioned to identify mistakes in credit analysis before they affect portfolio performance.

Kirby admitted that early in his career, he had a tendency to pay less attention to guarantors and care mostly about cash flow. Later, he realized that guarantors can either strengthen or weaken a deal depending on their own financial position. His lesson: Every experienced lender develops biases. Good credit culture requires recognizing those biases before they shape lending decisions.

Better credit judgment is a discipline

Lending will always involve uncertainty and risk. The objective is to improve the quality of decisions by strengthening how risks are identified, questioned, monitored, and discussed.

Disciplined lenders consistently ask:

  • What could go wrong?
  • Which conclusions are supported by facts versus assumptions?
  • Have the original underwriting risks changed?
  • Do policy exceptions indicate something more significant?
  • Are independent perspectives being encouraged throughout the credit process?

As discussed in Abrigo's webinar series, better lending decisions depend on preserving sound judgment, even as institutions continue to improve efficiency through automation. Technological advances create tremendous value, but they cannot replace nuanced credit analysis. The strongest analysts remain curious, challenge assumptions, and focus on understanding the story behind the numbers rather than simply processing them.

Build stronger credit judgment today with this three-part webinar series.

View the series

FAQs

What are the most common credit analysis mistakes?

Some of the most common credit analysis mistakes include relying too heavily on financial ratios, confusing earnings with cash flow, failing to understand how a borrower generates cash, overlooking early warning signs of deterioration, and allowing assumptions or biases to influence lending decisions. Strong credit analysis combines quantitative data with sound judgment and ongoing borrower monitoring

Why isn't a strong financial statement enough to support a lending decision?

Financial statements provide an important snapshot of a borrower's performance, but they don't always explain the underlying business. A profitable company may still experience liquidity challenges, while temporary declines in financial performance may reflect a strategic investment rather than deteriorating credit quality. Understanding the story behind the numbers is essential to making informed credit decisions.

How can lenders identify credit risk earlier?

Early risk identification begins with active portfolio monitoring. Reviewing covenant compliance, changes in cash flow, working capital trends, borrower performance, and the assumptions made during underwriting can help lenders recognize developing issues before they become significant credit problems.

Why are borrower conversations important during credit analysis?

Conversations with borrowers provide context that financial statements alone cannot. Asking practical questions about operations, growth plans, capital investments, and business challenges helps lenders better understand how the company generates cash and how management is responding to changing conditions. Those insights often strengthen both underwriting and ongoing risk assessment.

How can financial institutions improve credit judgment?

Improving credit judgment requires consistent habits rather than simply adding more data or technology. Encouraging independent thinking, challenging assumptions, revisiting risks throughout the life of the loan, and maintaining disciplined credit discussions all help lenders make more informed decisions while supporting a strong credit culture.

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About the Author

Kate Randazzo

Content Marketing Manager
Abrigo
Kate Randazzo is a Content Marketing Manager at Abrigo, where she works with industry thought leaders to create digital content that helps financial institutions better serve their customers. Before joining Abrigo, Kate managed social media and produced articles for Campbell University’s quarterly magazine and other university content initiatives. She earned

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About Abrigo

Abrigo enables U.S. financial institutions to support their communities through technology that fights financial crime, grows loans and deposits, and optimizes risk. Abrigo's platform centralizes the institution's data, creates a digital user experience, ensures compliance, and delivers efficiency for scale and profitable growth.

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