CORPORATE DISTRESS PREDICTION MODELS IN A TURBULENT ECONOMIC AND BASEL II ENVIRONMENT

Abstract

This paper discusses two of the primary motivating influences on the recent development/revisions of credit scoring models, - the important implications of Basel II’s proposed capital requirements on credit assets and the enormous amounts and rates of defaults and bankruptcies in the United States in 2001-2002. Two of the more prominent credit scoring techniques, our Z-Score and KMV’s EDF models, are reviewed. Both models are assessed with respect to default probabilities in general and in particular to the infamous Enron and WorldCom debacles in particular. In order to be effective, these and other credit risk models should be utilized by firms with a sincere credit risk culture, observant of the fact that they are best used as an additional tool, not the sole decision making criteria, in the credit and security analyst process.