By Kimberly Kelly

Kimberly Kelly has more than 10 years in credit, risk and trade credit insurance. She is the founder and CEO of Trade Credit Specialty, a client-focused trade credit insurance brokerage.

What is trade credit insurance?

Credit management isn’t science. Cash flow from credit sales is unpredictable. How can this unpredictability be mitigated? 

The answer is trade credit insurance.  

A trade credit insurance policy is a dynamic business tool that credit managers can leverage on a daily basis to safely increase sales, transfer the task and responsibility of performing due diligence and collections, support financing and ultimately strengthen company financial statements.  

When open account invoices are not paid on time, threatening cash flow due to protracted default (slow payment), or insolvency, the insurance policy is triggered and a claim payment is made. Cash flow is stabilized.

How Does Trade Credit Insurance Work?

A trade credit insurance policy can be easily incorporated into the existing credit management procedures, creating efficiency by eliminating tasks for the credit management team in addition to eliminating the risk of bad debt:

• Request Coverage. Policyholders request coverage on their customers (buyers). Insurance carriers will then perform an analysis of the creditworthiness and financial stability of the buyer.
• Request Answered. The credit limit requested will be approved, partially approved or refused. Each buyer has a limit which is the maximum indemnification if that buyer fails to pay.
• Business as usual. Purchase orders are fulfilled, shipments are released, invoices are raised with the non-payment risk mitigated up to the approved buyer limit.
• Monitoring. The carrier will continuously monitor the insured buyer. For example, the insurer is looking for evidence of slow pay to other suppliers, reduced spending, etc. They will then alert the policyholder to potential changes in the creditworthiness of their buyers.
• Prospecting. Creditworthiness of potential new customers can be ascertained allowing the policyholder to negotiate competitive supply contracts.
• Making a claim. If a customer fails to pay due to insolvency or protracted default, the policy is triggered and the policyholder is paid according to the terms of the policy.
  

Should Your Company Invest in a Trade Credit Insurance Policy?   

Any company extending unsecured credit to other businesses is at risk for experiencing bad debt losses. Trade credit insurance mitigates that risk. In the event of a bad debt loss, the policy is triggered and a claim payment is made, preserving cash flow. 

When leveraged, a trade credit insurance policy can also offer additional benefits, potentially absorbing the cost of the policy, even when claim-free. Benefits of trade credit insurance include:

• Fosters Credit Sales Growth - A competitive edge is gained by enabling you to offer open account terms when your competitors can't. The policy facilitates the extension of unsecured credit to new customers and potential increases to existing customers
• ​Support for Financing - Insured accounts receivable can allow an increase in the advance percentage of your asset-based loan. Or, previously excluded accounts can be added to your borrowing base. Factoring with recourse becomes an option.
• ​Access to Information - Trade credit carriers employ underwriters who are industry-specific financial analysts.  Investing in a trade credit policy opens access to intelligence that leads to well-negotiated sales contracts and credit decisions.
• ​Strengthened Financial Statements - Ultimately, bad debt reserve is reduced or eliminated and cash flow is preserved as a result of claim payments.  The cost of the policy reduces tax liability.
• Cost Effective -  Annual cost of the policy is typically less than half the price of a letter of credit with much less administration. And, other business expenses, such as the cost of credit reports and collections, are eliminated. With the task for performing due diligence and collections transferred to the carrier, the credit management team becomes more efficient.
  

Trade Credit Insurance Pricing, Fees and Costs

As previously noted, the cost of the policy can often be absorbed by the increased efficiency of the credit management team and the elimination of expenses, but what about pricing, fees and costs?

To calculate the premium rate, carriers will weigh the spread of risk of the buyer portfolio to be insured. Additionally, the premium rate formula will include variables such as volume of sales, industry sector, terms of sale, country risk, even the product or service insured can impact the ultimate premium. Pricing may be calculated based on sales, coverage or average monthly accounts receivable.   

In general, a trade credit policy is typically a fraction of 1% of sales, or, less than 100 basis points. Of note, private market carriers have no minimum premium requirements ranging from $10k to $25k depending on the specific product. The U.S. Export Import Bank, also known as ExIm Bank, will offer pay-as-you-go options for companies exporting US manufactured goods with no premium requirements, making them a great choice for small businesses.

Where to Get More Information on Trade Credit Insurance

Kimberly Kelly can give you more insights and information about trade credit insurance. Trade Credit Specialty advises, supports and provides technical expertise related to trade credit insurance.