In today’s digital-driven global marketplace, trade credit insurance has never been more important. It protects a seller against losses from non-payment of a commercial trade debt.
Accounts receivables typically represent more than 40% of a company’s assets, and one in ten invoices become delinquent. Trade credit insurance can prevent bankruptcies, help companies manage credit, and even present opportunities for business expansion in today’s increasingly connected marketplace.
However, no one wakes up in the morning and thinks: ‘I’m going to buy trade credit insurance today!’
It’s a relatively unknown insurance product and is a discretionary purchase that often comes with a hefty up-front price tag. Only about 3% of suitable businesses in North America buy trade credit insurance, compared to 15% penetration rate in Western Europe.
Rather than see that 3% as a problem, James Daly, CEO and president of Euler Hermes North America and the Americas, describes it as a “huge opportunity”. The first challenge the market must overcome is breaching the widespread lack of awareness about the product.
“The primary challenge we face is building awareness of the product and getting people to understand how we can build solutions for organizations,” Daly told Insurance Business. “Distribution of trade credit insurance is not as well established as it is in other lines of insurance. In North America, it’s a very specialist market and there are very few brokers who invest in distributing this line of business. Despite all of the digital advances in insurance, trade credit insurance will always need human contact.”
The main alternative to trade credit insurance is self-insurance, a practice many US organizations opt for. Businesses can put a reserve on their balance sheet to cover any bad debt that may incur over the year.
“That’s not a very capital efficient solution,” said Daly. “Rather than have capital in your balance sheet doing nothing but waiting for bad debt, why not purchase trade credit insurance and then invest that excess capital into growth or new products?”
Daly gave the example of a medium-sized washing machine factory in North Carolina. The firm receives an order from Argentina for 10,000 washing machines, but the owner of the company is concerned about the risks. Will they receive payment? What if there’s a problem with taxes? What if the authorities get involved? The exposures go on.
“As a global leader in trade credit insurance, Euler Hermes will take on that risk and tell the company to ship the 10,000 washing machines. If something bad happens, we’ll guarantee the company gets paid, we’ll mange the legal situation and we’ll try to recover those machines. That’s something a mid-market company wouldn’t be able to do on its own without making a lot of investment and putting feet on the ground. Through trade credit insurance, we can help organizations safely grow their businesses into new countries and territories,” Daly explained.
At the same time, if a company insures its receivables, it can create assets on its balance sheet that banks and investors are interested in. Banks use that secured receivable and will lend against it, which can become a useful additional source of cash flow for companies - one that isn’t tied up to existing credit lines.
Trade credit insurance is a large spend for an organization but it’s “still value for money,” according to Daly. The average premium for an SME is around US$35,000 per year, but that covers up to US$40 million of receivables. Product pricing is likely to decrease in the near future as trade credit insurance turns digital and firms get the option to insure a single invoice rather than their whole turnover.