Higher interest rates and rising inflation are tightening companies’ cash flow, pushing them to seek more credit. At the same time, high-profile bankruptcies and recent turmoil in the banking sector have made banks more skittish about lending.
This conundrum is causing instability in the trade credit insurance market, according to David Dienesch, CEO of Allianz Trade in Canada.
“Companies are spending more, but they borrow even during very good times. Over the past 10 years, companies have become more indebted,” said Dienesch.
“They spend more on wages, even though wages haven’t kept up with inflation. So, that’s squeezing their cash flow, which has an impact on their credit worthiness because you’re slower in paying your supplier.”
Thanks to this dynamic, companies like Allianz Trade in Canada are seeing an increase in application flow for trade credit insurance, which acts as a hedge for businesses in case customers fail to pay their debts.
“We're also seeing that, because of this credit quality problem, companies want to borrow more cash and are going to their banks,” Dienesch told Insurance Business.
“But because of what's going on in the banking sector, banks are also squeezing their credit, how much they're willing to grant.”
Trade credit insurance protects manufacturers, traders, and service providers against losses from non-payment of a commercial trade debt.
If a buyer does not pay (often due to bankruptcy or insolvency) or pays very late, the trade credit insurance policy will pay out a percentage of the outstanding debt.
Despite the market’s instability, the credit squeeze is a positive for trade credit insurers because it’s generating demand for coverage.
Dienesch explained: “If companies buy credit insurance, they insure their receivable base and they become a more secure company. Because banks can take receivables and inventory as their security, the bank will lend you more.”
Another factor that has driven up demand for trade credit insurance in recent years is more frequent and larger corporate insolvencies.
Several US retailers have filed some of the largest bankruptcies in Canada’s history, including Target in 2015 and Sears in 2017. More recently, Nordstrom announced it was shutting its Canadian operations in June due to weak sales.
“It's good for business in the sense that it has increased demand [for trade credit insurance], but we, like everybody else, are also starting to think, ‘should we be taking on credit? Should we be tightening up?’” Dienesch said.
Silicon Valley Bank’s catastrophic collapse last month also had a ripple effect on trade credit insurance, according to the CEO.
“When banks are literally going under, it demonstrates that there’s problem in credit cycle right now, and all of that causes a tightening in the marketplace,” he said.
The COVID-19 lockdowns and border closures three years saw an unprecedented downturn in the global economy. Industries from hospitality and aviation to retail and logistics were negatively impacted by the pandemic, which had a knock-on effect on the trade credit insurance market.
Many businesses were unable to operate, and thus unable to pay their staff and suppliers. Allianz Trade (then Euler Hermes) saw huge spike in trade credit insurance claims between April to June 2020 as a result.
But for the most part, trade credit insurers were spared from having to shoulder heavy losses, as the government stepped in with support schemes to help ailing businesses.
Temporary mitigation policies such as emergency funding, tax relief, and government-backed insurance capacity kept companies and economies afloat.
Dienesch, who spoke earlier to Insurance Business about Allianz Trade in Canada’s 100th anniversary, said the Great Recession between 2007 and 2009 was a turning point for the trade credit insurance industry.
As companies have become increasingly globalized, they are also more vulnerable to economic shocks or destabilizing geopolitics.
“[The Great Recession] forced the industry to look inside and get better at promoting our products,” he said. “We're getting impacted globally by bigger events. The bankruptcies are getting larger, and we’re seeing more and more of them.”
More than protection from bad debt, trade credit insurance can also be powerful lever for companies to grow despite uncertainty.
“For example, if you're a business that wants to export into the UK, where the economy is a little tough, you want to know that you're going to get paid. Trade credit insurance is going to help ensure you get paid,” said Dienesch.
Do you agree with Dienesch’s assessment of the trade credit insurance market? Sound off in the comments below.