Few things test resilience and highlight vulnerabilities like a crisis. And few crises have tested the resilience of such a wide range of systems and practices as the Coronavirus pandemic. Supply chains across many sectors of the real economy have been tested to their limits.
From the effects of the lockdown on supply and demand, to the impact of social distancing on workers and consumers, and the almost overnight stoppage of business transactions. How resilient supply chains have been in the face of these pressures will play a large part in dictating how well different businesses and sectors recover in the coming months.
Trade credit insurance has played an important role in ensuring supply chain resilience throughout the pandemic and will continue to do so as we head towards recovery. In particular, trade credit insurance is important for the protection it gives businesses against the risk of non-payment by buyers. But the insurer also works with businesses to identify and mitigate the key risks they face when dealing with trading partners. Careful risk management is central to building resilient supply chains – both in times of crisis and when it’s business-as-usual. So how does trade credit insurance work exactly and why is it important?
Trade credit insurance is a commercial insurance product which protects businesses against non-payment of receivables stemming from the sale of goods or services to other businesses. Depending on the sector, receivables can account for anywhere between 20 to 80% of a company’s assets. Non-payment of those receivables can lead to significant problems for businesses, particularly those which are highly dependent on short-term cash flow. When things go wrong, this can then leave sellers vulnerable to being unable to pay their own bills. This can lead to a domino effect of failures throughout supply chains, leaving many businesses in crisis, if not bankrupt, in the worst circumstances.
Most businesses understand that insuring their machinery, premises or other physical assets is a normal and sensible thing to do. However, given that receivables make up such a large proportion of companies’ assets, it’s surprising that many retain the risk of non-payment of receivables unprotected on their balance sheets. This not only makes them vulnerable, but their trading partners too.
If a business takes out a policy with a credit insurer, the insurer will assess the creditworthiness of its individual clients and may give a credit limit for that buyer. Should that buyer then not be able to pay an invoice as expected – perhaps they go bankrupt, or are based in a location which has introduced exchange restrictions – the credit insurer will pay out. Businesses can also use factoring services and other related products for protection of receivables. However, trade credit insurance available within private markets (such as from members of the International Credit Insurance and Surety Association) specifically relates to short-term transactions, generally with a payment period of 60 to 90 days and relates to both domestic and export trade. It’s a quick, efficient and effective way to manage the risk of non-payment and protect receivables for all sizes and types of businesses.
Importantly, the credit insurer will also work with the business to ensure that it has the appropriate risk management in place for the trade (and trade partners) that it is involved with. So, if anything goes wrong, not only is there the ultimate protection for a policyholder of a claims pay-out available, but businesses throughout the supply chain are encouraged to have processes and protocols in place to be better prepared for bad news. The deep interconnectedness of supply chains means it is in everyone’s interest to make them strong and resilient.
The focus of the trade credit insurer on the buyer is also an important feature. This means that regardless of what is happening in the economy or elsewhere in the real world, it’s the ongoing creditworthiness of that specific buyer that counts when it comes to protection. The pandemic has shown us how different types of crises can impact different sectors with some like travel and hospitality struggling through a near total reduction in business, to others in retail sectors who have in some cases been able to do more business with consumers in lockdown. Credit insurers analyse enormous volumes of data on buyers on a regular basis and can keep policyholders informed of likely changes in creditworthiness within their supply chain. This can also be helpful when businesses are looking to grow both domestically and internationally. Insurers will work with policyholders to identify which potential new trading partners are safest to do business with, further protecting themselves and ultimately, the wider trading network they are plugged into.
Beyond the protection trade credit insurance provides, there is also its role in helping business access financing. Policies can be used as security to access financing on better terms than without. This means that trade credit insurance not only protects their bottom line, but can also support businesses to invest and grow sustainably and with greater peace of mind. As the WTO has itself said, “…the availability of finance is essential for a healthy trading system. Today, up to 80 per cent of global trade is supported by some sort of financing or credit insurance.” Accessing financing on good terms, as well as protection of receivables, will be key to ensuring the green shoots of recovery we’re beginning to see will remain strong, durable and long-lasting.