You’ve got insurance for everything else, why aren’t you protecting the income coming into your business?
Insurance is usually always associated with our personal lives, car, family, income, theft etc. We are always conscious about protecting our family and personal possessions but, being an entrepreneur means that our sole income, as well as our staff and overall survival can be directly derived from our business performance and risk. The one thing that can directly affect that income are losses from customer insolvencies and not correctly assessing the amount of credit that is given, especially if you’re concentrated to just a few.
Trade credit insurance has been around for a very long time yet, most business owners are unaware of it or don’t fully understand the protection and added benefits to your organisation it can bring.
There are some variations to credit insurance however, we are going to keep focus on businesses that deal on domestic credit terms rather than internationally.
What is trade credit insurance?
Credit insurance protects your company against the failure of your customers to pay their trade receivables (invoices) owed to you. These debts can arise as a result of a customer becoming insolvent or failing to pay within agreed terms and conditions (i.e. “protracted default“).
Who should use it?
Any business that deals on credit terms with its customers should think about the value a policy might bring. The benefits of having a policy needs to outweigh the costs and is mostly suited to businesses that have larger turnovers to justify the added expense. Just like insuring a car, once it’s over a certain value total loss has the potential to become catastrophic.
If you have a concentrated customer base (meaning 1-3 customers etc.) a policy can save you from ultimate failure in the event one major customers goes down.
It is possible to self-insure your own business by dealing with a spread or customers. Having many customers adds protection against failure, one customer going down won’t affect you trading on and in this circumstance a policy may not make commercial sense.
How does a policy work?
There are many providers of credit insurance, Euler Hermes, QBE, Coface, Atradius etc. Each insurer has a different set of policy processes and insurable levels they will offer. It’s also a good idea to find out what each insurers “exposure” is to your industry. If they have too much exposure to your industry and you take on a policy and experience significant growth, asking the insurer for higher insurance limits against customers may be rejected due their overall exposure in your sector with all other policy holders.
In general, trade credit insurance usually covers your portfolio of buyers (customers) and pays an agreed percentage of an invoice or receivable that remains unpaid as a result of protracted default or insolvency. You must apply for a credit limit on each of your customers for the sales to that buyer to be insured. The premium rate reflects the average credit risk of the insured portfolio of buyers. In addition, credit insurance can also cover single transactions or trade with only one customer.
How can it help with credit decisions?
Some providers offer additional services as part of the policy such as credit checking and monitoring. Each time you take on a new customer you can utilise the insurers service to establish an initial credit limit for your customers. If a customer is rejected by the insurer you have grounds to demand cash up front for delivery of goods or demand deposits etc.
Your insurer will also advise you if a buyer (customer) has any adverse information that should be a warning not to extend further credit or to cut credit completely. Think of it like a network of policy holders all reporting and exchanging information. A business somewhere else in the country deals with the same customer as you, they report a non-payment and you can be alerted potentially saving you hard earned profits or worse.
Just remember almost anything can be insured against and just because it hasn’t happened yet, doesn’t mean it’s not just around the corner. Too often I hear SME’s saying “my customer is too big to fail”, well once again we’ve seen another large retailer, Dick Smith fall over recently. Insurance might just be a small price to pay that could end up paying for itself sometime in the future.
If you need a policy or wish to speak with one of our recommended trade credit experts please email email@example.com
Got a different view? Let me know by commenting below…