Maximise value by blending policies

While a company’s debtor’s book can be its biggest asset, it can also be a company’s single largest exposure, and this is why trade credit insurance is imperative in today’s volatile economic climate.

In a nutshell, trade credit insurance helps companies minimise the credit risk they face by protecting their accounts receivable against the protracted default or insolvency of their customers. Trade credit insurance also aids in business development as policyholders are able to transact confidently knowing that their cash flow is safeguarded should non-payment occur for reasons beyond the policyholder’s control.

With that said, it must be noted that conventional trade credit insurance is not without its limitations, government-owned entities are policy exclusions. In addition, inadequate cover often poses a problem as a trade credit insurer may issue a lower credit limit on a debtor which is insufficient in meeting the policyholder’s business needs.

Furthermore, a specific debtor may also be excluded and hence not covered under the policy at all should the debtor not meet the trade credit insurer’s assessment criteria. Overexposure on a particular debtor is another reason for policy exclusion. This, together with the fact that a credit limit can be subsequently withdrawn by the trade credit insurer at short notice, is a reality that must be taken into consideration.

An alternative risk transfer solution

Contingency policies or funded risk retention policies offer possible solutions to the difficulties which may arise with conventional trade credit cover as the policies can be tailored to a policyholder’s individual requirements. Therefore, depending on a client’s risk retention strategy and risk appetite, a contingency policy can be structured in a number of ways in order to complement the policyholder’s conventional trade credit insurance policy.

A contingency policy is ideally suited to companies that historically have experienced low frequency claims, and who have stringent internal credit controls in place as the policyholder needs to be comfortable in their ability to credit assess their debtors.

Complementary product

As a complementary product, a contingency policy can be utilised to cover the first amount payable, the annual aggregate retention first loss, or claims which fall below the claims threshold of a conventional trade credit insurance policy.

The primary purpose of a contingency policy is to build-up insurance capacity over a number of years thereby enabling the policyholder to reduce their reliance on conventional insurance by retaining higher levels of risk. As the reserves within the contingency policy accumulate over time, the policyholder is able to retain more risk in the form of a larger annual aggregate retention first loss, a higher first amount payable or a higher claims threshold. This in turn allows the policyholder to negotiate more favourable terms with their conventional trade credit insurer.

One distinct advantage of a contingency policy is that the trade credit cover is not subject to the policy exclusions which are applicable to a conventional policy. Therefore, a contingency policy can also be used to specifically insure debtors which are either uninsurable or have been inadequately insured under a conventional trade credit insurance policy. By blending a contingency policy with a conventional policy, the policyholder can maximise the value it derives from its trade credit cover.

Overall, and in addition to trade credit insurance being a useful risk mitigation tool, one should never shy away from the fact that companies should be vigilant in protecting themselves against non-payments at all times by negotiating stringent payment terms with customers upfront, ensuring invoicing is done correctly and timeously, and taking swift action on outstanding payments. At the end of the day, prevention is always better than cure.