Ask any small business owner what keeps them up at night, and many will probably say it’s getting paid by their customers. After all, accounts receivable (A/R) typically represent 40 percent or more of a company’s assets, so when customers fail to pay their invoices on time or default on their payments, the results can be devastating for the bottom line.
Losses on A/R are common. They can occur as a result of the insolvency of a customer, an economic downturn, protracted delays in payment, disputes over the product delivered or work performed. For exporters, political risks include currency inconvertibility, exchange transfer risk, import/export embargo, and war or civil unrest, which could all lead to non-payment. Any one of these events can prevent a contract from being honored.
These A/R risks not only threaten an otherwise healthy company’s business operations, but they can hamper growth. The typical small business has to manage its liquidity carefully, so it must often turn away business that is perceived as too risky. Or it must secure letters of credit or cash advances of customers, which can put it at a disadvantage when competing against companies that are able to operate with open credit terms.
But what if these A/R assets could be protected in a way that would give a small business a competitive edge and drive growth? That’s why A/R insurance, also known as trade credit insurance (TCI), was created. TCI protects A/R assets in the event a customer becomes insolvent, has protracted delays or, in the case of international trade, is unable to meet the terms of a contract due to a change in the political landscape.
By protecting A/R assets, TCI provides a degree of assurance that enables small business to be more aggressive in business development and financing, selling more to existing customers and to start selling to new customers that were previously perceived to have a less-than-perfect credit profile. Being able to operate on open credit terms rather than requiring a letter of credit or cash advance can give small business an edge in its markets, allowing more competitive pricing.
Plus, firms with TCI can greatly improve their advance rates with lenders, especially if they are exporting goods or services. In a standard line of credit, banks are usually unwilling to lend above 75 percent of eligible receivables. However, if a company has TCI in place, that percentage can rise to as much as 90 percent. This incremental liquidity can provide a business with additional growth capital on the same asset base.
TCI is especially valuable as a competitive tool for exporters, who operate in unpredictable international environments that often pose even greater liquidity risks. In fact, 85 percent of international trade is conducted on open credit terms. I’ll further explore the risks of international trade and the role of TCI for exporters in the next blog.