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Credit Insurance
The standard view of credit granting is that the company selling a product or service must shoulder all of the credit risk associated with the sale. However, it is possible to shift a large portion of this risk to an insurance company with credit insurance.
Overview of Credit Insurance
Credit insurance is a guarantee against customer nonpayment of domestic or export sales, and is also available for custom products prior to their sale, in case a customer cancels an order. A company can use credit insurance to increase its total sales by extending larger lines of credit to its customers than the credit insurance company will allow, and then retaining the excess risk. It may also allow a company to pursue sales to new, larger customers or international markets that would otherwise have seemed too risky. Credit insurance should also reduce the size of one's bad debt reserve, and may result in a higher-quality base of accounts receivable to use for loan collateral. It is extremely common in Europe, but much less so in Asia and the Americas.
Credit insurance is not available for all types of sales. Insurance companies are not in the business of making large pay-outs to their clients, and so will only insure what they perceive to be low-risk sales. This means that they will limit the credit allowed to certain customers, and may refuse to insure sales of any kind to some high-risk geographical areas.
Qualifying for Credit Insurance
Would you qualify for credit insurance? The requirements of A.I.G. are a good representation of the baseline requirements of a credit insurer: At least $25 million of annual revenues, sales on credit terms of 90 days or less, and concentrated credit exposures with your top 25 customers representing 50% or more of sales volume.
Credit Insurance Fees
An insurer can charge more than 1/2% of the invoiced amount for credit insurance, which will vary substantially based on the perceived risk of the customer. It may be possible to re-bill this cost directly to the customer.
Credit Insurance Providers
The largest credit insurance companies are Euler Hermes and Atradius. Others serving this market include A.I.G., Coface North America, and the Export Import Bank (export sales only). These companies are gradually expanding their services beyond just credit insurance, to include credit ratings, factoring, bonding, and receivables collection. They all have considerable international expertise, and so could be an excellent choice to assist a company with the management of its international receivables.
Podcast
A discussion of credit best practices is available on Episode 86 of the Accounting Best Practices podcast. Listen Now.
Related Topics
The bad debt forecast
Credit application terms
Credit scoring models
On-line credit applications
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