What is the value of Trade Credit Insurance? 

Trade volumes have grown exponentially in recent decades, and while globalisation has brought greater profitability to Asian manufacturers, it has also created much more intensive competition for new business orders and resulted in higher pressure on sellers to meet buyers’ demands. 

This pressure often comes in the form of a request for more favourable payment terms and the result has been a gradual shift away from traditional tools such as Letters of Credit (LC), Documents against Payment (DP) and Documents against Acceptance (DA) towards the more flexible approach of Open Account (OA) terms, in which goods are often shipped weeks or months before payment is due. 

The increasing risks of international trade for Asian SME manufacturers

While OA terms increases the competitiveness of manufacturers and helps earn more orders across international markets, it is far from a perfect solution for Small and Medium Enterprises (SMEs). 

L/Cs offer greater security to manufacturers, but they are more complex and expensive to use. A further disincentive to using L/Cs can be found in the policy of major banks which are less interested in dealing with smaller clients and are disinclined to provide LC services to Asian manufacturers. As a consequence, OA has become an increasingly used contractual choice.  

However, OA substantially increases the manufacturer’s risk of not being paid because goods are shipped long before payment is due – which may be 30, 60, 90 or even 120 days later, depending on the payment terms negotiated by the manufacturer. This means that the manufacturer is effectively providing credit to each customer for a large sum of money over an extended period of time.  

Between order placement and product shipment, plenty of issues can arise to impact a customer’s business health and financial well-being. These wide-ranging factors – including new regulations, increased tariffs and political instability – can have a knockon effect that impacts the future of a customer’s business, and none of these threats are readily foreseeable or easily controlled. 

Even years of regular trading with a customer provide no clear assurance for a manufacturer because defaults are impossible to predict. In fact, according to one specialist insurance provider, 50% of trade issues arise between customers and manufacturers who trade regularly together and are very familiar with each other’s organisation. 

Since a single order can represent a large proportion of company turnover, manufacturers continually face a high level of financial vulnerability. And in case of a lost payment, fear of business failure is very real if a well-structured fallback plan is not already in place. 

Redressing the balance: an action plan to address OA credit exposure

While the dangers of international trade for SME manufacturers are very real, there are some commonsense steps that can be taken to minimise them.  

Trade Credit Insurance offers indispensable peace of mind by providing protection for the company in case a client goes bankrupt, becomes insolvent or simply fails to pay an invoice for any other unforeseen circumstance. 

Signing up with a specialist trade insurance partner such as Atradius, Coface, Euler Hermes, or Hong Kong Export Credit Insurance Corporation (HKECIC) also provides numerous other benefits: 

  • Trade Credit Insurance companies monitor the business turnover and financial health of the companies they insure. Consequently, manufacturers can obtain reliable and up-to-date information on the creditworthiness of their customers – significantly boosting the chance of avoiding the mistake of agreeing a large order with a customer that is currently struggling with cash flow difficulties.   
  • When it comes to following up late invoice payments, SME manufacturers can depend on the power of their insurance company to support their claim for settlement. Frequently, just the threat of referring a claim to the insurance company is sufficient to persuade the customer to settle payment, as this avoids an escalating legal dispute that might place its own credit rating at risk. 

Furthermore, Trade Credit Insurance acts as a reference for the credit-worthiness and financial solidity of a business and supports the arrangement of Invoice Financing which may be needed to fund new orders. Administration is simplified because only one credit check is required for both services.  

Should an SME manufacturer choose to raise working capital through an online trade finance platform such as Velotrade, access to both Trade Credit Insurance and Trade Finance can be enjoyed under a single umbrella. 

In summary, Trade Credit Insurance plays an important role in bridging the credit gap for SME manufacturers that are vulnerable to Open Account contracts negotiated with more powerful overseas customers: it delivers improved access to funding, more favourable lending terms, and helps to sustain a more positive cashflow with the support of finance industry professionals who encourage the adoption of best practices in financial management.