How can SMEs survive the recession?

 

 

Regarded by many as a vital business tool and by others as a necessary evil, credit insurance has been providing support and protection from payment default around for almost a century. With reports that credit insurers paid out more than £97 million in the third quarter of 2008 and that more businesses are seeking cover, how can it help the SME. 

The impact of a customers’ unpaid bills, extended credit terms or even the possibility of them being placed into administration causes stress for any organisation, but for SME’s the shock of a sudden loss of expected revenue can be catastrophic. The effect of non-payment, whatever the cause, not only reduces cash flow and the ability to trade, but with the extremely tight credit conditions that exist at present, the banking system is often cautious or unwilling to support companies with additional funds and make up the deficit.

Add the fact that the cost of servicing existing credit facilities has increased in recent months and it becomes apparent why small businesses are particularly susceptible to the effects of the credit crunch, alongside defaulting customers, prompting many to face the threat of closure or to consider shedding staff to manage costs and address the shortfall in revenue.

No business is immune from the current conditions, as demonstrated by the highly visible demise of major retailers, such as Woolworth, MFI and Adams Childrenswear, as well as the constant concerns of the construction sector and the automotive industry with their huge dependent supply chains populated by SME’s of all types and sizes.

As cash flow takes on even greater importance in business life and continued success, avoiding revenue ‘hits’ from customer failures and payment defaults is crucial, which is where credit insurance can help. Credit insurance is not a new concept and figures issued by the Association of British Insurers (ABI) towards the end of 2008 indicate that many ‘smaller’ firms are turning to it, often for the first time, to provide added protection in an increasingly difficult trading environment both in the UK and overseas.

For those unfamiliar with credit insurance, the principle is quite simple. As the Atradius online glossary states, it is  “commercial and political risk insurance against business-to-business payment default.”  Essentially, this means that if a customer should go out of business or default on payment for a range of other reasons, the policyholder will still receive payment by making a claim on the credit insurance policy.

To ensure the process is both accurate and robust, every company with which the policyholder does business is given a credit limit based on a wide range of information drawn from international rating agencies as well as additional supplementary data covering political, financial and other factors which might affect the individual credit limit.

Like most insurance, the individual customer credit limits are based on a detailed assessment of the level of risk. A low risk company located in the UK with good credit rating and stable balance sheet, for example, may be granted a high limit, while a new business start up in Venezuela that has little or no trading history is unlikely to be covered as part of policy as it presents too high a risk to the policyholder.

The effect of the global credit crisis has highlighted the important role that credit insurance plays in stabilising trade. In 2008, as the lines of credit began to dry up, all trade credit insurers responded to the rapid change by reviewing their various credit limits to reflect the significant escalation of risk relating to defaults and insolvency.  This resulted in a large numbers credit limits being reduced, re-aligned and in some cases, withdrawn, in proportion to the risk environment, as well as some limits being withdrawn altogether.

Although the national news media adopted a negative tone when reporting this topic, the number of limit cancellations and reductions initiated by Atradius, for example, amounted to only 10% of total credit limits. New business is being approved on a daily basis within Atradius, a feature that is likely to be true of most, if not all, trade credit insurers, as they continue to provide support to businesses and help them trade safely in a challenging and changing business environment.