Bob Svensk is a counselor at Greater Bridgeport SCORE.
Accounts receivable typically account for a significant percentage of an SME’s assets. Accordingly, they should be treated like all your other assets – they should be productive and they should be protected.
Extending credit to your clients can be both a necessity -- to keep a good customer or to respond to a competitive threat -- and an opportunity – to help secure a new customer. The extension of credit to an existing or prospective customer can be a powerful marketing tool. Your receivables can also be an important source of financing. Thus, careful management of these assets is essential.
The same methods for managing the risks faced by all your assets are equally relevant for managing your accounts receivable. These methods include:
Avoidance – No risk here, but not extending credit can have a negative impact on your sales.
Retention – Not always the best strategy unless you know your customers very well.
Control – Offering very short credit terms or discounts for prompt or early payment are two examples of control. Clients needing on-going parts or service also give you greater control over your collections.
Transfer – This may be the most efficient way to accomplish both your marketing and your risk management objectives. All methods of transferring risk entail a cost, albeit more quantifiable than, say, an avoidance or retention strategy.
Credit Risk can be transferred to several different types of entities. The use of credit cards is probably the most common means of credit risk transfer. Selling your receivables to a factor at a [typically steep] discount is a second alternative.
The third alternative is credit insurance, which may be the most cost effective and the most flexible solution. Programs can be structured to cover either all your receivables, or just your major exposures. Also, insured receivables may allow you to borrow a larger percentage against them, thus enhancing your financing as well as your marketing programs.
Domestic credit insurance in the US today is readily available from several private credit insurers including AIG (now Chartis), Houston Casualty, ACE, Lloyds, Zurich and QBE. The largest providers of short term domestic credit insurance, however, are three specialty insurers known as Coface, Euler and Atradius. SME’s that have foreign receivables can also purchase credit insurance on these receivables from the US Export-Import Bank in Washington, DC (www.eximbank.gov).
Many SME’s use their insurance brokers to assist in the process of buying and managing these programs. In addition to securing the best terms and coverage, your broker will also assume much of the administrative burden involved with these programs. Lastly, the broker is paid by the insurer and not by you.
As with all insurance, one cannot insure a house that is already on fire. Similarly, one cannot insure receivables that are already in default or are owed by buyers that are teetering on bankruptcy. Underwriters will want to understand your business and will want to know what your credit and collection policies are as a condition precedent to providing you coverage.
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