Credit
Risk Protection - Credit Risk Insurance - "An
Easy Decision"
In January, Michael A. Lazarus found himself in
a bit of a sales dilemma. He wanted to take on
several new, major customers for his fabricated
steel distribution business, Millennium Metal
Corp., of Chicago. But he worried about the scale
of the sales and his ability to withstand a major
financial hit if one of the new customers suddenly
crumbled and couldn't pay.
"It wasn't an amount I was comfortable putting
out there on my own, and somewhere along the line,
somebody said, 'Look into accounts receivable
insurance.' It was the perfect service to let
me take on sales I would have been hesitant to
take on otherwise."
With the credit insurance underwriter performing
more thorough due diligence than Lazarus figures
he could have accomplished on his own with standard
credit reports, plus the policy itself, Lazarus'
fears eased. He made the sales, and now he's a
credit insurance fan.
There's no shortage of worries in today's business
climate: the limping economy, fear of war and
its economic aftermath, a never-ending litany
of headlines trumpeting sudden failures of well-established
businesses. Most business owners aren't wondering
if some sort of disaster will hit them, but when.
In 2001, when the economy was hit with the one-two
punch of the gathering momentum of the current
recession and the Sept. 11 terrorist attacks,
credit insurance wasn't on the radar screen of
most corporate executives.
It is now. "The huge collapses in corporate
America have opened (companies') about the risks
that there are out there nowadays. Your largest
customer may not be as solid as everyone assumes
it to be," says Arjan van de Wall, vice president,
marketing and sales, for Gerling NCM Credit Insurance
Inc., based in Baltimore.
There's so much free-floating distrust that even
companies with stellar payment records and credit
histories are getting the gimlet eye from risk
managers. Increasingly, companies aren't willing
to rely on just the time-tested norms because
it seems that nothing is normal these days.
Underwriters report that business inquiries are
up dramatically, especially in the past eight
months. Of course, not all those inquiries result
in new policies. Many companies wait until the
situation they're concerned about has deteriorated
irretrievably before trying to get insurance for
their receivables. Insurance executives view this
as the business equivalent of "please insure
my burning barn" and, of course, don't write
those policies.
It's just about impossible to get insurance to
cover outstanding credit extended to customers
in the telecommunications industry, airlines,
and some portions of the high tech sector. Of
course, any industry that would clearly be hurt
by the prospect of war was uninsurable in the
first quarter of 2003.
Still, a good portion of those inquiries result
in fresh business, even though credit insurance
rates have gone up 15% to 30% in the past two
years, due to the overall economic malaise. American
business executives are starting to get the hang
of what credit insurance is all about.
Though it's hard these days to justify any new
expense to corporate budgets, financial managers
have still been able to persuade their executive
colleagues to approve the cost of credit insurance
policies, says Victor Sandy, executive vice president
of Global Commercial Credit, an insurance agency
Fear is the driving force. "A lot of companies
are feeling pressure on their margins very hit,
it takes that much more in sales volume to recover,"
he says. "It makes sense to take that risk
off your books."
With most companies on the defensive, credit insurance
provides an extra layer of protection that calms
jittery bankers and investors, too. The cost of
credit insurance can be offset when the policy
is presented as evidence of reduced exposure to
lenders. "A lot of companies can use it to
adjust their cost of funds. It's not just a passive
risk hedge," says Sandy.
Chronic, widespread economic distress is irrevocably
repositioning credit insurance at many corporations
from an as-needed service to a usually needed
service, says Peter L. Aitken, vice president,
Trade Credit Chubb Group of Insurance Companies,
based in Warren, N.J. "It's now a mindset,"
he says. "Companies are looking at a credit
risk as something that they need to pay attention
to, rather than looking at individual cases or
only when things get bad. The attitude is, 'We've
got to find things to regularly and collectively
protect this asset.' "
Chubb is best known for writing policies on entire
accounts receivable portfolios, but much of its
recent growth stems from its willingness to tailor
a policy to reflect a company's biggest worries.
That might mean blending a blanket policy with
policies written to cover specific situations
or companies, explains Aitken.
As well, Chubb has found that getting the word
out through its network of independent insurance
brokers, which carry its property and casualty
lines, has been remarkably effective. Companies
that may have been reluctant or uninformed about
pursuing a specialty insurance underwriter are
very open to adding credit insurance to their
existing Chubb policies, he says.
Things are even better at Euler Hermes ACI, based in
Baltimore, where new business for the first two
months of 2003 was double that for the first two
months of 2002, reports Joseph A. Ketzner, executive
vice president. Bigger companies are leading the
pack, reports Ketzner, motivated by the spectacular
crash-and-burn scenarios of K-Mart, WorldCom,
and numerous high-profile tech companies. It can
take as long as 24 months for bad credit implications
to ripple through a supply chain all the way to
the end. While that's happening, companies watch
nervously to see who goes down and who survives.
They can do more than cross their fingers Euler,
like other underwriters, is getting more involved
in daily risk management, which gives client companies
the chance to react to unfolding events instead
of just close their eyes and pray.
"Pure risk transfer is the end game,"
says Ketzner. He cites Euler's ability to shield
K-Mart suppliers as a case in point. "My
success with K-Mart is not just in the claims
I paid out, which was in the eight figures. It's
really my ability to reposition my clients' total
exposure, which was nine figures in August through
October 2001, to a much lower position by the
time K-Mart failed in January 2002. Once the bankruptcy
occurred, we took over all the bankruptcy management
for them. The leverage we have, (representing)
150 policyholders involved in K-Mart, made ACI
the largest unsecured creditor that K-Mart has.
We're not only on the creditors' committee, but
we're chairman ow, those policyholders have exceptional
leverage."
Credit insurers are getting upbeat about the economy
over all, and that's good news for everybody.
When companies are once again ratcheting up their
sales projections, but are cash-poor and hesitant
to put too much stock in new customers' own optimistic
forecasts, they often call in credit insurers.
Underwriters say that they know a full-fledged
boom is underway when their client companies ease
up on policies because they believe that they
can absorb the occasional loss.
"For us, when the economy is down, people
don't want to spend the money," says Daniel
Boccara, chief executive of Coface North America,
based in New York. "When the economy is picking
up again, companies realize that they can afford
to subscribe - it means that people are taking
calculated risks."
Another round of frightening, out-of-the-blue
bankruptcies would drive home the point, but Ketzner
says that he and all underwriters are striving
to convert headline-induced sales to long-term
client relationships.
"When you concentrate on the ancillary value
you bring to help improve the business cost structure
and improve the bottom line, that's what you want
to get to the crux of," he says. "Then
they will buy the product for the right reasons
and remain with you indefinitely. If the policyholder
simply buys the policy because they have an impending
K-mart, what will happen? They will get rid of
you as soon as the crisis is over. Fear selling
is the last way we'll sell a policy."
He concurs with Boccara that a fledgling recovery
sets the stage for a boom in credit insurance,
as hopeful but nervous companies want to stretch
their sales capacity - with a safety net. "Everyone
is sell, sell, sell and they've created a much
higher risk scenario than when they were hunkering
down and cutting operations," says Ketzner.
"Any pebble they stumble on could throw them
into bankruptcy."
There are a few signs from underwriters that could
signal an upturn.
Ketzner says that the credit in the tech sector
has stabilized, as there's finally enough payment
history through tough times for insurers to make
calculated risks and write policies. Gerling is
seeing a recent up-tick of about 15% in its sales.
"The expense is an easier case to make in
today's environment," adds Chubb's Aitken.
"The potential loss compared to the premium,
that's an easy decision."
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