Managing credit risk in the prevailing COVID-19 pandemic environment

Managing credit risk in the prevailing COVID-19 pandemic environment

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Managing credit risk in the prevailing COVID-19 pandemic environment is critical and should form part of a business continuity plan, as businesses move to manage cash flow and apply for government aid packages (subject to eligibility).

Credit insurance policies protect the policy holder(s) from non-payment by customers due to defined insured events or perils. This typically covers insolvency and protracted default events. Some policies also cover defined political risks.

Claims volume is expected to increase following lockdown and government enforced Movement Control Orders. These global restrictions have resulted in a significant impact to normal trading conditions, leading to:

  • supply chain disruption, including default by end buyers of goods and services
  • restricted access to lending facilities and capital markets
  • requests for deferred payments, adjusted payment terms and repayment plans
  • contracting customer demand.

With global insolvencies projected to reach 2008 proportions, trade credit markets will be challenged by the prevailing economic turbulence. Therefore maintaining regular contact with suppliers and customers is important.

Reviewing insurance cover

We strongly recommend an early review of your insurance cover is undertaken, with particular focus on:

  • reviewing your trade credit insurance policy wording, including policy exclusions. 
  • understanding what triggers a trade credit insurance claim and notifications that must be provided to the insurer to comply with the policy wording, including the required notification timelines.
  • working closely with your customers (debtors) to understand cash flow or trading concerns early that may trigger a notification and/or create a delay or default. 

Notifiable events

It is an important condition of the policy that the insurer is notified of any adverse information as and when you are made aware of it. Adverse information includes anything that could give rise to a potential claim against the policy.

Maximum extension period (MEP) breaches

The maximum extension period (or MEP) is defined as the point at which the insurer needs to be notified that an overdue account could result in a claim. The present circumstances heighten the chance of late payments.

Most trade credit policies include an MEP provision in the policy wording which specifies how many days from the original due date a business has to work with the buyer to secure payment, without notification to the insurer.

It is important to be aware that once the MEP has been breached, businesses must place the account on ‘stop’. Any goods or services provided post MEP breach will not be covered under the trade credit insurance policy.

As an MEP breach is deemed a ‘notifiable event’, the insurer must be notified immediately, providing the current debtor position and details relating to non-payment. 

Proposed Repayment Schedule

Where a debtor requests a formal repayment plan, it is important that you seek insurer approval prior to accepting the proposal, particularly where the rescheduled payment dates will see a breach in the MEP.

If a customer falls into protracted default or becomes insolvent, you will be indemnified for the cost of goods and services you have delivered within the scope of the trade credit insurance policy. When speaking with customers look out for signs that cash flow may be challenged and advise your HDL if insolvency or payment default looks to be a likely outcome.

Below is an example of a material fact an insurer would expect to be notified of.

“There is an outstanding $50k invoice. While it is not overdue, the buyer has stated that they are unable to pay the invoice as a result of cash flow issues.”

If you are unsure as to whether an event is deemed reportable, we recommend that you contact HDL for advice.

Credit limit reductions

COVID-19 related trading challenges have led to major limit reductions by the credit insurers across client portfolios. While insurers generally believe they are helping clients to navigate a more challenging commercial environment, we have seen a number of cases where there has been insufficient discussion with clients regarding the specific impacts of COVID-19 to their business.

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The information provided in this article is of a general nature only and has been prepared without taking into account your individual objectives, financial situation or needs. If you require advice that is tailored to your specific business or individual circumstances, please contact HDL.

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