Rising insolvencies are forcing businesses to reconsider trade credit insurance to protect their debtors’ ledger

By Claire Heaney

Arise in insolvencies has sparked a jump in trade credit insurance claims, with building industry collapses having devastating knock-on effects for suppliers across electrical, plumbing and whitegoods industries.

Pandemic measures, including JobKeeper and HomeBuilder, put millions of dollars into the economy, holding insolvencies at bay. Temporary changes to regulatory mechanisms, which helped to stave off anxious creditors, have been lifted, and are contributing to a rise in bad debts and business failures.

On building sites at the centre of high-profile collapses, some suppliers have walked away wondering if they will be paid, while others, who have taken out trade credit insurance (TCI), are faring better and expect to recover much of the money owed.

Trade Credit Insurance, a risk management product helping businesses protect their debtors’ ledger if any of their customers default on payment through business failure, political or other problems, has experienced an increase in inquiries in recent months. While businesses traditionally insure assets, they often don’t realise that their accounts receivables are one of their biggest assets.

Data from broker National Credit Insurance (NCI) reveals that trade credit insurance claims and Australian companies entering external administration have been increasing since January 2022, but claims jumped significantly in the March quarter.

NCI’s trade credit risk index shows 339 claims worth $34.6 million were lodged in the first quarter of this year, with populous states accounting for 79% of claims. Victoria had 32%, NSW 23% and Queensland 24%.

Headline-grabbing business failures in the first quarter of this year have included builders Porter Davis, school builder Lloyd Group, PBS Building, and transport company Scott’s Refrigerated Logistics.

The index score increased to 691, off the back of increased claims and debt collection actions in the first quarter of 2023, up 36% for claims and 26% for debt collections on the final quarter of 2022. In the second quarter of 2020, when the lockdowns were in full force, the index reached a high of 1067.

The 2023 first quarter also saw a 19% jump in serious overdues reported, meaning businesses were not being paid in a timely manner.

NCI Group Managing Director Kirk Cheesman tells Insurance News uninsured suppliers to companies such as Melbourne-based home builder Porter Davis, which collapsed in March, now face cashflow difficulties.

He says people working side-by-side on construction sites will have “different fates”, with those taking out trade credit insurance able to walk away with most of their losses covered.

“TCI has had an interesting cycle over the past three years,” he says. “Initially everyone thought with lockdowns and lack of work many businesses would go broke.

“However, once the government support packages kicked in, the opposite occurred. Very few insolvencies occurred over 2020, 2021 and the first half of 2022,” Mr Cheesman says.

“Insolvencies are almost back to pre-pandemic levels and a flow-through of businesses that hung on with government support during covid are now failing.”

Mr Cheesman says businesses are navigating increasing labour costs, inflation, interest rates (cost of funds), skills shortages, raw material costs and delays and weather events, with each factor “chipping away at their viability”.

Allianz Trade says construction represents more than 30% of all the insolvencies in Australia, with insolvencies in accommodation and food services also increasing as a proportion of overall insolvencies, highlighting the deterioration in liquidity in those sectors.

“Our observations confirm official reports of increased incidences of insolvencies in Australia, with the construction sector seeing the greatest impact and the first sector to go back to pre-covid rates of insolvency,” Allianz Trade Chief Executive Chris Doube says.

Internal Allianz Trade data shows the rate of payments slowing, with an increasing number of payments becoming overdue.

“This is also reflected at the global level with the situation in general being more difficult due to multiple factors like weaker GDP growth, increasing interest rates and slowing consumption,” Mr Doube says.

“We currently estimate that there will be a 21% rise in global insolvencies this year, and a further 4% increase in 2024.”

Like many in the industry, trade credit adviser Marsh was bracing for a run on claims during the pandemic. But Marsh Pacific’s Managing Principal Karan Bhatia says the insolvencies during 2020 and 2021 didn’t eventuate, thanks to government pandemic support for businesses.

“The construction industry is under a lot of pressure with a number of fixed costs,” Mr Bhatia says. Fixed contracts signed 12 to 18 months ago do not consider increases in the cost of materials and labour costs, putting pressure on businesses.

He says accommodation, food services, and retail also face pressure.

He points to Australian Securities and Investments Commission figures on insolvencies, year on year to April 24, which was released on May 8.

In 2022, the construction industry accounted for 941 failures, increasing to 1709 up until April 2023.

Manufacturing was up from 146 to 394, accommodation and food services from 556 to 865 and retail from 227 to 417.

Mr Bhatia says the uncertainty resulted in an uptick in inquiries for trade credit insurance. While many multinational companies already maintain TCI policies, the product has further growth potential. 

Now Allianz Trade expects an increased risk of insolvencies to drive the uptake of trade credit insurance.

“We certainly have seen an increased uptake in trade credit insurance and are finding that there are many more companies interested to buy trade credit insurance for the first time,” Allianz’s Mr Doube says. “We have also noticed a trend among clients who in the past two years decided to stop insuring their receivables altogether and ‘self-insuring’ due to the safer economic environment created by the government’s Covid-19 support packages.

“However, in the past 12 months the uncertain economic conditions have seen them revert to taking up insurance.”

NCI’s Mr Cheesman says while TCI is popular in Europe, having grown off the back of exports, there is still scope for bigger uptake in Australia.

However, understanding about how the insurance can protect a business’s debtor ledger is still low. It can be known as debtor insurance, export credit insurance and accounts receivable insurance.

“A common myth is TCI is expensive,” he says. “It’s not. An average rate is around 0.25%, therefore for 90% return/cover on a $75,000 invoice, the cost is $187.50 + GST,” he said.

“In Australia there is a bit of a “she’ll be right” attitude. Quite often the debtors’ ledger can be your major asset.”

Mr Cheesman says TCI premiums remain competitive and stable. While insurers are open for business to new and existing customers with policies and credit limit cover, they are wary of suppliers servicing residential building and construction due to the recent insolvencies.

“There are many factors which can impact the pricing of a TCI policy, and therefore doing a thorough assessment of your credit risks and what risk transfer is right for your business is critical,” he says. “Naturally those policyholders who have high loss ratios and have experienced the benefit and comfort of receiving money back after having a client go bust, can expect some readjustment of their premiums.”   


Keeping companies safe from others’ issues

When assessing a business for trade credit insurance, an insurer will want answers to key questions around estimated turnover, terms of payment and any bad debts over the preceding three years.

It also will consider if the potential policyholder has credit mitigation measures in place.

Marsh’s Mr Bhatia says while insureds can’t control the businesses of their customers, they can control any effects they might have on their own business.

In addition to risk mitigation, TCI can assist with growth plans, and a trade credit insurance policy may help to secure bank funds for business expansion.

He says TCI premiums are at present the most competitive and lowest in three to four years. Insurers, spared during the lockdowns, had a buffer, and were keen to write new premiums. Especially for businesses with strong credit management procedures and low bad debts in the last few years.

Allianz’s Mr Doube said the insurer works with policyholders to identify customers at risk of defaulting.

“We communicate frequently with clients in relation to their various business issues. This could be about a new company they want to trade with, whether to export to a new country that might pose more risks or simply have different trade practices, or when they are in receipt of critical negative information on some of their existing clients or a change in their processes or organisation.”

Mr Doube says businesses looking for insurance are assessed on their business strategy, their credit management approach, the countries they trade with, and the sector they operate in.

“We believe that there are strong companies even in troubled sectors to whom we can offer cover.

“A demonstration of our strategy is when we didn’t completely exit from all travel-related risks during covid, continuing to support our existing clients in travel-related businesses even if their insurable turnover was negligible.

“These clients are now heading towards a full business recovery.”