SMBs face roadblocks seeking credit insurance. Here’s how alternative funding solutions can help
We recently wrote about recessionary fears and rising inflation; to counter these fears, many business-to-business (B2B) companies are considering trade credit insurance (TCI), an important risk management tool for small to mid-sized businesses (SMBs) that sell goods or services on credit.
OK, now that we’ve gotten all the acronyms out of the way, let’s understand the importance of TCI and how it impacts businesses. According to an online article in Financial Executives International, “TCI is used to protect a company’s accounts receivable against customers unable to pay due to insolvency, non-payment or political risk,” author James Daly shares. “In fact, TCI provides significant liquidity to the B2B economy and protects $300 billion in transactions a year in the U.S. Trade credit insurance provides a valuable level of protection. Not to mention, it can also be leveraged within financial institutions to offer businesses increased cash flow and funding solutions.”
Sounds like a smart plan…what’s the catch?
All-in-all TCI is a straightforward, smart tool for businesses that want to mitigate risk, especially in times of economic downturn. However, access to TCI for many SMBs isn’t as straightforward.
According to an article in Insurance Times, David Newman, chief investment officer of the Allianz Working Capital Fund, shared, “When economies do worse, banks – which typically use trade finance as their bread and butter – typically pull financing from the weakest credits.” Newman went on to say that the reduction in financing has been exacerbated by increased regulations on banks to not grow balance sheets amid record levels of inflation and that ultimately, “it is likely that SMEs will see financing getting withdrawn or becoming a lot more expensive.”
Businesses that are doing the right thing by investing in trade credit insurance to protect themselves from late payments or customer failure are being pushed aside to make room for larger corporations that have a stronger balance sheet and financial history. In 2020, the trade finance gap for MSMEs (micro-, small and mid-sized enterprises) increased from $1.5 trillion to $2 trillion with 23% of applications in the same year, but 40% of rejections, according to a Ledger Insights article.
Alternative funding helps SMBs get around TCI roadblocks
Recently, the World Trade Board revealed a new framework that aims to address the inequality micro and small businesses experience when it comes to financial inclusion. Included in their five key components to drive meaningful impact is to develop an infrastructure to encourage investment in credible MSME trade finance assets through new funding sources. The roadmap recognized that even though trade finance for MSMEs has a higher perceived risk profile, transactions that are fundamentally workable are being denied. New funding sources will be encouraged by infrastructure that will close the gap between perceived and actual risk.
What the World Trade Board is recognizing is that the addition of alternative lenders and funding solutions can give SMBs the cash flow and capital to purchase trade credit insurance and keep themselves afloat in times of economic uncertainty. This is in stark contrast to how banks and traditional lenders function in economic downturns, which is to back larger corporations and either pull financing altogether or significantly increase borrowing costs for SMBs. When SMBs represent more than 90% of the global business population; 60%-70% of employment; and 55% of GDP in developed economies, it’s time they receive the financial backing and support they deserve and have earned.
This article originally appeared in The Kansas City Business Journal.