In response to a recent blog in which I suggested that companies not reporting bad debt losses are not taking enough credit risk, I received an email suggesting that I had overlooked an important option which would allow B2B creditors to offer credit to less creditworthy companies with little or no credit risk. His comment was essentially this: Credit insurance is a “silver bullet.” Bad debts are the problem and credit insurance is the solution.
Of the 25 years I have worked in credit and collections, I spent at least ten years with companies that purchased credit insurance including my present employer. In each of those ten years, my company experienced bad debt losses, and in only one of the ten years were the costs associated with credit insurance offset by the recoveries we received. How can this be true? The answer is that there are a variety of factors, including these:
- My company [and most applicant companies] cannot not get credit insurance on every account for which coverage is requested. Unfortunately, it is often these higher risk accounts (the zero credit coverage accounts) that fail
- Credit insurance is never first dollar coverage. Insurance policies have (a) an annual deductible, (b) a per loss deductible and (c) a minimum dollar loss threshold below which losses were not insurable. Put these together with the annual credit insurance premium and it is relatively easy to see how hard it could be to receive more than you put in.
- Each credit insurance policy issued had an annual dollar cap on payments. If and when the cap on payments is reached, all bad debt write offs above the dollar cap are not covered by insurance and are bad debt losses.
In my opinion, credit insurance is not the silver bullet solution to bad debts. However, I have a slightly different perspective on a statement I made previously that “bad debt losses are inevitable for companies offering open account terms” which is this:
“Bad debt losses are inevitable for companies offering open account terms… unless the company’s credit department refuses to accept appropriate credit risks.”
That’s my opinion. What is yours?
Michael Dennis’ Covering Credit Commentary. Michael’s website is www.coveringcredit.com.
The opinions presented are those of the author. The opinions and recommendations do not necessarily reflect the views of CMA, or their Officers and Directors. Readers are encouraged to evaluate any suggestions or recommendations made, and accept and adopt only those concepts that make sense to them.