Along with death and taxes, companies can count on the risk of business interruption to their operations at some time.
The supply chain may be affected by a major snowstorm anywhere in the United States or a typhoon in Indonesia. A cyber attack on a third-party vendor can take down a company’s website or result in a hack. One outgrowth of managing these risks has been the expansion of Business Interruption insurance that covers many business income losses.
Another solution that companies can use to manage risk is trade credit insurance, a Business Insurance product that protects a seller against losses from nonpayment of a commercial trade debt, which is especially valuable to the energy industry, says Jay Rose, managing director of Euler Hermes Energy.
North America is the fastest growing market for trade credit insurance in the world, he explains, and within North America, the largest industry is energy, which itself is vast and diversified.
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“Within the energy sector the ability to get and give credit is more critical than in many other industries because of the extremely thin margins, and high risk/reward,” Rose says. Euler Hermes recently hired a team of energy professionals to better understand the way the energy market works, especially transactions in energy products. This helped Euler Hermes Energy tailor trade credit insurance to meet the specific needs of the energy market.
“The Euler Hermes trade credit insurance programs are designed to be another financial tool in an energy company’s credit toolbox to help them mitigate risk and grow their sales,” explains Rose. “This insurance is more of a financial product until there is a default that gives rise to a claim. Then, it has the same value proposition that any other insurance line brings to a business. It takes a significant risk to the balance sheet and transfers it to a third-party.”
Trade credit insurance works in conjunction with a company’s credit and commercial teams. Explains Rose: “Executives are still tasked to grow in a volatile market with falling and low commodity prices, collapsing balance sheets, tight margin spreads and nervous stakeholders. Trade credit insurance provides increased liquidity for energy companies, and the cost of the insurance is low in relation to the margin that’s given by creating more opportunity.”
The economic environment and the energy sector are both changing dramatically, Rose observes. “The energy space has become global very quickly, a change from very domestic in the United States. LNG [liquefied natural gas] companies are selling LNG all over the world starting in 2015, putting more product at risk of supply chain disruption. There is more foreign investment in U.S. energy companies, Mexico has deregulated its energy industry, and new destinations are emerging.”
Trade credit insurance also has evolved, and policies are designed to align with the way the business operates in the 21st century. For example, trade credit insurance for the energy sector now adds spread risk loss coverage, Rose notes, which covers mark-to-market exposure. “If a company is selling product on a fixed price contract, and there is a credit default, they may have to liquidate that contract on the open market. If the price of the commodity has dropped significantly, the company has a marked-to-market loss,” he explains. “We now cover that spread, which is critical to the company’s internal value at risk. When you have value at risk that constrains an organization’s internal liquidity, it prohibits trade.”
Most agents are constrained in their ability to provide profitable solutions to assist companies in growing their revenue, Rose adds. Agents can become trusted business partners to their clients by helping them understand the risks they face from their operations, and trade credit insurance is one more solution that can be used to maintain stability within the client’s business.
Agents and brokers have to start with a deep understanding of the needs of the clients’ business and understand the solutions that the carriers can provide. Rose advises agents and brokers to have a discussion with their clients to see whether trade credit insurance is a product they’re aware of. “Then, it’s easy for agents and brokers to figure out when and where trade credit insurance could be a critical benefit to the clients,” he says, “regardless of where they are on the supply chain.”
Companies involved in moving commodity, producing commodity, and transporting commodity are good candidates for trade credit insurance, Rose says. Currently, he is working with major integrated producers, marketers, commodity traders, pipelines with huge capital requirements and collateral constraints, refiners, and shippers that want to put product on the water and in other countries—the full spectrum of the sector. His clients have found that there are multiple benefits for each company, for example, enhancement and leverage to working capital, overall risk mitigation, support and increased stability or safer growth.
Outlook for 2016
When asked about the outlook for the energy sector in 2016, Rose says, “The continued decline in energy prices has built more reliance on solid counterparty credit controls. Value parity between global regions and North American export capability have changed the market dynamic. This has created a larger, more integrated market for Euler Hermes Energy as companies are forced to expand their horizon without adding risk.”
Trade credit insurance is used far less in the United States than in emerging markets, especially Europe and Asia, Rose notes. He believes that globalization, the volatility of the energy industry and the aspiration for growth compound the need for agents and brokers to make clients aware of additional financial solutions that can help them leverage working capital, mitigate risk to their business and secure their largest and only uninsured asset on their balance sheet.
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