Financial Risk Management - Uncovering the Limitations of AR Insurance

Why accounts receivable insurance?

Accounts Receivable (AR) Insurance or Trade Credit Insurance has been growing in popularity. There is increasing demand for net terms as a payment option from business buyers. However, offering net terms on invoices creates several business challenges: Credit management resourcing, financial risk of non-payment or default, operating in an uncertain credit environment (global supply chain issues and pandemic), and disrupted cash flow (30, 60-day net terms).

While AR Insurance can play a useful role in certain circumstances, there is a better way to manage credit risk, overcome net terms challenges, and still grow your business. We’ll take a closer look at the limitations of AR Insurance and the alternatives.

How can a sub $5M revenue business manage credit risk?

There are multiple options available to a B2B business. Let’s start by assuming they are under pressure to offer net terms (30 or 60 days) as competitors do the same and it would mean lost sales otherwise. We'll cover businesses with less than $5M revenue to start with.

Smaller or newer businesses are more likely to have cash flow as the most pertinent concern to their survival. If they’re offering net terms this is effectively tying up cash for 1-2 months and slowing the growth of the business. So, what can they do?

In-house credit management

This leaves a cash flow problem which could be filled by: Bank line of credit or a business credit card. Smaller businesses may not have a strong credit history and may find it difficult to obtain a line of credit.

Factoring invoices

Use a third-party company to ‘finance’ invoices, this can unlock cash faster from net terms invoices. However, this can be expensive and damage the business’s reputation and relationships with their buyers (the Factoring company collects payment directly and often aggressively).

How can a $5M-$50M revenue business manage credit risk?

Larger businesses tend to have reached a certain level of stability, cash flow is no longer their number one concern. Larger businesses will however have larger customers, larger order values, and overall more customers and invoices. All of this means that the total amount of money outstanding because of net terms on any given month can be quite significant. Given the 80:20 rules dictates most things in life, a business is likely to have a few larger customers that make up the lion’s share of their revenue.

Accounts receivable insurance

This insurance is used to cover the risk of customers defaulting on paying large invoices. Generally, only a band of risk is covered as there will be a high deductible to start with as well as a discretionary limit. Don’t forget, you’re only ‘covered’ when the insurance company pays out, which is not guaranteed and could take weeks to months.

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Resolve: Net-terms-as-a-service

Resolve is similar to AR Insurance in that it removes the risk associated with offering net terms. However, there are some fundamental differences to AR insurance. Resolve removes risk in real-time, each approved customer’s invoice is advance paid within 1 day. This means cash flow is guaranteed - there’s no bureaucratic red tape of uncertainty surrounding if or when a payout will happen. Resolve also covers a much wider range than AR Insurance, from smaller invoices through to a $1 Million credit line, per approved customer. Resolve is also valuable for sub $5M businesses that are offering net terms and looking to grow.

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Resolve (Net-terms-as-a-service) compared to AR Insurance?

1. Broader coverage & risk mitigation

AR Insurance essentially covers you for a band of risk that sits between their deductible and their limit of liability. Because of high deductibles, there will always be losses incurred by your business, and those losses need to be significant before any insurance even kicks in.

It’s not uncommon to have a deductible as high as $250,000. This means if one of your customers defaulted on a $450,000 invoice, you’re only covered for $200,000 after the deductible is subtracted. To make matters worse let’s say your limit of liability is $400,000, this means you’re now actually only covered for $150,000 of that $450,000 defaulted invoice. Ouch.

With Resolve, there are no minimums. Every single invoice with net terms can be de-risked, meaning Resolve’s risk mitigation is far broader and much more flexible. Once a customer is approved for a credit limit, that covers any size of invoice from $1,000 to $1,000,000.

2. Guaranteed real-time risk mitigation

At the end of the day, an insurance payout is never guaranteed. If the worst-case scenario happens, you’ll still need to submit a claim, wait for a decision, and then wait for the actual payout. This can take weeks or even months until the money makes it into your account.

With Resolve, you get guaranteed and real-time risk mitigation. Each net terms invoice is advance paid within 1 day. Individual customer approval for a credit line is simple and happens within hours. From that point onwards each invoice from an approved customer has coverage from Resolve.

The best part is Resolve acts as your credit expert on tap - sharing credit check results so your team has full visibility and insight into all your customer’s credit lines and credit scoring. Insurance companies do not share this useful credit information with you about your customers.

3. Improved financial velocity

Resolve doesn’t just remove AR risk, it also increases the financial velocity of your business. OK, so we have seen that Resolve can de-risk AR far more comprehensively than AR Insurance. But the most impactful benefit of Resolve is to flatten your cash flow curve and unlock capital for growth. AR Insurance will do nothing to help your business in this regard.

Floating net terms invoices month to month (or longer) means your business is essentially acting like a bank or credit facility. The reality is this is not helping your core business and it can be a huge distraction and liability to manage credit properly. Resolve advance pays net terms invoices within 1 day, this removes risk and it dramatically changes cash flow for your business. In many cases businesses utilizing Net-terms-as-a-service, such as Resolve, see this translating to growth in sales and an ability to pay their own suppliers reliably.

4. Enhanced payment processing capabilities

Another area that AR Insurance won’t help with - payment processing. It’s likely you have a team member (or members) dedicated to managing your businesses’ AR and payments processing. Imagine if you could enhance their role so that they can work on the most impactful things, rather than tedious follow-ups and payment matching tasks.

Net-terms-as-service solutions like Resolve cover every aspect of offering and managing a net terms program, and they integrate with your accounting systems. They streamline everything from managing credit assessment and credit risk, right through to payment processing, payment reminders, auto-bookkeeping, and collaborative collections support if needed. Many businesses find they can reduce or even eliminate the need for 3rd party accounts receivable accounting services when using a solution like Resolve.

5. Protects customer relationships

The downside of AR Insurance is the impact it can have on your customers. Your largest invoices are coming from your best customers. Unfortunately, these invoices and customers will require the most intrusive under-writing from an AR Insurance company. This approach can put a significant strain on your customer relationship, especially existing customers now being asked to jump through hoops and provide sensitive financial data to prove their creditworthiness.

Resolve takes a far different approach. Unlike AR Insurance companies, that will likely not want to do business with you again after a loss, Resolve aims to form long terms partnerships and help businesses grow over time. The approach is to add value and to improve your customer’s experience with your business. Resolve streamlines and simplifies net terms and payments for your customers too. They get more time & more ways to pay their invoices with you. Resolve’s payments dashboard means they can easily access invoices, their credit line, and multiple payment options.

Modern graphic interface showing symbols of strategy in risky plan analysis to control unpredictable loss and build financial safety.

When does it make sense to choose AR Insurance?

There are definitely some scenarios where it makes sense to use AR Insurance or even Factoring, and where it will be the best option to protect your business from serious financial risk. International sales can have long timelines and introduce especially high risk for unknown or new customers. If your business has an out-sized single large customer or a single large set of invoices coming down the pipeline - this is a scenario where it would make sense to use AR Insurance.

Net-terms-as-a-service solutions are designed to partner with your business on an ongoing basis, and to work with a portion of or all of your customer base. This is where your business will get the most value from a platform such as Resolve. If you’re looking to de-risk a single large customer or single large invoice, it’s likely not the best fit and AR Insurance or Factoring may be beneficial. Instances where AR Insurance may make more sense include:

International sales

International exporters face additional risks and uncertainties due to differing legal systems, language barriers and in many cases severely limited publicly available information on business counterparties. AR Insurers typically have global reach through partnerships with local insurers in the country you are doing business in, which could possibly be leveraged to de-risk your transaction.

Single large balances

AR Insurance can play a role in mitigating a “catastrophic” loss on a single large balance. Landing an outsized large account can be transformational for a business, however, this could also create an acute concentration of risk on a single large balance. Economic history is littered with large and seemingly low-risk businesses rapidly falling into bankruptcy. Such low probability but high impact events are often referred to as Black Swans by economists. AR Insurance comes at a cost, but may help you sleep at night if you have all your eggs in one basket.

Summary: The best way to mitigate financial risk

Credit risk can be summed up as; What would happen if your largest customer didn’t pay their next invoice? Businesses that deal with physical goods are often expected to offer net terms as a payment option. It turns out that Factoring (for smaller businesses), and Accounts Receivable Insurance (for larger businesses) both have serious limitations and impact your customers.

Net-terms-as-a-service solutions like Resolve not only provide better risk coverage, they also help your business significantly by flattening the cash flow curve and unlocking capital for growth. In fact this type of solution enhances the people and resources you already have on your accounting team. Resolve streamlines and improves all aspects of credit management and payment processing.

Net terms & credit management

Ready to offer smarter credit with Resolve?