Prior-To-Export Progress Payment Credit Insurance
By T. John Keevan-Lynch
What is a manufacturer of very large and expensive machines to do if a credit-worthy overseas buyer in a new (and lucrative) market demands open account payment terms, instead of paying with a letter of credit (L/C)?
Without the L/C, payment is not guaranteed and financing the manufacturing costs is more difficult.
However, some banks are prepared to finance the manufacturing costs of overseas sales by using the Export-Import Bank of the United States=s (Exim) Working Capital Guarantee (WCG) support, provided the buyer is credit-insured against non-payment to the bank=s satisfaction.
Credit insurance is easy enough to arrange, if the buyer is creditworthy and payment terms are 100% open account after export.
But what if the exporter negotiates several prior-to-export progress payments and one post-export final payment in order to reduce its non-payment exposure and its financing costs? Not so easy.
I recently approached two large well-established private-sector credit insurers regarding the prior-to-export progress payments. They could only offer a “Pre-shipment” policy (also called “Contract Frustration”) that insured against specific political risks that prevented the export or import of the insured product, such as war, expropriation, cancellation of an import or export license (ex.: President Carter cancelling export licenses to Russia). And, on a case by case basis, they were willing to cover the buyer’s bankruptcy.
But, the private sector insurers’ pre-shipment policies did not cover protracted default (90+ days slow pay) for the prior-to-export progress payments, the lack of which would make any Exim WCG inventory financing bank unable to finance the prior-to-export progress payments.
I also approached Exim. It turned out that Exim could insure the prior-to-export progress payments against non-payment due to commercial or political reasons, including the buyer=s Aprotracted default@. Exim also covered the buyer=s Anon-acceptance@ of the equipment before and after it was exported, provided the non-acceptance was not due to a product dispute.
Among the documents required for a progress payment claim, Exim sometimes accepts 3rd party verification (SGS or BV) that the billed work was completed per contract specifications, rather than requiring the exporter persuade the buyer to sign/accept the progress payment invoice.
These 3rd party verification documents also help reduce the possibility that a buyer might allege a product dispute as the reason for its non-payment of a post-export final payment, a cause of buyer non-payment excluded from credit insurance coverage. Why? Credit insurers slice a transaction into two pieces: the commercial piece, i.e., blue widgets vs. green widgets and the financial side; the buyer=s ability pay. If a buyer does not pay due to an alleged product dispute (AI ordered blue widgets and got green widgets!@) no credit insurer will pay a claim because (1) they don’t know the difference between blue and green widgets (and don’t want to know) and (2) they are only insuring the buyer’s ability to pay.
Moral of the Story: credit insurance lacks an L/C=s irrevocability (see Note 1 below). However, Exim=s prior-to-export progress payment protection gives a US exporter-manufacturer a viable alternative with which to reduce payment risk, finance the prior-to-export inventory and close the sale.
1) Credit insurance policies lack an L/C=s non-cancellable irrevocability.
a) No credit insurer covers a buyer’s “arbitrary” cancellation of the purchase order (considered a “know your buyer” risk that only the exporter can gauge and must bear) and
b) Even if the insurance policy is “non-cancellable”, the policy’s “Agreements of the Insured” prohibit the exporter from continuing to work for (or ship to) a buyer if the buyer is known to be in financial difficulties or has not paid earlier progress payments.
2) Exim defines insurable progress payments as payments for work performed and/or costs incurred and invoiced. Advance payments and milestone payments that are payable at a pre-determined time, with no requirement that a specified amount of work be performed, are not insurable.