Trade-credit Insurance: Balm for Bankers

Spurred in part by globalization, a seldom-used Civil War-era financing tool may finally go mainstream.

In September 2002, Skyworks Solutions Inc. was in a quandary. Sales of its semiconductors were soaring, and the company was eager to boost capacity as well as research and development. But the chipmaker’s balance sheet was weak and debt-laden after a recent merger. That meant that traditional borrowing based on cash flow was costly, and in some cases unavailable, according to vice president of finance Paul Vincent.

To make matters worse, Vincent was having problems arranging for asset-backed loans — often used by undercapitalized companies — since lenders were wary of the quality of the foreign receivables he wanted to use as collateral. The banks were especially spooked by the political and economic risks in China, Korea, and other Asian countries where Motorola, Nokia, Ericsson, and the company’s other blue-chip customers operated.

Yet by July 2003, Skyworks managed to get a $50 million credit line by securitizing its receivables with Wachovia Bank, says Vincent. The company was able to achieve that by strengthening the creditworthiness of its receivables with a seldom used, and somewhat misunderstood, financing tool: trade-credit insurance.

The Woburn, Massachusetts chipmaker bought a policy from Atradius Trade Credit Insurance Inc. to cover about $60 million of its $94.4 million in receivables, effectively guaranteeing that the amount would be paid to Skyworks even if a customer failed to pay its bill or significantly delayed payment, Vincent explains.

The company placed its receivables in a special-purpose entity, which is fully consolidated with Skyworks’ financials for accounting purposes, and sold them to the bank. Skyworks collects the receivables or files claims in the event of non-payment; the bank is named as the policy beneficiary.

Today, Skyworks is a key player in the specialty-chip market for cell phones and other hand-held communication devices. Revenues have nearly doubled in the last three years, to $785 million in 2004. And Skyworks is profitable, earning $22.4 million last year. “The trade-credit insurance allowed us to unleash cash at a time when we needed to feed growth,” Vincent says.

The company hasn’t been alone in that. Trade-credit insurance, in fact, has been used in the United States since the last of the tall-masted ships were hauling cargo between Europe and the New World in the early 1860s. But its use here never spread beyond a small number of companies that operated in volatile markets, like retail and lumber.

Currently, only between 5 percent and 6 percent of U.S. companies buy it, according to the Credit Research Foundation, a non-profit research group in Baltimore. In contrast, 40 percent of European companies buy trade-credit insurance, says Neil Leary, chief executive officer and president of Atradius.

Why the discrepancy between the Americans and the Europeans? Tradition and culture. Although cross-border trade has been a fact of business life for centuries in Europe, many executives there harbor a mistrust of foreign receivables. Europeans also tend to have a lower tolerance for risk than Americans, adds Leary.

In the United States, CFOs have historically used other methods to reduce the risk associated with receivables. Some companies self-insure against bad debt. Others lessen their exposures by structuring stringent sales agreements or requiring customers to pay in advance or provide cash on delivery. Still others may be asked for a letter of credit. But as competition heightens and rivals battle for market share, many companies are reluctant to force customers to tie up their own capital to close a sale.

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