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Trade Credit Risk


Jagan - February 25, 2021 - 0 comments

Of late, we have been seeing more enquiries in relation to Freight Forwarders / NVO’s (“SP”) clients being wound up / liquidated1. SPs are therefore concerned and wish to ascertain how they could recover their unpaid charges. This situation, perhaps, is more due to the business stresses of N Covid 19. Additionally, the freight rates have increased substantially in the past few months in the container liner industry such that the exposure to freight credits have also increased. This article will consider the risks associated with providing credit and options available to deal with such risks.

  1. Traditionally, Carriers (VOCC’s / NVOCC’s) avoid providing any credit to their clients with respect to freight as this would impact their cash flow to deal with corresponding expenses such as charter hire / slottage etc. This being said, smaller entities may sometimes be pressed, given that they have limited bargaining power, if any, to provide credit for freight in order to compete for business. If the cargo interests fail to make payment and files for liquidation or a debtor approaches the court to wind a company, the chances are that there are no amounts available to make any payments for the outstanding’s due to the SP. In the unlikely event of there being some funds available, these would go to satisfy firstly the secured creditors, and only when this has been accomplished, would the unsecured creditors be entitled for any recovery. The unfortunate fact is that after paying the secured creditors, there would be insufficient funds, if any, to make payment to the SP’s.
  2. A SP may have limited option to avoid giving credit to his clients, particularly, if this is the norm. However, if it is a common problem, industry bodies such as the Singapore Logistics Association, British International Forwarders Association, Federation of Malaysian Freight Forwarders etc could bandy together to agree that their members would not provide any credit, or if they would have to provide credit, this should be restricted to the value of services directly provided by them i.e. avoid provision of credit where funding has to be accomplished for third party costs such as Ocean Freights / slot costs to the Ocean Carrier / Feeder Operator, etc. While this would be the optimum way to deal with this issue, there may be resistance from the members of the association to agree as some may consider this as an opportunity to mop up additional business.
  3. If provision of credit cannot be held back, it would be best for SPs to have robust procedures to vet their clients to whom they provide credit, together with credit limits and credit period. These procedures should be reviewed regularly, say every six months, keeping in mind the prevalent economic conditions and the potential impact to the business and if required, should be amended. Any delay in receiving payments within the period allowed should prompt SPs to consider their options to recover as delays may seriously prejudice the chances of any successful recovery.
  4. The often-used quick fix solution is for SPs to hold delivery of cargoes shipped by the recalcitrant shipper till such time the freight outstanding’s are settled. Under common law, a carrier is not entitled to hold delivery of cargoes under Freight Prepaid Bills of Lading to a third party. This is because the SP by issuing a “Freight Prepaid” B/L is making a representation and which is being relied on by third parties (consignee) to make payment of the sums due under the sale contract. If the amount of freight dwarfs the costs of proceedings, the consignee’s may simply pay the outstanding freight demanded by the SP and in turn, try to recover with their counterparties. On the other hand, if the amounts are substantial, consignees may decline to make any payment and instead initiate action against SP’s and in which case, SPs would be forced to not only give delivery of the cargoes but also deal with the associated losses. We therefore do not recommend this quick fix solution as it is not legally tenable and that it may also adversely affect the SP’s reputation in the market.
  5. Escrow services: In the shipping and logistics industry, dominant service providers such as terminal operators, usually require SPs to have a deposit account allowing for charges to be automatically debited following provision of services. We believe a similar system could easily be implemented given that the charges of the SP are generally all pre-agreed together with the available facilities for electronic payment. One of the options could be use of Escrow services2 by an Escrow Service Provider “ESP” i.e., SP’s will provide their services subject to their being a proper ESP and who would make payment of the service charges as and when they become due for payment. This should be considered by the various interest groups given that the smaller SP’s may have no individual bargaining power and generally get affected whenever there is stress in the market.
  6. Insurance: 
    1. Transport Liability Insurance: SPs would generally be insured for their liability risks and which would include cover for costs for investigation and defence of claims. The cover may include the costs of recovering a debt if payment is withheld solely because of a claim3(words underlined by us for emphasis). Given the restricted cover available, it would not be of much assistance in dealing with the costs of recovery of any outstanding dues, particularly if there is no claim being put forth by the cargo interests.
    2. Trade Credit Insurance:
      1. If the exposure to freight credit’s is substantial, SP should consider Trade Credit Insurance provided by various commercial insurers. We recently discussed with a leading practitioner4 and who advised us the following:
        • This product has been available for some years. However, of late, there has been significant interest given the economic climate. Insurers are very selective of the risks they cover and would seek details of the counterparties for whom the credit is being provided.
        • The premium would depend on the risk and industry and could range anywhere between 1%-4%. There would be some co-sharing of risks i.e., if there is a loss, the Insured should also bear say 20-30% of the loss.
        • The M&D premium would range from USD 20,0005 or so. If we work backwords, the amounts at risk, say at 2% premium would be approx. USD 1 million.
      2. While the Trade Credit Insurance would be a product which could be considered by a large SP, we believe that the majority of SP’s would be unable to get any cover. Accordingly, such SPs could approach Insurers with the assistance of their association (BIFA/SLA/FMFF, etc.) to seek an “association” cover.
  7. Concluding remarks: It is important to ensure that any development should benefit the smaller entities given that they also play an important role in ensuring that there is competition and innovation. This being the case, the various industry interests’ bodies should work together to ensure that products and practices are available and developed so as to ensure that stresses are kept to a minimum. It is our view that SPs should focus on delivering on what they are good at (logistical services) and if parties desire credit, they should seek it from financial institutions / banks as they are better placed to deal with such issues. It appears to us that provision of Escrow Services and Trade and Credit Insurance could enable SPs to provide their services more efficiently.

 

1.  https://singaporelegaladvice.com/law-articles/winding-up-company-singapore/
2. See article at Mondaq and which can be viewed at https://www.mondaq.com/hongkong/contracts-and-commercial-law/1026510/the-importance-of-escrow
3. See T 5 Cl 1.2 Investigation & Defence of The Through Transport Club 2021 wordings.
4. Abhishek Chhajer, Head of Credit, Political Risks & Surety – Asia Pacific of Ed Broking (Asia) Pte Ltd.
5. https://www.aig.sg/content/dam/aig/apac/singapore/documents/other/apac-trade-credit-insurance-profile.pdf

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