Eligibility of Guarantees as unfunded credit protection

Companies using non-payment credit insurance (NPI) (or other unfunded credit protection) as a credit risk mitigant for capital relief may well have seen the Prudential Regulation Authority’s Consultation Paper issued in February 2018. This paper (CP6/18) refers only to “guarantees” (not insurance) because this is still the approach adopted under the Capital Requirements Regulation (CRR).

Right now, it is now generally accepted that non-payment credit insurance, can fall within “guarantees” under the CRR.

Whilst BExA generally welcomes initiatives that simplify and clarify legislation, this proposal has significant unintended consequences that BExA believes will be damaging for UK exporters and UK regulated financial services providers.

In particular, the seemingly simple clarification to the interpretation of the term “timely” will render many widely used trade finance instruments ineligible from capital relief, raising costs for our exporters and making our trade finance service providers uncompetitive against non-UK regulated entities.

In a time where the UK is looking to boost exports to help grow our economy post-Brexit these changes will create a significant headwind for UK exporters and disproportionately affect our SME exporters.

Simply put – the proposed clarifications (particularly in respect of the requirement for more extensive legal opinions and timeliness) cannot be allowed to progress further in their current form.

What would the impact be on UK Exporters?

BExA is concerned that the proposed changes will increase costs to UK exporters and will also further reduce access to finance for SME exporters. In turn, this will have an adverse effect on the competitiveness of UK exporters.

Fundamentally BExA is concerned that there is a significant risk that the proposed changes will have the following adverse impacts on UK exporters:

• Reduced competitiveness of UK exporters
• Reduce access to finance
• Increase cost of finance
• Withdrawal of existing CRM facilities
• Additional security or collateral requirements
• Increased cost of external legal opinions
• Increased likelihood of contract cancellations or terminations

For trade and export transactions, access to finance is a key issue for SMEs. In recent years, BExA members have reported concerns about the additional “on-boarding costs” which are being faced by financiers in providing finance for SME exporters. Anything which further increases the cost of and reduces access to trade and export finance will reduce the competitiveness of UK exporters. Increases in financing costs are of particular concern to SMEs who may have little or no “ancillary business” to provide to financiers to offset the impact of these increased costs making them in effect “unbankable”.

Access to CRMs such as third party guarantees from UK Export Finance (UKEF) and non- payment credit insurance products from the private insurance market is key to the ability of UK exporters to gain access to finance. If access to CRMs is restricted on what have been, to date, standard terms and conditions as a result of the PRA’s proposed “clarification”, BExA is of the opinion that SMEs may, as result, struggle to get appropriate trade and export finance whilst larger exporters will face an increase in financing costs.

BExA is also concerned that exporters (and importers) will have to provide additional security. A key issue faced by SMEs in accessing trade and export finance is their ability (or inability) to provide adequate security or collateral – hence the critical importance of eligible CRMs from ECAs and the private insurance market.

For trade and export finance transactions the existence of a claim waiting period can have a positive benefit for all parties involved – the exporter, the buyer, the financier and the provider of the CRM. This is of particular importance for larger export and project financings as it gives the parties the opportunity to seek to resolve the underlying default without being forced to collapse the financing and risk the cancellation or early termination of the underlying export contract.

As an observation, even with a claim waiting period of, say, 90, 120 or 180 days the beneficiary of the CRM is likely to receive payment sooner than if it had to enforce against the underlying obligor directly through the courts or arbitration.

Impact on UKEF, banks and the private insurance market

Similarly BExA is concerned that the proposed changes will impact on the UK exporter populations’ financial services providers in the following ways:

• Increase capital allocation requirements for ineligible CRMs driving increased costs
• Ineligible CRMs will cause existing financings to be revoked or cancelled
• Hiatus in decision making will cause uncertainty for overseas buyers and push them elsewhere
• Create an uneven playing field between ECA and private insurance CRMs

The UK has in UKEF one of the world’s leading export credit agencies. The UK also has the world’s most developed private insurance markets.