The impact of macro-economic and geopolitical dynamics

With an economic growth forecast of only 1.6% over the next three years for South Africa[1], businesses are facing a tough trading environment, exacerbated by the impact of geopolitical tensions, disruptive new technologies, persistent weather catastrophe threats and failing public infrastructure and services. South African businesses will also be navigating a prolonged stagnation of the world economies, in addition to higher interest rates and inflation and a heavily constrained power grid – all on top of the brimming socio-political risks inherent with the coming national elections at the end of May 2024.

And while there has been a 61% decline in business liquidations over the last 20 years[2], with 2023 reaching a record low according to Statistics SA, the steep rise of unproductive and unviable businesses is a worrying trend - what is referred to as the ‘zombie economy’[3]. In the corporate world, a zombie firm is one that, while still generating cash, is so heavily indebted it can just pay off its fixed costs and interest on debts, not the debt itself. Business and viability become harder for zombie firms in a higher interest rate environment, as it increases their borrowing costs. These firms survive by taking on more debt.

“Against this backdrop, comprehensive and consistent credit management of a business’s debtors’ book – one of its most important assets - has never been more critical. It’s important to know whether your business is dealing with a potential bad debtor or not,” says Maria Teixeira, trade credit specialist at Aon South Africa.

The top risks that South African businesses are contending with at present include:

• Energy security as a business inhibitor, where unreliable electricity supply is dramatically increasing running costs for businesses and reducing productivity.
• With interest rates remaining high, the cost of credit remains a factor for businesses to plan around. In a constrained economy monetary policy is likely to remain restrictive to confront inflation, which means it’s a factor that will remain for the time being.
• An unemployment rate of 32.1% in South Africa[4], equates to crime remaining an aspect for businesses to deal with in addition to simmering social and political risks that come with an election year.

Faced with all these obstacles, organisations must make better-informed decisions when it comes to providing goods and services on credit and protecting their bottom line from the potential for defaulting debtors – both large and small.  

“Trade credit insurance is one such solution and indemnifies a seller against losses from non-payment of trade debt arising from slow payment, insolvency and political risk in the event of a cross-border transaction.  Coverage is designed to prevent disruptive losses, reduce the risk of key account concentration levels and provide risk transfer of bad debt scenarios,” Maria explains.

From a South African perspective, the frequency of trade credit claims during 2023 slightly increased with flat and subdued economic growth increasing the incidence of non-payment events. “This trend is amplified when a business enters business rescue proceedings, in which case payments to suppliers and creditors are put on hold, usually for months until a plan is approved by all stakeholders. When this is coupled with a lack of payment or delayed payments from any other debtors, it creates a domino effect that can lead to serious cash flow problems for any organisation navigating a volatile business landscape,” says Maria.

Businesses engage in negotiations to secure the best prices, often leveraging suppliers against each other. In the process, they drive down margins on goods and services while also exerting pressure for swift credit facilities. Maria emphasises the challenge of extending credit to unknown clients without proper vetting and having trade credit insurance in place.

“A key benefit of putting trade credit insurance in place is that it requires and facilitates thorough credit investigations into any debtor, with recommendations on appropriate limits based on a debtor's financial capacity, and then also steps in for debt collection in case of payment defaults. With daily involvement in such matters, trade credit insurers possess quick access to extensive debtor information, which is invaluable when clients demand rapid credit terms,” Maria explains.

And as more organisations expand their operations across borders to boost revenue, they face complexities in navigating economic, political and regulatory uncertainties. Aon advocates for the use of trade credit insurance in cross-border transactions, enabling businesses to assess potential clients, set credit limits and avail themselves of debt collection services, thus mitigating risks on foreign soil.

Contrary to the misconception that trade credit insurance is exclusively for large corporations and comes with a hefty price tag, Maria dispels the misperception. “Coverage can be arranged on transactions of R4,000 and up, offering flexibility to insure individual transactions or an entire debtor's book. The coverage percentage, such as 80% varies and can be higher, implying that the business agrees to bear the balance of the loss if issues arise. This approach makes trade credit insurance a viable solution even for smaller companies,” Maria explains.

Recognising the uniqueness of exposure levels for different businesses and industry sectors, Maria recommends consulting with a professional credit risk broker. Such experts can provide valuable insights into business risks backed by data and analytics, enabling informed decisions to safeguard the bottom line of your business from the potential impact of defaulting debtors.

[1] Budget Speech: https://dirco.gov.za/wp-content/uploads/2024/02/speech-5.pdf

[2] Statistics SA Statistics of Liquidations Oct 2023 - https://www.statssa.gov.za/?page_id=737&id=1

[3] Zombie firms are filing for bankruptcy as the Fed commits to higher rates, CNBC - https://www.cnbc.com/2023/10/31/zombie-firm-bankruptcies-amid-fed-interest-rate-hikes.html

[4] Unemployment rate: https://www.statssa.gov.za/?page_id=737&id=1