Copyright by James Gordon Sheehan 1956 CREDIT INSURANCE FROM THE POLICYHOLDER»S POINT OF VIEW . DISSERTATION Presented in Partial Fulfillment of the Requirements for the Degree Doctor of Philosophy in the Graduate School of The Ohio State University By JAMES GORDON SHEEHAN, B.S.C., M.A. The Ohio State University 1955 Approved by; Adviser Department of Business Organization ACKNOWLEDGMENT A debt of gratitude for help in this work is owed to many business executives, state insurance department officials, and credit insurance executives. Particular recognition is due to Professor Theodore N. Beckman, Department of Business Organization, The Ohio State University, for his aid and encouragement. The American Credit Indemnity Company of New York, under the sponsorship of James L. McCauley, Executive Vice President, and Albert Ottesen, Cincinnati Special Agent, have rendered valuable assistance in this investigation. 11 TABLE OF CONTENTS CHAPTER PAGE I. INTRODUCTION....................................... 1 Purposes of the study. .......................... 1 Definition and delimitation..................... 3 Role of credit insurance in the American economy.. 8 Methodology of the investigation............... 26 II. HISTORICAL BACKGROUND AND PRESENT STATUS OF CREDIT INSURANCE.................................. 41 Early development, ........................ 41 Contemporary American companies................. 53 Extent of current coverage . ...................... 63 Provisions for credit insurance in other countries . 95 III. ANALYSIS OF BUSINESS EXPERIENCE WITH CREDIT INSURANCE. 100 Reasons for insuring accounts................... 101 Types of coverage u s e d ......................... 108 Insurance adjustments........................... 115 Amounts of loss paid by insurers................ 138 Cost of credit insurance ......... 147 Collection service ..... ...................... 159 Psychological value............................. 163 Reasons for discontinuance of credit insurance .... 16? IV. ANALYSIS OF THE NON-USE OF CREDIT INSURANCE BY ELIGIBLE COMPANIES IN SOUTHWESTERN OHIO.......... 173 Reasons for not using credit insurance as listed by presidents and credit managers ................... 173 iii CHAPTER PAGE Possible conflict between credit insurance and the duties of credit managers...................... 188 Opinions Regarding the advantages claimed by insurers . 192 Estimate of possible value of insurance of accounts for these f i r m s .................... 205 V. SUMMARY AND CONCLUSIONS.............................212 Conclusions..................................... 218 How credit insurance migtit be made more useful...... 224 BIBLIOGRAPHY................................. 22? APPENDIXES ..... ...................................... 236 A. "N»» Policy......................................... 237 B. Sample of letter sent to presidents of 500 firms....... 239 C. Questionnaire sent to presidents..................... 240 D. Answers of presidents to credit insurance questionnaire . 243 E. Sample of letter sent to credit managers of 5OO firms . 245 F. Credit manager’s questionnaire ....................... 246 G. Tally of answers to questionnaire by credit managers. 249 H. Combined credit insurance experience. ........... 252 I. Bad-debt loss survey. ............. 253 J. Credit insurance premiums and loss ratios, 1905 to 1953 • 256 K. Key to ratings...................................... 257 XV LIST OF TABLES TABLE PAGE I. Credit Insurance Losses and the Business Failure Rate. 13 II. Credit Insurance Losses and Business Failures Over $100,000 17 III. Credit Insurance Volume and the Rate of Business Failures Over $100,000 ........................... 20 IV. Growth in Credit Insurance Premium Volume Compared with Gross National Product .................. ..... 22 V. Credit Insurance Premium Volume Compared with the Volume of all Casualty Lines.............................. 25 VI. Sixteen Present-Policyholders * Reasons for Insuring Accounts.................................... 102 VII. Thirty-one Former-Policyholders' Reasons for Insuring Accounts........................................... 103 VIII. Table of Ratings and Coverage (Large)............. Ill IX. Table of Ratings and Coverage (Median) ............112 X. Table of Ratings and Coverage (Small)................... 113 XI. Adjustment 1 ............................ 122 XII. Adjustment 2 ........... 125 XIII. Adjustment 3 ......................................... 130 XIV. Aggregate Experience for Years Policyholders held Policies from 1912-1953............................ 141 XV. Aggregate Experience for Years Policyholders held Policies from 1946-1953............................ 142 V TABLE PAGE XVI. Credit Insursince - Premiums Written sind Losses Paid (Less Salvage) for Past Twenty Y e a r s ................. 144 XVII. Credit Insurance Statistics for "Business Cycles Ending with Depression". ............... 145 XVIII. Primary Loss Compared with Credit Loss in Southwestern O h i o ............................. 149 XIX. Distribution of a Credit Insurance Pronium Dollar During Twenty Years................................. 151 XX. Reasons for Discontinuance of Credit Insurance......... 165 XXI. Summary of Credit Managers» Reactions to Claims of Insurers...........................................193 XXII. Summary of Presidents» Reactions to Claims of Insurers.................. 206 VI LIST OF CHARTS PAGE A. Credit Insurance Losses and the Business Failure Rate .... 14 B. Credit Insurance Losses Compared with Business Failures Over $100,000 ........................................................................................ 18 C. Fluctuations in Credit Insurance Volume Compared with the Rate of Business Failures Over $100,000 ......... 21 D. Growth in Credit Insurance Premium Volume Compared with Gross National Product ............................... 23 E. Trend of Credit Insurance Premium Volume Compared with the Volume of all Casualty Lines................ 26 F. Disposition of Average Credit-Insurance Premium Dollar. 1$8 Vll CHAPTER I INTRODUCTION The contention that credit insurance, the insuring of accounts receivable, is one of the most controversial subjects in business, is not without supporting evidence. To say that it is one of the most controversial subjects in the field of credit and collections is a platitude. This is not an ordinary controversy, but one marked by wide, if not violent, differences of opinion. The proponents and opponents of credit insurance are voluble, and have been given promi­ nence in our business rhetoric and literature. Yet, there has been relatively little scholarly research on the subject, and such as has been attempted has been primarily from the insurance company point of view. No single extensive study based on an objective analysis of actual policyholder experience is available. To provide such a reference is the main purpose of the present study. Purposes of the Study Since the latter part of the 19th Century, credit insurance conpanies have obtained several millions of dollars yearly in premiums frcan American businesses. Many of the subscribers have been large and respected concerns from all regions of the country. That there have been many satisfied custcxners is attested by the fact that some have renewed policies for many years. On the other hand, the majority of firms have declined to insure their receivables. Have the latter failed to take advantage of a worthy means of transferring the risk 1 2 of one of the primary catastrophes that plight American business, the bad-debt loss? Or have the credit insurance policyholders carried an unnecessary expense, the credit insurance premium? Answers to these and other questions concerning the essence and effects of credit insurance are to be answered in this investigation. American business is entitled to know the facts about credit insurance in practice. Actual case studies often reveal important conditions that are likely to be overlooked in theoretical explanations. Even facts of opinion from fellow men regarding a controversy may be of help to executives who must decide between two possible courses of action. Both techniques were employed in gathering material for this report, with the objective of providing the American businesanan with the best possible information upon which to judge credit insurance in his particular situation. Although this document has been written primarily to aid businessmen directly, the purpose is also to provide information which may assist credit insurance executives in offering the best service possible to meet the needs and desires of their customers. Businessmen generally appear to become acutely aware of the "credit problem" when they are either expecting or experiencing reces­ sionary periods. This leads to an active interest in the possibility of transferring credit risks, and it is not surprising that credit insurance sales have recently reached a new high level, even if one discounts that part of volume due to price level increases. To the individual businessman, certain indicators suggest that he should be more cautious in extending credit; and yet, at the same time, he 3 would like to be in a position to increase sales by a more liberal credit policy. From a social viewpoint, it would seem to be desirable to shift the bad debt risk to insurance specialists, if they are thoroughly capable and conscientious in assuming them, and to spread costs over a large number of policyholders on an efficient, scientific basis. It has been suggested that this would