Business Protection Bulletin

Have you ever compared premium quotes only to discover the policies had different deductibles, limits, or even a different audit basis? Confusing, isn’t it?

Premiums do not compare easily, nor do they necessarily reflect costs of your risk profile. Lower premium is not always your best bet. If it were, going without any insurance would be every company’s default position. But, uncovered risk puts companies out of business every day. So, how do you know the right amount to budget for insurance? You don’t, so budget for risk, and from that, buy insurance.

As a business owner and entrepreneur, identify and assess your risks. Uncovered liability risks, like driving vehicles or manufacturing a product, can destroy your company. Running out of postage will probably not slow things down. You prioritize and decide what liabilities you want to assume and what liabilities you want to transfer.

For example: automobile physical damage. How large is your fleet, how predictable is this loss? If you have one executive new vehicle with financing, you’re going to buy insurance to cover it; just think deductible versus premium. If you have twenty similar vehicles, say panel trucks, and the fleet is paid for, you may consider not insuring the physical damage for collision or other perils. Why? Because you’re just paying a fee to bank the money while you do the claims legwork anyway. Your drivers can reduce your risk through defensive driving techniques and not drinking, texting or using cell phones. Keep the premium, accept the risk.

How about your products in transit? Is the value in one load big enough to ruin your company financially? Or do you ship relatively small amounts by common carriers. The former requires insurance, the latter, self-retain the loss.

Okay, you’ve thought through your process. Now, in plain English, tell the agents what you want covered. Employee safety and health, if my products cause harm, if my car hits someone, this type of list. Then, how much per incident are you willing to pay? First $1000 of any loss, that type of decision. Now, choose a number or some percentage of your annual gross and limit all claims to that amount; the most you’re willing to pay for all claims, including insurance premiums. Let the agents design around these parameters and compare these programs.

The best predictor of future behavior is the past. Maybe, but it’s at least helpful to review the past with an eye towards improvement.

Reviewing losses can be tricky. Insurance company analysis utilizes an “exposure unit”. Sometimes an exposure unit is one thousand dollars in sales, one hundred dollars in payroll, square feet of a building, one hundred dollars of value, or per person. The important idea is to compare relative risk and loss rather than absolute quantities.

Chart your losses, particularly insurable losses or claims made or paid. Now chart payroll, number of employees, sales, goods manufactured, units manufactured, or any other reasonable business data points.

Compare the trajectory of the charts. Does the pattern of losses mirror one of the other statistics? For example, does your workers compensation losses trend with payroll, sales, number of employees, or even square footage of your business?

Some claims history is explained by firing one employee, maybe a bad driver. Don’t ignore the fact that a bad driver got through your screening system. Make sure that leak has been plugged before thinking the problem is resolved.

Other claims may be reduced by a larger work area. Perhaps employees were just too crowded to work safely. That would indicate resolution, but think in terms of square foot per worker as a crowding issue in the future.

When you find your unexplained losses and the closest statistical trend, let’s assume claim dollars and gross sales, than forecast the business statistical trend and the claims amount.

This chart will also predict your insurance costs.

Use the same format to hindcast claims. Start now and project into the past. How much error is in this prediction? If it’s close year-to-year, it should be a good indicator of the future.

Start thinking about why these two data sets mirror. Do claims rise as you push to meet demand? Do you over-staff to meet demand and some employees lose focus? Are your claims about products not being quality checked at a certain volume? Once diagnosed, any loss control issue can be resolved, and pay you dividends. Ask your loss control service for help on these issues.

Your property has adequate and appropriate coverage against fires, windstorms, collapses, even airplane strikes. What happens to the income loss during renovation?

Some companies spread this risk by maintaining two or more manufacturing plants, or the business can be handled through remote offices temporarily. How about your business?

Let’s assume you lose your main building for six months. Will the income loss be devastating? Will additional costs and expenses continue and drive you to the brink of bankruptcy?

Indirect losses can include production costs, extra expenses to operate, even extra expenses to deal with an unfamiliar supplier because your main source just burned down.

Review your sources, suppliers, infrastructure and determine the value of these items to your income stream. Do you absolutely need your physical plant, or would it be relatively easy to rebuild elsewhere? What net income would you lose while rebuilding? What expenses would continue regardless?

What are the critically important resources? Do you have a supplier who would be impossible, difficult, or costly to replace? How about your power supply. Do you have alternatives, or is this a one-source problem?

Each of these issues are a source of extra expense, loss of income or loss of net income exposures. Normally, this coverage is added to a fire coverage or even included in a business owner’s policy. Check with your agent and find out what options you have.

Take some time to prepare an emergency plan for your business. Your loss control service provided by your insurance company can help.

In the plan, begin with onsite issues like critical need machinery, buildings, equipment, or personnel. Move off campus and consider suppliers, power sources, customers, transporters, raw materials dealers, or retail outlets.

Anyone indirectly serving your company or buying from your company is a potential indirect loss. Suppose you’re the supplier and your biggest client burns to the ground, cutting off six months worth of sales. Do you have a contingency plan?

Emergency planning followed by insuring these potential losses can save your business.

In any traffic accident, two entities can be held liable for damages: the at-fault driver and the vehicle owner. Insurance companies generally view the vehicle’s insurance to be primarily liable with the driver as secondary.

Let’s assume you’re an entrepreneur using your personal vehicle for company business. You are the owner of the car and the driver. Only one responsible party, right? No. Since you’re using the car for business, the business can be held responsible since you’re driving on its behalf.

So, who pays when the company has no automobile insurance?

The business pays all damages not covered by your personal insurance. Worse, the business pays for legal representation whether you are at fault or not.

The answer is simply to purchase hired and non-owned automobile liability, usually as an endorsement to your general liability policy if you have no automobile coverage. This add-on is inexpensive for small companies, but saves much heartache in the event of a major accident.

Now, let’s look at the other side. Your business owns the car, and you drive it personally. If you do not have a personal auto policy, you are personally unprotected against the liability of car accidents.

The other driver will claim against you as an employee and the business as vehicle owner, both covered by business automobile insurance. If the claim extends to you personally, you may be liable for damages in excess of the business policy limits, plus all of your legal expenses.

The solution to this potential gap in coverage is a “drive other cars” endorsement which allows the business policy to act on behalf of the driver whether in a rental car, a borrowed car, or a car used in business. The endorsement will add only named people to the policy, it is not blanket coverage for all employees.

Loss limit policies insure property on an occurrence basis to a limit of the probable maximum loss rather than an actual total property value.

If a manufacturer has ten locations in ten states each valued at three million dollars including contents, the probable maximum loss might be three million dollars. No one storm, earthquake, or fire will destroy any two in one occurrence. If all ten locations are within a mile of the east coastline, a hurricane might destroy several plants, for a probable maximum loss of, say for example, nine million dollars.

In the first case, the policy limit might be four million, in the second, maybe ten rather than thirty million.

This method of valuation provides insurance for very high value risks or when some portion of the risk is hard to reinsure.

Reinsurance is a spread of risk system for all insurance companies. For very high value risks, sometimes it is not possible to reinsure the total value of property. Insurers and reinsurers each have a maximum limit per loss.

Windstorm, flood and earthquake hazards can be difficult to insure. Insuring all locations with a single maximum loss is a way to get some insurance for all locations.

Loss limit policies tend to be more expensive because total losses are theoretically many more times as likely.

Co-insurance became popular with insurance companies because insureds only wanted to buy enough insurance for the probable maximum loss on a single property. Loss limit policies can be viewed as total protection without a coinsurance clause. The insurance underwriter goes into the process with eyes wide open about pricing each occurrence for ten potential first dollar losses or one catastrophic loss.

The principles of spread of risk and actuarial loss prediction remain constant but apply differently.

If you have a portfolio of properties spread geographically, with perhaps a few in hurricane or earthquake zones, review your loss limit options.

Sarbanes-Oxley reinforced the idea that public companies have a duty to be transparent in dealings. No insider trading or enriching corporate executives through questionable perquisites like low interest loans.

But when does transparency become speculation?

Estimating costs accurately for remediation work is difficult. Add to that difficulty the uncertainty that the work will be undertaken, or the property will be sold as is. Complete the estimate in the face of changing regulations and newly discovered contaminants. This defines speculation.

Sarbanes-Oxley combined with new trends in accounting implies these costs must be estimated and property values written down.

Yet, if property values are decreased with an environmental liability, what happens when a company then chooses to remediate the contamination?

The costs associated with the clean up are expensed.

Your books just took a double hit, and there is no provision to reduce the liability until the building is sold.

Good risk management can help avoid this situation.

First, avoid spills and contamination by using proper handling and secondary containment. If spills occur, clean them up immediately.

Perform, or have an environmental professional complete, a survey of all current conditions which could lead to property devaluation. Fix the problems you can.

Review your environmental liability insurance options. In other words, think about pre-funding any contamination loss. Like fire insurance, once the claim occurs, the building is worth less. The fire insurance will either pay the actual cash value (economic loss) or rebuild the structure (physical loss)

If you accept the actual cash value, the building value decreases and your cash position increases for no net gain. If you rebuild, the books do not change.

What happens when the building burns, and you’re uninsured? You still must account for the loss with a reduced property value.

Look at environmental liability with the fire insurance analogy in mind. If you insure against environmental impacts and one occurs, you will then have the option as to how you want to handle the claim.

Usually, you think of retirement programs when you consider fiduciary liability, like the headline cases of the nineties, like Enron and Rite-Aid, where fiduciaries suffered class action judgments for investing employee funds in company stock.

The Employee Retirement Income Security Act (ERISA) is the law which demands fiduciaries act in the best interests of the employees, not the public or private company. And, it covers all employee benefits, not just retirement.

The duties of the plan or trust fiduciary are simple:

1. Loyalty to the beneficiaries.
2. Prudence and skill of a professional investor or trustee.
3. Diversification of investments to minimize risk.
4. Adherence to the rules set forth in plan documents and/or ERISA and similar laws. Plan documents
must be brought into compliance if they’re not simpatico with the law.

This level of professional care is quite high.

In 1996, the Health Insurance Portability and Accountability Act (HIPAA) set regulations and standards regarding the portability of health benefits in reaction to the preexisting conditions clauses of new group health insurance.

Interestingly, HIPAA prohibits discrimination based on health related issues in the premiums charged or the enrollment of employees or family members. Also, it prohibits sharing employee medical records.
With these requirements in mind, now consider the impact of the Affordable Care Act.

Fiduciaries must sorb the new act, a poorly understood and untested health care funding option, into their decision making process. And, they are liable for imprudently applying the cost-benefit analysis to this unknown quantity.

If health insurance is mandatory, what happens with the cafeteria plans of the past? Is it prudent to allow an opt-out of a mandate? Even if the spouse has family healthcare already, couldn’t they lose that job?
Much of the potential growing pain into this new era of universal health care cannot be predicted. But fiduciaries are not immune from accountability.

Let professionals review all your plan documentation for flexibility in application, and give your trustees that flexibility. Have other professionals check your fiduciary liability coverage and your directors and officers coverage too.

Dread insurance audits? Maybe they stand out because the audit period is inconvenient.

Let’s take a look at payroll oriented audits like workers’ compensation.

The easiest audit will cover a period defined by four quarterly employee tax filings, a calendar quarter expiration date. Why? Because you must internally audit these periods already.

The second suggestion is a financial quarter. If for some compelling reason your financial year is not a calendar quarter, chose your financial year or quarter for these audits for the same reason as above.
Separate overtime payroll. Workers’ compensation premium is based on straight time payroll. Overtime earnings are discounted, thus premiums are reduced.

Keep Certificates of Insurance (COI) on all your subcontractors. Technically, even a clerical operation must request a COI for their air conditioning repairman to avoid potential workers’ compensation exposure.

Keep a record of any subcontractor payments made since, even if a COI is not available, the auditor will discount the gross payment and reduce the premium charged. And keep a thorough record of the scope of work performed – there are half a dozen carpentry class codes – so you get charged the correct premium.

General liability insurance uses many “exposure units”. An exposure unit is a statistical devise used to measure average risk to a given type of operation. Some risks are better measured against sales, some by payroll – like workers’ compensation.

Some policies allow square footage as an exposure unit. Of course, this unit is unlikely to change or vary as often as sales or payroll. Ask your agent to shop exposure units that decrease the effects of audits for your company.

Audits assure the insurance does not over or under charge for the risk that your company represents. Sometimes, you’ll receive money back if you over-estimated your exposure units. Cooperate with your auditor, but make it easier on yourself but choosing the right policy period, keeping the correct records, and choosing a compatible exposure unit.

What distinguishes products, completed operations and professional liability?

A product is a good sold to consumers. Think about “things” when you think about products. Products liability covers the business which manufactures the product against injuries, illnesses or property damage caused by the product.

Completed operations are usually contracted building services which have a beginning point and an end point, like installing a heating, ventilation and air conditioning (HVAC) system. Since it is part of a greater system of insulation, walls, floors, ceilings and lights, HVAC is not a stand alone product. The outdoor compressor is. The installation is an operation.

Professional liability insurance covers service oriented business: designers, architects, dentists, doctors, or hair stylists. The key distinction is service versus a product or an installation operation.

So, how does this distinction affect claims negotiations?

Professional liability claims imply poor professionalism which directly affects your reputation. The paid claim implies dereliction of duty or incompetence.

The insurance company’s response to any claim is a business decision – determine the long-term cost of settling and benefit of not paying the claim, pay accordingly. Your reputation does not fit into this decision matrix.

The buying public saw this decision as a conflict of interest. The insurance company did not have to live with a loss of reputation, the professional did. Now the companies offer this solution:

The professional can veto the claims payment.

If the professional chooses to do so, the insurance company is limited to the agreed upon claim amount as their new maximum limit, including legal and claims costs to that point in time.

An architect, with a $1,000,000 professional liability policy, inspects a property and determines the structure is unsafe for renovation. The contractor talks the owner into going forward anyway. The building collapses. The owner sues the architect for “allowing” the contractor to start work before the structural issues are addressed. The insurance company offers a settlement of $100,000 after spending $25,000 on legal fees.

The architect can either endorse the settlement and pay the client or he can refuse, but now his coverage limit drops to $125,000 inclusive of legal fees. It is a much more difficult reputation decision than a business decision.

Let’s walk through the evolution of a mold claim due to roofing repairs or interior restorations.

The building owner calls and reports the leak or damage. Implied in this request is water damage and the intrusion of outdoor elements, like mold, mildew or other various spores.

The roofer assesses damages and fixes the roof. Perhaps other contractors are called in to repair sheetrock walls or ceilings. Everything looks back to normal if not better, and the roof does not leak during the next storm event.

A few weeks later, visible black mold is present in the repaired area. What went wrong and why is the contractor to blame?

Part of the repair process is drying out the dampened area. Mold needs over 15% moisture content to thrive. That level feels very dry to the touch; dry soil is about 17% normally. Wood members need to be that dry because wood is mold food, and it is very difficult if not impossible to remove a colony of mold from a porous surface.

Use a moisture meter to measure the dryness of the repair area before covering up wood with insulation or plastic. Do not encapsulate wood greater than 15% moisture content. Treat any wood exposed to the elements with a biocide before covering it up. This includes new building materials.

Advise the building owner to positively pressure the building to avoid mold infiltration. In other words, circulate filtered air and let the building exhale normally.

If you use these preventative actions, environmental claims will be reduced. Look into Contractors Pollution Liability to cover these occurrences.

To answer the opening question: it is not the roofer’s fault. All the conditions existed for mold growth before they arrived on the scene. However, as a completed operation, roof repairs assume the wood members and other roof materials have been returned to fully functioning condition. Wet wood does not meet this definition because rot and mold is likely to grow on it.

Dry thoroughly – and test the moisture content to verify dryness.