8 Types of Business Insurance to Mitigate Risks
Business success is inherently connected with risks. Since all the variables that influence and affect the business environment cannot be controlled, you cannot avoid every business risk. Still, you can mitigate risks by implementing safeguards to handle repercussions when issues arise.
Risk is associated with uncertainty; it’s related to facing a situation or dealing with an outcome that one can’t completely control. The result may be good or bad. Some plans and strategies help mitigate risks by identifying, assessing, evaluating, and monitoring a situation. Such systems are put in place to manage the risk, or its impact is called risk mitigation.
Insurance can mitigate different types of risk for business owners.
What Is Risk Mitigation?
Risk mitigation is designing strategies/actions that reduce impending threats and enhance opportunities to safeguard interests or minimize the impact of risk on the business. The process involves tracking risks, identifying risks, executing mitigation strategies, and evaluating their risk management tactics.
Businesses face several types of risks, broadly classified as:
Operational Risks: These are risks associated with deficient or ineffective systems, processes, and policies. Operational risks arise from routine actions like handling equipment, workers, customers, and products or services. A lack of active risk management can lead to financial damage and can also harm a business’s reputation.
One way to mitigate operation risk is to buy insurance coverage for tangible assets and to protect operational activities from unforeseen events like fire, earthquake, etc.
Strategic Risks: Any risk that impacts the business at a corporate level and affects the development and implementation of strategies is a strategic risk. Such risks make it impossible for a company to achieve its business and strategic goals, which leads to falling behind in the industry. Examples include competitive pressure, shifts in consumer demand, consumer preferences, regulatory changes, etc. To combat strategic risk, business owners should enhance their R&D efforts to understand the competition better and protect their company.
Compliance Risks: Also known as integrity risk, a business’s exposure to legal, financial, and material issues arising from failure to comply with industry regulations and laws, internal policies, and practices. Other compliance issues involve taxes, municipal zoning and property laws, distribution laws, and different rules and regulations related to your business. Stay informed about your company and industry’s latest rules and regulations to avoid these risks.
Reputational Risks: This refers to any threat or danger that impacts the good name and reputation of the business. Reputational risks may occur either by the business owner’s direct actions or indirectly due to employees or other parties like suppliers or customers. This type of risk also involves security problems, data privacy breaches, and other cybersecurity issues. If compromised, insurance coverage can protect your business and customer data.
Risk Management Strategies
To manage risk, it’s essential first to identify it, then plan to reduce its impact. Let’s take a look at five strategies for risk mitigation.
Assume and accept the risk: This strategy involves acknowledging the existence of a risk and absorbing the consequences. It is most commonly used for understanding and identifying the potential risks that can affect the desired outcome.
Avoid the risk: Avoidance entails operating in a way that limits a risk entirely. Sometimes to implement this strategy, risks are planned, and then steps are taken to avoid it.
Control the risk: An action plan is created to reduce the severity or probability of a risk occurring. Using this strategy, the risk is identified and accepted, and then a corrective procedure is implemented to reduce or remove its impact.
Transfer the risk: Sometimes, risks are mitigated through transference. The risk and its consequences are transferred from one party to another. However, when this strategy is implemented, all parties involved should be in agreement.
Monitor the risk: Sometimes, projects are monitored for risks to watch out for and identify any changes that might impact the project. A standard project review plan is one such way of implementing this strategy in which costs, delivery schedule, performance, etc., are all monitored for probable risks.
The Risk Mitigation Strategy Involving Insurance
Businesses purchase insurance as a strategy to reduce the financial implications of various associated risks. Both companies and industries face disruption and displacement due to everchanging trends in technology, market conditions, changing customer choices, and a rapidly evolving digital economy. Such emerging threats have a massive impact on a company’s operations and value proposition.
Since risk management is the core principle of insurance, many businesses have adopted it as a part of enterprise risk management. Insurance companies operate on the risk transference strategy by which the risk shifts from one party to another. A voluntary agreement is drawn between the insurance company and the policyholder (the business entity), and the insurer assumes strictly defined financial risks from the business entity.
Transference as a risk mitigation strategy is best used in combination with other procedures. For example, a business might increase its investment in training programs regarding warehouse safety protocols for its people. At the same time, a company should also purchase worker’s compensation insurance to mitigate risk.
8 Types of Business Insurance to Mitigate Risk
According to Nationwide, 55% of small businesses have experienced a data breach, and that 53% have had multiple violations.
Cyber insurance helps to protect a business from cybersecurity problems like the costs of data breach notification, remediation, credit card numbers, card payment penalties, account numbers, crisis management, customer information, health records, etc.
Besides covering legal fees and expenses, cyber insurance is helpful for:
- Informing the customers in the event of a data breach.
- Restoring the identities of customers affected by a data breach or identity theft.
- Recovering the data compromised by the security breach.
- Fixing and repairing damaged/hacked computer systems.
Insurance companies offering cyber security coverage to business owners mainly provide these services: data compromise protection for credit monitoring, identity theft protection to restore the victim’s credit history, and cyber safety to protect the business against damages resulting from a virus or cyber-attack.
Professional Liability Insurance, a.k.a. Errors and Omissions (E&O) Insurance
Service-based businesses such as accountants, lawyers, and physicians face the risk of customers seeking legal recourse when their expectations are not met. Professional liability insurance covers a business against such negligence or malpractice claims. The coverage is customized for each professional services company.
Businesses should consider this insurance if:
- They are providers of a professional service
- They offer regular professional advice to clients
- They provide contractual services.
The most common items covered in the insurance policy are mistakes due to negligence, copyright lawsuits, personal injury claims, and services performed in the past. It is necessary to consider the policy’s time frame and the date of the service provided.
Worker’s Compensation Insurance
For companies having employees, worker’s compensation insurance is a must. It covers medical treatment, disability, and death benefits if employees get injured or die at work.
Each state mandates this insurance coverage; however, wages and medical benefits differ. Insurance is also known as social insurance, as it depends on the social contract between management and labor. The insurance protects business owners from potential civil suits.
Items covered under worker’s compensation insurance include:
- Cost of medical treatments for injuries caused at the workplace.
- Disability benefits for temporary or permanent disability, partial or whole.
- Vocational rehabilitation to cover ongoing treatment expenses.
- Death and funeral services resulting from loss of life at the workplace where the owner is liable for safety.
Since each state has its regulations, worker’s compensation can be complicated for businesses operating across state lines. In such cases, it’s necessary to work with an insurance provider aware of varying state laws.
Product Liability Insurance
According to the United States Consumer Product Safety Commission, “There were over 240,000 toy-related injuries reported by emergency units at hospitals in 2016, approximately 144 non-fire CO poisoning deaths related to consumer products in 2013, and an annual average of 28,300 injuries due to television, furniture or product instability incidents in 2018.”
Product liability insurance provides cover against lawsuits due to damages caused by the company’s products and is mandatory for businesses manufacturing products. The business transfers the risks of product defects, expenses due to lawsuits, and other claims of defective products.
If a business manufactures and sells a defective product and further causes injury or damage, the business owner is held liable. The injured party can be anyone who comes in contact with the product, a buyer, or even a bystander.
What is covered?
Design defects claims related to product issues, manufacturing defects claims while the product was assembled, usage or warning defects claims where the seller failed to give warnings or instructions on usage, and strict liability claims where an injury occurred despite proper use of the product.
Every business needs to have property insurance, even if it does not own but leases workspace. Property insurance covers equipment, company signage, product inventory, office furniture, etc., in the event of theft, fire, or storm. Many businesses such as manufacturing firms, retailers, service providers, and non-profit organizations need this insurance.
Commercial property insurance is determined based on the value of business assets, including the building if it’s not rented. Before buying this insurance, businesses should take a complete inventory of all physical assets to calculate their precise replacement value and the level of insurance the company should get.
Factors to consider include:
- Location of the property. If the building is located outside city limits, it might have more limited fire protection measures than a building located in town.
- Materials used in construction. If potentially combustible materials are used in construction, then the premium will be higher.
- Occupancy. If a business operates in a building with multiple tenants, a single hazardous occupant will negatively impact the fire rating.
- Theft and fire protection. Is the business equipped with fire alarms and a fire suppression system? How far is the nearest fire station located?
Businesses need to ensure company vehicles are complete. This insurance covers liability if an accident occurs, especially regarding third-party injury or injury to delivery personnel. Also known as commercial vehicle insurance, it is required to cover cars, trucks, vans, etc., used for business transportation.
Commercial vehicle insurance includes:
- Bodily injury liability coverage, which covers injury or death resulting from an accident in which the owner of the vehicle (i.e., the business owner) is held liable for damages caused.
- Property damage liability, which covers accidental damages to another person’s property.
- Uninsured motorist coverage, which provides coverage for injuries and property damage caused by an uninsured driver.
- Physical damage coverage, which covers vehicular damages caused by flood, fire, theft, and vandalism.
- Coverage against vehicle collision pays for damage to the vehicle that has been hit by another or has hit another vehicle.
Business Interruption Insurance
When a disaster or catastrophic event occurs, the interruption in business operation leads to a loss of income for the business. Business interruption insurance covers the lost income and ensures that the cash flows remain intact.
Business interruption insurance is designed to take care of your lost income and cover operating expenses due to the inability to open the business caused by events such as fire, theft, wind, lightning.
The business expenses covered by insurance include:
- Revenue the business lost due to the inability to open
- Mortgage payments, lease and rent payments
- Ongoing loan payments
- Payroll related expenses
- Employee relocation costs, if any
- Training costs for employees who need to learn new equipment.
Home-based Business Insurance
Many entrepreneurs run their businesses from their homes and depend upon homeowner’s insurance to protect their businesses. Since homeowner’s insurance covers your home, it may not give your business the protection it needs. Therefore, home-based businesses should purchase additional insurance to cover their equipment and inventory.
Ask yourself the following questions to determine your precise business needs:
- Do clients come to my home?
- Do I keep inventory or business supplies in my home?
- Is there a possibility of me closing the business because of potential damage?
- Do my employees work from my home?
- Do I store important client and business documents in my home and on my computer?
In the absence of proper insurance coverage, the business could be held accountable for expenses such as damage to property, lawsuits, injuries to employees, and loss of data or security breaches.
How Does Insurance Increase Value?
Business insurance is a risk mitigation strategy that allows the business to transfer risk and protect a business owner from specific risks. Insurance acts as a shield and decreases the financial impact of high-risk factors affecting the company.
From the perspective of business valuation, a business with fewer risks associated with its operations is undoubtedly more valuable than an unprotected company. Buyers prefer a stable business with fewer risks. Moreover, insurance certainly reduces the risk of financial distress; this lets the business increase its use of debt financing.
Insurance companies specialize in assessing risks, as they are better informed about the probable risks a specific type of business can potentially face. Value-adding safety and other recommendations help business owners make more informed decisions that benefit the company.