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Common Question Friday – Questions I Hear Most From Insured

Today’s question is, “Why do I need to value my Building or Contents at replacement cost?”

We ask our clients to compile a fair amount of information and one of the pieces of information we ask for are property values.  There are three common responses we get when the replacement cost is not provided:

  • Appraised Value or Market Value, this is occurs more frequently with buildings, not so much contents.
  • Accounting value – The original value minus the amount the client has depreciated to date.
  • The value of the property they care about. Certain buildings or furniture they don’t care about and have no interest in insuring they leave it or say it is worthless.

We should really be insuring for the full replacement cost of everything or you could be penalized.  There are exceptions to this rule such as a large property schedule that is geographically spread or you have a product that has a large delta between replacement cost and selling price. Why should we value at full replacement cost?

  • You could have a coinsurance clause which penalizes you for not insuring to value. The insurance company will essentially penalize you proportionally to the amount you under-insured.
  • Even though your building might be old, the insurance company will pay to replace it, they don’t take into account the fact that your roof was 20 years old so you shouldn’t either.
  • Insurance companies base their premiums on the probable maximum loss. Just like you, they don’t believe most losses will be a complete loss but partial and they base their premium on that probable maximum loss.  That means the higher values you get the lower rate your rate should be.

Coinsurance should always be deleted from your policy, but I see enough policies and find plenty of prospects still have the coinsurance clause in their policy that I wouldn’t be surprised if you had it in your policy.

The valuation that your insurance company is using should be replacement cost but we do see other ways to do it, sometimes it makes sense but sometimes it doesn’t.  For instance, actual cash value (replacement cost minus depreciation), agreed value, and selling price (captures the difference between selling price and replacement cost, important when the delta is significant) are all examples of different ways that the insurance company could value your property and it can even be a mix.

The important thing is that you provide the values that match how the insurance company values your property if you suffer a loss.  The valuation method they use will be in the policy.

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Why an Oncology Company Bought Way Too Much Insurance

Most of my blog posts are commentary on recent news and how insurance policies can impact the final outcome.  For example, right now I could write about how the impending hurricanes could impact a company’s supply chain and describe how an insurance policy could protect your cash flow if a key supplier or customer is shut down.  I am not going to do that in this post, but you should double check if you have a separate wind/windstorm deductible as it could impact coverage significantly.

Instead, I want to share an experience that happened last week while I was attending Boston Biotech Week.  I was meeting with a prospect, an early stage company that was about to begin their first clinical trial, a 15 patient phase I trial at a single site.  They gave me a history of the company, described their product and gave me an outline of their future ambitions.  These are all important things to know because it helps when creating an insurance program.  It is much better to put an insurance program together thoughtfully, laying out appropriate coverages and limits along with other coverage that might make sense either now or down the road.  We may not put all coverage into place right away but at the very least knowing the economics sooner rather than later helps clients know what to expect.  Putting a program together ad-hoc usually costs more and could lead to buying coverage that is not needed, which leads me back to the conversation I had with the prospect.

The prospect I met with last week was not proactive, instead they went ahead and signed a contract with an investigator that required they carry a limit of $10MM in clinical trial liability.  Remember, this was a 15 patient Phase I study, and they had agreed to put into place $10MM in liability insurance.  The first question I asked is whether there was any way they can get out of this requirement as that limit was excessive for a clinical study of that size.  The second question is whether they had their insurance broker review the insurance section of the contract.  Sadly, they could not get out of the requirement and they had run it by their broker.  I am not sure which upset me more, the fact they could not get out of buying an insurance policy that was excessive or knowing that another broker would believe that a $10MM limit was appropriate.

As an insurance broker we benefit when you buy more insurance but I believe we benefit even more when we build trust and help you craft an insurance program in a way that saves you money and maximizes coverage, not by selling you more insurance just for the sake of it.  As a broker that works with life science companies, a fair amount of them being pre-revenue, whatever I can do, no matter how small it might be, to get you closer to having a commercial product or being bought is what is most essential.  The more I help you save money, negotiate advantageous contracts, protect cash flow or anything else that gets you closer to the finish line,  the better off we will both be in the end.

To find out how I can help you, feel free to email me at matt.corcoran@alliant.com or call me at (610) 635-3326.

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Anthem Just Reached a $115 Million Settlement Due to a Cyber Breach

On August 20th a federal judge in California approved a settlement against Anthem that involved 78 million members information being exposed.  19.1 million of those claimants impacted proved that they were exposed and the settlement will be split amongst those members.  As part of the settlement the members of the class action lawsuit can claim up to $10,000 for out of pocket costs that they incurred.  This will be capped at a total of $15 million.  Anthem is also required to provide credit monitoring for up to two years and for members who already have credit monitoring Anthem will provide a cash payment of $50.  Anthem will be required to invest a significant amount more in their cyber security program as well.

Anthem obviously has much more personal information due to their business and the total number of customers they serve than most organizations but this settlement demonstrates why cyber insurance is so important for all companies to have.  As part of cyber coverage, regulatory fines and penalties can be covered which surely would be involved in a case like this.  In addition, notification and credit monitoring costs can be covered and they are often the most expensive aspect of a breach since companies are usually required to pay for credit monitoring for a certain period of time regardless if the client suffered any damage.

A company like Anthem shows just how large these settlements can be, but for most companies a much smaller breach could jeopardize the future of the company or at the very least severely impact it.  With cyber insurance you can transfer much of this risk to an insurance company and shape the policy to cover your first party losses (business income, forensics, etc.) and the expenses that third parties incur because of your negligence.  Because there are so many companies writing this coverage in the market place premiums are relatively low compared to the risk.  What that means in the future when losses start to pile up I do not know, but for now because most carriers are trying to gain market share and emerge as the leader in the space it is a buyer’s market.

You can learn more about the case specifics here.

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The California Privacy Act is Coming – Is your Cyber Policy Prepared?

If you are doing business in California you might be unaware that the consumer privacy laws are becoming more stringent espcially if you are not domiciled there.  Failure to adhere to these rules could lead to penalties of up to $7,500 per day.  The good news is that it looks like companies will have until January 1, 2020 to comply.

The most common question I am getting from clients is how does this differ from GDPR?  I am no expert so I will defer to the law firm of Cooley who have done a great synopsis on the Act that can be found here.  Here is what they say are some of the differences:

  • “Obtaining consent under Act differs from the methods required in the GDPR. The GDPR requires affirmative opt-in consent. Under CCPA, consumers need not opt in, but they can opt out of the sale of their personal information. The Act requires new opt-in consent only for the sale of personal information of individuals under the age of 16.
  • ‘The GDPR requires companies to establish a legal basis for processing personal information.  The CCPA does not require businesses to establish a legal basis in order to process personal information, and all processing is legally permissible (subject to some limitations such as opt-in for sale of information).
  • ‘The CCPA requires a particularized disclosure process beyond what the GDPR requires.  This means that compliance with the GDPR’s disclosure process would not necessarily constitute compliance under the CCPA.
  • ‘The GDPR imposes limitations on cross-border data transfers and requires a legal basis for such transfer.  The CCPA does not have any similar requirements.”*

What I see as one of the most important things to be aware of is that Cooley expects regulatory action in the US to be enforced at a more robust level then what we are currently seeing in the EU.

The interesting thing will be how Cyber Insurance carriers handle this.  Will they increase deductibles for regulatory matters in CA much like we have seen with EPL?  Will carriers offer a lower sub-limit for regulatory action?  Will they have exclusions specific to CA or certain regulatory actions?  All of this is to be determined but it is something to be aware of as this could become as the renewal process starts for early 2019 expirations.  If you are doing business in CA your broker should be having these conversations with you.

*Cooley FAQ on CA Consumer Privacy Act – https://cdp.cooley.com/2018/08/02/california-consumer-privacy-act-faqs-1/#section-3

 

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Why Benchmarking Should Not Be Used When Deciding on Directors & Officers Limit

The other day I discussed the rising number of Securities Class Action Filings (here) against publicly traded companies and how they are almost inevitable with just under 9% of all publicly traded companies expected to face a filing in 2018.  D&O insurance will or should respond to these filings which transfers much of the financial burden to the insurance carrier(s).  Almost every publicly traded company has D&O insurance so I am not here to make a case for why you need D&O insurance but instead want to briefly describe what this increase in filings means to the D&O market and take a deep dive on how companies calculate the amount of D&O insurance to carry.

So what is happening in the D&O insurance market?  From a high level, premiums are staying relatively flat unless you are still within the IPO window.  Certain industries, such as Life Science, are a bit more challenging due to claim activity and are seeing rates creep up.  Terms are staying pretty much the same (at least the ones that matter, your broker will always tell you how much your policy improved year over year even if those improvements were irrelevant to you), but I think we may see this evolve over the next 12 months with some recent judicial decisions, time will tell.  Finally, carriers are trying to push retentions (deductibles) higher as a way to remove themselves from trivial legal fees.  If you have experienced something much different than what I have described I would love to hear about it.

What I really want to talk about is how the vast majority of companies go about deciding on how much D&O insurance to buy and why it is probably not the best way to go about it.  So how do companies currently decide how much insurance to buy?  For the most part, they simply look at what they have now, and what their peers are purchasing and then buy accordingly.  Put simply they base the decision off of “benchmarking.”  I think this is the wrong way to go about it.  I have to admit, that this is how I have presented it in the past because it is how most brokers are taught to present D&O insurance.

This is something that I have always given a lot of thought to and deep down knew benchmarking was probably not the best way to go about deciding on the limit of insurance.  For other lines of coverage we take a more analytical approach and try to quantify what a company has “at risk.” We try to determine what a client’s probable maximum loss (PML) is and use this as a starting point for how much insurance to buy.  In D&O, the discussion of PML rarely enters the conversation especially with small and mid-cap companies and instead it is all about benchmarking.

The main problem with using benchmarking for deciding on limit is that benchmarking is a sales tool which is why it is in every broker presentation.  A broker is sales professional, we want you to buy more limit because that means more money in our pocket.  The benchmarking data can be manipulated to show you what the broker wants and that usually means showing that you do not have enough limit compared to your peers.  I am not saying the broker is dishonest or using fraudulent numbers but as we all know you can frame a story practically any way you want with data.  What this also does is artificially inflate the limit that is being bought.  Remember that the broker’s goal is to sell you more limit and every time a company buys another $5 million in coverage that skews the numbers up.

The broker also knows that as the CFO or Risk Manager you will need to present the data to the Board of Directors.  A CFO never wants to go in and have the benchmarking indicate you are underinsured compared to your peers which adds another line of defense for the broker in justifying buying more limit.  How many times has a broker come in and said the benchmarking indicates that you are buying too much D&O insurance and we recommend you scale back?  My guess is you have never heard your broker say that, but there are exceptions.  I can think of a few instance where a company had a large drop in market cap and probably had more limit in place than they ever needed to begin with.  Guess what happened with those companies, they did not come close to exhausting their D&O limits despite the fact there were shareholder claims because of the market cap loss.

How should we go about deciding on a limit?  Like all other insurance we need to focus in on two things – frequency and severity.  How often can we expect claims?  Claims are and should be rare for this type of coverage so we want to look more at how frequently your particular industry has claims to determine how prone vulnerable your company might be to a claim.  How large can a claim could we expect in the worst possible scenario? D&O insurance is driven by severity so this is where we want to drill down and figure out your PML.  What are the average, median and largest settlements for companies similar to yours, whether it be market cap or industry?  What is your company’s risk tolerance?  Do you have cash that could be used in an emergency?  What jurisdiction are you in?  What are the rates of the attorneys you would use and how does this compare to what your carrier is willing to spend?  The other variable is board members, some board members require that you carry a certain limit of insurance or they won’t sit on the board so that has to be brought into consideration as well.

Benchmarking has value, but in my estimation is deemed much more important than it actually is when deciding on the amount of D&O insurance to purchase.  Where I think benchmarking can be informative is on pricing, most companies want to know how they stack up against their peers and whether or not they are getting a good deal.  When it comes to retention it is less important because carriers are trying to always increase retentions so it could be a decision that is not in your hands.  The other variables when it comes to retention are risk tolerance and cash flow, these two things could be much different from company to company.

I doubt benchmarking will be abandoned but I think the conversation has to shift to trying to figure out what the worst possible scenario is for your company.  I understand that benchmarking is nice to look at, makes justifying a decision to your board easier, and that benchmarking is seen as the end all and be all of deciding on a limit.  That being said, with all the data available now shouldn’t we start grounding our decision on what your exposure is versus what your competitor is buying?