Why Insurance?

Insurance is a Risk Management tool. Here is a totally scannable introduction To Risk Management terms and concepts

Why manage risk?

Since the future is uncertain, we want to protect people and things from harm that may come from a number of sources, and thereby reduce uncertainty both in our minds and in the world. 

Uncertainty

Uncertainty is not being able to predict the future, where one of many possible scenarios may come to pass.

Loss

Loss is the unexpected reduction in value of something:
• Financial loss can be replaced with something of economic value,
• Physical loss can sometimes be replaced with property,
• Human loss, life is irreplaceable although jobs can be refilled,
• Liability loss is when a court holds one responsible for causing, or not preventing, the above losses to other people.

Risk

Risk is uncertainty where at least one future scenario involves loss.

Peril

Apparel is clothing, but a peril a direct cause of loss, such as a fire. Perils fall in these categories:
Natural perils include:
• flood,
• wind,
• earthquake, etc.
Human perils include:
• theft,
• violence (assault, riots, war), and
• carelessness (legally called negligence)
Economic perils include:
• recessions and
• changes in consumer tastes or technology

Hazard

A hazard increases the magnitude or probability of loss associated with a peril, such as:
• Flammable material near open flames or
• Carelessness in cleaning up spills where customers walk

Loss Exposure

A loss exposure is a risk measure:
• the possibility of a loss arising
• from a particular peril
• striking a specific thing of value.
Loss exposures are measured as:
• Value exposed to loss,
• Peril that causes loss, and
• Likely financial consequences of the loss.

Values Exposed to Loss

Property:
• Real property--real estate, buildings, trucks
• Tangible personal property--car, contents of a car or house
• Intangible personal property--copyright, patent, legal right to use or occupy property
Key person:
Employee with special talents, knowledge, experience or reputation that make them outstandingly valuable to an organization
Freedom from liability:
• Negligence--such as injury to others caused by your employee
• Contractual--such as compensating others for their losses after theft of customer property or violence against a customer
• Fines--for criminal or administrative law violations
• Regulatory--such as pollution, even when not the pollutor
• Law--such as required workers compensation or disability insurance
• Court--legal defense and court costs, even for frivolous suits filed against you
Net income:
• Profit that could be expected before the business gets disrupted by an accident,
Frequently the largest potential loss for a business and covered with business interruption insurance

Evaluation tools

• Questionnaires or forms (such as insurance applications)
• Loss history--insurance companies keep histories grouped by type of client, and frequently share this information to help clients manage risks
• Financial statements and records--useful in estimating the value generated by an asset or the size of the risks a business faces
• Personal inspection--can surface exposures not previously considered
• Experts--can advise based on their knowledge and experience

Categories of business risk

• Financial operations--insurance can smooth earnings by reducing outlays to restore damaged property
• Legal requirements--OSHA effects all businesses, specific industries have much more
• Continuous/Stable operations--especially important when closure would end market status, such as for hospitals, newspapers, dairies, city transportation systems, and more
• Growth--can be harmed by diverting resources to damages caused by accidents
• Humanitarian concerns--some view risk management primarily as a tool for serving others, such as healthcare for hospitals, education for schools

Cost of risk

Financial term that measures the financial contribution of risk management, composed of:
• Insurance premiums
• Cost of restoring uninsured losses (including deductibles)
• Expenditures for safety measures
• Administrative cost of risk management program

Risk Management

Risk management is analyzing then acting appropriately, on risk. --H Felix Kloman
Risk management clarifies an exposure to loss by examining the Magnitude and the Probability of the loss.
Risk management strategies to handle risks:
• Risk Avoidance--completely eliminate specific risky activities
• Risk Prevention--reduces the probability of loss
• Risk Reduction--reduces the size and severity of losses
• Risk Transfer--legally shifts risk exposures to another party 
• Risk Retension--assumes all of the risk

Risk Transfer

Risk transfer shifts the financial burden of paying for certain losses without transferring the responsibility for the operations that may generate the losses--insurance. 

Insurance

In exchange for premiums, an insurer contracts to pay an insured for losses that fall within the scope of coverage described in the policy and endorsements. Most policies contain an element of risk retention in the form of a deductible. Since the fixed premium is reduced as the insured assumes more risk through higher deductibles, the key is to determine the right balance of risk retention and premium savings.

Types of insurance

In the Unites States there are really two insurance industries:
• Property and casualty
• Life and health
Most insurance companies and professionals specialize in one or the other. At Stirling we focus on property and casualty and so does this explanation.

Scope of coverage

The scope of coverage is defined by standardized policy provisions or endorsements including:
Who: The people or organization insured (the named insured)
What causes: The perils and events that qualify as causing covered losses
Which losses:The kinds of losses that are insured (E.G., property damage, bodily injury, liability, loss of income)
How much: The maximum and minimum dollar amounts the insurer will pay (policy limits and deductibles)
When: The time interval during which an insured event must occur (policy period)
Where: The specific location or territorial area where an insured event must occur to be covered

Property insurance

First-party insurance (covering the named insured) because its purpose is to cover loss from damage or destruction of the named insured's property.
Covers direct-damage which is the cost to repair or replace the property
May cover indirect loss such as loss of income, sometimes called time element loss due to the duration of the interruption

Which perils?

When purchasing insurance there are two approaches to perils:
• Named perils which cover loss from a list of perils specified in the policy, which may be "narrow" or "broad" (See list in FAQ)
• Open perils or all risk covers loss from any peril other than those specifically excluded, and covers more than named perils. Property policies in particular, as well as other common types of insurance, give the option of covering more or fewer perils for a higher or lower premium,

Valuation basis

There are two valuation options for coverage:
• Replacement cost--the cost to repair or replace the property, which is generally preferred
• Actual cash value--replacement cost less a deduction for physical depreciation, which is generally less expensive

Coinsurance

Insurance companies require the amount of insurance purchased (the limit) be at least 80 or 90% of the property's value. When a smaller percent covered, say 50% of value, the insurance company will pay for that smaller share of the loss, 50%. The reasoning is that you, or another insurance policy, covers the rest of the value, so the risk is shared proportionately and claims are paid proportionately.

Business income

Frequently the loss of business income exceeds the value of damaged or destroyed property.
Therefore business income coverage may cost more than property. However, few small businesses without business income insurance reopen their doors after a major property loss.

Liability insurance

Liability insurance is sometimes thought of as lawsuit insurance, as in if a customer or anyone else (a third party) is injured either on your premises or by your product, service or employee, the insurance company will pay for your legal defense, judgement and settlements. 

Commercial general liability insurance policies cover claims by non-employees for bodily injury and property damage caused by the named insured's negligence in about all operations except automobiles.

Umbrella liability insurance policy pays after the general liability policy limits are exhausted. 

The primary policy is the general liability policy because its coverage applies first, until its limit is exhausted. 

Business Insurance Experts
Call (212) 482-1100 for a quote