News Column

Insurance Well Spent

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Recently a small air conditioning company faced a class action lawsuit involving a broken pipe in a unit they installed. Water from the pipe created mold throughout all the air ducts in the client's building, and could have cost the business millions in legal fees. But the firm had products and completed operations liability coverage, which costs them about $1,600 a year.

The company bought its insurance coverage from Miami-based Professional Casualty Insurance. "Without that policy they could have been bankrupted or could even have gone to jail," says Manny Varas, CEO of the agency. "With the policy they were able to make good with the distributor of their products and also with their clients."

It's a common scenario that unfortunately many small businesses don't think about, says Mr. Varas. "The reason they don't think they need this coverage is because they don't realize the tens of thousands of dollars in legal fees they might incur, as opposed to a couple thousand dollars for protection."

To reduce risks, firms must buy the right types of insurance while retaining enough capital for immediate needs. In her book The Small Business Owner's Guide to a Good Night's Sleep, Maryland-based small business expert Debra Koontz Traverso names these types of coverage: property, liability, worker's compensation, business interruption, commercial auto, and employment practices.

"Cover your largest risk exposure first, then move on to secondary risks," Ms. Koontz Traverso advises. "Don't try to save money by ignoring the latter, however. If you think that a risk has a low probability of occurring, then it will probably carry a low premium, too."

Property Insurance: Safety Measures Help

Property insurance covers physical assets such as buildings, equipment, and inventory. To buy enough coverage, a company needs to list these assets and determine their replacement cost not their depreciated value for tax purposes.

Property insurance often excludes floods, which require a separate policy, Ms. Koontz Traverso says.

The nation's recent hurricanes have caused property insurance costs to jump higher, says Hector Fortun, CEO of Fortun Insurance & Financial Services. But, he warns, this is coverage businesses really can't afford to go without.

To help keep costs down, CEOs can opt to have a higher deductible, as well as put in place safety and loss control measures, such as fire sprinklers, safety training, and burglar alarms, Mr. Fortun says.

"As a business owner, you have to look at many different risks where you put your company, how you maintain it, how you train your employees," he says. "[CEOs] have to demonstrate to the insurance underwriter their ability to protect the business and why they should have a superior rate program."

Liability Insurance: A Full Menu

Liability insurance protects companies if they are sued or held legally responsible. Small businesses usually buy $300,000 to $2 million in coverage.

• General liability insurance covers injury claims (a common example being if someone trips and falls on the premises), property damages, and problems with advertising claims.

• Professional liability insurance covers damages resulting from the services a company provides,
and protects against malpractice, errors, negligence, and omissions.

•Product liability insurance is a must for businesses that manufacture or sell products, in case a person is injured as a result of using the product.

• Products and completed operations liability insurance is designed to protect companies in case of lawsuits over defective products. "You can become bankrupt if someone sues you over that," Mr. Fortun says, adding that companies should buy liability coverage that equals 20 percent to 25 percent of their asset size.

• Worker's compensation coverage. Most states demand that all companies with more than a certain number of employees (three to five) carry worker's comp. The policy covers employees hurt on the job, and cost varies depending on the industry and the company's injury record.

• Business interruption coverage allows companies to stay in business and continue to pay their employees while machinery or equipment is replaced and the building is rebuilt following a fire or other disaster. "The insurance will pay for new products and machinery, but it will take at least six months to a year to get the permits and rebuild," Mr. Fortun notes. "It has been proven that most businesses that don't have this protection will never go back into business."

Mr. Fortun advises business owners to buy enough interruption coverage insurance to cover an extended downtime.

"You want to be able to keep your employees," he stresses.

• Commercial auto insurance is for companies that have trucks or sales vehicles that carry products. Over time, an auto accident is quite likely, and the business needs to plan for it, says Manny Martinez, team leader for Golden Eagle Insurance, a subsidiary of Liberty Mutual Agency Markets that sells commercial insurance in California. An ordinary auto policy covers the vehicle and drivers or passengers, but not property inside the car, according to Ms. Koontz Traverso.

• Employee practices liability coverage. Mr. Martinez says companies must always plan for the unexpected, including sexual harassment, discrimination, and shareholder lawsuits. That's where employee practices liability coverage and director and management liability coverage come in. "This is part of the basic insurance that every company should have, whether it's a mom-and-pop shop or a Fortune 500," he maintains.

"BOP" Packages: For Smaller Companies

To minimize insurance costs, some companies can consider buying a Business Owners Policy (BOP) a package that includes property and liability insurance, and is usually reserved for smallish, homogeneous operations such as a franchise operation or retail store.

Other types of insurance help a company but don't protect its assets. Health coverage is an important tool for employee recruitment and retention, and can be an important lever on absenteeism and productivity. With regard to disability coverage for non-work related loss of income, especially important for small business CEOs, "What you want is an income replacement policy," ideally one that would cover you until retirement age and is noncancelable or guaranteed renewable, advise financial experts Laura Castaneda in Philadelphia and Laura Castellanos in California, co-authors of The Latino Guide to Personal Money Management.

Shop Around

Overall, to obtain the best price and package, CEOs should plan to shop around or go through a broker who sells policies from various underwriters. "A lot of single-company insurance producers make you feel there is only one choice," Mr. Varas says, "but there are many choices."

Then, when negotiating for a policy, discuss all your potential risks with the insurance broker or company, Mr. Martinez says. "The more claims you have, the more at-risk the company is and the more the cost is likely to be."
Finally, companies can determine how much coverage to buy based on their revenue growth, according to Mr. Varas. That way, he says, "you'll never purchase more than what you need, as long as you're very clear on your growth."

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