Insurance 101

by Preston Cavignac
Preston Cavignac Insurance can be a tricky subject. You know you need it, so you buy it. Then your goal is never to use it! It would make for a terrible gift. But insurance is necessary. It plays a major role in your business, the local economy, and society. Reading through a policy and negotiating coverage can be difficult. The good news is you don’t have to be an expert in insurance, that’s why you hire Brokers. Although Brokers are responsible for negotiating insurance on your behalf (among other things), it is important that you understand some basic concepts. Here are some important terms that every business person should understand: indemnification, loss exposure and total cost of risk.

Indemnification is the premise on which insurance is based. To indemnify means to make whole; therefore, you are not legally able to profit from insurance. If your office burns down, and you have an insurance policy that covers the building and property inside, that policy should indemnify you for your loss. It will pay to reconstruct the office and replace business personal property (assuming you have adequate limits and policy provisions). The most basic types of coverage are property and casualty (liability).

A loss exposure is an insurance term for insurable risk. In order to purchase insurance, you must have a loss exposure. To have a loss exposure, three elements must be met: you must have an asset (property, personnel, net income, etc.), a peril (fire, theft, lawsuit, etc.) and a financial consequence of loss. Unlike credit default swaps, you cannot buy insurance on another’s property because you have no financial consequence if that property is lost or destroyed. There are four types of loss exposures: property, liability, net income and personnel. You can buy insurance for all four. A property policy consists of two major parts: a coverage form, and a cause of loss form. The coverage form tells you who and what is covered, and where and when it is covered. The cause of loss form tells you what that property is covered from (fire, wind, theft, riot, etc.). A general liability policy only consists of a coverage form, because the only cause of loss is a lawsuit or a claim.

Total cost of risk is a concept that is overlooked by many. Although society classifies us as Insurance Brokers, a more accurate title would be Risk Advisors. Often, insurance can be less than half of a company’s total cost of risk. Other costs include: time spent analyzing and managing risk, time dealing with losses, money spent on uncovered losses or deductibles, productivity costs from injured employees, cost of training new employees, cost of brand reputation, loss of market share while recovering from damages, etc. That is why it is important for your Risk Advisor to have services aimed at reducing the frequency and severity of your claims. Reducing the frequency and severity of your claims will not only support a safe work environment, it is the only way to save money in the long run.

In the end, the purpose of insurance is to indemnify you for losses created by loss exposures, which is a portion of your total cost of risk. Insurance is similar to medicine in the sense that they are both designed to help. Medicine was created to help people thrive, just like commercial insurance was created to help businesses thrive. To avoid using medicine, you take steps to remain healthy. To avoid using insurance, you take steps to lower the frequency and severity of claims. Unfortunately, there is not medicine for every type of ailment, just like there is not insurance for every type of risk. In both cases, it is important to understand what you are buying and how it is used because there will come a time when it is needed. When that time comes, it is important to know what to do so you can achieve the best possible outcome.