When you move from having no insurance coverage for your business to securing a policy, the next critical step is ensuring that your coverage is adequate. OLUWAKEMI ABIMBOLA highlights the impact of underinsurance on the survival of businesses, especially the costly consequences of inadequate coverage and the steps business owners can take to avoid financial shocks
‘Insurance lo je gbese’
That was the standard response of an insurance expert, Dele Pius, whenever an asset that had been insured became faulty, literally meaning insurance would pay for it.
So imagine his shock when he filed a claim on a TV set that had been damaged by his son playing football in the living room and was told that the claim was invalid as a result of the circumstances of the damage.
While he wanted to challenge the arguments put forth by his colleagues, as a professional, Pius bowed to superior arguments and went ahead to upgrade his insurance policy to one that accommodates more risks.
It was with the same mindset that insurance would pay that he went to sympathise with his friend, Ebuka Thomas, whose business had recently suffered a burglary with assets worth millions carted away.
However, during the visit, he realised that his friend, who ran a cosmetics/perfume business, was sorely underinsured.
Between the time he took out the business protection insurance and when the incident happened, he had opened two more outlets that were not captured under the policy and was still paying the same premium, even though his payment wasn’t up to date.
In this instance, underinsurance was obvious, but the business owner was upset that he would not be getting any compensation from his insurer.
According to Coronation Insurance, underinsurance occurs when a policyholder insures their assets for an amount less than the real value or the current market value. In the event of a claim, this means that the claim amount may exceed the limit covered by the insurance company. Essentially, underinsurance is a situation where an insured individual deliberately reduces the value of their assets and insures them at a lower value. The consequences of this practice may not become apparent immediately but are often exposed when a claim is filed.
The implications of underinsurance played out during the COVID-19 pandemic, which exposed massive gaps in insurance coverage worldwide, particularly in business interruption insurance and health insurance.
According to reports, many small businesses—restaurants, retail stores, event planners, and service providers—relied on business interruption insurance to protect against revenue losses due to unforeseen disruptions. However, when the governments imposed lockdowns, these businesses faced financial devastation because most BI insurance policies covered losses caused by physical damage (e.g., fire, flood) but explicitly excluded losses from viruses and pandemics.
Even businesses that assumed they were covered found their claims rejected, as insurers argued that a pandemic didn’t meet their policy’s criteria. This led to court battles as businesses sued insurers in countries like the UK and the US, leading to court rulings that, in some cases, forced insurers to pay claims.
In 2021, the UK Supreme Court ruled in favour of policyholders, forcing insurers to compensate some businesses that had specific pandemic-related clauses.
Essentially, for insurance to fulfil its purpose, the policyholders must accurately reflect their personal or business requirements. Insuring assets for incorrect values or setting coverage limits too low can result in policies failing to operate as intended. This can leave policyholders with insufficient indemnity following a loss and jeopardise their ability to recover financially.
The experts at Coronation Insurance said that when underinsurance is identified, insurers apply the principle of average to calculate the actual payout.
“This means the insurance company calculates compensation based on the ratio of the insured value to the actual value, resulting in a reduced payout. For instance, if your property is underinsured by 40 per cent your payout will be reduced by the same percentage,” they said in a note on their website.
Analysts at Buckingham Insurance echoed similar sentiments, saying, “Insurers often employ the “average clause” to mitigate their risk exposure in cases of underinsurance. This clause means that if you are found to be underinsured, your claim payout will be reduced proportionally.”
When this principle of average is applied, it can impact the business as it brings on significant financial strain, as was seen during the pandemic period and the present reality of Mr Thomas, who now has to seek additional sources of funding to repair and restock his shops that were burgled.
“Legal Issues: Liability policies protect the insured against legal claims arising from negligence. However, underinsured liability sections may leave the policyholder personally responsible for compensating third parties. Also dealing with financial uncertainty and potential losses due to underinsurance can cause significant emotional distress for policyholders,” Coronation Insurance said.
According to Main Street America Insurance, these are some of the ways to tell that your business is underinsured and then take action.
“One of the first signs of an underinsured business is when policy limits don’t match business growth. As your business expands, so should your insurance coverage. If your policy limits have remained static while your business has grown, you may be underinsured.
“Lack of coverage for industry-specific risks: Every industry has unique risks that require specific insurance coverage. If your policy doesn’t address these risks, your business may be underinsured. For instance, a tech company needs cyber liability insurance to protect against data breaches.
“Insufficient Liability Protection: Liability insurance is a must-have for businesses. It protects against lawsuits and claims made by third parties. If your business lacks adequate liability coverage, you’re underinsured. This could expose your business to significant financial risk in the event of a lawsuit. Ensure your liability insurance is sufficient to cover potential legal costs and damages,” AVP, Regional Sales, Marcus Haynes, said in a piece in December.
It’s important to point out that beyond the immediate impact on businesses, underinsurance can have broader economic impacts, as it reduces the ability of individuals and businesses to recover from losses, potentially leading to reduced productivity and financial instability.
To mitigate the impact of underinsurance and manage the situation, Coronation Insurance says it takes a proactive approach to addressing underinsurance through emphasising education, tailored solutions, and regular customer engagement. Coronation’s client-focused approach—including education, continuous engagement, and tailored solutions—helps mitigate the risks of underinsurance and empowers clients to achieve comprehensive protection.
“Coronation ensures clients are well informed about their insurance needs and policies. From the initial inquiry, customers are guided to avoid pitfalls that may lead to underinsurance.
Continuous Engagement: Regular communication with clients helps address queries and explain economic factors, such as inflation, which may impact the adequacy of insured values. This enables customers to revalue their assets or adjust their coverage as needed.
“Tailored Solutions: Coronation offers customised insurance plans to meet individual needs, ensuring clients can secure adequate coverage without overstretching their financial resources. Comprehensive Support: Coronation prioritises building strong relationships with clients, helping them make informed decisions and avoid being left vulnerable due to underinsurance,” the statement read.
To avoid stories that touch, business owners are advised to protect their business from underinsurance.
Experts suggest doing a regular review of your insurance policies to ensure that your coverage remains adequate and aligned with the evolving needs of your business.
Accurate valuation of assets
For this to work, consult with an insurance expert or a professional appraiser to accurately value your business assets, including buildings, contents, stock, and equipment.
Inflation factor
With inflation at 24.48 per cent as of January 2025, it is important to account for future inflation and potential increases in replacement costs. This is especially important for buildings and high-value assets, where the cost to rebuild or replace may rise significantly over time.
Implement risk management strategies
In addition to having the right insurance coverage, consider implementing proactive risk management strategies to mitigate potential exposures. This may include measures such as implementing robust physical security systems to deter theft and vandalism; maintaining well-documented business continuity and disaster recovery plans; regularly training employees on safety, security, and emergency response procedures; and conducting regular risk assessments to identify and address emerging threats.
Whatever you do, consult with an insurance expert who can help you identify potential gaps in your coverage. They can also leverage their industry knowledge and relationships with insurers to secure the most comprehensive and cost-effective policies for your business.
