by Natalie Stone, Hill and Stone Insurance
Note: This article does not provide insurance advice for your specific circumstance. If you are considering insurance for your business, you should contact an insurance agent for an evaluation.
Introduction to Insurance for Startups
Entrepreneurship is bold, exciting, and risky. Given the well-known statistic that only 10% of startups become profitable, there is an inherent risk tolerance that defines most business owners in the early stages. Their focus is on bringing an idea to life, and pushing the boundaries of the marketplace in that process.
Despite the personal risks entrepreneurs are willing to assume, the public landscape in which they are playing has a different mentality. Social inflation—a term popular in the insurance industry to describe the increasing cynicism towards businesses—is driving a trend of more frequent litigation and plaintiff-friendly judgements. Newsworthy lawsuits against early stage businesses such as Uber or Theranos may seem completely irrelevant to your small and friendly startup, but the imprint left on the public psyche is that businesses in growth mode are reckless. And where Uber can afford to pay out on massive claims (hint: because they have strong insurance protection), a startup without proper coverage would not survive even the smallest lawsuit.
Just as any business would consult a lawyer or accountant—insurance is critical for any business that wants to become successful. In this article, we will walk through the most common coverages needed by an early stage business to be poised for growth.
Common Coverages Needed
Every single business needs general liability coverage, so this should be step #1 when you consider coverage for your startup. General liability is third party coverage—which simply means that it will cover your business from various claims filed by other people against you. The basic three coverages that fall under general liability insurance include: 1) Bodily Injury and Property Damage, 2) Personal and Advertising Injury Liability, and 3) Medical Payments.
Bodily Injury and Property Damage
The name speaks for itself: this is coverage you will need if someone accuses you of directly or indirectly causing bodily injury or damage to their property. Most agents will explain this coverage to you as a “slip and fall” incident on your property, but the coverage is broad enough to cover events you might not foresee in your business planning. Consider the following examples of claims that might be covered under a general liability policy:
- You’re in the business of selling coffee to college students at universities. Your coffee is served too hot, and a customer spills on himself and burns his skin. Or, you serve an egg sandwich that is undercooked and a customer gets sick from eating it. Anything that can be ingested is a liability, so you’ll need strong coverage to protect against these claims.
- You are attending a trade show in hopes of meeting a few future clients, and you pick up swag for the event. One of these handouts is a pen with your company’s name and logo. A child grabs hold of one of these pens from her mom’s purse later that evening, chews on it, and ends up with ink on her hands that gets in her eyes. You may be deemed negligent for handing out an item that harmed the child.
- You are in the business of hosting corporate events, so you rent a space for an office team that is meeting to demonstrate their product to potential clients. The sprinklers go off, and the products they had brought to the space you provided are now damaged. You can be held responsible for the cost of replacing the property as well as any profits the company claims to have lost by the event occurring and their inability to sell.
The list goes on, but the general takeaway should be that liability claims are unpredictable. And while you may not foresee the risk associated with your particular startup, it only takes one unfortunate event to devastate your business if you do not have coverage.
Personal and Advertising Injury Liability
This is the kind of coverage needed for claims that would most commonly be brought by a competitor. If you are moving into a market with established players, one strategy for them to put you out of business might be filing a lawsuit alleging, for example, that you have made untrue claims about your, or their, business, or copied an element of their business unlawfully. Knowing that your startup does not have the resources—time or money—to spend on both the business and on settling the suit, this is a great way to slow down your business whether or not you are found to be liable.
Consider the following scenarios:
- In the early stages of your business, you create marketing pieces that utilize photos found online. Your business can be sued for copyright infringement if a photo is found to be used without the permission of the photographer.
- One of your employees makes a comment to a customer about how your business is better than the competition. Something as minor as a casual comment or slight embellishment could be used by another party to sue your business for libel or slander.
- Your business hosts an event that is well attended. You’re proud of the turnout, so you utilize photos from that event to post online or use in a print ad you’ll distribute at future events. If you did not obtain written consent from the people photographed at the event, you could be sued for violating their privacy.
Unlike the two preceding liability coverages, medical payments coverage makes no mention of legal liability claims, meaning that medical payments coverage kicks in regardless of whether your business is accused of negligence. Instead, medical payments can be thought of as a goodwill gesture that you give to another party if they sustain medical expenses, all with the goal of reducing risks of litigation.
If you’re a startup or a small business, chances are high that you do not have a human resources professional on your team. The practice of interviewing and hiring employees, deciding who is deserving of a promotion, determining compensation for those employees, crafting job descriptions, and terminating employees rests directly on the shoulders of the employer.
Across all of these interactions with your employees, business owners are vulnerable to missteps or accusations of missteps. The most common claims brought against employers include wrongful termination, discrimination, sexual or workplace harassment, and retaliation. These claims are so common that you can open a news source on almost any given day to read about the most recent employment liability claim made against a company.
Due to the collective stories of employees who have faced unfair treatment at the hands of their employers, the amount of money paid out on these types of claims continues to grow. Proper liability protection will cover your startup if you are accused of creating an environment for your employees that was unfair, discriminatory, or unsafe.
Workers’ Compensation coverage is often one of the first insurance coverages put in place by startups because it is mandated by the state. In Illinois, for instance, the workers’ compensation law says that every person working for someone else—or even 1099’ed—must have workers’ compensation coverage.
The coverages under workers’ compensation include:
- Medical expenses for an employee who became injured or sick on the job
- Missed wages for time taken off of the job to recover
- Vocational rehabilitation if the worker needs care to help her get back to work
- Death benefits, such as funeral costs, if a worker loses his or her life
While some form of workers’ compensation is required by each state—the type of coverage is not the same across all 50 states. To learn about the specific coverage your business needs, you will need to contact an insurance agent to ensure the proper coverage is in place to meet your state’s requirements.
Professional Liability and Errors & Omissions coverage are virtually the same. If you are in the business of giving people advice or guiding people in their decision making, professional liability coverage is important. Consider, for example, that you are starting a financial services firm that works with companies to execute financial planning initiatives to optimize growth. Your business model hinges on the algorithm you created that you believe will aid in this process. If one of your clients believes that the advice you gave them made them less profitable, or that this algorithm actually hurt their business, they could sue you.
All of the coverages mentioned so far are critical to the success of any business. But if you fall into the camp of avoiding insurance for as long as you can—you’ll probably get your first push to be insured when it comes time for an investment round. While you may feel you have “nothing to lose” if your startup fails, investors with deep pockets sing to a very different tune. The additional funding can mean that your business becomes a target for people who see the opportunity to sue you for profit, and you have investors that don’t want to risk their own money being left on the table.
Also at the time that you might start to have investors, or create a board for your business, management liability will be critical. Any one person on a board can be sued by others for steering the company in the wrong direction or for making a decision that results in decreased profits. Under management liability falls Directors & Offers Liability, Fiduciary Liability, and Employment Practices Liability (already discussed). Coverage is basically provided for wrongful acts and decisions.
Cyber liability covers a broad range of issues that can arise for any business that uses technology. As most businesses have a website, use email, and keep some sort of a database—cyber liability is coverage almost any business should consider.
There are many instances in which cyber liability would kick in. Some examples include stolen identities, lost data, or failures in network security. Some of the most common claims originate from your own employees through phishing scams or subsequent ransom demands. Consider these three illustrations that pertain to common cyber-related incidences:
- You are developing a software to be used by various businesses. In order to modify your software to best fit each of your client’s needs, you rely on their businesses to send you private information about their companies’ profits & losses. You intend to forward one of these emails to an internal employee; however, the email autofills to another client and you inadvertently share private information about a competitor.
- Your startup’s computer systems are hacked, and bank account information for several of your clients is accessed by the hacker. This information is then used to create false identities so large purchases can be made with that business’s bank account number.
- One of your newer employees clicks on a link in an email that he believes is legitimate. It is not, and, as a result, your computer systems freeze. The only way you can get the systems unfrozen is to pay a ransom charge of $100,000.
To cover these scenarios, there are both first-party and third-party coverages your business would need. First-party coverage would respond to payments your business needs to make for immediate expenses such as the cost of notifying clients, cost of repairing damaged software, or extortion money used to appease a hacker. Third-party claims would defend your startup against any lawsuits or legal claims.
What I hope to convey in this article is twofold. First, it is important for startups to consider insurance as an integral part of their business’s sustainability. While many first-time entrepreneurs do not think about insurance, it is common for those starting their second or third business to act early on getting coverage in place. Every business ultimately needs insurance, so there is no reason to wait until you have more to lose to lock in coverage—especially when your business is just getting started, and the insurance premium you’d need to pay is low compared to the amount of coverage you’d be enjoying.
Second, there are a lot of insurance policies that could be applicable to your business, and it is hard for the average consumer to make their own choices. All insurance policies do have exclusions that vary and should be understood. Consulting an insurance agent with experience is imperative to receiving the guidance your company needs to be properly covered. Not only will you receive consultation on the coverage you get, but you will also be able to have discussions about risk management to reduce the possibility of a claim occurring in the first place.