Since this is the first official post of InnovationRisk.com, I figured it was only fitting to discuss the most innovative, entrepreneurial of beasts: the startup. The question I get most often is: “What is the least amount of insurance I need, without stretching myself too thin?” The answer, as with all things insurance, is a bit more complex than a one word answer.
I’ll break the answer up into three phases of growth: Startup, Gazelle and Exit. These are by no means exhaustive, but you’ll have a good idea of what to expect along the way.
Phase 1: Startup
This is the initial stage of research and development, and is when the company is being conceptually formulated, business type is established and funding is sought. At this point, insurance needs are typically very minimal. There is usually a small office with only a handful of employees.
Insurance is only thought of when your landlord, VC, client, etc. asks you for a certificate of liability insurance. After saying, “Oh sure. I can get you one of those,” you end up scrambling for the required policies. The result is often not instantly detrimental. The problems you’ll face by being reactive in your insurance purchasing won’t rear their pretty heads until much later on, when they can cause you many more headaches.
For now, you’ll be asked for any or all of the following types of insurance. These policies can be bought from almost any insurance company. Notice I said “can.” You should consider the future ramifications of who insures you, as only a select few companies are well-suited for technology and life science startups. The policies you might be asked for include:
General Liability – This covers you for bodily injury and property damage to third parties. Most landlords require this with limits of $1,000,000 per occurrence. They may also ask you for an Umbrella (excess liability).
Property Insurance – This (obviously) protects your property, and may be requested by your landlord to cover any improvements or betterments you’ve made to the office space. A worthwhile coverage that is not always added is Computers and Media coverage. Many startups have two desks, but twelve computers.
Auto Liability – But, your company doesn’t own a car you scream. Doesn’t matter, really. As with most things insurance, if someone asks you for it, you probably have to get it. But, it turns out that you do have an exposure to auto liability. Assume you’re driving to a client meeting and you hit someone on the way. They could sue the company, in addition to suing you. If you don’t own a vehicle in the company’s name, you’ll need Hired & Non-Owned Auto Liability.
Business Interruption – This is often overlooked (and sometimes not required) but should not be left out of your insurance program. This covers you in the event your business suffers a loss of income due to a covered property loss. You’ll also want to make sure that Loss of R&D Materials is covered and not excluded.
Workers Compensation – In most states (all but Texas), you are required to provide coverage for your employees in the event of a work-related accident. Here in North Carolina, if you have “more than 2″ employees you are required to carry this coverage. Violations include heavy fines and potential personal liability of the owners. Even if you only have one employee, you may be asked to carry this coverage. Again, you’re probably just going to have to deal with it and buy a WC policy.
Phase 2: Gazelle
By gazelle, we mean a company that is experiencing fast growth and has a product of some type that is ready for the marketplace. Gazelles typically have some external funding sources, like Venture Capital or Private Equity firms. The people providing the financial backing typically will require some more complex insurance products, as your exposure is much greater now.
This is when you will realize that going through a main street company or generalist broker was a bad idea. The reason is simple: technology and life science insurance is a specialized type of coverage that only a handful of insurance companies have the ability to write. And to be honest, few agents or brokers know the risks well enough to properly identify the right company for you and your unique exposures. The new types of coverage you’ll probably be asked for include:
Errors & Omissions Liability – This coverage protects you from allegations of Breach of Contract, Failure to Perform or Negligent Errors or Omissions that result in financial loss to a third party – usually your clients. E&O policies are all different. Many provide excellent coverage for one thing, while excluding another entirely. You’ll want to make sure you understand what your E&O form is covering you for and what exclusions apply.
Network & Security Liability – This protects you and third parties from data breaches and electronic privacy issues. This coverage is often broken into 8-15 different “a la carte” options. Many clients (especially banks) will require this type of coverage.
Directors & Officers Liability - This coverage is usually requested in a term sheet by your funding partners and protects the board from shareholder and employment related suits. Again, this is a specialized type of insurance, where there is no such thing as “apples-to-apples.” Your VC/PE firm will often mandate the coverage terms and conditions.
Crime – This protects you from employee theft, forgery, computer fraud, etc. This policy should coordinate with your Network & Security Liability policy to make sure the is coverage for “rogue employees” who steal intellectual property, records, etc.
Global Liability – More and more businesses are entering the global market with their products. The standard types of coverage do not adequately address global risks. A separate policy is needed to expand coverage to a worldwide basis.
Key Man Life Insurance – Usually a requirement of VC firms, this coverage protects the company in the event something happens to a founder or other key employee.
Phase 3: Exit
Many startups have different goals in mind. Some want to remain a middle-market company, some want to be acquired, and some want to go IPO. Whatever your strategy, you need to understand the insurance ramifications. If you plan on being acquired, be prepared for the acquiring company/VC to do some fairly intense M&A due diligence. If you plan on an IPO, you’ll need a restructured D&O policy to fend off class action/shareholder suits. Some coverages that may be required include:
Employment Practices Liability Insurance for discrimination, harassment, wrongful dismissal, etc.
Employed Lawyers Coverage for in-house counsel
Patent Infringement Coverage
Media Liability for Trademark Infringement, Libel, Slender, etc.
Insuring your startup is a very specialized practice. As you grow (and you do want to grow, right?), you’ll need a partner who understands all of the risks you face and how to properly address them. Go with a broker who understands the risks of innovative companies. You’ll thank me when you land your first $5,000,000 contract.