The recent flooding in Louisiana, by some referred to as the Great Flood of 2016, has been described by the American Red Cross as the worst catastrophe to have hit the United States since Hurricane Sandy.
Is my home safe, is it covered?
A blog post in The Economist estimates the number of damaged homes at 40,000 and states that the extent of damaged homes could be as high as 100,000. The wider news reported that 20 of the state’s 64 counties have been impacted, with 13 deaths to date.
In Louisiana around 42% of homes in high-risk areas had purchased flood insurance through the Federal Emergency Management Agency. Only 12% of homeowners in low and moderate-risk areas had flood insurance. Many areas affected by this flood were not in areas classified as high-risk.
We can deduce that the Great Flood of 2016 will, yet again, evidence major underinsurance and significant uninsured losses for home owners in the region.
What about my business?
The scenario for business owners is gloomy, especially if one considers the business interruption aspects of damage and non-damage events. Loss estimates from industry experts will be published in the coming weeks. Indications are already coming in—for example, the Louisiana state University Agriculture Center estimates that the floods have caused at least USD110 million worth of damage to the agriculture business.
In an article in the Wall Street Journal on the 19th August, Nilesh Patel, owner and operator of three hotels and an under-construction assisted living center, was interviewed. One quote caught my attention:
We need the money to rebuild, but we don’t have the money because we have to sit down and apply for it and we don’t have the time.
Interpreting the facts, it appears as if Mr. Patel had flood insurance for two of his three hotels. He did not have flood insurance for one hotel and the assisted living center under construction. Thus far he has spent USD 2.2 million for out-of-pocket repair costs. His issues are evident:
- uninsured assets
- no time to claim for insured assets whilst rescue work is on-going
- no cover for damage and non-damage business interruption
- out-of-pocket expenses for immediate loss mitigation work, which will strain the businesses balance sheet and cash flow
Limitations of traditional solutions
The above scenario, which not only Mr. Patel but many businesses in the region are experiencing, clearly highlights some of the limitations of traditional insurance solutions. More specifically:
- Insufficient—or no—cover is available
- When there is an insurance policy, there is no cover unless physical damage to the insured asset
- Long waiting periods to get claims paid when really the cash is needed instantly
- Lack of transparency of cover. What is actually covered is not clear until post-event claims adjustment. This makes budgeting for recovery work hard, if not impossible.
Being smarter about flood coverage for your business
The alternative risk transfer space has a solution to offer, targeted at the above- listed frustrations. Parametric and index solutions provide an alternative way of transferring the revenue or cost impact of natural and man-made perils, such as flood, terrorism or wildfires as discussed last month.
These solutions differ from traditional insurance policies in some key ways:
- Loss payments respond to the occurrence of a pre-agreed trigger, event or movement in a reference index rather than the normal principles of indemnity.
- The policies are flexible and are designed to reflect the specific locations, exposures and risk management objectives of the buyer.
- They can be structured as single season, annual or multi-year.
- The transparent and objective nature of the policies leaves no debate about the operation of the cover or the calculation of a claim.
- There is no protracted loss settlement process, and claims are settled very quickly after the occurrence of the policy trigger.
So let’s return to Mr. Patel to illustrate what a parametric solution could look like. Mr. Patel could engage with non-traditional insurance market, or a broker, to identify third-party data or an index that could be used. With the help of the identified data, trigger(s) would be determined. For example the policy could start paying if recorded rain-fall is more than two standard deviations from the 50-year average. It could then pay a set amount for each additional inch above the two standard deviation threshold until a predetermined cap of say 3 standard deviations. The policy could be made specific to his locations, for example the recorded rain-fall from weather station at Baton Rouge Ryan Airport could be used. Mr. Patel could estimate, upfront, his cash needs related to damage and business interruption should the defined event occur. The amount is what his policy would look to cover. If the policy is triggered, which is confirmed by third-party data, payout would happen within days. In this case Mr. Patel would have cash on-hand to deal with mitigation work and not be out of pocket for millions of dollars.
So, given such a market solution exists, one may ask whether Mr. Patel should have considered it. He will now. What is important to note is that market interest begins with risks that general parametric premium of USD150,000 and above, so a business would have to budget accordingly.
Worthwhile considering insurance options, because there are alternatives
Insufficient insurance coverage and non-existent cover will be a topic of debate in the coming weeks. The attention is highly motivated but it is no new topic.
What can be recommended for business owners is to really look into their options this time. There is protection available for exposed business owners. It may just require one to leave traditions behind and think a little differently about insurance and who your counterparty is to take an interest in catastrophe risk.