Adequacy Of Coverage
The extent to which an insurance policy covers an asset.
Adequacy of Coverage Details
Adequacy of insurance coverage is essential both to an individual and business. However, all too frequently, neither individuals nor businesses have the coverage they need to adequately cover future risks. On an individual level, a couple may take out an insurance policy that meets their needs when they start a life together. But the policy could fail to update it as they acquire more wealth and other assets. If a flood damages their home, they may discover that their policy pays out only a fraction of the costs the event causes them.
If a business is underinsured, the consequences might be even more serious. There are various reasons why a business might not be adequately covered:
- Because insurance can be costly, and the business owner believes she can save money by paying less for less coverage.
- Because the owner is not sure how much coverage she needs.
- Because the owner does not believe that she needs insurance. This reason has become more common in the era of e-commerce when many online businesses have few physical assets.
- Because the owner miscalculates the value of her stock and other assets.
- Because the owner has not taken into account that the value of her assets has increased.
- Because the owner has not thought about insurance at all.
The cost to a business can be ruinous. An unexpected event, such as a fire or flood, is costly both in cash and the time it takes to rebuild the business. Without adequate insurance coverage, the expense can drive the business to insolvency. Businesses are required by law to take out an insurance policy. If a business does not do so, it can face severe legal problems that will be costly and damage its reputation.
Adequacy of Coverage Example
Bailot Foods has insurance which management believes to be adequate to its needs. One day, a fire, caused by an electrical fault, severely damages a warehouse and its goods. Water and foam used to extinguish the blaze cause further damage. When the management team contacts its insurance company, it discovers that the payout will only cover 30% of Bailot Foods' costs.
This lack of adequate coverage has happened because Bailot Foods had underestimated how much a fire would cost it. The payout is sufficient to cover the stock that was lost in the fire. However, Bailot Foods has to rewire its other warehouses. Loss of stock has meant that orders have been lost, which affects their revenue stream. Structural damage to the warehouse has to be repaired and new sprinkler systems installed in all their warehouses.
Significance of Adequacy of Coverage
A catastrophic event can have consequences that are difficult to foresee and prove to be very expensive to repair. A company needs to revise its insurance coverage periodically and take advice from its insurance underwriters. Insurance premiums are not cheap, but it is a false economy to be underinsured. All reputable insurance companies will offer advice on the level of coverage a business needs to meet future challenges and survive them with as little negative impact as possible.