By Ade Fashola
Like in every industry, with developments in technology and the increasing value of intangible assets, insurance industry needs to reassess the role it plays in protecting its customers against significant losses that may arise from damage to these assets.
Is the insurance industry keeping pace with its customers’ changing requirements in this area?
What Is an Intangible Asset?
Goodwill, brand recognition and intellectual property, such as patents, trademarks, and copyrights, processes are all intangible assets. Intangible assets are opposite of tangible assets, which include vehicles, equipment, and inventory. The intangible assets are the parts of a company which are not physical in nature but are resources which are controlled by the company. These could include intellectual property, supply chain resilience, contacts database, business methodology, reputation and goodwill or the network through which the company conducts its business.
Most companies like Google, Amazon, Go-Daddy, Facebook, Uber and the likes, biggest assets are intangible. This concept is therefore relatively new to the 300-year-old insurance market. The significant development in technology over the past 40 years has seen the perceived value of intangible assets soar. From Amazon to Uber, the meteoric rise of technology driven companies, whose value is rooted predominantly in their intangible assets, has disrupted, and in some cases completely wiped out, longstanding businesses and business models. In less than a generation, technology has changed everything from the way we buy groceries to how we interact socially. Before year 2000, intangible assets represented only a small percentage of a company’s value. As at 2016, Forbes estimated that figure to be around 80%. Take Amazon as an example: most of its value is not in its warehouses or its stock (though these are, of course, significant). It is in its reliable reputation, that its efficient network provides customers instant access to its website, to search its extensive supply network, for almost any conceivable product, which will be sourced at a competitive price and delivered from one of its warehouses to the customer in as little as an hour.
Insuring Intangible Assets
Insurance has developed by assessing the risk of a peril to a physical asset and underwriting that risk based on an analysis of data acquired from similar losses. Applying the same method to intangible assets, which are more difficult to quantify and in relation to which the effects of losses are less predictable, is more of a challenge. The industry already successfully covers some intangible assets, such as loss of supply chain, by means of business interruption insurance, though this is usually still linked to a physical loss. Such losses are easier to quantify to the extent that a comparison can be made against previous annual turnover and past performance. One of the major concerns for risk managers is whether their businesses will be sufficiently covered in the event that significant damage is caused to one of their valuable intangible assets. Any company of any size in any sector is at risk.
However, the real point is that insurance is rarely even offered to protect businesses for loss or damage to their intangible assets arising out of a cyber-related loss. Companies are improving their ability to analyze and value their intangible assets. Such businesses want to be protected against the risk of damage to those assets. The insurance industry, even if it covered such risks, would be unlikely to have the capacity to deal with such catastrophic losses. Few insurers would want to provide cover up to the limits required. Equally, few customers would be willing to pay a premium high enough to cover it.
How can the insurance industry adapt?
The following are options of the insurance industry could adapt to respond to the challenges of protecting intangible assets.
Pooling – Similar to Pool Re (which, presently, specifically excludes damage caused by virus, hacking and similar actions), the industry could collaborate with the government to create a scheme that would cover losses to intangible assets, but underpinned by an agreement that, if the losses became so big that they exhausted reserves, then it could draw funds from the its government to meet its obligations.
Captive Insurer – As in traditional insurance businesses, captives could provide coverage at a lower rate of premium than the open market. One issue faced by an insured is that many insurance products contain a number of exclusions, so businesses are not confident that their loss would be covered. A captive could provide that breadth of cover.
Incentives for increased security – Insurers could provide incentives such as reduced premiums for businesses that can show they have improved their security and therefore decreased the likelihood of making a claim. This is a long-term solution that would only work if an insured could demonstrate the ability to meet premium and remain claim free for a number of years. It would not protect businesses that is presently highly exposed.
Insurance Linked Securities – There are financial instruments whose values are driven by insurance loss events, usually providing substantial limits of cover. Investors underwrite the same type of risks that insurers and reinsurers do, collecting premiums and paying out losses as and when these materialize. As such, insurers are able to pass on unwanted accumulations of risk to the capital markets. As catastrophic losses are low-probability, they could be attractive to investors. However, investors will no doubt wish to take a cautious approach on premium, because it may be a relatively expensive option.
Risk Management – With the engagement of a very good risk management consultant, companies would have their risks assessed, systems updated and protections put in place before they suffered a loss. These systems would then be monitored and tested regularly, to ensure the greatest protection against suffering damage. The one great opportunity for the insurance industry arising from the above is that insurers have the specialist knowledge and expertise to put these systems in place. This would provide comfort to insurers who could continue to monitor the risk and charge lower premiums as a result, for the risks that they do actually take on in the traditional manner. The issue with this approach is that it would require a significant financial outlay at the start.
