There is much talk of the ‘gap’ that currently exists in the personal protection market. Significant energy and resource has been focused on how advisers can close it by providing adequate cover to individuals. The importance of ensuring individuals are able to weather such storms as redundancy or critical illness is perhaps even more vital for advisers, given the nature of the current recession and the outlook for our economy.
An area which can be overlooked but which is crucial to UK companies and their overall health is that of business protection. It will be no surprise to hear that a considerable ‘gap’ continues to exist within British firms in terms of their ability to protect themselves should the worst case scenario take place. That scenario would be the death or critical illness of a key individual, shareholder or partner.
To ascertain how prepared British business is in terms of servicing its corporate debt, planning for its future or dealing with the loss or illness of a business owner or key individual, Legal & General recently commissioned a survey, through The British Chamber of Commerce to understand UK firms’ current protection levels and how large the gap might be.
The survey raised some particularly interesting issues and provides advisers and the wider industry with a timely update given that the last major report in this area was the Swiss Re Business Protection Report undertaken back in 2005. Time, and British firms, have clearly moved on since then, however the gap itself does not seem to have closed, although it is possible to argue that as the economy has shrunk, and the cost of running a business increases, there is less of a focus on business protection by UK companies. The gap may well be growing.
In any recession, the fight for continued profitability and business survival takes on an even keener edge. However, a significant number of firms are ill-prepared for some of the major events which could befall their business at any time; these events could put enormous strain on a business and without adequate protection could lead to a serious corporate meltdown.
For instance, the survey revealed that few businesses are prepared for the loss of a business owner or a key individual. A quite staggering 44% revealed their business would be unlikely to survive a year were they to lose such a person. 30% of those surveyed actually said the business would probably cease to trade within three months, while 47% only expected to last two years. This threat is heightened by the fact that most businesses (64%) only have, at most, two key individuals – losing one is likely to increase the overall impact and could have a profound effect on the ability of the firm to continue trading.
While only a small number of businesses had experienced the death of a business owner – just 7% – the impact of such an event could be significant. Over 10% of those who had been through the experience said their firm had seen a loss in profits, more than 25% said that family had become involved in the running of the business; in the case of a business owner undergoing a critical illness, 36% had seen a loss of profits from the owner being unable to work, with only 9% having an insurance policy in place which paid out and allowed the business to continue trading. Two firms actually stated they had been placed in liquidation or bankruptcy because of the owner’s illness. The stakes are clearly high for those firms who have no protection in place.
It is worrying therefore that many firms do not appear to be taking this threat seriously. 42% of firms have no provision in place at all to cover such an eventuality and just 4% of business owners revealed they had shareholder protection even though it would mitigate the considerable upheaval to a business which, at least in the short term, could see a fall in profits. While expectation amongst most owners is that the business would effectively ‘find a way’ in such circumstances, a considerable 17% believe the business would simply cease to trade.
The chances of this happening are raised if the business has no rules to follow. Only just over half of those surveyed have a formal agreement in place to establish what would happen should a business owner pass away – this could be outlined in the articles of association or partner agreement, automatic accrual, or insurance policies.
Firms were also asked to reveal whether their business had suffered the death or critical illness of a key individual within the organisation, rather than a business owner. A significant number had, and once again the impact could be considerable. It seems obvious to state, however, the importance of business owners and key individuals within a company cannot be over-estimated, and was clearly outlined by the answers given to a question regarding the biggest impact which could befall the firm. While fire destroying premises was high up on the list of concerns, 67% of respondents said their business would suffer most if an active or silent business owner or a key individual were to either die or suffer a critical illness such as cancer.
Even keel
This goes to show that those key employees within a firm are more than likely to be the difference between success and failure in business, and protecting the firm from such unfortunate circumstances is vital to ensure it continues on an even keel rather than listing and possibly sinking.
Another trend highlighted by the research concerned the level of corporate debt and the lack of cover in place to cover the money which is owed. Over 50% of businesses surveyed have corporate debt of some kind, be that a bank loan (18%), director’s loan account (16%), a mortgage on the business property (4%) or a personal loan (5%). Of those who currently have corporate debt, for almost 40% of them it is for £100k.
Playing with fire
Yet 46% of businesses have no protection in place at all for their corporate debt; while 17% have life cover only, 2% have critical illness cover only and only 20% have full life and critical illness cover in place. Two-thirds of those surveyed with corporate debt also have some form of personal guarantee attached to that debt, providing a significant individual liability for those business owners should the repayments not be met. Another important point to be made is that 17% of those with such guarantees had no idea of the implications for their personal assets of having such an agreement with their bank. These business owners are clearly playing with fire should the worst happen and the firm becomes unable to pay its debt.
Clearly, the research highlights some disturbing trends, most notably the fact that many firms are ill-prepared in terms of their ability to service their corporate debt, while they would also have difficulty in continuing to trade should the owners or key individuals contract a critical illness or die prematurely. The business protection gap still exists which leaves the protection industry and advisers with a considerable responsibility and duty to educate and inform business owners about the risks they are taking by not have adequate protection in place to deal with such eventualities.
The reasons given by businesses for not taking out appropriate protection were varied. Many firms have simply never gotten round to purchasing cover, while others consider such policies to be too expensive or believe it would not impact them or their business. The repercussions of such inertia or lack of understanding could be major and advisers must take the time to get in front of their business clients to explain the potential pitfalls of inadequate protection and the benefits their firm could reap from putting these policies in place.
For too long business owners have not engaged with their own firm’s protection needs leaving them seriously exposed. Without the right policies in place, the business could close down. In this market, advisers are best placed to meet the needs of their clients and as providers we are focused on supporting their work to highlight the potential risks and the actual solutions that are available to support the business community. The gap can be closed, however it will take industry-wide focus and resource to build the necessary bridges.
Original article by Clare Harrop head of specialist protection at Legal & General.