How much liability insurance is enough?

The guiding principle for risk management is, "Don't risk a little for a lot." But how that principle should impact your particular insurance choices isn't always clear. Here are some key factors to consider in picking the coverage that will adequately protect your company.

The type of business you engage in. If you manufacture ping pong balls, your risks are relatively limited. If you manufacture jet skis, however, the sky may be the limit in a jury award. Million dollar verdicts were once an exception; today’s verdicts can easily range from $1 million to $25 million, and beyond.

Your personal and organizational appetite for risk. I’m a second-generation insurance professional. While other kids’ parents were saying, “You’ll put somebody’s eye out with that thing!” my parents were yelling, “You’ll get us sued!” Hence, I have relatively little tolerance for risk, so I make sure my coverage is more than adequate. You may take a more laid-back approach to coverage. This approach is fine as long as you have the cash or credit reserves to cover any underinsured loss.

The jurisdictions where you operate. Certain legal venues make defending cases highly problematic. Each year, the American Tort Reform Association publishes its annual Judicial Hellholes report outlining the worst U.S venues for civil litigation. Here are a few of 2007’s most troubling arenas: South Florida; Cook County, Illinois; Rio Grande Valley and Gulf Coast, Texas; Clark County, Nevada; and West Virginia. There are many others, though, so check the report. You don’t have to live in a “hellhole” to be impacted. If your organization has any exposure in those areas, you still may be impacted. For example, if a product you develop malfunctions and injures someone there, you’ll probably be facing that unsympathetic court system.

The liability limits of comparable businesses. Your agent may be able to tell you, but if not, ask questions at trade associations where you hold membership. Each year, one of the nation’s largest insurance brokerages, Marsh, publishes Limits of Liability, a survey of various industries and the limits they carry. While it is interesting reading, the section that should make you nervous is taken from the National Law Journal, which outlines about 60 of the largest verdicts from the previous year. How does $64 million strike you for an age discrimination claim? Or $32 million for the death of a sheet metal worker struck by an improperly welded beam? I’m not judging here; I’m just reporting. Juries can get outraged at organizational negligence, especially when those organizations have deep pockets. Test your organization’s limits against others in your industry at http://global.marsh.com/limits/.

Your agent’s or broker’s advice. I often watch professionals pay a lot of money for advice then fail to heed it. You pay your broker or agent commissions for expert advice. Agents make their living managing risk for a variety of organizations. Let them help you manage yours.

Insurance premiums fluctuate from year to year depending on many factors, including interest rates on investment income and previous years’ losses in your company and industry. Resist the temptation to decrease limits when the market “hardens,” when rates increase. Sophisticated insurance buyers who have enough liquidity to pay higher losses may choose to respond to a hard market by retaining more risk, but avoid lowering limits solely to save money.

Recently, I discussed the challenge of choosing coverage limits with a group of risk managers. The best advice I received was this: “Don’t risk a lot for a little.” In other words, saving a few hundred or even thousands of dollars in premium won’t seem like such a great idea in retrospect if you suffer a loss or losses that exhaust your coverage limits.