Mitigating Inflation’s Effect on Insurance Programs

Ben Rockwell


October 3, 2022

economic inflation impacts business insurance programs

Inflation has become one of the most important business challenges of 2022, and its effects are being felt far and wide. Ongoing supply chain disruptions, labor shortages and wage increases, and higher energy prices are among the many factors that have combined to raise prices on the cost of goods and services since last year.

Businesses are feeling the effect, with 38% of middle market company leaders citing inflation as their biggest concern in a mid-year survey by Chubb and the National Center for the Middle Market. What’s more, the next-most concerning categories cited—supply chain (24%) and workforce (19%)—are contributing to inflation in their own right.

As a result, inflation’s impact on insurance and the cost of risk are now a key focus for these business leaders, with 75% of survey respondents noting that the replacement cost of assets covered by their insurance program has changed due to inflation, and climbed even higher for certain industry segments. Some 60% said that inflation has already affected their ability to replace covered assets with existing coverage.

Impacts on Assets and Income

So far, the effects of inflation are hitting hardest in property such as buildings, machinery and goods, followed by business income and other assets. In terms of real assets, the cost to rebuild after a loss is driven by the cost of materials and labor, which are expected to be 14% higher in 2022, according to a construction cost trend study by commercial real estate firm CBRE. 

If there have been no valuation adjustments to these assets since an insurance program went into effect, a major loss such as a fire or a catastrophic storm could leave the company exposed to millions of dollars of out-of-pocket costs.

The same applies to inventory. If the company has six months’ worth of products in stock that are destroyed in a covered event, the cost to replace that inventory will almost certainly be significantly higher than when the goods were originally purchased or manufactured.

Inflation is also affecting the costs underlying business income coverage. When companies purchase this coverage, they are primarily looking to maintain net profits from increased revenues. According to the middle market survey respondents, mean revenue growth was 12.2% in the first half of 2022 compared to 8% the year before.

Most businesses also include payroll as part of the expected loss payout under business income coverage. The Bureau of Labor Statistics’ Employment Cost Index for the second quarter of 2022 shows that wages and salaries for private industry workers increased at a two-quarter annualized rate of 5.8%, up from 4.9% for the previous two quarters.

If revenue and payroll growth have moved well past the estimates built into their business income coverage, companies could miss out on substantial loss payments following a covered loss.

Keeping Inflation from Outrunning Coverage

How can companies keep inflation from leaving them exposed to losses beyond their coverage limits? Companies should work with their insurance agents, brokers and carriers to understand the full scope of values at risk and develop appropriate risk mitigation and risk transfer strategies. While there are several ways companies can help combat inflation’s impact on property risk management programs, it is helpful to simplify them into three categories: prevention, planning and programs.

Prevention. The more a company can manage its operations and facilities to prevent losses in the first place, the more control they will have over their cost of risk. It may make sense to implement capital improvement projects, such as replacing roofs or installing water detection devices and shutoff valves, for example. Insurance carriers also have risk engineering resources available to help companies minimize or eliminate risk exposures.

Planning. For building and other real assets, it is important to conduct a full, realistic assessment of what replacement would cost with current inflation. If the company has substantial non-building assets in its facilities, such as office furniture and personal property, it is worth coming up with an updated valuation for those as well.

For business income, the picture can be complicated because it may involve aspects that are far out of the company’s control, such as suppliers or other vendors. That is why business continuity and emergency response plans are so crucial. Catastrophe events have the potential to result in a total loss, yet some 40% of companies in the middle market survey are not fully prepared to manage disruptions from hazardous weather.

A business owner or manager who has in-depth knowledge of the company’s needs, strategy and operations can make a huge difference in developing effective plans. A good business continuity plan can often point out areas of vulnerability in the supply chain that could lead to additional mitigation steps like building in a supply redundancy or onshoring a key supply source. Insurers’ risk engineering teams can offer expertise in developing and improving on business continuity plans.

The better prepared companies are for getting back up and running, the better off they will be. Having a backup temporary facility, activating a different vendor or redirecting employees to alternate locations, for example, will help keep the loss within their business income coverage limits.

Programs. Armed with accurate replacement values, a solid business continuity plan and strong risk mitigation approaches, a company can then make any necessary adjustments to its insurance program. In the middle market survey, 72% of companies said they will consider increasing coverage amounts to compensate for inflation.

For building assets, a higher coverage limit may be warranted, or the company can fine-tune the amount of risk it is willing to assume by increasing its deductible, or choosing between replacement cost or actual cash value within its policy language.

For business income, the company should make sure that the estimated income limit adequately reflects the company’s higher revenue and wages. An accurate projection for the duration of loss is also key. A good business continuity plan will provide the timeframe needed for this estimate.

Ben Rockwell is vice president of Chubb Group and division president of Chubb Middle Market.