Reputational risk - the elephant in the room

The rise of intangible risks has been well documented by risk and insurance professionals, putting increasingly less emphasis on physical assets on the risk register, and increasingly more focus on risks such as cyber threats, business interruption and reputational risks.

The global top fifty companies have in the region of $11tn of intangible assets, according to a report from Howden “Insuring the invisible”, report published by the insurance broker in April. The proportion of intangible risks that are insured lags behind physical risks, the traditional bricks and mortar of the insurance market.

“Protection gaps are not a new phenomenon…but their magnitude can be disproportionately large for perils with non-physical loss components,” noted the Howden report, adding: “The proliferation of data, technology and automation has revolutionised the way people live, interact, work and travel. It has also transformed the composition of companies’ assets: today, most corporations value IP, brand and reputation ahead of property, plants and equipment.”

The scale of the challenge has become more apparent during the pandemic – when more and more people interact with companies online, while the internet and social media provide every consumer with a greater platform to amplify their opinions than ever before.

“Whilst this shift was well underway before Covid-19, the pandemic, a shock event whose substantial insured losses involved mostly non-physical damage, has revealed companies’ acute exposures to intangible risks,” noted the Howden report.

“The virtual school, work and social environments so ubiquitous in the pandemic’s wake have enhanced society's and businesses' reliance on digital technologies. As a result, cyber exposures have escalated to unprecedented levels and brought associated risks such as reputational damage, loss of data and intellectual property security into sharp focus.”

Airmic hosted a webinar focused on reputational risk in March, which included participation from insurance broker Willis Towers Watson and its partners, including lead insurer Liberty Specialty Markets, and PoleCat, a data and analytics provider. The three companies have teamed up to provide one of the reputational risk insurance solutions on the market, while Tokio Marine Kiln, another insurer which has innovated reputational risks products, also supports the project.

Their product breaks down reputational risk into nine insured perils, including: sale of harmful products; disease outbreak (excluding Covid); bodily injury; animal abuse; customer abuse; employee abuse; abduction or abuse; active assailant; and disgrace of a celebrity endorser

“Organisations are beginning to see the importance of risk transfer for reputational risk. Among FTSE-350 companies, 85% of their corporate value is intangibles, a large proportion of which is reputation,” says David Bennett, head of sales at Willis Towers Watson’s Global Markets P&C Hub.

However, many of the insurance products that have come to market for reputational risk have suffered the same drawback: with limits around $10-25m they are too small in scale to offer meaningful protection for large and multinational corporations buying commercial insurance.

“With our solution we’re up to $50m capacity, which we’re looking to increase to $100m by the end of the year,” says Bennett. “Our hope is that reputation will get sufficient scale to sit alongside property and casualty.”

A hit to a company’s share price is a common factor in measuring reputational risk. While the Willis Towers Watson product uses traditional underwriting, some products have used parametric indices to trigger a policy, such as share price mixed with additional factors. However, parametric products have also been criticised for being too small or complex.

“Parametric is a good tool but applying it around share price you get a challenge, as so many things can alter a share price, which can lead to complexity,” says Bennett. “On the other hand, companies that have sought to insure reputational risk through their existing protections, from an all-risks perspective they face questions of when does that policy kick in or when do you pass it on to another policy.”

One often-cited advantage of parametric products is their quickness to pay out. Products for reputational risk need this characteristic, to respond, close to real-time, to crises as they develop. Reputational risk insurance products tend to resemble policies for other perils – such as cyber risk, product recall or kidnap and ransom – in their emphasis on immediate support from a mix of consultancy expertise as well as indemnity.

The Willis Towers Watson example has evolved from a product recall cover, and includes an underwriting element classified as business interruption, Bennett explains. In this case, the insurer provides a traditional pay-out, up to 30% of which is made available much more quickly to cover immediate costs such as advertising, while PoleCat provides real-time analytics to keep track of events as they unfold, such as tracking social media activity.

“Reputation dies in real-time, whereas a traditional insurance product might take 15 months after the event to get a pay-out, by which time damage to reputation is done and dusted, which might be fatal,” says Bennett. “Events unfolding in real-time need a technological tracking capability, and access to services, such as crisis communications, as well as funds to get through the eye of the storm. Taken as a whole, we describe it as a risk management solution rather than insurance.”

What is clear is that reputational risk products offer crisis management solutions, with an emphasis on advice and defence, less on recouping the overall cost of a reputational fallout, from which a share price, for example, might be much greater in magnitude, and might never recover.

“Reputational risk insurance market products are largely focused on providing the bounce back capability,” says Julia Graham, Airmic’s CEO. “They primarily provide the resources to defend yourself, so that when something goes badly wrong, the funds are quickly available to fix it, and to provide consultancy and legal counsel. That’s what’s insured, rather than a loss in asset or share value.”

A report “Closing the gaps on reputational risk management” was published jointly by Airmic, RIMS and RepTrak in September 2020, discussing this very issue. The report read:

“Existing reputation insurance coverage primarily focuses on compensating direct expenses related to mitigating the harm after a reputational event but might not always cover the full cost of the event itself. More recently, several innovative insurance products have emerged, promising a pay-out based on various reputation-related indices. These products are still maturing and are expected to continue evolving in the years to come.”

The full cost of the event itself would probably represent a much higher financial figure at stake. The question arises whether companies are using alternative risk transfer mechanisms, in addition to their risk management and mitigation efforts, to address the threat.

Nir Kossovsky, CEO of Steel City Re, has called on companies to consider using their captive insurance vehicles to address this reputational risk protection gap, speaking to Captive International magazine in November 2020.

“Commercial insurers can offer reputational coverage but at the moment there is not much appetite for taking on this kind of new risk,” said Kossovsky. “They tend to prefer to focus their attention on more conventional lines, even though now would actually be a great time to get into reputational insurance when only the best risks are seeking coverage.”

On  the other hand, captives could provide effective support for this low-frequency but high-severity risk. “Most companies won’t have a reputational crisis, and they are very rare in the best governed companies, so taking in [captive] premium for reputation risk is a good way to build up capital,” he said. 

The closest many captives get to writing pure reputational coverage would be directors’ and officers’ liability (D&O), he noted, but legalistically-minded D&O coverage tends to suffer from the same traditional insurance time-lag before indemnity.

“The D&O liability payments shows up around two-to-five years after potential reputation loss payments, which in our models could pay as soon as 20 weeks after an adverse event [if using a captive solution],” Kossovsky said.

The report from Airmic, RIMS and RepTrak suggested any solution will need to start with risk management, but likely turn to both captive insurance as well as innovation within the traditional insurance market.

“A number of organizations are exploring whether similar funds might be made available from the reserves of their own captive insurance companies. While no single reputation insurance product can currently fulfil every organization’s needs, the markets are being responsive and innovative in trying to find solutions to the need for reputational risk financing,” said the report. “Risk professionals can lead the conversation by demonstrating an integrated common reputational risk framework and by using data models to gain clarity on measuring the economic value of reputation and potential loss drivers.”