FIN 440 Week 3 Liability and Types of Insurance Example

Whose Shrimp, Whose Fault? Building the Insurance Program for a Cold-Storage Warehouse Around Property, Spoilage, Warehouse Legal Liability, Pollution, Workers' Compensation and an Umbrella

[Student Name]

University of Phoenix

FIN/440: Risk Management and Insurance Planning

Week 3 Assignment

[Instructor Name]

[Date]

Peach State Cold Storage, its losses and its premiums are composites written for a model paper; coverage forms and research findings are summarized generally from the sources listed and vary by insurer and state.

Peach State Cold Storage, the composite Savannah warehouse, holds about $60 million of customers' frozen food at any time, mostly meat, seafood and vegetables. When a compressor failed at a competitor's plant, a room warmed overnight, and the owner of $800,000 of shrimp sued for the loss. The competitor's general liability insurer denied the claim because the shrimp was in the warehouse's care. A warehouse that does not know whose property is covered by which policy can discover the gap only when a customer's goods are ruined. This paper builds Peach State's insurance program so that each exposure from Week 1 has an answer.

How Liability Arises

Most liability arises from negligence: the company owed a duty of care, breached it, caused harm and the harm produced damages. A warehouse that fails to maintain its compressors or monitor temperatures may be negligent if goods spoil. Liability also arises by contract: Peach State's storage agreements state its responsibility for goods and limit it to a set amount per pound unless the customer pays for higher declared value. Statutes add more: under the Uniform Commercial Code, a warehouse is liable for loss caused by its failure to exercise the care a reasonably careful person would use, and environmental laws impose liability for releases of hazardous substances regardless of fault in some cases (Rejda et al., 2020).

Property and Business Income

A commercial property policy covers the building, refrigeration equipment and racking against fire and other named perils. Replacement cost for the building and equipment is about $22 million. Business income coverage pays lost profit and continuing expenses while the plant is rebuilt, which could take 18 months after a fire; the company bought 18 months of coverage. Week 1 estimated a major fire as a 0.2 percent annual risk with a $25 million loss, the clearest case for transfer.

Equipment Breakdown and Spoilage

Standard property forms exclude mechanical breakdown. Equipment breakdown coverage pays for sudden failure of compressors and electrical systems and for the resulting spoilage of the company's own goods. Because the company owns little product itself, the more important coverage is for customers' goods.

Warehouse Legal Liability

Customers' goods are excluded from both the property policy, which covers the insured's own property, and general liability, which excludes property in the insured's care, custody or control. Warehouse legal liability insurance fills the gap, covering the company's legal liability for damage to customers' goods from causes such as temperature failure, fire or handling. Peach State bought a $5 million limit per location, matching its largest customer's typical inventory with the declared value limits in its contracts, and a $25,000 deductible.

General Liability and Its Pollution Exclusion

Commercial general liability covers bodily injury and property damage to others from the company's premises and operations, such as a delivery driver injured on the dock. Policies written on an occurrence basis cover injuries that occur during the policy period whenever the claim is made, while claims-made forms cover claims first made during the period, a distinction that matters most for injuries discovered years later (Harrington & Niehaus, 2004). Peach State's policy is occurrence based with a $1 million per occurrence limit. Like standard forms, it excludes most pollution, including an ammonia release.

Pollution Liability for Ammonia

A separate pollution liability policy covers bodily injury, property damage and cleanup costs from the ammonia system. Week 1 estimated a 1 percent annual chance of a $3 million loss. The company bought a $5 million limit, since a release near the port could affect many people and businesses.

Workers' Compensation

Georgia requires employers with three or more employees to provide workers' compensation, which pays medical costs and lost wages for job injuries regardless of fault, in exchange for limiting employees' right to sue. Week 1's forklift exposure, about $134,000 of expected annual losses, falls here. Because these losses are frequent and predictable, the company chose a large deductible plan, retaining the first $25,000 of each claim in exchange for a lower premium, and invested in floor heating at dock doors and operator training.

Auto and Umbrella

Commercial auto covers the company's yard trucks and service vehicles. An umbrella policy adds $10 million of liability above general liability, auto and employer's liability, protecting against a severe injury claim.

Contracts With Customers

Peach State's storage agreements do as much to manage liability as its policies. Each agreement limits the company's liability to 50 cents per pound unless the customer declares a higher value and pays a higher storage rate, and it requires customers to insure their own goods for losses beyond that limit. The agreements also require the generator maintenance contractor to carry its own liability insurance and to name Peach State as an additional insured. A broker reviewed every customer contract to confirm that the warehouse legal liability limit covers the highest declared values, since a contract promising more than the policy pays would leave the company to cover the difference.

Why Firms Buy Insurance

Mayers and Smith (1982) argued that corporations, unlike individuals, can diversify through shareholders, so they buy insurance for other reasons: insurers have advantages in pricing risk and handling claims, insurance reduces expected bankruptcy and contracting costs and it can lower expected taxes. For a private company with concentrated owners, the bankruptcy argument is decisive for fire and pollution.

Cost Compared With Expected Loss

The program's premiums total about $640,000 a year: $210,000 for property, business income and equipment breakdown, $95,000 for warehouse legal liability, $60,000 for general liability, $45,000 for pollution, $165,000 for workers' compensation on the deductible plan, $30,000 for auto and $35,000 for the umbrella. The expected insured losses after deductibles are well below that figure; the difference pays for the insurer's expenses, profit and the removal of losses the company could not survive.

Conclusion

Peach State's liability arises from negligence, contracts and statutes, and its greatest gaps were in customers' goods and pollution, which standard policies exclude. A program built from exposures, with warehouse legal liability, a pollution policy, retained workers' compensation losses and an umbrella, covers the losses that could end the company while keeping the small ones in house.

References

Harrington, S. E., & Niehaus, G. R. (2004). Risk management and insurance (2nd ed.). McGraw-Hill/Irwin.

Mayers, D., & Smith, C. W., Jr. (1982). On the corporate demand for insurance. The Journal of Business, 55(2), 281-296. https://doi.org/10.1086/296165

Rejda, G. E., McNamara, M. J., & Rabel, W. H. (2020). Principles of risk management and insurance (14th ed.). Pearson.