Among smaller businesses, factors such as climate change are still not rated as highly as other risks, despite them being a contributing factor to much of the risk landscape. What might trigger accelerated environmental, social and governance (ESG) action among SMEs, however, is a potential tripling of insurance premiums.
ESG risks will have an increasing impact on SMEs’ insurance policies. It will undoubtedly lead to more costly insurance or, at worse, insurers might not want to offer a policy to those who ignore ESG issues.
Insurers are also having to grapple with the complexities of ESG risks in their own businesses, so they are aware of what’s involved. Traditional underwriting approaches are no longer adequate to identify and manage the complex risks of climate change and other ESG factors, leading to insurers changing their approach to determining insurance policies.
“The two main elements in respect of insurance companies are uninsurable risks and stranded assets,” says Neil Campbell, FCA, expert in financial services. “The two biggest insurance providers in the US are no longer offering fire insurance for properties in certain areas because the risk is just uninsurable.”
Campbell says stranded assets are particularly tricky because insurance companies are probably ahead of the companies when it comes to ESG assessments. They might consider an asset to be riskier than the company has accounted for. “Your premiums are going up. It might not be the premiums this year or next year, but in five years. That might become a big problem and those assets might not be insurable at all,” he says.
Indeed, insurers around the world are considering whether they should provide coverage to coal plants, oil pipelines and other carbon-intensive businesses.
“Having clear ESG-related targets, measurable metrics and a purpose and timeline for future performance is critical, but there is also a lot of insurer focus on the transition risk as organisations move towards a carbon-neutral future. Being able to show a plan for improvement will help facilitate continued partnership with carriers and, as with cyber risk, it’s important to build time to consider ESG into renewal schedules,” AON’s Market Insights shows.
Property underwriters are focused on reducing their exposure to the physical impacts of climate change, such as coastal properties threatened by hurricanes and flooding, and adjusting their pricing in line with these risks, says CapGemini.
Critically, liability underwriters are also carefully watching the increasing number of ESG-related lawsuits and are trying to gain insights into what sectors might face such litigations in the future.
According to recent research from Capgemini, relatively few insurers have begun factoring sustainability into their underwriting practices. Fewer than half of P&C insurers embed ESG scores in the underwriting process. Less than a third (30%) offer preferential conditions for customers that adopt sustainability initiatives and even fewer (27%) restrict access to ‘brown’ or unsustainable companies.
But while it’s unlikely that ESG is having a major impact on SMEs’ insurance policies, it’s expected that insurance premiums will rise across the board over the next five years.
Campbell says: “Companies have to be looking at the right levels of data in light of these risks and they have to be joined up. One of the criticisms of the application of TCFD (Task Force on Climate-related Financial Disclosures) was that governance and strategy were fine, and risk management and metrics were fine, but they weren’t joined up.”
What are the upsides?
The positive news for early adopters of ESG assessments is that they could see some benefits; not so much in a reduction of insurance premiums, but rather fewer rises.
If it isn’t happening already in some quarters, insurers will soon integrate AI-enabled tools and machine learning into their underwriting workflows to enable dynamic pricing.
Once insurers can incorporate richer data from more varied sources, underwriters can more effectively and accurately evaluate and price policies. In time, this approach will allow insurers to price each business more dynamically.
Accountants are well-placed and trusted to work with SME clients to begin the ESG assessment process if business owners haven’t already. Their analytics skills can provide insights that owners may have overlooked. This in turn will help business owners future-proof their companies against escalating insurance premiums.
Insurers are also having to adapt to this changing landscape and are increasingly prepared to collaborate with companies to help them highlight their ESG credentials. It’s worth talking to your insurance provider to engage them in your climate change risk analysis. The critical point for business owners is to take that first step on their ESG journey rather than ignoring the challenge ahead.
Climate for SMEs
Climate change is affecting businesses of all sizes. ICAEW is aiming to cut through the noise by providing tools and resources for small to medium sized businesses to build resilient business models and get to grips with ESG.
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