Joining a business as a key investor or non-executive director is about bringing your experience and expertise to boost the capabilities of an existing management team. The strength of the existing team is a key determinant in deciding whether to invest, so it is vital to protect your investment through insurance of the key individuals who have brought the business to stage where they are ready to accelerate growth.
Losing a CEO or a sales or commercial director from the heart of the business due to serious illness or death can have major financial consequences, aside from the emotional impact of the loss of a friend and colleague.
The confidence of investors, banks and institutions and important client relationships can be affected and finding a suitable replacement can often be both time consuming and expensive.
At Vista we have supported more than 500 transactions in the last ten years and the vast majority have elected to add this additional line of protection.
Key person insurance is thus a life insurance policy that a company purchases to cover its key employee(s). The purpose of this coverage is to protect the company from the financial losses that flow from the unexpected death or incapacity of the key person(s).
Case Study – cover in context….
Imagine a small but rapidly growing tech startup that develops a unique, high-demand software product. The success of the company heavily relies on its co-founder and lead developer, Alex, who designed and built the core software. Alex has extensive knowledge of the codebase and is responsible for product innovation and maintenance.
Situation: Unfortunately, Alex passes away unexpectedly. The company does not have key person insurance.
Consequences:
- Revenue Loss: Without Alex’s expertise, the company is unable to maintain or improve the software product. Customers start experiencing issues and bugs that cannot be resolved quickly, leading to dissatisfaction and cancellations of service contracts. This results in a significant loss of revenue.
- Development Delays: Hiring a new developer with Alex’s level of expertise proves difficult. The recruitment process is lengthy and costly, and the new hire needs extensive time to learn the complex codebase. During this period, product development and new feature launches are put on hold, further stunting the company’s growth.
- Increased Financial Pressure: With revenues declining and the cost of hiring and training a new developer mounting, the company struggles to meet its financial obligations, such as paying employees and maintaining its office space.
- Investor Confidence Drops: Investors lose confidence in the company’s ability to recover from the loss of its key person, making it challenging to secure additional funding. Some investors may even withdraw their support entirely.
- Potential Bankruptcy: Without key Person insurance to provide financial support during this crisis, the company is forced to scale down its operations drastically and faces the real prospect of being shut down altogether.
How would Key person Insurance have helped:
If the company had taken out a key man insurance policy on Alex, the payout from the policy would have provided the financial resources needed to cover the revenue loss, hire and train a new developer, and stabilize the business until it was back on track. The insurance would have bought the company time to adapt and recover, possibly saving it from financial ruin.
Key Person cover in brief:
- Pays out a lump sum to the company if a key person is critically ill or dies.
So, what does key person insurance cover typically?
- Loss of Revenue: If the key person is vital to the company’s profitability (for example, a top salesperson or someone with critical skills), the insurance can help offset the loss of revenue resulting from their absence.
- Costs of Recruitment: The insurance can cover expenses associated with hiring and training a replacement for the key employee.
- Business Loans: If the company has taken out loans with the key person’s involvement as collateral or guarantor, the insurance can help pay off these debts.
- Business Continuity: It ensures the business has the financial resources to stay afloat, stabilize operations, or even be sold if necessary, without suffering significant setbacks.
- Partnership and Ownership Buyout: In partnerships or businesses with co-owners, key man insurance can provide funds for surviving owners to buy out the deceased or disabled partner’s share.
If you would like to find out more about how Vista can help you and your business, get in touch with our Head of Private Equity, Dan Blake at Daniel.b@vistainsurance.co.uk or call 0161 537 7057.
