Key Man Insurance and Shareholders Insurance

Business Owner? This insurance could be Essential.

Every entrepreneur needs an exit strategy for the business, and there is a huge amount of valuable and relevant advice to be found online. But almost all of this concerns planned exits – how to value your business, how to manage a transition, financing arrangements, etc, etc.

Naturally enough, entrepreneurs tend to be the kind of people who can visualise things going right. They are optimistic, action-oriented, and positive. All healthy characteristics; but the flipside is that sometimes such people find it easy to overlook the downside.

So what if your ‘Exit Strategy’ turns into an ‘Emergency Exit’?

Consider worst case scenarios, and plan for them

Who are the key people in your business? One of them is almost certainly you. If you have business partners and executive shareholders, it’s likely to be them too. So what would happen if disaster struck, and one day you could no longer participate in running the firm? How do things continue?

It’s typical that for small firms, the owner-manager is crucial to the business and keeps everything together. Or perhaps you have a sales director whose efforts keep the company afloat. Or a senior staff member who’s essential to delivery on a contract. The loss of any of these could bring the company down, unless you have a plan.

Key Man Insurance

(NB. Gender and status neutral, per the footnote.)
Simply put, Key Man Insurance is an insurance policy on any member of a business that is critical to the day to day operation and survival of the firm. If such a member is no longer able to perform their duties, due to death, illness or disablement, then the future of the company is at stake. In this situation, the insurance payout is there to cover expenses:

• Business closes – pay off debts, pay severance to staff, reimburse investors, costs of orderly closure, etc.
• Business continues – hire a contractor or interim manager, recruit and train replacement, costs of business interruption, etc.

The company itself is the owner and beneficiary of the insurance policy. It is recommended that the insurance terms cover not just the life of the insured key person, but also critical illness (e.g. from heart attack, stroke, or cancer) and permanent disability.

Key Man Insurance is not an indemnification of the above costs, it is a straightforward payout of the insured amount based on the terms. This makes it important to carefully consider the sum assured. Too little insurance cover won’t fulfil the need; too much is an unnecessary cost to the business.

Shareholder Insurance

If there is more than one shareholder of your business, then there should be a Shareholders’ Agreement. This lays out the rights and obligations of the shareholders, how key decisions will be made, how minority shareholder’s rights will be protected, and how shares in the company can be bought and sold, amongst other items.

For example, a Shareholders’ Agreement might specify that if a shareholder wants to sell out, he must first offer his shares to other existing shareholders or founders. Of similar concern will be what happens to shares held if the owner dies. In the absence of any other agreement, they are part of the deceased’s estate and can be bequeathed to a spouse or other beneficiary.

The Shareholders’ Agreement could specify that those shares are to be acquired back by the other shareholders, or perhaps the business itself. This could be to ensure that the original founders of the firm maintain voting control, and that the surviving beneficiaries of the deceased obtain fair value of the shares immediately, rather than at some time in the future.

In this case, a common method to ensure that financial resources exist to buy out the beneficiary, is to have an insurance policy on each major shareholder. The policies can be owned by the business, and the terms of share buy-out or other distribution of the sum assured are stipulated within the Shareholders’ agreement.

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FIND OUT MORE

Please contact me to assist you in identifying your Key Man and Shareholder Insurance needs, and to identify the most cost-effective options for you.

PC footnote. You may sometimes see ‘Key Person Insurance’ and ‘Key Employee Insurance’ referred to. Especially the former, with the rise of gender-neutrality language pressures. Within the industry though, ‘Key Man’ refers unambiguously to all genders and statuses, and this has always been the case.