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Lockton: Sequestration to Have Additional Impact on Government Contractors

Source: Michal Gnatek, Vice President, Lockton Group

Posted on 01 Mar 2013 by Neilson

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LocktonThe looming specter of sequestration has U.S. Federal Government Contractors scrambling to warn employees of impending furloughs and layoffs, reforecasting revenue projections against any one of a number of budget cut scenarios and cautiously advising key stakeholders and/or shareholders about the negative impact to company earnings if the March 1 deadline [today] comes and goes without a deal from Washington. What is commonly being discussed inside and outside the Beltway is the material impact to Government Contractors' revenues. However, there are other risk management issues that should attract attention as potential threats to an organization's bottom line.

Workers Compensation

Employees fearing that their paychecks are going to be seriously impacted by potential furloughs or mass layoffs could see Workers Compensation as a way to continue their current salary tax-free. Much in the same way that we advise our clients to be especially vigilant of suspicious lost-time claims during plant closures or large reductions in force (RIF), we strongly recommend that risk managers treat the uncertainty of sequestration in the same manner. Clients, their brokers and insurers should monitor all new lost-time Workers Compensation claims with increased scrutiny on non-accident, soft tissue, repetitive motion and cumulative trauma losses.

Employment Practices Liability

The loss of future contracts or premature termination due to unavailability of funds almost certainly means furloughs or layoffs. To be safe, some of the larger Defense Contractors have sent WARN notices to thousands of employees in an effort to thwart potential fines and penalties, as well as inhibit wrongful termination litigation. All companies impacted by sequestration should discuss with their brokers whether to approach their insurers with proactive staff reductions.

Crime (Employee Dishonesty)

All employers would like to believe that they hire the most trustworthy and reputable employees. However, when faced with a loss of work through key contracts, companies should be keenly aware of the possibility of money or assets walking out the door.

Intellectual Property

While not necessarily insurable, organizations should consider that these uncertain times might also mean a loss of key research and development and intellectual property. Work in progress on a contract likely to be terminated could be at risk of leaving with those key employees, as they take valuable trade secrets and other intellectual property to a competitor or into the commercial sector. In addition to the old-fashioned method of stealing intellectual capital, reduction of revenues could force some companies to be less vigilant when it comes to network security. Competitors, nation states and terrorist organizations could take advantage of the increased vulnerability resulting from these budget cuts.

Minimum Earned Premiums

Although not a material risk to Government Contractors, minimum earned premiums should be discussed in light of what might be material reductions in revenues, total insurable values and payroll as a byproduct of sequestration. Companies should review their insurance program with their brokers to better understand which policies might be subject to minimum premiums despite material reductions in exposure.

The full brunt of sequestration might be averted, but most experts agree that budget cuts are a certainty. A strong proactive approach by risk managers and their brokers to address any or all of the aforementioned issues would go a long way toward mitigating any material impact to the organization.