How to Properly Protect Your Fintech Company with InsuranceInsurance Explained
Within the technology ecosystem, financial technology, or “fintech,” is one of the fastest-growing sectors. Easily one of the more dynamic industries right now, fintech companies are taking the world of finance by storm and aggressively modernizing an industry in which innovation has been long overdue.
It’s no surprise then that fintech startups have become very attractive to investors and venture capitalists. In the first half of 2018, the sector raised $41.7 billion dollars, which was more than it raised during the entire year of 2017.
One of the main characteristics that enables this sector to grow so quickly is its diversity. Fintech startups are solving a wide range of problems related to just about every branch of finance imaginable while leveraging an equally diverse range of technologies, including but not limited to big data, machine learning, artificial intelligence, blockchain, mobile apps, and more.
Naturally, revamping and replacing established institutions and traditional financial services can be a risky proposition. One of the biggest hurdles that fintech startup companies face is trying to adapt their services to work within the parameters of the regulations, compliance, and out-dated systems that traditional financial institutions installed and continue to uphold.
And while this is one of the major concerns of fintech entrepreneurs, getting sued by a regulatory body is far from the only reason fintech companies need to pay particular attention to putting together a comprehensive insurance program.
Evaluating the Risks Fintech Companies Face
Another defining characteristic of the fintech industry is that it is extremely competitive since there are always new fintech startups joining the race. Not only do rising fintech startups have to deal with the fiery competition imposed by their peers, they also need to navigate the space without angering the giant, perennial industry heavyweights. It’s no surprise then that lawsuits are very common in this space. Being on the cutting edge of technology also exposes fintech companies to a number of serious risks, such as:
Cyberattacks and Data Breaches
Fintech companies deal with a great deal of sensitive data. Their goal is to move financial and personal data into the realm of the Internet, which makes these companies incredibly susceptible to cyberattacks and ultimately, data breaches. A data breach is when an unauthorized individual copies, views, steals or uses a company’s proprietary information.
Also, the fintech company must stave off unforeseen ransomware assaults and having their data held “hostage.” Since the fintech industry deals with sensitive information, the potential damage that can be caused by a data breach is exponentially greater than in most other industries. In addition, cybercriminals consider data that many fintech companies retain, such as credit card and Social Security numbers, valuable commodities. Consequently, attacks on fintech companies are common and recovery is usually very expensive.
Professional Liability and Breaches of Contract
Many fintech customers rely heavily on the services being provided. Therefore, if they experience system failures, outages, and downtimes, significant financial losses can ensue. Not fulfilling those services specified via a written agreement by the fintech company could result in a breach of contract leading to possible litigation.
Outside of their own infrastructure, fintech companies often rely on third-party services to maintain their systems, which does not eliminate the fintech company’s responsibilities to its customers and may in fact possibly increase them. Consequently, the likelihood of possible lawsuits for failing to render promised services still exists when a fintech company uses third party support.
While there is support from governmental agencies to help fintech companies provide much-needed innovation to this space, the financial products and services that fintech companies provide are still very heavily regulated. In most cases, the federal regulation of financial products and services, especially when new technologies are involved, is incredibly complex and strict. This puts fintech leaders in a precarious position when developing innovations and providing industry-altering solutions while navigating the maze of regulations they are obligated to follow.
Highly-Publicized Examples of Insurance at Work for Fintech Companies
- A Pennsylvania credit union sued fintech giant Fiserv, alleging that “baffling” security vulnerabilities in the company’s software “wreaked havoc” on its customers. See: Credit Union Sues Fintech Giant Fiserv Over Security Claims
- The Securities and Exchange Commission (SEC) filed a civil lawsuit against WB21 chief executive Michael Gastauer, accusing him of aiding and abetting the fraudulent sale of $165m worth of shares in microcap stocks. See: The fintech ‘genius’ accused in $165m fraud
- Former Mozido CEO Todd Bradley sued his former company, alleging the company breached its contract with him, failing to pay his $1 million signing bonus or repay him for a $600,000 loan he made to Mozido. See: Embattled Fintech Mozido Sued By Its Former CEO
Recommended Coverage for Fintech Businesses
When discussing commercial business insurance, there are always coverages that overlap and fulfill the needs of businesses in just about every industry. General liability insurance, workers compensation, property insurance, and employment practices liability insurance are typical coverages that every business with an office and employees should have, no matter the industry.
However, the unique nature of the fintech industry does require recognition that specialized policies are warranted, such as:
Technology Errors & Omissions Insurance: Also known as professional liability insurance, technology E&O is probably one of the most important types of insurance for fintech companies. Fintech companies offer systems advice to clients or provide financial services through an application or software. Tech E&O protects the company from suits or claims resulting from mistakes or errors, as well as an alleged failure to perform, in the services offered.
Cyber Liability Insurance: As already mentioned, a fintech company’s ability to manage and incorporate innovative technology into its services can be both its bread and butter and its downfall. Cyber liability insurance will cover the company in the event of a data breach or cyberattack including ransomware demands. As the fintech industry continues to boom, so will cyberattacks against fintech companies. If an attack leads to the loss or misuse of sensitive information, cyber liability insurance can cover recouping financial loss resulting from downtime, claim settlements, extortion payments, investigative actions, and remediation expenses such as PR efforts and mandatory notification requirements.
Directors & Officers Insurance: As leaders in a high-risk and quickly emerging industry, the directors and officers of fintech companies need to properly protect not only their companies’ but their personal assets as well. These individuals commonly face allegations of mismanagement from customers, regulatory bodies, investors, shareholders, and a number of other sources. By purchasing D&O insurance, a company can give its leaders the protection and assurances needed to successfully and aggressively manage a fintech business without putting assets at risk. Having this coverage is also a prerequisite for fintech companies who are looking for funding and want to attract venture capital firms to their business.
Key Person Life Insurance: If there are critical individuals, i.e. a founder, CEO/CFO or lead developer, within your organization who are absolutely vital to the continued success of the company, then key person insurance should be purchased. The company would be protected against financial adversity in the unfortunate event that a key individual either dies or is no longer able to perform his or her duties. Also, it will provide monetary support during the recruitment process for finding a replacement for that person.
Intellectual Property Insurance: This is one of the more complex and sophisticated insurance coverages that can protect the balance sheet against unforeseen legal expenses. IP insurance can cover legal defense fees for allegations of patent infringement filed against your company, or reimbursement of expenses for similar claims you’ve filed against another company. Within industries that are focused on innovation and development, there is always a greater chance of encountering both patent trolls and competitors who claim that you are infringing on their patents.
Commercial Crime Insurance: Commercial crime insurance offers protection from losses related to employee theft and third-party financial scams, which are common examples of incidents that a commercial crime insurance policy would address. A crime policy is different from most coverages because it does not offer financial support for legal matters, rather it reimburses the company for the loss of money, securities, stock, property, and other assets resulting from fraud or embezzlement.
Take a look at our comprehensive overview of what you can expect (and look out for) when fundraising from Series A to Series C venture capital.