Insurance requirements – mitigating risk and protecting venture-backed companies

read time: 5 mins
20.01.25

In venture capital transactions, insurance requirements are a critical yet often overlooked component of the term sheet. These provisions ensure that the company has appropriate insurance coverage in place to mitigate risks that could threaten its operations, assets, or value. 

For investors, insurance requirements protect their investment by reducing exposure to unforeseen liabilities. For founders, they provide essential safeguards, enabling the company to operate with greater confidence.

This article in our ‘Anatomy of a term sheet’ series explores how insurance requirements are structured in venture capital deals, common types of required coverage, and how founders and investors can align their perspectives to strike the right balance between risk mitigation and cost.

What are insurance requirements?

Insurance requirements in a term sheet set out the types of insurance coverage a company must maintain and the minimum levels of coverage required. These provisions are typically included in the investment agreement or shareholders’ agreement and are monitored periodically to ensure compliance.

These requirements are designed to:

  • Protect assets: cover potential losses to physical or intangible assets.
  • Mitigate liabilities: shield the company and its directors from legal and financial liabilities.
  • Ensure continuity: provide resilience in the face of operational disruptions, such as cyberattacks or natural disasters.

Key types of insurance coverage

Directors’ and officers’ (D&O) insurance

  • Purpose: protects directors and officers from personal liability arising from their decisions in the course of managing the company.
  • Typical coverage: legal defence costs, regulatory investigations, and settlements or damages.

Example requirement:

"the company shall maintain D&O insurance with a minimum coverage of £5 million for each director, including investor-appointed directors."

Professional indemnity insurance

  • Purpose: covers claims arising from professional negligence or errors in the company’s services.
  • Typical coverage: legal fees, compensation payments, and reputational damage.
  • Common in sectors like technology, consulting, and healthcare.

Example requirement:

"the company shall maintain professional indemnity insurance with a minimum coverage of £1 million per claim."

Cyber insurance

  • Purpose: protects against financial and reputational losses from cyberattacks, data breaches, or it system failures.
  • Typical coverage: costs of data recovery, legal fees, regulatory fines, and business interruption losses.

Example requirement:

"the company shall implement a cyber risk management policy and maintain cyber insurance with a minimum coverage of £2 million."

Key person insurance

  • Purpose: provides financial protection if a key individual critical to the company’s operations (e.g., founder or CTO) is unable to work due to illness or death.
  • Typical coverage: payouts to cover recruitment costs or operational disruptions.

Example requirement:

"the company shall procure key person insurance for [named individual(s)] with a minimum coverage of £1 million."

General business insurance

  • Purpose: covers property, equipment, and liability risks associated with day-to-day operations.
  • Typical coverage: fire, theft, and public liability.

Example requirement:

"the company shall maintain comprehensive business insurance to cover operational risks, including public liability and property damage."

Structuring insurance requirements

Tailoring to the business model

Insurance requirements should reflect the company’s sector, stage, and risk profile. For example:

  • A fintech company may prioritise cyber insurance and professional indemnity.
  • A manufacturing business may focus on product liability and property insurance.

Setting minimum coverage levels

Investors often require minimum coverage levels to ensure adequate protection. These should be realistic, taking into account the company’s size, resources, and operational risks.

Regular review and compliance

The term sheet may include provisions requiring the company to:

  • Provide annual proof of insurance to the board or investors.
  • Notify investors of any material changes to coverage or claims.

Shared responsibility

Founders and investors should agree on which party is responsible for identifying and procuring insurance, with founders typically taking the lead operationally but with investor oversight.

Example of insurance requirements in a term sheet

Clause example:

"the company shall procure and maintain the following insurance policies:

  1. Directors’ and officers’ liability insurance with a minimum coverage of £5 million.
  2. Cyber insurance with a minimum coverage of £2 million, covering regulatory fines and business interruption.
  3. Key person insurance for the CEO with a coverage of £1 million.

The company shall provide proof of insurance to the board annually and notify investors promptly of any material claims or changes to coverage."

Challenges in implementing insurance requirements

Cost considerations

Insurance premiums can be significant, particularly for early-stage companies. Balancing adequate coverage with affordability is key.

Evolving risk profiles

As companies grow or enter new markets, their risk profiles change, necessitating periodic reviews of insurance coverage.

Availability of coverage

Certain types of insurance, such as key person coverage for founders, may be difficult or costly to obtain, particularly for start-ups.

Founder awareness

Founders may lack familiarity with specific insurance products, requiring education and support from advisors or investors.

Analysis: founders’ perspective vs investors’ perspective

 

Founders' perspective

Investors' perspective

Motivations

Founders view insurance as a necessary safeguard but are conscious of its costs and administrative burden. They seek flexibility to scale coverage over time.

Investors see insurance as essential to protecting their investment and ensuring the company’s resilience against unforeseen risks.

Preferred position

  • Commit to core policies (e.g., D&O, business insurance) with flexibility to phase in other coverage as the business grows.

  • Negotiate realistic coverage levels and avoid overly prescriptive requirements.

  • Limit reporting obligations to reduce administrative strain.

  • Comprehensive coverage tailored to the company’s risk profile, including D&O and cyber insurance.

  • Regular reporting to ensure compliance and visibility into claims.

  • Minimum coverage levels that reflect the company’s potential liabilities.

Risks

Excessive insurance requirements could strain cash flow or divert resources from growth initiatives.

Insufficient coverage exposes the company to material risks, while lax monitoring could lead to gaps in protection.

Where they align

Both parties benefit from insurance requirements that are practical, scalable, and reflective of the company’s stage and sector. Clear communication and regular reviews can foster alignment and minimise friction.

In summary

Insurance requirements are a vital part of venture capital term sheets, providing a safety net that protects both the company and its investors. By tailoring coverage to the company’s specific risks, founders can build resilience while meeting investor expectations. Thoughtfully structured insurance provisions ensure that risks are mitigated without imposing unnecessary costs or administrative burdens, fostering confidence and stability as the company grows.

Read the next article in our "Anatomy of a term sheet" series, where we’ll explore information provisions and how information-sharing provisions strengthen alignment between founders and investors.

If you're navigating the complexities of venture capital term sheets or preparing your business for investment, our experienced team is here to help. Get in touch to discuss how we can support you in securing the right deal for your business.

Our anatomy of a term sheet series

Our 'Anatomy of a term sheet' series breaks down each critical section of a venture capital term sheet, offering technical insights and practical real-world examples to help founders with their fundraising journey.

Our aim is to demystify term sheets and empower founders and their advisors to navigate negotiations with clarity and confidence.

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