Disasters triggered by climate change, such as tornadoes, floods, and hurricanes, are upending the foundations of CFO risk management. Commercial property insurance costs in the U.S. have risen sharply, increasing 15% last year, the largest jump in over three decades, according to the Insurance Information Institute. In the first half of 2023, commercial property claim costs surged 30% (data from the Swiss Re Institute).

Severe weather has created "the most challenging property insurance market since 9/11," said Brandon Thompson, senior vice president of risk at Houston-based commercial real estate firm Transwestern. "We will face a difficult situation in the coming years." CFOs are facing a seller's market for commercial property insurance, with insurers raising premiums and withdrawing from high-risk areas. "You can no longer just walk down the street and find an insurance company," Thompson said in an interview.

The turmoil brought by global warming is forcing CFOs and chief risk officers to precisely assess corporate vulnerabilities and minimize insurance costs. Solutions include building closer partnerships with insurers, reinforcing buildings to withstand damage, adopting new insurance structures, and leveraging advanced data analytics. "If you stick to old methods, you won't move forward," said Zaheer Hooda, head of North America at London-based company Cytora.

The frequency of disasters triggered by climate change shows no sign of declining. As of early November this year, the U.S. experienced 25 weather-related disasters, each causing at least $1 billion in losses (data from the National Oceanic and Atmospheric Administration). From 1980 to 2022, the U.S. faced only about 8 such disasters annually on average (inflation-adjusted).

Currently, billion-dollar disasters strike the U.S. on average every three weeks, compared to once every four months in the 1980s (NOAA cited inflation-adjusted data this month in the U.S. National Climate Assessment). The scope of destruction is expanding. This year, convective storms with heavy rain, lightning, hail, and strong winds pushed further north into the Great Lakes region, expanding risk exposure for insurers and businesses.

In the first half of 2023, convective storms caused $34 billion in insured losses in the U.S., a six-month record, accounting for 68% of global natural disaster insurance losses (Swiss Re data).

When assessing potential loss risks, insurers have long balanced policy risk between disaster-prone coastal states like Florida and California and lower-risk U.S. heartland areas. "As convective storm losses grow significantly in the central region, this balance is no longer effective," Thompson said.

Over the past decade, the cost of extreme weather to insurers has soared, outpacing increases in labor and building material costs driven by inflation—even considering the high inflationary pressures that began in late 2021. So-called claim severity (i.e., average claim cost) has surged 150% over the past decade, roughly six times the rate of inflation (data from David Hemry, director of commercial strategy at LexisNexis Risk Solutions).

Facing severe weather losses, multiple insurance companies are retreating. State Farm (one of several insurers withdrawing from California) announced in May it would stop accepting new applications for commercial and personal property insurance in California. In June, Nationwide announced unspecified "risk reduction" measures for small and medium-sized commercial property insurance in unspecified states.

In recent years, hail has severely impacted several regions, especially along the I-35 corridor in Texas and in Denver and other parts of Colorado, Hemry said in an interview. Insurers that could accurately predict claims in many areas for years can no longer do so. "Insurers in Arkansas, Illinois, Kentucky, and Indiana are in a particularly unstable position," Bill Clark, CEO of Demex Group, said in an email response.

Meanwhile, reinsurers—the primary funders of insurance companies—are retreating. According to an executive order signed by California Governor Gavin Newsom in September aimed at strengthening the state's private insurance market, reinsurers this year raised premiums by 30% to 50% nationwide for insurers hit by catastrophic losses. "The impact of climate change and billion-dollar losses is indeed putting pressure on reinsurance, which ultimately determines the terms of the retail insurance market," Thompson said.

As insurance costs rise, CFOs and finance executives responsible for risk assessment and insurance matters may gain greater influence in the C-suite. "Risk management will need a bigger seat at the table than it has had in past years," he said.

Given a larger role, CFOs can limit climate change costs through the following five steps (as recommended by risk management experts):

1. Comprehensively review risk tolerance

Risk management experts say CFOs who comprehensively assess their company's ability to withstand extreme weather damage will adapt more quickly to rising commercial property insurance premiums and the prospect that inflation could exceed the Federal Reserve's 2% target in the coming years. CFOs should no longer view insurance as a routine expense item carried over annually. Finance executives may need to adjust insurance portfolios more frequently and use data simulating weather as well as labor, construction, and other costs to assess company needs more precisely. CFOs may find that, at least for the foreseeable future, they need to budget more funds for insurance. Shopping around for high-value insurance often helps control costs, Hooda said in an interview. But CFOs must keep the basic principle in mind: "First, accept the reality of rising premiums and adjust profit expectations accordingly."

2. Strengthen collaboration with insurers

Experts say that as the commercial property insurance market adapts to extreme weather shocks, CFOs should increase the frequency and depth of contact with insurers. Finance executives should contact insurers 180 days before application deadlines (rather than the usual 90 days) and detail measures to reduce risk and limit losses, supported by data. "Make sure you submit a high-quality application with loss control explanations," Thompson said.

3. Double efforts to avoid losses

Risk management experts say CFOs should not overlook effective methods to reduce insurance costs through improvements such as installing wind-resistant shutters, flood barriers, and fire suppression systems. According to the National Institute of Building Sciences, every $1 invested in limiting property damage through measures like retrofitting or adopting updated building codes can avoid up to $13 in losses. "It's not just property risk," Hemry said. "There's also liability risk from personal injury, property break-ins, and more." After pandemic-induced declines in occupancy rates, many commercial property owners have neglected maintenance. Instead, with the Federal Reserve raising benchmark interest rates to a 22-year high, CFOs are focused on the high cost of refinancing debt. "We're in a vicious cycle: occupancy declines, loans mature, potentially reducing investment in properties," Thompson said. "This only leads to rising claim severity."

4. Consider insurance innovation

Alternatives to traditional commercial property insurance can fill gaps left by policies reduced or withdrawn due to frequent severe weather. CFOs responsible for properties in disaster-prone areas may consider so-called parametric insurance, which pays a fixed amount based on the characteristics of a destructive event (rather than the cost of repairs). CFOs often use parametric insurance as a supplement to or replacement for traditional policies. "From a CFO perspective, this provides a certain stability," Hooda said, but he noted that loss-to-payout ratios are typically less favorable than traditional policies.

5. Deepen data analytics

"Big data has existed since insurers have existed," Gary Sullivan, senior director of emerging risk at the American Property Casualty Insurance Association, said in an interview. Today, insurers can use advanced analytics to measure risks like wind and wildfire more precisely, identify vulnerabilities, and uncover new opportunities. "Historically, the insurance industry has been quite slow-moving," Hemry said. "It's inherently conservative." Insurance startups are disrupting established companies by using new methods of data collection and analysis. For example, computer analysis of roof photos taken from aircraft can precisely assess risk across large areas, reducing claims and premiums. InsurTech "integrates with insurers to help them do things they couldn't do over the past 100 years because it's not in their nature," Hemry said. CFOs should ask insurers how they use AI, data analytics, and advanced technology to measure risk. Additionally, when preparing insurance applications, CFOs should consider using customized risk management systems "to narratively avoid being lumped into general market trends," Thompson said.

Ultimately, high premiums caused by destructive weather may attract new capital into the insurance industry. The commercial property insurance market will stabilize, and CFOs may find risk management costs more affordable. "People will see it as an entrepreneurial opportunity, and they'll come in," Hooda predicted. "You'll see improvement over time."