Business Interruption insurance is of the more often overlooked insurance cover. That’s largely because many business owners mistakenly believe that their existing property damage insurances will take care of everything if their operations are interrupted by events such as break-ins, floods or fires.
In reality, Business Interruption insurance is, more often than not, a crucial element of a company’s business continuity plan. The insurance is designed to compensate an insured for the financial impact of a cessation of or an interruption or interference to his business operations as a result of physical damage to insured property or other key external events, such as damage at a supplier’s or customer’s premises. The intention is to restore the business to the same financial position as if the loss had not occurred.
Material Damage
Business Interruption policies are normally linked to a material damage policy or cover. One of the first issues is whether there is a valid occurrence which triggers the policy cover. The issues that may arise include:
- Whether the insurance is triggered, for example whether the weather event e.g. flooding, has triggered cover; or whether the damage occurred during the policy period.
- Was the property damaged listed in the policy schedule?
- Was the proximate cause of the damage covered by the policy?
- Are there multiple events or occurrences and if so how will the loss be allocated between them? The problem can be exacerbated where there are complex multilayer programmes where the interests of different layers might diverge.
Business Interruption
When considering a Business Interruption policy always be mindful that Business Interruption claims are often large (relative to your business), complex and contentious. This is due to the various factors that impact upon the calculation of loss. Policies also often contain sub-limits, which can have an important impact on coverage. You should review these sub-limits on a regular basis to ensure they stay relevant.
You should also be mindful and consider the following:
- Ability to Collate Supporting Documentation
If, for example, a business is affected by a flood, fire or explosion, the premises and offices where the necessary documentation are kept may be partially or totally destroyed. This can make it difficult for an insured to support parts of their Business Interruption claim and raises issues with not only the insured proving their loss, but also at the insurance and reinsurance level because often in the absence of documentation certain assumptions are incorporated into the loss calculation which may be contentious.In terms of larger businesses, often their financial data and manufacturing documentation is kept in more sophisticated electronic systems in off-site locations and backed up real time. - Basis of Indemnification
The policy will set out the basis upon which the business Interruption claim is to be calculated. Often this is on the ‘Loss of Gross Profits’ arising from and in consequence to the reduction in turnover. However, there may be the option of presenting a claim on an output alternative or loss of production income basis.The basis on which the claim is presented can impact significantly upon the resources and skill sets required for the calculation of the loss, as well as the amount of the loss. Often the starting point of the calculation will be to look at the financial year immediately before the date of damage in order to assess standard turnover or output. - Period of Indemnity
The Period of Indemnity is the length of time for which benefits are payable under an Business Interruption policy and is usually the most critical component of quantifying the business interruption loss.Common Indemnity Periods are 12 months, 18 months, 24 months and 36 months. When deciding upon the length of the period you need to work out how long it would take your business to fully recover at today’s trading levels following, for example, a fire or flood.Factors that you would need to consider include:
- What would your customers do if you were unable to supply them? Would you be able to sub-contract the work so that they are still looked after or would it be likely that you would have lost them for good? How long will it take to replace them?
- If your buildings were completely destroyed how long would it take to get them rebuilt and the business trading again? You must bear in mind the length of it would take to get the site cleared, architects appointed, plans drawn up, planning permission agreed and contractors appointed before the work could even start
- Is your trade seasonal?
- How long would it take to replenish your stocks following a loss?
- How long would it take to replace or repair your Machinery & Plant? Some specialist pieces of plant can have a delivery lead-in time of six to eighteen months, and then need to be installed and commissioned. Are spare parts for the machines readily available?
- If you would need a specialist firm to carry out the repairs how long would you have to wait for them to be available to carry out the work
These are just some common considerations but of course each risk has its own set of considerations on this aspect of the Business Interruption policy.
- Increased Cost of Working
Where relevant to your risk, you should ensure the policy has an extension to include this cover. This is additional expenditure reasonably and necessarily incurred by the insured for the sole purpose of avoiding or diminishing the loss in turnover or output experienced as a consequence of the damage. Issues may arise as to whether the additional expenditure incurred was for the sole purpose of reducing the loss.There may be an extension to the policy which provides an indemnity for the costs incurred by the insured which are in excess of the limits provided under the policy of the increased cost of working. This is known as the additional increased cost of working. A key issue in respect of claims involving these elements is documentation of the decision making process and costs, often omitted in the haste to get back to business. - Analysis of Causation of lost production
Other factors may influence the rate of production will need to be taken into account and an claimant will need to show what is claimed as lost production was due to the property damage or other business Interruption trigger. Similarly, the ability to sell the lost production “but for” the damage can be a significant issue. There may be a number of reasons why the business may not have proceeded along the course it had done in the previous financial year. - Extensions to cover
In addition to the additional increase in the cost of working extension, always ensure that you have in place, where relevant and applicable, further extensions that include Denial of Access, where accessibility of the property due to the property damage impacts upon the business, loss of damage to Customers’ or Suppliers’ Premises, Failure of Public Utilities and Riot and Strike which are the more common extensions.
Business Interruption insurance is one of the more complicated coverage to understand, arrange and put in place.
The most sound advice we have for you is to engage a sound and professional insurance expert to not only guide you through the pitfalls of this difficult class of insurance but also one who, by virtue of experience, is familiar with the marketplace and can help you with negotiations and placement aspects as well.