Guest article: Business interruption – an insurance broker’s view!
A number of high profile events including extreme weather and well publicised flooding serves to highlight that major unforeseen events can have a profound impact on homes and businesses and can be difficult to recover from. Insurance is often referred to as if it is a solution to put everything right. This is true, but only if the insurance programme is correctly placed and caters for the exposures to the business and the prolonged consequences. Replacement of equipment, stock, machinery and buildings may be easy to quantify. But what about lost business?
If your business is unable to trade or if you are unable to access your premises what impact will this have on revenue? In the modern world many businesses will be able to maintain a trading presence, but only if they are prepared for disasters or interruptions. Whilst thankfully flooding to the extent of that seen last winter is rare, damage to and loss of telecoms, utilities and increasingly internet services is more common. If your premises was unable to sustain your business even if only for a limited time what would you do?
The insurance industry recognises the basic principles and practices of business continuity and any programme of Business Interruption Insurance (BI) should complement this.
Business Interruption requires concentrated attention because it cannot be altered after a disaster occurs. BI insurance is inextricably linked to property damage insurance and is sometimes termed ‘consequential loss’ or ‘loss of profits/revenue’ insurance. Many aspects of BI insurance replicate business continuity planning, especially the business impact analysis aspects of it.
The intention of BI insurance is to restore the business to the same financial position as if the loss had not occurred.
BI insurers insist that any property (which may lead to an interruption) is insured against loss or damage so that funds are provided to pay for the repair or replacement. This policy requirement is known as the Material Damage Proviso and typically;
“….. the Company will not be liable for any loss under this Policy unless the Insured’s property destroyed or damaged at the premises is insured against such damage and the Company by which such property is insured shall have paid for or admitted liability in respect of such damage.”
When deciding on the best means of protecting the business, thought should be given as to whether substitution of lost Revenue/Profit is the best protection for the business or whether the business could better operate with a provision for costs incurred to avoid an interruption?
A recent example serves to highlight why thought should be given as to the programme for protection. In July 2014 a major recycling depot in Swindon suffered a fire which resulted in a sustained period of interruption. Averies Recycling was ablaze for almost two months while the Fire Brigade tackled the fire. The extinguishing costs are reported to be c£500,000 (BBC website, 15th September 2014 - http://www.bbc.co.uk/news/uk-england-wiltshire-29207129) and this will be inevitably followed by a period of clean-up and debris removal. If this is achieved relatively quickly the business will have lost at least a quarter of the years trading to this loss and potentially a sustained interruption as contracts and business has been moved to competitors. Without the facilities/infrastructure to divert trade and provide a contingency it is clear that this loss would not be prevented by a provision for increased costs.
If a business has limited capacity for alternative manufacture/processing then it should consider selecting a Revenue/Profit protection programme, the business activities to be insured must be identified and need to capture all of the organisation's business, including future acquisitions, or newly created entities or new ventures.
When deciding on a Maximum Indemnity Period you should consider what the maximum period could be before normal trading is resumed. Is the business dependent on a core item of plant/machinery? What is the delay period in sourcing a replacement? What is the commissioning and set-up period? How long before you can be trading as you were before?
An important component of BI insurance is the coverage for what is termed ‘Increased Costs of Working’ – these being the extra costs that Businesses have to pay to keep in business. These can be difficult to estimate and, in some cases, can be the principal exposure of an organisation. Most “Package Policies” will limit liability to a defined limit/sum insured and costs that are “reasonably incurred”. In short, you can spend £1 to save £1 but no more.
Therefore if a constant service is required for your clients come what may, and being unable to service your clients could result in the loss of relationships and future income, thought should be given to arranging Increased Costs on an Uneconomic (or Additional) Basis.
Is the business dependent on a limited/single supplier? If so what would be the impact of a loss at their premises, what if they had a business interruption that impacted on their trading relationship with you and what if as a result of their loss you suffered? The same is true of key customers. If you are involved in a supply chain it is critical that thought be given to identify risk exposures throughout the supply chain. This can be insured under your Business Interruption programme but only if specified.
If you are in any doubt or would like clarity on the basis of your own Business Interruption Insurance and/or Business Continuity please speak with your insurance adviser.
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These notes have been prepared for the purpose of an article only. They should not be regarded as a substitute for taking legal advice.