Business Interruption Insurance – What You Need to KnowDoug Kelley
The scope of business insurance has developed over time from physical property insurance to now include Business Interruption (BI) Insurance as well as ‘time element’ coverages. Traditional property damage/business interruption policies were never designed to meet the risks faced by organizations today. Due to changes in the way businesses work, many businesses are also now interested in speciality products that have evolved over time including both Cyber and Environmental coverage. As more and more businesses become reliant on IT systems the concern around cyber loss grows and in many cases such disruption can lose business and customers which unfortunately don’t always return.
As interest in business interruption insurance and overall business continuity planning escalates it is prudent to be aware of some of the more common issues that you need to consider and tips to getting your insurance calculations correct.
Cyber business interruption
The difficulties with cyber business interruption are that when systems go down and it is time to actually retrieve the backup information many problems can occur. If the cause of data loss is hardware-related then the recovery cannot even begin until the system is repaired or replaced and even then the timing of recovery will depend on download speeds. Depending on the severity of the issue, this will extend the downtime accrued to limits that you can’t afford to experience.
While physical business interruption losses may have longer waiting periods, cyber-attacks can experience a much shorter time span of just minutes or hours but can result in claims that are more complex. There can be difficulties in establishing the cause of the loss, as well as considerations on insuring for loss of reputation whereby data security issues could potentially ruin some businesses.
Efficient claims settlement
Efficient claims settlement is another a well-recognised problem with Business Interruption and it is recommended that policies should cover the cost of an expert, such as a forensic accountant, who can be used in the early stage of the process to address any issues and ensure a swifter claims resolution process. Those policy holders with a comprehensive business continuity plan and recruiting such specialists who are well-educated in loss quantification methodologies are likely to benefit from early and interim payments.
Underinsurance – definition of gross profit
In the event of a business interruption you can suffer major loss if you are under-insured. One of the most common ways for this to happen is through the misunderstanding of gross profit. The insurance definition of gross profit differs to that of an organisation or accountant’s definition. For insurance purposes you need to include the costs of purchases, staff and utility costs to ensure you are fully covered. The sum should be calculated as follows:
Turnover plus closing stock and work in progress
Uninsured working expenses plus opening stock and work in progress
Uninsured working expenses are deducted from the turnover to produce the insurable gross profit figure which is required for your policy. Uninsured working expenses should only be the costs of the business that vary in direct proportion to turnover.
So as to take inflation into account it is recommended that you use a “Declaration Linked Basis” of wording within your policy which allows for a maximum percentage uplift in the sum insured. The figure must then also be multiplied by the length of the indemnity period. By opting for a declaration-linked policy you can allow for more flexible calculation of losses.
Underinsurance – calculating the Maximum Indemnity Period
To achieve an accurate and adequate recovery for the business it is important to calculate the period of recovery correctly. This is known as the Maximum Indemnity Period (MIP). In order to do this you need to consider the times taken for planning permission to be approved, lead times in replacing critical assets such as machinery and plant, time to re-train staff, seasonality and overall just regaining momentum up to your pre-loss trading levels. Often these elements are forgotten resulting in major underinsurance gaps.
Consider your supply chains
The insurance market now offer much wider options to supply chain coverage which includes losses other than pure physical loss or damage. Think about how disruptive it would be to your business if an important customer or supplier’s premises or transportation was effected. Or if you rely on utilities for the running of your business. In such instances you may need to consider additional contingent business interruption insurance to ensure you are covered financially.
Contingent business interruption is extremely challenging in terms of putting together the documentation and ensuring you have the correct wording in place, but can be well worth it for those businesses who are reliant on others.