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Business Interruption Insurance

Many policies which insure commercial property have an endorsement added to guard against loss of business revenue. Additional coverage allotted by the business interruption policy covers the profits that would have been earned. This extra policy provision is applicable to all types of businesses, as it is designed to put a business in the same financial position it would have been in if no loss had occurred.

The following are typically covered under a business interruption insurance policy: –

Profits – Profits that would have been earned.

Fixed Costs – Operating expenses and other costs still being incurred by the property.

Temporary Location – Some policies cover the extra expenses for moving to, and operating from, a temporary location.

Extra Expenses – Reimbursement for reasonable expenses (beyond the fixed costs) that allow the business to continue operation while the property is being repaired.

Government-mandated closure of business premises that directly causes loss of revenue. Examples include forced business closures because of government-issued curfews or street closures related to a covered event.

In addition, businesses can purchase contingent business interruption coverage, which pays out when a business is unable to operate because of an event (such as a natural disaster) that damages the business premises of one of its suppliers, thus preventing it from engaging in normal trade.

The loss could be a direct, loss, damage or destruction by a covered peril. If a particular hazard is NOT excluded from the policy, business income insurance will cover the actual protracted loss caused by the covered peril. However, the insurer is only obliged to pay the dollar amount if the interruption of business led to a business revenue depletion, but will not exceed the pertinent policy limit.

Insurers are only obligated for revenue loss during the period of restoration, which is the time taken to rebuild, repair or replace the damaged property. The period of re-establishment starts when the damage occurs and ends when the property is replaced or repaired within a reasonable period of time.

Should the policy expire during the course of restoration, it will NOT terminate the re-establishment of repair or rebuilding. Some insurer forms as well as the Insurance Service Office (ISO) includes a 30 day extended period of restoration beyond the official time of repair or replacement. Provision has been made by the ISA that if necessary, by purchasing an extended period, an insured may choose to increase the limit in increments of 30 days up to 720 days.

The business income claim is one of the most difficult to prove because of its theoretical nature. As the period of interruption is analysed, other factors can occur that the insured might want to consider, such as changes in marketing and pricing.

The first consideration is determining what sales would have occurred had no loss taken place. To project sales, trends must be established and supported by the results of previous years’ experience and market conditions, as well as by factors that might influence sales and production achievements. Business interruption policies are based on sales that would have occurred, not sales that could have occurred.

For example, if a snowstorm occurs during the interrupted period, affecting sales in the local market, the insurers would be correct in calculating its effects on claim settlement. The storm would have occurred whether or not the business sustained the loss. Depending on the type of business, however, the results could vary greatly. A snow storm would have helped the insured if the company sold snow blowers, but hurt them if it sold bathing suits. On the other hand, if a new competitor emerged in the marketplace as a result of the insured’s loss, the carrier would NOT be correct in taking this into consideration.

The amount the company “would have earned had the loss not occurred” is essentially retroactively forecasted. This requires a methodology that looks at what would have happened in normal times and conditions during the period of loss. The methodology may incorporate many factors, including, but not limited to, the following: –

Facts surrounding the loss and its impact on the insured’s business
Company forecasts
Historical trends
Recent changes in capacity and product or service sales mix
Significant contracts
Marketing initiatives and plans
New product or service launches
Changes in the competitive landscape
Changes in the economy

Business income coverage will end when the damage is repaired, rebuilt, or replaced or date business is resumed at a new permanent location. While policy wording is specific as to the end date of business income coverage, it does not necessarily mean that the organisation’s “business” in terms of sales, income, or profit is back to normal. Certain industries may suffer a period of reduced sales, income, and profit even after all damage is repaired, rebuilt or replaced. Retail establishments (restaurants, clothing stores, dry cleaners, etc.,) as an example, may have to “wait” for prior clientele to come back after being out of business for a period of time.

Schools, such as colleges and universities, may need a special extended period of indemnity to address a loss of students even after the school’s facilities are repaired. The period of time needed to resume normal operations and normal income through tuition and fees may be long if students leave for other campuses to fulfil their needs for higher education.