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BUSINESS INTERRUPTION GROSS PROFIT INSURANCE – ENSURING ADEQUATE COVERAGE
Why is Business Interruption Insurance Important?
Business Interruption Insurance functions to replace income until all interruptions from the insured event have ceased. It should encompass all costs associated with running the business to compensate for lost income during the period when the business is unable to trade.
Even if the business can operate on a reduced basis after an event, Business Interruption coverage continues to provide support, covering the reduction in income until full operation is restored as if the insured event had never occurred.
Business Interruption insurance arranged on a Gross Profit basis is crucial for replacing lost income following an insured event. The choice of the right insurance basis is paramount to avoid complications during a claim, safeguarding the future of your business.
Common Mistakes in Calculating “Gross Profit” Sum Insured:
Defining “Gross Profit” per insurance terms differs from the standard business owner and accountant definition. The insurance version is Turnover less uninsured working expenses and bad debts, adjusted for the difference between stock and work in progress at the financial year’s start and end. Uninsured Working Expenses, like packing and freight, pose a complex decision and require discussion with your broker for accurate assessment.
Considerations for Business Interruption Insurance:
Business Interruption Insurance should cover all costs associated with running your business to replace lost income during a trading halt.
Uninsured Working Expenses, also known as uninsured variable costs, are expenditures that fluctuate directly with turnover and are only incurred when sales are made. These costs encompass items such as packing, freight, and raw material purchases. Determining what qualifies as Uninsured Working Expenses is a nuanced decision, unique to each client. It is advisable to engage in a discussion with your broker to ensure an accurate assessment. For instance, certain costs, like power and heating, may decrease after a loss but are not directly proportional to a reduction in turnover, warranting insurance coverage.
On the other hand, costs like payments to subcontractors and sales commissions may require careful consideration, especially when variable costs are significant. In cases where potential savings exist following a claim, contemplating insuring a percentage of these costs can be a strategic approach.
The indemnity period in Business Interruption Insurance is a critical component that defines the duration during which the policy provides financial support to a business that has suffered an insured event, leading to a disruption in its operations. This period begins from the occurrence of the insured event and extends until the business is fully operational again, generating income as it would have in the absence of the disruptive incident.
Understanding the Business’s Recovery Time:
The indemnity period should align with the realistic timeframe required for the business to recover fully. This involves assessing the time needed for repairs, rebuilding, and the resumption of normal trading activities.
Premises and Equipment Restoration:
For businesses that own or rely on specific premises and equipment, the indemnity period accounts for the time it takes to restore or replace these essential assets. This may involve engaging architects, surveyors, and contractors, navigating local authority requirements, and addressing any unique challenges such as non-standard construction or listed building considerations.
Supply Chain and Machinery Considerations:
Evaluating the lead times for obtaining new machinery or equipment is crucial. Factors such as specialized, custom-built, or internationally sourced machinery may have extended delivery times. Additionally, assessing the availability of alternative suppliers and considering the impact on the supply chain is essential in determining the indemnity period.
Business Continuity Planning:
The business’s continuity plan plays a pivotal role in establishing the indemnity period. This plan should comprehensively outline the steps required for a smooth recovery, including alternative trading locations, subcontracting possibilities, and customer retention strategies.
Seasonal and Market Dynamics:
Businesses with seasonal fluctuations or those dependent on specific market conditions should carefully consider the potential impact on their recovery period. A longer indemnity period provides the necessary breathing space to regain market position and customer trust, especially if the business relies on a limited number of key clients.
Consequences of Incorrect Business Interruption Insurance:
Incorrect sum insured or inadequate indemnity period can lead to financial burdens. The Average Clause in insurance is a provision that comes into play when the sum insured is deemed insufficient to cover the actual value of the loss incurred by the insured party. In such cases, the insurance company may apply the Average Clause, which allows them to proportionally reduce the claim payout. This reduction is determined by the degree of underinsurance.
For instance, if a property is insured for £500,000 but its actual value is assessed at £1,000,000, and a loss of £200,000 occurs, the insurer might only cover half of the claim (£100,000) as the sum insured represents only half of the property’s true value.
The Average Clause is intended to encourage policyholders to accurately assess the value of their assets and set appropriate sums insured. Underestimating the value can lead to financial consequences in the event of a claim.
Get Your Sum Insured Correct:
To ensure accurate coverage, follow this insurable profit calculation:
INSURABLE PROFIT CALCULATION
Financial Period: From ___ To ___
Insurance Period: From ___ To ___
Indemnity Period (12, 24, 36 Months):
CALCULATION (A) – INSURABLE PROFIT
Turnover / Income: £
Closing Stock and Work in Progress at the end of the Financial Period: £
Sub Total (A1): £
Opening Stock and Work in Progress at the start of the Financial Period: £
Uninsured Working Expenses: £
Sub Total (A2): £
Total Insurable Profit for Financial Period: £ (Sub Total (A1 minus Sub Total A2))
CALCULATION (B) – INSURABLE PROFIT TREND
Add trend from the end of your Financial Period to the start of your Insurance Period: £
Add trend for forthcoming Insurance Period: £
Add trend for the first year of the Indemnity Period: £
Add trend for the second year of the Indemnity Period: £
Add trend for the third year of the Indemnity Period: £
Total Insurable Profit: £ (B4 + B5 if using a 24-month period + B6 if 36 months)
In conclusion, safeguarding your business against unforeseen disruptions requires careful consideration of your insurance coverage. Business Interruption Insurance, with its intricate components like the Indemnity Period and accurate valuation of assets, plays a pivotal role in ensuring a robust financial safety net. We encourage business owners to review their policies diligently, paying special attention to potential pitfalls such as the Average Clause and underinsurance. Your peace of mind and the sustained success of your business hinge on the thoroughness of your insurance planning. For personalized guidance and to explore how our award-winning services can enhance your coverage, don’t hesitate to contact us. Our dedicated team is here to provide the expertise and support needed to tailor insurance solutions to your unique business needs.