What you need to know about business interruption coverage
What is Business Interruption insurance?
First, what it’s not. When you experience a covered loss, like a fire or natural disaster, BI insurance isn’t the coverage that helps you replace equipment or fix damages to your property. What it can do is cover your expenses for the period following the loss, when your business can’t generate income.
“Business Interruption insurance is a type of insurance coverage that replaces lost income and helps pay for extra expenses when your business operations have been interrupted by a covered loss,” says Peter Makinson, Senior Property Casualty Underwriting Specialist at Sovereign Insurance. “This insurance allows a business to remain in business while repairs or the replacement of damaged property is being completed.”
BI is important protection, but it’s only valuable if you have the right amount of coverage.
Picture the scene: your company experiences a major fire loss and needs to close operations for 20 days to clean up the mess, fix the damage and replace costly equipment. Your lost income amounts to $600,000 and the expense to relocate to a new temporary location costs $650,000. You’re looking at a grand total of $1.25 million. It can add up quick, and if your BI coverage is anything less than that, you’re left paying the difference.
Commissioning an independent local auditing company to examine the contractor’s capabilities and quality controls can be a good way of getting a clearer picture of any potential pitfalls.
How much coverage do you need?
Being able to calculate business interruption helps you ensure your company has enough protection to cover a period of downtime for your business – from a short interruption to your worst-case scenario.
Your coverage needs will depend on your projected loss of income and any extra expenses you’ll incur as a result of the loss.
Calculating lost profits could include analyzing whether there are any growth opportunities that could impact your revenue projections during the period of time in which your benefits are payable under your insurance policy.
Calculating extra expenses could include costs to relocate your business.
You also need to determine how long you need your BI indemnity period to be. An indemnity period is the length of time your benefits are payable under your policy. This period needs to cover the time frame to get your business back to normal operations. It should take into account a loss of customer base or resources like employees (especially if they’re highly specialized or skilled), inventory, or your building or equipment.
Makinson explains how this can vary significantly depending on the nature of your operations: “Some businesses can restart the next day after a short stop at an office supply store and renting a temporary location. A short indemnity period might suit this sort of risk. Other businesses may be out for more than a year if they need to reconstruct their premises or replace specialised equipment. A larger more complex risk could require a 12, 18, 24 months, or longer, indemnity period.”
How do you calculate your BI limit?
In theory, business interruption coverage is a fairly straightforward concept: the company owner expects to be reimbursed for the revenue they missed out on when their organization is unable to operate. Simple, right? Not always. That’s why it’s so important to work closely with your broker, accountant and even your insurance provider to make sure you’re calculating your BI limit correctly.
Unfortunately, there’s no simple formula as every business has unique exposures that can influence the amount of business interruption coverage they need. Sovereign provides our brokers and clients with a BI worksheet to help them in their calculation.
Being prepared for the worst-case scenario is a must for any savvy business owner because an accident that brings operations to a halt can happen at any time. However, businesses that have the proper coverage in place - with the right limit - should be well-positioned to come through any unexpected event or accident with no long-lasting financial impact.