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The earliest types of insurance were property insurance policies, from Lloyds of London, insuring sailing ships, to the earliest U.S. colonial era fire insurance companies, insuring homes and buildings. The value of property insurance covering direct damage or loss to insured property is well understood; less so is the importance of property insurance covering indirect or consequential loss.
Broadly described as business interruption insurance, these forms of property coverage provide additional protection for financial loss for other than direct damage to property. It’s not difficult to imagine how a relatively small loss to a small part of a building, perhaps a single room or even a single machine, could lead to a significant impact on business operations. For a recent example think of the almost total shutdown of all flight operations that afflicted Delta Air Lines in early August. That massive interruption to their business operations was reportedly traced to breakdown of or damage to a single server. It’s no stretch to imagine a lightning strike, electrical short, small smoky fire, or plumbing leak or water damage causing a similar event…a small amount of direct physical damage but major business interruption and consequential loss.
Especially in this time of highly automated manufacturing, business processes and data management, business interruption insurance has become an essential risk transfer tool. This coverage provides resources that aid any business in recovery following a catastrophic event and can help get a company back on its feet quickly, enabling it to pay staff, meet credit obligations, and provide peace of mind for employees and shareholders.
Business interruption coverage can best be thought of as having two distinct parts or types of coverage – business income and extra expense. Business income coverage insures net income that would have been earned had no loss occurred. “Would” is the key word here because unlike a loss due to physical damage, business income is based on assumptions of what would have happened had there been no loss. Business income insurance provides coverage for operating expenses that continue even after a loss, such as payroll, leases and mortgages, debt service and employee benefits, to name just a few. For many businesses in areas where finding and retaining qualified employees is an issue, the coverage for ongoing payroll expenses is, by itself, a strong argument for carrying business income insurance, since it lets you hold onto your labor force rather than seeing employees drift away to other jobs. And, it also insures the profit that would have been earned had no loss occurred.
Extra expense coverage is another important component of business interruption insurance. This covers potential costs over and above normal operating expenses that helps avoid or minimize business downtime and allow operations to continue. This is important especially to many service type businesses that really can’t afford to shut down after a loss, but must make every effort to continue operations to service clients and customers. For instance, extra costs to rent, equip and operate a replacement or temporary location, extra costs to replace vital equipment, parts or stock on a rush basis, overtime to perform tasks manually while automated systems are restored, and so forth, would all be covered extra expenses if they allowed you to continue operations.
Traditional insured property perils have always been a good reason for this type of insurance, but recent news headlines put the emphasis on an additional component of business interruption coverage that should be considered: coverage for the acts of civil authority, which covers a loss of business triggered by a governmental action (law enforcement, civil authorities, etc.) that restricts access to the insured premises. Think of the many businesses, large and small, that were affected by such restrictions after such events as 9/11 or the Boston Marathon bombing. Another example would be an ordered evacuation ahead of a hurricane that’s about to come ashore, or restricted access to an area after such a storm or natural catastrophe.
Determining the exact business interruption coverages you need can be a rather complex process; it takes time to do disaster planning and work through the various potential scenarios that could affect a business. While many business owners and executives might not want to consider these pessimistic scenarios, taking a hard look at such possibilities is a smart thing to do. Think of it as advanced preparation that just might help your business survive if a disaster strikes.
There are also numerous different optional coverages and endorsements that can better tailor these types of coverages to better fit your specific needs, most at little of no additional cost. With the frequency and severity of property losses increasing in recent years and the evolution of business to more data intensive processes which are more vulnerable to interruption and loss, this often overlooked coverage is well worth another look. We’ll be happy to sit down with you and come up with some options.