Business Interruption Insurance
Issue #28
October 15, 2007
Your business is no longer able to operate due to extensive damage at its facility. Your thoughts are now focused on getting rebuilt so you can commence operations as soon as possible. In the meantime, you expect your business interruption insurance to pay for lost revenues and additional expenses – but will it? Let’s examine some of the considerations that should be given when purchasing this insurance, including what it will and will not do.
How long it takes to rebuild
If you have ever been involved in constructing a new building, you can appreciate how long the process takes. There is the design work, permit process, bidding and selection of contractors, procurement of materials, and many other steps that must be taken before construction commences. I constantly hear from customers that are adding on or constructing new buildings about how long it takes, and contractors tell me that a year is not unusual.
In the event of rebuilding, there is also the demolition work that must be done. If there is widespread damage, you may not even be able to get a contractor for quite a while. And, depending on the time of year, work may not be able to commence right away due to weather conditions. My advice is to plan on no less than twelve months, and purchase a corresponding amount of business interruption insurance. If the process can be done sooner, then that is all the better.
Additional expenses
Not only will there be a loss of income during an interruption of your business operations, there will also be extra expenses incurred. In some cases, the extra expenses may exceed the amount of lost income. While you are displaced from your facility, there may still be rent or mortgage payments that continue, and the expense you have for temporary facilities is over and above this. You may also incur added expenses for renting equipment and machinery during this time. If you choose to outsource, the expenses can also be quite significant.
Since business interruption insurance includes additional expense coverage, be sure to include these in computing the amount to insure. Business Interruption/Extra Expense worksheets can be quite helpful for completing these calculations.
Continuation of payroll
Among the many decisions an employer makes when buying business interruption insurance is whether or not to insure ordinary payroll. Ordinary payroll is defined as payroll, employee benefits, FICA, Medicare payments, union dues and workers compensation premiums for employees other than officers, executives, and department managers. Payroll for officers, executives, and department managers is automatically considered to be include for coverage as part of the overall business interruption coverage form, since without these key people, a business could not recover.
The skill level of employees, types of operations, plant and office locations and the economy all need to be considered when determining whether or not to purchase ordinary payroll coverage. These same factors will also help determine the length of time the coverage will be needed.
In most cases there should be little question about whether continuation of payroll during a brief shutdown is “necessary”. However, without proper documentation, your insurer may contest keeping some employees on payroll during a prolonged shutdown. You can eliminate coverage for ordinary payroll completely or you can insure the cost of ordinary payroll of a limited period of time. Normal limitations for payroll would be 90 or 180 days.
If you choose to eliminate ordinary payroll coverage, you will reduce your insurance costs. However, doing so creates what may be an important uninsured exposure.
Lost customers
A business interruption can impair your ability to deliver products or services to customers, who may then look elsewhere to satisfy their needs. Even though you can purchase an extended period of indemnity to take up some of the slack after your facility is rebuilt, there is no insurance that replaces lost customers. When you consider how hard those customers were to get in the first place, you may want to consider other risk management techniques.
Managing the risk
As important as insurance is, it is the risk management technique of last resort. There are other techniques that can significantly reduce your cost, and perhaps even save your business, during an interruption. Here are some other questions you may want consider in the event of a business interruption:
- Have you identified the core activities that must continue?
- Where are you going to perform those activities?
- Can you access power if it is not otherwise available?
- How will you communicate?
- What computers, equipment, etc. will be needed?
- Is your important data (list of employees, customers, suppliers, etc.) readily available?
- What arrangements have you made for outsourcing production, services, etc.?
As you can see, business interruption is not a subject that should be taken lightly. Proper planning is essential for recovery, and goes far beyond insurance.
Free for the asking . . . .
Email me at ed@kempkey.com and I will send you a worksheet to help in planning for the proper amount of coverage. If you have questions on business continuation planning, you may also contact me at 888-536-7539 extension 2188.