Business Interruption
MATERIAL DAMAGE
BUSINESS INTERRUPTION
Nomenclature for BI policy
Different Names of BI
Consequential Loss Depending on Underlying Peril Set
Loss of Profits • FLOP
Business interruption • BI section of IAR with MD section perils
as underlying
Time element losses
• MLOP
Soft Costs
• ALOP
Loss of Business Income
• DSU
Understanding BI
The BI Policy operates on Principle of Indemnity. It endeavours to put the Client back into
Pre loss Position Financially.
Multiple variants / specifications for fixing up of Sum Insured /Basis of Indemnification
available in the market –
GP –Turn Over( Addition/Difference)
GP-Output
Gross Revenue
Gross Fees basis.
Gross Profit(Turn Over) & Gross Revenue basis are popular.
Switching from “ Turn Over” to “ Output” enabled by Alternative basis clause.
BI applicable for both Mfg- Thermal /Steel / Autos/Petrochemical & Non Mfg Risks –
Hotels/SW/
Occupancy(Petrochem/Non Petrochem) & Continuous/Non continuous nature/ IP used to
determine the FLOP Rate but now 100% SFSP Rate.
Understanding BI
Understanding GP : Gross Profit is that portion of Turn Over which is
exposed for Loss following an MD event.
Understanding IP: This is the Period during which Insurance payments
are made. Indemnity period is chosen by the Insured based on their
assessment of Worst case scenario and its the Period during which
Insurer pays for Loss of GP – commencing with the Time of Loss and
ending with IP or restoration of Pre loss TO – whichever is earlier.
What BI covers
The insurance is limited to loss of Gross Profit due to
(a) Reduction in Turnover and
(b) increase in Cost of Working expenditure
#b is Conditioned by
necessarily and reasonably incurred
Sole purpose test
Economic Limit
Insuring Clause
A. Subjectivities: Terms and conditions of LOP as well as MD policy-
covering the Interest of the Insured at the Premises.
B. Trigger:if any building or other property or any part thereof used by
the Insured at the premises1 for the purpose of the Business2, be
destroyed or damaged by the perils covered under the fire policy3,
and the Business carried on4 by the Insured at the Premises be in
consequence thereof interrupted or interfered with.
C. Material damage (Insurance)Proviso
Business Interruption and
Pandemics
Coverage of BI is examined during Pandemics
Material Damage proviso – Responds only to direct
physical loss or damage
Can Virus cause physical damage ?
Definitions
Gross Profit = SC+Net Profit / SC-Net Loss } Addition basis
= (Turnover – UWE) } Difference basis
=(TO+ Closingg Stock) – (Opening Stock+ UWE) } Difference basis
Notes
This is a Measure of Loss a Business would suffer post a MD incident and hence fixed as
Sum Insured in proportion to IP.
This is not the same as an accountant's definition of gross profit - a fact which leads to
much confusion and underinsurance. Accountant’s GP does not contain Standing charges
and shows the PBT as GP.
The gross profit basis of cover is generally used for manufacturing risks where the
business has costs that vary in direct proportion to turnover.
Addition basis – Insured can omit some EXPENSES thinking them as variable to find out
that they are SC during the IP.
Difference basis- As WEs are omitted from the TO , little chance of above.
Definitions
2. Net Profit = Profit before tax
3. Turn Over =Money paid or payable(or earned) for the
Goods/Services done in course of Business. At the premises.
Payments may be made in stages outside the indemnity period even though the
work was done within this time. In this situation, unless the additional words "or
earned" are added, the policy would not respond.
The actual loss sustained by a business is not the Loss of Turnover, as there are
variable costs that are not incurred .
4. Increased cost of working (ICOW): is additional costs spent to maintain the
business at pre-loss levels and mitigate the loss of gross profit.
Sole Purpose Test: expense must be for the sole purpose of avoiding or diminishing the reduction
in Turnover. E.g. Air freighting an import of a machine than conventional sea freight , if it saves TO /
reduces IP
Economic Limit: it means that you cannot claim more as an Increased Cost of Working item than
was saved by way of reduction in loss of insured gross profit. Capped by ( TO saved x RoGP)
Definition
5. Indemnity Period:The period beginning with the occurrence of the damage and
ending not later than the IP selected by the Insured thereafter during which the results of
the business shall be affected in consequence of the damage.
IP is chosen by the Insured based on his assessment of max repair period in worst case
scenario
IP = Premises Restoration period
IP can be Min 3 Months / max 24 months for Mfg & 36 months for Non Mfg
Effect on Sum Insured: SI has to be AGP for IP of upto 12 months & beyond on Pro rata
Delayed IP- The period beginning with the occurrence of the damage or the
interference with the Business.
Leased Premises can pose problems with the restoration as it is in Landlord’s hands.
Definition
6. Standing Charges - Expenses which continue unabated after a MD loss at premises .
Insured has to identify the SCs from his P& L account for insurance, which are called ISC.
7. Working Expenses : The Expenses which reduce in direct proportion to the Turn
over post loss. That is, if turnover reduces by 50%, the cost reduces by 50% also. No
loss results the Insured and need not be insured. Also called UWE.
8. RATE OF GROSS PROFIT :The rate of Gross Profit earned on the turnover during
the financial year immediately before the date of the damage.
Formula = GP/TO in %
9. Annual Turn Over/Check for adequacy of SI :The Turnover during the
twelve months immediately before the date of the damage.
10. Standard Turn Over :The Turnover during that Period in the twelve
months immediately before the date of the damage which corresponds with the
Indemnity Period.
Definition
1. POI: 01/04/15-16
2. IP : 3 Months
3. DOL:01/06/15
4. IP:01/06/15 to
31/08/15
5. STO:01/06/14to31/0
8/14
6. ATO:01/06/14to31/0
5/15
Sum Insured is benchmarked to Annual T/O to determine under Insurance
Definition
11. Alternative Trading premises Clause/Turnover Elsewhere After
Damage:If Goods are sold / Services rendered from any alternative
premises relating to the Insured business during IP – that TO to be
accounted in IPTO.
12. Departmental Clause :If the Insured’s business is conducted in
departments whose independent trading Results are available Loss of GP
due to RTO/ICOW are separately calculated
E.g. Sugar Mill – Sugar /Distillery/Bio Fertiliser. Clients demand Time Excess also
relating to such unit/ production line.
Definition
13. Trends & Special Circumstances clause
The Clause makes the loss calculations flexible , tailoring the numbers to the reality.
Loss will be measured by a formula that will be adjusted to reflect what would have
happened to the business results if the clients property hadn't been damaged The “ BUT
FOR” Test.
STO/ATO/RoGP are subject to adjustment
Adjustments shall be made as may be necessary to provide for Trend of the business
and for variations in or special circumstances affecting the business
either before or after the damage
or which would have affected the business had the damage not occurred
So that the figures thus adjusted shall represent as nearly as may be reasonably
practicable the results which, but for the damage, would have been obtained during
the relative period after the damage i.e. IP.
Add On Covers in BI
1) Auditors Fees
2) Suppliers & Customers Premises Extension
3) Public Utilities of Electricity/Gas/water Premises Extension
4) Insured’s Property Stored at other situations
5) Prevention of Access
6) Additional Increased Cost of Working (AICOW)
7) Interdependency or downstream business interruption, when damage
at an owned location causes a loss of revenue to another owned
location.
Contingent Business Interruption
(CBI)
Additional ICOW
This coverage extends to cover costs and expenses necessarily and
reasonably incurred during the indemnity period in consequence of the
'damage' and not otherwise payable under Loss of Gross Profit provision
( increase in cost of working) for the purposes of maintaining the
business.
Limit: 10% of Limit of Indemnity (BI Sum insured/ BI Loss Limit) subject
to a maximum amount INR 25 Cr
Gross Profit Specification
1. Loss of GP RTO =(STO-ATO) x RoGP
2. Loss of GP ICOW =Additional Expenditure sub limited by
(TOSxRoGP)
3. Saving in Standing Charges
4. Total Loss of GP =(1) + (2) (-3)
5. Under Insurance application = (4) x (SI/ATO)
FLOP Policy-Problem
(1)Sum Insured = Rs 80 Cr
(2)IP =15 Months
(3)POI =01/04/2017 to 31/03/2018
(4)Date of Loss =15/09/2017
(5)Date of Recovery =14/06/2018 ( Interruption of 9 months)
(6)Standard TO =250 Cr ( 15/09/2016to14/06/2017)
(7)Annual TO =1200 Cr (15/09/2016to14/09/2017 )
(8)PFY TO =1000 Cr
(9)PFY GP =60 Cr
(10)Actual TO –IP =25 Cr
(11)ICOW =50 lacs
(12)Loss avoided –ICOW =8 Cr
(13)Savings in SC =75 Lacs
FLOP Policy- Problem
Solution
(1) RoGP =60/1000 = 6%
(2) Growth Trend =(ATO-PFYTO)/PFYTO %
=(1200-1000)/1000 = 20% This will be the
Trends factor
(3) Adjusted STO = 250x120% =300 Cr
(4) Loss of GP due to RITO =(Adj STO-IPTO) x RoGP
=(300-25)x6%
=16.5 Cr
(5) Economic Limit for ICOW =(TO savedx RoGP)
=8x6% = 48 Lacs Less than Actual ICOW.
(6) Payable GP =(4) +(5) – Savings in Standing Charges
=16.5+0.48-0.75
=16.23 Cr
FLOP Policy-Problem
(7) Adjusted ATO for trends = 1200 x
120%=1440 Cr
(8) Sum Required to be Insured(IP=15m) = 1440x6%x1.25=108 Cr
(9) Payable GP adjusted for UI = 16.23x(80/108)=12.02
Cr
(10) Time Excess - 7 days = 7xPer day STOxRoGP
=7 x (250/270)x6%
=0.39 Cr
(11) Final payable FLOP Claim =(9) – (10)
=12.02-0.39
=11.63 Cr
THANK YOU