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Operations Management Checklists

Insuring Against Business Interruption


Checklist Description

This checklist examines ways of insuring against loss of income arising from an enforced shutdown.

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Definition

Most companies have insurance against specific risks, but they do not always cover the indirect losses arising from an event. A buildings policy will, for instance, commonly include cover for rebuilding after a fire and replacing equipment. If the business is unable to trade and has to move to other premises, it will face considerable loss of income. It will still, however, face continuing costs such as wages, tax, and loan repayments. At the same time there may be additional charges for the rent of emergency accommodation and to pay overtime to staff.

Interruption insurance can fill the gaps in existing policies. It can cover both the continuing and emergency costs faced by the business and the loss of income arising from the enforced shutdown. It is the latter part of the policy that makes this a complex area. Estimating and proving current earnings can be problematic—especially if, for instance, a fire has triggered the payout and destroyed some of the records. In essence an insurer is being asked to pay for sales that the insured believes it would have had. An added complication is that few businesses will restart at the same level they were at before the interruption.

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Action Checklist

1. Identify all interruption costs

Ensure that all business interruption costs are covered, including the impact on all areas of the organization if one part is out of action.

2. Identify all sources of income and potential loss

Conduct a thorough review to determine the sources of income that would be lost and other costs or losses that might result from a shutdown.

  • Forms of income will vary according to the type of business and can be a combination of revenue, fees, or rental.

  • Penalty payments should be included as a major incident could affect a company’s ability to complete a project.

  • Interruption insurance will probably not cover some forms of income, such as interest on investments or sales of assets.

3. Check the supply chain

Examine the supply chain to make sure there is no over-dependency on one or two suppliers. Consider adding suppliers to the policy if reliance is unavoidable.

4. Coordinate insurance with the continuity plan

Insurance should be coordinated with the company’s business continuity plan.

5. Include recovery costs

Ensure that all the costs and time that would be needed to restore the business are covered, including:

  • Demolition, redesign, and rebuilding.

  • Replacement of specialist machinery.

  • Rehiring staff.

6. List all the company’s business activities

Some of the items to include here may be less obvious than others.

  • Include acquisitions, new divisions, and new ventures.

  • Ensure that long-term projects are covered even if they have not yet produced income.

  • Consider including key suppliers if damage to their premises could have serious repercussions on your business.

  • Ensure that power suppliers are included, and check to see when coverage commences. There is a week’s “deductible” in many policies.

7. Review the amount insured regularly

In conducting regular reviews of the amount covered, the following points may need consideration:

  • Many large organizations with multiple profit centers include intergroup sales, which can inflate the premium through double counting.

  • Make sure the projected figures for lost earnings are accurate for the whole insured period, which may be two or more years.

  • Consider including a premium adjustment clause to take account of actual rather than projected earnings at the end of the year.

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Dos and Don’ts

Do

  • Find a broker who specializes in insurance for business disruption.

  • Obtain quotations from several insurers to compare premiums and policies.

Don’t

  • Don’t be tempted to opt for the cheapest policy as it may be a false economy. If a disaster does occur, you may find you are not covered for everything you need to keep the business running as smoothly as possible while you get back on track.

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Further reading

Books:

  • Blanchard, Ralph H. Introduction to Risk and Insurance. Frederick, MD: Beard Books, 2001.
  • Harrington, Scott E., and Gregory R. Niehaus. Risk Management and Insurance. New York: McGraw-Hill/Irwin, 2004.

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