Does your business interruption insurance keep you in the game?

Article Published : 01.06.2013
We encourage businesses, particularly those in the tourism industry, to consider whether the additional premium is worth the peace of mind.
Michael McKay

Insurance for reduction in gross profit

Many BI policies insure for a reduction in gross profit arising from damage to insured property. Some BI policies have an extension that covers loss of gross profit arising from damage to property, other than that of the insured business. 

Nearly all BI policies, however, contain an “adjustments” or “other circumstances” clause, which tries to refine which types of loss trigger recovery of reduced gross profit. 

Insurance is about indemnifying an insured for the losses specified in the policy and, in this sense, other circumstances  clauses are not objectionable. The clauses are often worded differently between policies, but have a common purpose: to distinguish a reduction in gross profit that would not have occurred but for damage to the insured property (covered) from reductions that are likely to have occurred even if the property had not been damaged (not covered). 

For example, many Canterbury businesses experienced a reduction in gross profit after the earthquakes, as did businesses in New Orleans following Hurricane Katrina. If the reduction in gross profit occurred because of damage to the businesses’ property, it was likely to be covered. If, however, the loss was due to fewer potential customers visiting the affected area after the relevant event, it would be excluded under an other circumstances clause. 

This has unfortunately been described as the “depopulation” effect, but the principle has broader application. Causation might be questioned, for example, if a key person had left the business shortly before the February 2011 earthquake. So, too, for an insured orchard that had an infected crop shortly before the earthquake. 

Lessons 

Predicting the future is necessarily uncertain. If part of a claim has been rejected because it was caused by an uninsured event, there should be evidence to support the claimed causation.

The other circumstances clause may not prove a significant obstacle to promptly resolving a BI claim for businesses with several outlets, as they can compare the performance of a similar store in another location with the damaged outlet. The Canterbury earthquakes did illustrate, however, that in other cases determining the cause(s) for a reduction in gross profit can be difficult and time-consuming. 

Is there a way forward?

We understand that, for an additional premium, many BI policies in Australia could include a “loss of attraction” extension. The extension is rare in New Zealand, but we encourage businesses, particularly those in the tourism industry, to consider whether the additional premium is worth the peace of mind. 

A business ought to review its circumstances and determine, with the guidance of an insurance broker, what type of cover is appropriate and affordable. We know some businesses have reduced the sum insured under the gross profit section of their BI policy or abandoned that part of the insurance altogether because of the causation issues. They say they have redeployed the premium to increase the sum insured for stock and other operating assets. The value of operating assets is not without its issues, but for those businesses replacing those assets is particularly important to trading again. What will your business need to still be in the game?

Article by Michael McKay

Michael is an experienced commercial litigator with particular expertise in construction, insolvency, insurance and shareholder disputes. Michael provides advice and advocacy in these, and other areas, of commercial law.

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