Like you, I woke up today to numerous news programs discussing the coronavirus. Aside from the health concerns, it has become apparent that businesses, large and small, national and local, are being affected. Some have stated that this week’s events have the potential to be the most catastrophic economic challenge in generations. With no immediate correction anticipated, business owners may be considering filing a business interruption claim.
Business interruption insurance can provide much-needed assistance when disaster strikes. But filing a claim requires detailed analysis and documentation to allow the business owner to focus on recovery efforts.
Most business interruption policies require the insured to file a detailed “proof of loss” within a short period (30 days, for example) after a loss occurs. But before estimating losses, it’s critical to review the scope of coverage.
Policies typically reimburse the insured for lost business income (profits) during the loss period. Some also offer more extensive coverage. Here are just a few examples.
Extraordinary expenses. Some policies will reimburse the insured for repairing damaged inventory and equipment, as well as the cost of operating the business at a temporary location until the original location is restored.
“Denial of access” losses. This can occur when a natural disaster or other incident causes governmental authorities to block access to a company’s property for security reasons, even if the property isn’t damaged.
Rebuilding costs. Depending on the policy language, some courts have found that the insured should be reimbursed for the extra cost of safety enhancements or other improvements that would help avoid a similar business interruption in the future.
Some policies may even cover the cost of hiring a financial expert to quantify losses. That’s because carriers appreciate the objectivity and thorough analysis that experienced experts bring to the claims process, especially when they’re overwhelmed by a major disaster.
How are losses calculated?
Once the scope of coverage is set, it’s time to compile a comprehensive, but reasonable, claim. One of the biggest challenges is establishing the insured’s “lost business income.” An insured’s method of accounting can affect how this metric is calculated.
For example, if its financial statements are prepared using the cash method, the carrier’s first impulse might be to calculate the loss on that basis. But the insured’s expert may be able to demonstrate that the accrual method more accurately reflects its damages.
Carriers also tend to focus on a company’s track record to project what its revenues would have been but for the interruption. In these instances, it is increasingly important to be able to point to certain factors — such as industry trends, market changes, or company-specific developments — that indicate a higher level of growth going forward.
Determining continuing and noncontinuing costs is another critical issue. Most business interruption policies compensate the insured only for the former. In other words, to calculate lost profits, continuing costs are recoverable because they’re incurred despite the business interruption. Noncontinuing costs, such as discretionary marketing expenses that are avoided during the restoration period, aren’t recoverable.
For example, suppose that the coronavirus causes a restaurant to shut down for a month. The restaurant determines it’s losses as computed to be $100,000 in profits plus $45,000 in continuing costs, including rent and managers’ salaries, during the loss period. So, it files a claim for $145,000. When calculating lost profits, the goal is to make the insured “whole” again, but an accurate claim hinges on a careful review of the policy’s terms and definitions.
In most instances, the insured has to mitigate its losses. Although there are many actions a business can take to limit its damages, not all of them are reasonable. For example, a restaurant might be able to reduce its loss by laying off its salaried managers. But that may not be a smart move if the business interruption is relatively short, the cost of hiring replacements when normal operations resume is high, and the loss of experienced staff would hurt the business in the long term.
Timing is essential
Damaged businesses need to recover their losses quickly. The best way is to file a claim that is persuasive and well-documented. There has already been some rumbling about government assistance to specific industries, such as the travel and hospitality sectors. But as of today, there has been no formal governmental action taken.