In my experience, many businesses in the UK are under-insured. This is particularly true when it comes to Business Interruption (BI) cover where I often see Maximum Indemnity Periods (MIP) of just 12 months. I was a commercial loss adjuster for over 30 years and experienced first-hand just how long it takes to fully recover a business. In most cases, it took much longer than this.
So how should you calculate an appropriate Maximum Indemnity Period for your clients? Well, a typical policy defines MIP as “The period beginning with the occurrence of the Incident and ending not later than the Maximum Indemnity Period thereafter during which the results of the Business shall be affected in consequence thereof.” This means that the cover must be set for the full period that a business anticipates it could be affected financially following a loss. This needs to take account of the entire anticipated period to reinstate damaged assets and the time it will take to win back your customers.
Also note that BI cover extends to loss of Gross Profit (GP) and Increase in Cost of Working (ICW) and an ideal mix ensures that customers and other stakeholders don’t feel the effects of disruption of the affected business. To achieve this, you also need a well-practised business continuity plan that maintains the flow of goods or services. This may come at a cost (ICW) felt perhaps through leasing alternative premises, fast tracking replacement equipment by paying a premium or sub-contracting parts of production, but the point is you don’t lose or dilute your customer base.
It is of course easier to set up recovery plans for service industries, such as design agencies, solicitors and accountants, where the key elements to carry on functioning are people, access to systems, data and a place to work. For these, a combination of pre-determined relocation sites and access to cloud-based systems can allow staff to be mobilised quickly to maintain unbroken service. The task is made easier where client timelines for service delivery are longer or flexible. It’s for this reason that BI claims involving service industries are mostly for ICW.
Now compare this with the manufacturing sector. The business investment in plant and infrastructure is more intensive, systems are complex and production is supported by finely-tuned, just-in-time processes, where if any of the supporting components fail or are delayed, production can quickly grind to a halt. Few such enterprises can afford to have mothballed plant, infrastructure or facilities waiting to swing into action the moment catastrophe strikes. We need a slightly different flavour of business continuity plan to mitigate losses that involve devising other more imaginative strategies.
This difference means that BI losses involving manufacturing businesses usually trigger a combination of GP and ICW. In such cases the Maximum Indemnity Period needs to be long enough to cover the full extent of loss up to the point where production is reinstated and revenues have returned to their pre-loss level. From my experience as a loss adjuster, most business owners underestimate the full impact of loss because they don’t fully understand the proposition or how long it will take to recover to this level. They also resist paying a higher premium to obtain a facility that works. The result is BI that fails to cover the true shortfall, placing the business at serious risk of failing. For this reason, it is vitally important to set the level correctly or your premium is money down the drain and risks a serious breach of governance.
My suggestion is that to set an appropriate Maximum Indemnity Period for your BI cover, you need to take account of at least the following factors.
1. Your ability to respond to incidents
I have witnessed even well run businesses going into meltdown following a loss, simply because the directors had made no business provision for Continuity and Disaster Recovery Planning. In any claim, the first week is the crucial period for meaningful response (like the so-called ‘golden hour’ for human casualties). If the management team are shell-shocked and don’t react appropriately and decisively, loss mitigation is delayed and the organization’s “body language” doesn’t play well to staff, customers and suppliers. Confidence and order book can evaporate.
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Without a plan - key decisions can take weeks |
With a plan - decisive action can be initiated immediately |
2. The time it takes to establish your insurance claim
Responding to a loss involves the need for substantial investment in a range of loss mitigation measures. Given that production has ceased or at least slowed down, invoicing will reduce and consequently cash flow will be impacted.
It can take some time for a valid claim to be accepted by insurers and for them to have made all necessary enquiries to validate the request for a first payment towards the physical reinstatement and business recovery measures. This is because the insurer is heavily involved in management of the claim, in conjunction with loss adjusters, engineers and accountants. Cause of loss and background information on the policyholder must be established before insurers can be satisfied that there are no non-disclosure issues or breaches of conditions or warranties. Only when those various enquiries are complete, can insurers confirm policy cover is in place.
This has the effect of extending the restoration period and this needs to be planned-for. A Business Continuity Plan provides the framework needed to accelerate and guide the decision-making process followed by the insured business. A BCP will also demonstrate to the insurer that the suggested action plan has been thought through and improves the chance of recovery.
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Without a plan - insurers will need time to validate your action plan |
With a plan - insurers will have seen your plans when setting your cover, so are very likely to support you quickly |
3. Time to salvage and assess damage
It may not be possible to enter damaged premises until they are made safe and I have known this to take many weeks. Whilst access is denied, you cannot establish what is damaged or know what steps to take to mitigate your loss, for example do we go ahead and order new plant or not? The business can be left in an indecisive limbo from a production point of view.
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Without a plan - insurers will need time to validate your action plan |
With a plan - insurers will have seen your plans when setting your cover, so are very likely to support you quickly |
4. Time to find temporary or new premises
If your normal premises have been damaged, the only short term option may be to relocate whilst property damage is evaluated and reinstatement planned. This can be easier said than done. Alternatives very much depend on the nature of your business and the area of your site that has been damaged. If only the admin department is affected, there are more possibilities and relocation time is quick compared to loss of a main production facility plus associated equipment and services.
I have found that people often dramatically under-estimate the time required to relocate, and simply finding suitable premises can take weeks. Having found a site, if the premises are to be leased, legal process must be complete before keys can be handed over. Depending on the function being relocated, those premises must then be fitted out with services and machinery. Insurers need to be satisfied, allowing the new location to be added to existing cover. All the quality and health and safety measures then need to be replicated and stock replaced before people can move in and restart the business. Add everything up and again, we are looking at months to do this.
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Without a plan - you're at a standing start |
With a plan - you can identify alternatives ahead of time |
5. Time to obtain planning permission
You cannot automatically assume that the local authority will let you reinstate your damaged property in the same form. Planning and building regulations processes can add months or even years to the reinstatement process. Matters are made worse if you occupy a Listed Building.
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Without a plan - you will only realise the impact at the time of the loss |
With a plan - you can establish the potential delays by consulting your local authority and allow for this in your alternative recovery strategies |
6. Time to reinstate the affected building
Substantial work is required before ever a “new brick is laid”. By this I mean that detailed structural surveys are generally required before the work of compiling a full specification of repairs can commence. Several expert opinions may be required, including mechanical and electrical engineers, building and quantity surveyors, and architects. Invariably, the owner of the building wants to incorporate changes and the local authorities have their input to the specification as referred to above. The nature of any improvements needs to be fully understood by insurers to check that they are allowable under the Reinstatement terms of the traditional cover. Consequently, it can take months to get to the stage of agreement over the specification between experts and insurers. Any work may then need to be tendered formally, possibly itself a multi-stage process, followed by construction.
Sometimes and with investment, the reinstatement phase can be accelerated, with the extra cost of saving time falling for consideration under the BI cover if loss of GP is reduced.
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Without a plan - with no alternative means of production planned, the time taken to reinstate equals time when you have no means of generating revenue |
With a plan - alternatives kick in while your buildings are being reinstated |
7. Time to replace equipment
Ideally any plant, infrastructure or equipment required for reinstating production will be ordered in good time for delivery to site as and when needed. Depending on the degree of customisation or specialist production or re-tooling, such equipment is on at least 6 months’ lead time and would often be imported.
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Without a plan - you're at the mercy of your suppliers |
With a plan - you will have researched alternatives. As in the case of rebuilding, you will be able to generate revenue while your equipment is awaiting shipment |
8. Time to test and commission the plant
If you think back to when you first set up your office, factory or other premises, it didn’t all go smoothly. There’s equipment to set up and test and then for staff to become familiar with using it and overcome any commissioning issues. This can include machinery, computers, utilities and all the software that supports the infrastructure.
9. Time to re-occupy your building
Once your damaged premises have been fully restored to their pre-loss condition and everything is working, there then needs to be the transition period from any temporary sites and resumption of trading. During that time, there is potential for customer needs to fall below acceptable standards, so the transition needs to be handled with care and can take some time.
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Without a plan - re-occupation likely to be troublesome and impact customers |
With a plan - the transfer can be planned, with the alternative strategies remaining in place until everything is in place at your own site |
10. Time to recover your business
Once you are fully established in your repaired premises, it is highly unlikely that business will immediately be back to where it was before the loss unless you have a solid recovery plan. Traditional BI cover extends to the period to when the trading results of the affected business have returned to their pre-loss position. If you are a specialist supplier, you may be able to retain or win back customers; if you produce any form of commodity, expect your customers to have found other suppliers and established satisfactory trading relationships. Don’t expect it to be quick or easy. For this reason, you must take this period strongly into account when calculating your Maximum Indemnity Period.
Conclusion
It is clearly all about time, and as they say, it waits for no-one. If business has not recovered by the time your BI indemnity expires, shareholders may be in for an unpleasant shock. A crucial part of not finding yourself in this situation is thinking it through, building the necessary bridges, and recording the shortest route to recovery in a well-formed business continuity plan. This provides a framework which will accelerate recovery, minimising impact on the business. The process of doing this helps you estimate the likely recovery time on a step by step basis. It then seeks to compress each stage.
Finally, I suggest you apply both optimistic and pessimistic interpretations of the values I have estimated for each of the ten factors I have identified here. If you take the shortest period for each, assuming some may run concurrently, and plan effectively, some office-based businesses may find themselves able to recover instantly, creating true continuity and demonstrating resilience. For others and manufacturers in particular, 18 to 24 months seems more appropriate and in some must-recover, conservative cases the safe indemnity period can approach 3 years.
