Business interruption insurance is increasing in popularity. It protects businesses against losses suffered as a result of a temporary interruption of normal business operations due to a disaster or malfunction such as: fire, flood, or power outage.
Business interruption insurance reimburses the claimant for the income that would have been earned, if the business interruption had not occurred. Often times, extra expenses incurred as a result of the interruption are also covered under business interruption insurance. Examples of extra expenses are: temporary warehouse to house undamaged inventory, rental cost for a generator, relocation costs, etc.
The claimant is responsible for the following:
- Notify the insurance carrier of the business interruption in a timely fashion.
- Keep diligent records to show proof of loss: (i.e. damaged inventory and details of additional required expenditures.)
- Take reasonable steps to mitigate the loss (i.e. make every attempt to continue operations.)
- Provide financial documentation to provide support for estimation of lost income (i.e. tax returns, financial statements, payroll reports, budgets or projections.)
- Estimate how long the business interruption will last.
- Prepare an estimate of lost business income as a result of the business interruption.
The insurance carrier reviews information submitted by the claimant and assesses the reasonableness of the claimant’s (a) estimate of lost business income and (b) submission of extra expense.
Calculating lost income for a business interruption claim is a complex process. Due to the complex nature, many insurance carriers rely on a third party accountant to prepare an analysis of lost business income.
I provide business interruption claim support for insurance carriers seeking an objective, expert opinion of loss.
Each claim is unique and requires an analysis tailored to fit the specific claim.
However, I generally follow the procedure detailed below for calculating lost business income for a business interruption claim.
Step 1: Review the financial information received from the claimant.
Step 2: Segregate expenses.
- Variable: Expenses that stop when operations stop (i.e. cost of merchandise sold.)
- Fixed: Expenses that continue regardless of operations (i.e. rent.)
- Special: Expenses given special consideration and often excluded from the analysis (i.e. depreciation, meals and entertainment, and other non-cash or discretionary expenses.)
- Extra: Expenses only incurred as a result of the business interruption (i.e. temporary warehouse.)
Step 3: Choose the analysis method that best suits the type of claim and information available.
- Gross receipts method or top-down method (i.e. estimated lost revenues less variable expenses.)
- Net income method or bottom-up method. (i.e. estimated lost net income plus fixed expenses.)
Step 4: Consider other factors that may affect the claim.
- Did the claimant remain partially open for business during the period of loss?
- Is the claimant’s business cyclical?
- Is the duration of the period of loss known or ongoing?
- Is the claimant covered under reimbursement of payroll expense?
- Are any of the claimant’s personal expenditures commingled with business records?
- Did the claimant incur any extra expenditures in an effort to lesson and/or shorten the period of loss?
Step 5: Calculate lost business income and extra expense incurred during the period of business interruption.
This step includes preparing a report for my insurance carrier clients. The report includes the estimate of lost business income and extra expense, the analysis, and an explanation of the procedures followed.