Contingent Business Interruption
The steady extension of supply chains over recent decades has exposed businesses to various risks resulting from temporary interruption. These types of interruptions to a supply chain can result in significant losses, even over the short term. While it’s natural to focus on large-scale climatic or even geopolitical events as causative factors, the truth is that even local factors can trigger business interruptions.
For these reasons, insurers in the alternative risk marketplace have developed contingent business interruption products as an extension of their clients’ business interruption plans. These types of coverages are designed to replace loss of income and reimburse additional expenses suffered during an interruption to the insured’s supply chain. Furthermore, coverage is not merely limited to the supply chain, but can also be applied to any interruption that prevents the business from operating.
Because life is random, coverage isn’t.
It’s easy to envision how an earthquake can upset the supply chain of a global corporation. What are less obvious but vastly more common are the myriad causes of interruption that expose medium-sized businesses to losses every day.
For example, a fire or explosion at a key supplier or distributor’s facility could cause a disruption possibly lasting weeks or months. Importantly, such exposure becomes a serious threat to normal business operations almost immediately. A shipment of a critical part that gets delayed or detained in customs overseas can cause a downstream delay or cessation of operations. This is a common occurrence with parts manufactured overseas, for example in China.
Losses can be triggered by other unforeseen events such as government shutdowns or even the bankruptcy of a trusted supplier. With the focus on critical infrastructure these days, it’s important to note that roadway repairs or re-routings can prevent customers from reaching businesses, possibly for a few weeks or even longer. Even such inconveniences as running short on critical supplies can result in a business having to switch to a different supplier, thus causing an unexpected loss of income from delays and increased costs.
What’s covered, what isn’t.
Contingent business interruption coverage typically involves three basic categories of losses. The most obvious of these is loss of business income that would have been earned had the triggering incident not occurred. In addition, insureds must also consider any extra expenses incurred during the business interruption, including those due to replacement. A third category is loss mitigation expenses, or expenses incurred to avoid any further loss.
Contingent business interruption coverage has its own, well, contingencies. For example, the policy language could require that the suppliers or other dependent entities be listed on the policy declarations page, with standard exclusions applied. In addition, claims are triggered by elapsed time, with a usual retention or deductible set at 48 hours. Under such a scenario, the business must have a disruption of normal business operations for at least 48 hours before coverage would apply.
Claims can be limited to specific locations or be extended to all locations of dependent entities, including unnamed ones. In other words, the coverage could specify a single warehouse or all warehouses, depending on the needs of the insured.
In any of these scenarios, standard conditions and exclusions apply. For example, the contingent business interruption policy could specify a 25% monthly limitation, which means that no more than 25% of the coverage limits could be paid out in a single month, to cite just one example.
Thinking through the various scenarios that could result in a significant business interruption should be accomplished systematically and thoroughly. Determining exactly how such contingencies can affect a business and how coverages should be designed will have a significant effect on how the business recovers from any qualifying event.
For further information on devising the right business interruption plan for your company, please contact Adam Perea.
