The following is an opinion article written by Matthew R Williams (pictured) and Vlad Prykmeta of BTVK Advisory. The views expressed within the article are not necessarily reflective of those of Insurance Business.
In 2012 a CILA working group comprising insurers, brokers, loss adjusters, accountants and other BI professionals published a booklet entitled Business Interruption Policy Wordings – Challenges Highlighted by Claims Experience. This document addressed some 30 issues that often come up when considering BI losses. The fact that six years later this booklet is still hugely relevant is as much a tribute to its authors as it is an indication that changes in the BI market can be slow.
2018 however may be the exception because it saw brokers promote new BI wording designed to address a variety of shortcomings found within traditional BI wording. A noteworthy change within the newly promoted wording is a movement away from gross profit to gross revenue.
Gross profit
|Gross profit (along with the very similar US-based “Business Income”) wordings require the policyholder to decide which costs are variable. Issues can and often do arise because it can be hard to establish which costs are actually variable and which are fixed. For example, one may expect that the purchase of potatoes by a crisp manufacturer is a variable cost. However, larger manufacturers often pre-order potatoes on a take-or-pay basis which therefore make it a fixed cost. Similar situations arise in the petrochemical and power generation industries. Furthermore, the term gross profit is usually defined differently by management accountants and BI professionals. The result is that variable (i.e. uninsured) expenses are often overstated leading to an underdeclared gross profit. Such a scenario is bad for all parties involved as it can lead to a loss of premium income, underinsurance and uninsured losses.
Gross revenue
The gross revenue wording is more straightforward and simply states that insurers must indemnify the loss of revenue from which actual savings are then deducted. Gross revenue policies are not new and are often used by businesses with few variable costs. They are however often considered by underwriters to be a higher risk because the sum insured is higher and as a result can be more expensive. Nonetheless a loss under an accurately defined gross profit wording should give exactly the same value as a loss under a gross revenue wording.
The new policy has addressed this issue by asking the policyholder to declare their gross profit for the calculation of the insurance premium. When a loss occurs the calculation is then based on a loss of revenue. This helps to avoid higher premiums and the potential for uninsured losses. Whether it will help policyholders to declare the right gross profit is yet to be seen.
Conclusion
In summary, despite its apparent inertia, the insurance market is in the process of moving forwards and evolving to create easier and more understandable BI products.
