SMEs and business interruption insurance: The road less travelled

Recently, the business place of a small business owner was destroyed by fire. Luckily, he had a material damage insurance cover (fire and special perils) in place. But unfortunately, he only insured his contents; he did not insure the business space. The business was located in a building that had other business concerns and it did not occur to him that he could just insure only the space he occupied. It is usually better, though, to get the landlord to insure the building in such circumstances or all the tenants can come together to insure the building. Recall that while we were treating insurable interest (that is the legal right to insure a subject matter of insurance) we said tenancy confers insurable interest on tenants.

Anyway, the fire neither emanated from his business space nor within the building. It came from an uninsured external source, which had no capacity to compensate them.  The responsibility for restoration became an issue. It took a while before contending issues were resolved and renovation work started. The insurance company duly paid him for the contents he lost in the fire. But beyond contributing money to restore the building, the insured had to contend with the loss of income during this period because he could not transact his business. His reserves were terribly depleted if not exhausted. He also spent part of the money he got from the insurance company on unrelated items/issues.

All these would have been avoided if he had taken business interruption insurance in addition to his material damage insurance, either as a combined policy or extension to the fire and special perils insurance.

Business interruption insurance, also known as consequential loss insurance, because it is consequent upon a material damage, replaces business income lost as a result of specified events, man-made or natural, which disrupt business operations. The perils can be accidental damage, industrial explosions, malicious damage, earthquake or volcanic eruption, fire and special perils, riots, strikes and lock-out.

Ideally, a business interruption insurance covers, (1) profits that would have been earned had business operations not been disrupted. To ensure that the insurance principle of indemnity is upheld, the profits from prior months are used as a yardstick in the event of claim. This ensures that the insured is placed in the exact position he would have been financially had the loss not occurred; (2) operating costs and other costs still being incurred by the business based on previous statements of costs; (3) employee wages. The insured might have some vital staff he does not want to lose while the business is closed. Consequently, he continues to pay their wages; (4) during the closure, the insured might lose some key staff. The policy provides for training of new staff. In addition, if the old staff are not familiar with the new machines used to replace the damaged ones, the policy also covers the cost of training the staff.

Business interruption insurance can also cover the cost of relocating to a temporary place while the damaged premises is being renovated.

I asked a couple of colleagues the last time they handled business interruption insurance for a small business owner.

Some have never done it, one could not remember, while the only one who did handled the transaction over 10 years ago. Why are small business owners not taking this all important insurance? The first issue is how many small businesses are taking up material damage insurance upon which business interruption is consequent? Very few small businesses take up material damage insurance. Convincing small business owners to take up material damage insurance is usually tasking. Many of them have slim margins, while others do not consider insurance important.

These days, majority of small businesses, which take up material damage insurance, do so because it is prerequisite for accessing bank loans.

The banks want to take reasonable measures to secure the loans they are granting. What some proactive underwriters are doing is issuing combined material damage and business interruption insurance to these SMEs at very generous and irresistible rates.

Our case study today should be an eye opener to owners of small businesses, especially if their answers to the following questions are in the negative: if your business is destroyed, do you have the resources to bounce back? In addition, even if you have the resources, can you sustain yourself and family over a long period while renovation or reconstruction is going on?

Our case study today shows that both material damage insurance and business interruption insurance are important to small businesses. The truth of the matter is that many small businesses go out of business if their premises are destroyed by fire or other perils without insurance to fall back on. Many of them simply do not have the resources to re-start their businesses. In addition, many small businesses cannot survive closure over a long period of time because of thin or nonexistent reserves. Material damage and business interruption insurance are therefore very important for small businesses.

Do you know even transporters can take up business interruption insurance to complement their motor insurance? Talk to a registered insurance broker today and get more insight into business interruption insurance.