Business Income: It’s Really Easy

Few insurance coverages illicit such fear or visceral reaction as does business income coverage (aka time element). Without being too glib, business income concepts are actually simple to understand and explain to your clients; the problem is that the coverage has been shrouded in mystery and taught incorrectly by those that don’t completely understand the coverage themselves.

To fully grasp and properly apply business income coverage requires little more than an understanding of time; because the coverage is based almost entirely on time. The amount of business income coverage and coinsurance calculations are of secondary importance; in fact, the coverage amount and the coinsurance percentage fall into place once a reasonable estimation of the time necessary to return to full operational capability has been calculated/estimated. And contrary to popular belief, an intimate understanding of financial documents (income statements, balance sheets, etc.) is not necessary to construct a proper business income program (WHEW!).

Is Business Income Necessary

There are 525,600 minutes in a normal year; and according to National Fire Protection Association (NFPA) estimates there were 103,500 non-residential and commercial structure fires in the U.S. during 2009. That equates to a non-residential structure being damaged by fire every five minutes. These 103,500 fires resulted in approximately $3.046 billion in direct property damage alone; this amount does not consider the indirect business income losses.

Finding accurate data on the number of businesses that never reopen following a catastrophic property loss borders on impossible. The insurance industry has long stated that 25 percent of businesses that suffer a catastrophic loss (causing a total shut down of more than 30 days) never reopen. The number could actually be much higher.

Not included in this often quoted statistic is the percentage of businesses that do reopen but ultimately close within three to five years of the catastrophic loss, with such business failure being directly traceable to the loss. Considering these business closures, the ultimate business failure rate due directly to catastrophe could approach 45 or 50 percent.

Individual and collectively catastrophic losses lead to the closure of thousands of businesses in any given year. If 60 percent of all non-residential and commercial fires are “catastrophic” (some reports indicate as high as 90 percent), then America lost approximately 15,500 businesses (employers) in 2009.

What Does This Mean

Most businesses that never reopen or close after reopening as a direct result of an individual catastrophe or community disaster don’t close because of the lack of building and business personal property coverage; they close because there is NO MONEY coming in the door. Few businesses can remain viable without a source of income. Mortgages have to be paid, rental expenses continue, employees want to get paid (or they will find other jobs) and the insurance carrier wants their premium. These and other expenses continue even if the business is not open.

Businesses don’t own buildings, machinery and equipment for the pride of ownership; property, plant and equipment serve one purpose — to make money. If they don’t make money, they are of little use to the business, other than as an expense. Even buildings constructed to impress people are intended to draw those people in to spend money. Profit is the motive, and business income coverage insures and protects that motivation.

In short, business income coverage may be the most important protection any business purchases. It is certainly the most important property coverage. A business shut down for six months due to a major property loss could be fully insured for the loss of the building and the contents, but still be unable to reopen because there was no money flowing in to pay all the continuing non-loss-related expenses. Whereas, the building and equipment could be horribly underinsured, but if there were business income coverage, the business could still reopen and succeed.

Obviously, the optimal goal is to have the building, contents and business income all properly insured, but of the three, the most important is business income coverage.

Upcoming Series

On June 2, the Academy of Insurance launches a five-part series on business income coverage. During the series students will learn: 1) How to complete the business income worksheet; 2) How to calculate the period of restoration, coverage amount and coinsurance percentage; 3) Why extended business income coverage is needed; 4) What the non-coinsurance options are; 5) Extra expense coverage; and 6) Dependent property coverage.

Register for the series at www.ijacademy.com.

Topics Catastrophe Profit Loss Property