If you are in business there are risks inherent in every industry that are totally out of control of the entrepreneur, particularly when the business is reliant upon other parties.
As a result of damage to property a business may be unable to trade for a period. In order to cover these consequential risks, a business insurance policy will always contain cover for what is known as Business Interruption insurance (BI) or Loss of profits insurance.
BI covers a business against all consequential losses arising out of claims made against the policy which have been caused by an event leading to a valid loss. Such an event could be a fire, flood or loss of supply of electricity for example.
Most businesses will have interruption cover on their commercial insurance policy, that either has a defined level of indemnity as standard cover in a package or has been set from the declared annual turnover value on a commercial combined policy with a separate business interruption risk section.
Business consequential losses are calculated on a daily basis pro-rata from the declared annual turnover. If a business makes a claim they will usually be asked to provide accounts to verify the interruption loss.
A business can be protected against losses on the distribution side with credit insurance which covers losses of creditors failing and going bust, but what of suppliers?
Until the recent recession, insuring risks of trading losses due to failures in the supply chain was limited to small sums insured and various terms and conditions about what constitutes cover.
However the recession has led to many businesses and suppliers going into liquidation, and in all business sectors an enterprise may well find itself on the brink of receivership. This is often not because it is a bad business, but because somewhere along a linear network of product critical suppliers, a link in the chain has become insolvent.
This break creates a large knock on effect that cumulatively accounts for snowballing consequential losses the further you go down the supply and sales chain.
Businesses have been demanding from their insurers cover for this potentially business stopping risk.
Insuring the domino effect of a breakdown in the supply chain
The problem with a standard BI policy wording is that the cover only extends to loss of profits caused by a break in the supply chain of essential goods or services from an immediate supplier.
Furthermore that supplier must have been put out of business temporarily by one of the perils effective for the insured’s policy.
For example if my printing business is insured for fire with interruption cover in force and my paper supplier’s factory is burnt down, then this is covered under my policy. This is called first tier cover.
However if the paper mill supplying the paper distributor caught fire and the paper supplier could no longer supply my printing business with paper, I would not be covered.
This domino effect has always been regarded by underwriters in the past as a business risk that is uninsurable.
On the most expensive of Lloyd’s underwritten supply chain policies that have been available recently, the limits of indemnity are fixed and often do not provide adequate cover for a large business that has suffered supply chain failure more than one step removed.
However due to the growing number of insolvencies and claims repudiated under standard business combined polices, underwriters have been forced by the market to supply cover and have recently devised a new form of BI called ‘Contingent Insurance’ which specifically addresses all the limitations of the standard policy cover.
Contingent Insurance policies will insure against loss caused by disruption anywhere in the supply chain, which now includes both damage and non-damage related events.
The covers extend to supply chain breaks due to political risk-related events, civil disturbances, terrorism and political violence, as well as cyber risks, environmental risks, strikes, erupting volcanoes stopping flights and all other transportation issues affecting a business in the chain.
Many insurers of large businesses and corporations will insist that proper risk assessment of the consequential losses of supply failure is performed by a company and that maximum expected probable losses are defined, before issuing a policy.