Business interruption insurance cover has become a critical feature of the risk management strategy of many small to medium enterprises, writes Damian Clancy and Rory Butler.
Business interruption insurance cover has become a critical feature of the risk management strategy of many small to medium enterprises. However, many businesses continue to underestimate the importance of having this cover and, in so doing, take great risks with the continued viability of their business.
Professional development courses for insurance brokers almost invariably warn brokers that most businesses cannot continue for more than three months after an uninsured catastrophic event, which interrupts the operation of that enterprise, occurs.
As the example below demonstrates, businesses that do not hold any business interruption cover can suffer severe and long-term damage as a result of an unforeseeable and uninsured catastrophic event.
Mr and Mrs X conducted a medical practice in an exclusive inner-city suburb through a corporation. The practice was located in a building which housed a number of professional suites.
The building was completely destroyed by a catastrophic event. The corporation did not have business interruption cover.
Shortly after the occurrence of the event, there was a dispute between the corporation and the landlord of the premises, who refused to reinstate the premises to its previous condition. The alterations to the floorplan drafted by the landlord effectively meant that certain important medical equipment could not be housed at the premises upon its reinstatement.
The corporation's only option was to pursue a protracted court/tribunal dispute over the landlord's obligations under the lease, which likely would have taken several months to resolve.
As a result, Mr and Mrs X were forced to source new premises at a time when the property market was booming, and to then fit out those premises at their own cost. Even worse, they could not find suitable and affordable alternative premises within a 10-kilometre radius of their practice's former premises. As a result, several of the patients of the practice decided to transfer their medical care to competing practices.
Unfortunately the corporation did not have any disaster recovery or risk mitigation strategy. At the time the practice's premises were destroyed, Mr and Mrs X (who were not technologically savvy) had not made off-site electronic back-ups of their patients' records.
As a result, embarrassingly, the corporation had to call many of its patients and ask them to attend the premises so that their patient history could be reconstructed. Several patients were so appalled that their records had not been adequately protected that they transferred their care to other medical practitioners.
In the result, the corporation lost approximately 50 per cent of its patient base. Given the substantial overheads in continuing the business after the catastrophe, the corporation operated at approximately 30 per cent of its pre-catastrophe profit for three years. At the time of writing, it is still only trading at between 60 and 65 per cent of its pre-catastrophe profit.
Creating a buffer against the financial effects of the catastrophic event on Mr and Mrs X's business through the use of business interruption cover could have eased their financial pressure and reduced the substantial overheads they had to contend with.
In this instance, business interruption coverage would typically have restored their loss of gross profit, a key component of a sustainable business, and left Mr and Mrs X with a more manageable and continuous operating environment.
As an added benefit, disaster recovery advice is typically provided by insurers and brokers free of charge to mitigate the cost of a catastrophic event.
This is because the insured and the insurer have an aligned interest in minimising the financial burden of the catastrophic event or preventing it altogether if at all possible.
Damian Clancy and Rory Butler are lawyers in the insurance team at Colin Biggers & Paisley.