E&O Insights: Dangers of Renewing Business Interruption Coverage ‘As Is’

It would probably be rather difficult to find many agents unaware of business interruption coverage. Most recognize that for their business customers, business interruption (BI) coverage is extremely valuable. It is, after all, a common coverage designed to cover the loss of business income and profits if normal business operations are disrupted by a covered physical damage loss to property. Unfortunately, it may also be a commonly misunderstood coverage as it seems to generate its share of errors and omissions (E&O) claims.

A review of E&O claims statistics shows that many clients either do not have BI coverage or, more often, do not have the right amount. This begs the question: on your renewal proposals, are you reviewing each customer’s business interruption needs annually — and asking key questions to determine the proper coverage(s) and limit?

Because the current coverage is based on a projection made last year — and especially with the changes in the economy — there could be and probably are circumstances where the coverage and limit from last year is no longer adequate. Even though the economy has struggled, in some situations your client’s sales could have increased or an increase might have been projected. Perhaps your client introduced a new program or went into a new segment they are optimistic will increase sales. This needs to be factored in when determining the coverage and limit. Not updating the limit could leave your customer underinsured.

Ask and Explain

Asking essential questions helps determine what coverage should be proposed:

• Can the business operate at a temporary location rather than suspend operations?
• Could your client’s business be interrupted because of a loss at one of its suppliers?
• If your client is a landlord, could they suffer a business interruption loss?
• Would the customer suffer a loss if one of their service providers suffered a loss?
• Do they need extra expense insurance?
• Are there any new state ordinance or law requirements or code upgrades that could delay the customer from getting back in business?

Always explain the specific business interruption coverage, what it does and how it works, including explanations of:

Co-insurance percentage, a frequent issue in E&O claims.

Waiting periods. These can be fairly common with different periods of duration. Any losses incurred during the period directly following an event will not be covered. Try securing coverage without a waiting period.

Specific clauses that could impact the settlement of a claim. Also including any exclusions/limitations/war clauses, etc.

Moreover, for assistance in better understanding each type of business interruption coverage, check exposure analysis checklists, or review various insurance coverage Web sites and materials.

In addition, impress upon your customers the importance of good recordkeeping as this detail will provide them with a quicker and fairer settlement. A well thought out disaster plan should also be recommended.

When it comes to the limit of coverage, traditionally a business interruption worksheet is completed. This needs to be done with precision, so working with the customer’s accountant is an effective approach to ensure calculation of the right coverage amount. Some companies have even automated this worksheet, so it’s beneficial to look into it.

A $140,000 Mistake

The following claim illustrates how a coinsurance clause can significantly impact a business interruption claim and cause an agency to be sued.

The agent wrote property coverage for a client in the business of refurbishing railroad cars. Due to a hurricane, the client’s location was damaged and a business interruption claim was made. The policy originally had a stated value for business interruption, but on the last renewal the coverage was changed to 90 percent coinsurance. Following the loss, it was determined the client was drastically underinsured, resulting in an 82 percent coinsurance penalty (totaling $160,000). The agent was confused regarding the type of coverage he requested, not realizing coinsurance would come into play. The agent knew the amount of coverage requested — and should have realized the client was grossly underinsured based on BI worksheets prepared by the client and shared with the agent. The case settled for $140,000.

Obviously, business interruption is an extremely important coverage. Yet equally important is that your customers understand where property coverage ends and a business interruption endorsement begins.

Assisting customers in understanding how the coverage works and what type best fits their business will enable them to make an educated decision based on their budget. Just as your agency might not look like it did a year ago, your customers’ businesses are changing, too. Having the necessary dialogue on updating their BI coverage is the professional thing to do.