Chapter 6: Managing a business interruption


Recent natural catastrophe events have highlighted the importance of businesses making sure that they are prepared for the worst. Such events can be absolutely devastating for a company, and while it is not possible to avoid or control such events, an organisation’s actions both pre- and post-loss can determine whether it will survive.

It’s easy to think you are safe from natural catastrophe risk if you’re not located in a high-risk zone. However, increased globalisation and ever more complex global supply chains mean that no company operates in isolation. Consequently, no business is safe from natural catastrophe risk, making the argument for proactive risk management and swift post-loss support clearer than ever. This benefits not just your own organisation, but those in your value chain and the communities in which you operate.

There remains a significant gap between the total losses and insured losses after a major catastrophe event. There are many reasons for this insurance gap, but for now we will focus on the issues in business interruption (BI). This often-misunderstood area of risk can be the source of much confusion and the insurance can be complicated, but if set up correctly can provide a lifeline for businesses in their time of need. The insurance can provide the funds to ensure that a business survives, but it needs upfront analysis and time with claims professionals to get it right.

It’s not just physical damage that can bring everything to halt, serious disruption can be caused by a cyber-attack. However, the guiding principles for dealing with a BI event set out below, as demonstrated by a natural catastrophe event, remain the same for any major loss.

More reading: Increasing losses from natural catastrophe (natcat) events

Viewpoint: Stanley Cochrane, Head property Asia Pacific. Swiss Re Corporate Solutions
Typically, earthquakes, floods hurricanes and tornadoes are what’s referred to as natcats.  And, storm and flood losses dominate causation in Asia. Man-made events that frequently cause Business Interruption losses are fire and explosion, machinery breakdown, power outage and rolling blackouts as well as terrorism and human error. However, natcat events usually lead to wide spread damage as was seen in the Thai floods, the Tohoku earthquake in Japan and the Christchurch earthquakes in New Zealand.

One standout observation from the latest sigma report is that while the number of natcat events has reduced since 2005, the global total economic losses from these events has effectively doubled from USD 166 billion in 2016 to USD 330 billion in 2017 (please see illustrations below) and the protection gap between insured and uninsured losses continues to widen.

Economic losses from disaster events in Asia were estimated at USD 31 billion in 2017, the majority resulting from flood events. For example, in China, heavy rains caused the Yangtze River to flood. In Oceania significant losses came from Cyclone Debbie in March/April which brought wind, wind-driven rainwater and storm surge damage to southeast Queensland and northeast New South Wales.

From a risk management and insurance perspective the wide spread nature of natcats creates challenges, even with the best business continuity plans in place. For example, during the 2011 Thai floods and Japanese earthquakes it was relatively straightforward to quantify and settle property claims, but during these two events infrastructure was damaged, roads, airports and ports as well as power and utilities, which prevented not only supplies from reaching their destination, but also the movement of people. The result was that business recovery efforts were substantially delayed. Also, as is seen post most natcat events, there was a major demand surge for construction services and materials as whole industries looked to reinstate their properties, which again resulted in elongated business interruption and financial consequences for businesses. Often, well beyond the selected Maximum Indemnity Period.

Pre-loss planning
As a start, you should consider the work that can be undertaken inside your own organisation to minimise the impact a future natural catastrophe event could have on their operations. Don’t wait for an event to happen, prepare now. There is much that can be done in the planning process, but it can be narrowed down to the following key areas: risk identification and improvement (exposure information and loss scenario work); loss prevention and business continuity plans (both in physical assets as well as business); quantification of potential losses (calculate up front and use the methodology post-loss); and insurance review (essential additions to your BI policy).

Risk identification and improvement
One of the first steps in ensuring that you have robust pre-event risk management is making sure you know your exposures. It is essential to set the foundations by getting the basics right. Natural catastrophe events are increasing in frequency and severity, therefore making sure you have up-to-date and detailed natural catastrophe information is of paramount importance in enabling you to make informed loss prevention and resilience decisions. This includes identifying risk by mapping your own, customer and supplier locations in terms of natural hazard zones; having up-to-date property surveys about construction, occupancy, protection and exposure; checking the accuracy of data and values, with particular focus on business interruption; and using natural catastrophe modelling to identify the average annual loss estimates used in risk transfer assessment.

Knowing where the disaster hot spots are and which business-critical areas could be impacted by natural catastrophes are both essential. Learning more about your risk exposures by incorporating information from survey and loss scenario work will allow you to establish potential losses under maximum and mitigated scenarios.

Loss prevention and business continuity plans
Physical loss-prevention techniques will form part of any good property survey. The advice of experts can assist you to avoid or minimise the impact of a major event, such as a fire or a flood. Incorporating resiliency throughout your own value chain is the first step towards achieving a more robust business. But it’s not just physical loss prevention; clear emergency response and recovery plans will help to ensure you can continue to do business even in your worst-case scenario.

Insurance guidelines are often overlooked when designing business continuity plans, but if incorporated they may enable early interim payments and the cash required to pay for the mitigating actions established in the overall plan. The insurance plan should include a major loss protocol, claims procedures, clear communication lines, and a list of all the relevant stakeholders including broker, insurer, claims preparer (including forensic accountants) and loss adjuster.

Quantification of potential losses
The international language of business is often thought of as English, but the language of numbers can be understood across all nations. If you have someone who can converse in the language of numbers, you will be able to communicate clearly to all parties, including your insurers.

By establishing your worst-case loss scenario, the maximum foreseeable loss (MFL) can be quantified. This gives insurers an idea of the size of the potential claim (for pre-loss underwriting and post-loss reserving purposes). This ‘black cloud’ situation should be somewhat lightened by the contrasting normal loss expectancy (NLE). This is the same worst case scenario, although for an NLE it is assumed primary protections systems are functioning. For an MFL, no production systems are functioning and there is no manual fire-fighting. In addition, the NLE assumes a benefit from the business continuity work and fully active loss-mitigation strategies. This is an essential piece of the jigsaw for negotiations with insurers, with the actual loss likely to end up somewhere in between.

The quantification can be taken one step further. Using industry data, your broker can model your expected losses to determine the optimal position for your insurance, including deductible levels and limits. Combined with the knowledge of how much risk the business can take (tolerance) and how much it wants to take (appetite), along with insurance premium data, the analytics will help you make informed decisions on insurance, as well as helping to avoid any gaps.

Review your insurance cover
You can take control of the insurance process and put yourself in a strong negotiating position through use of robust information. Part of the process is the design of your insurance program. As well as specialist wordings and clauses for your industry, there are extensions that will assist in your recovery, such as supplier extensions (first-tier only or multi-tier), additional increased costs of working (allowing the uneconomic part of mitigating costs to be claimed), and interdependency cover (for situations where one insured subsidiary suffers losses due to damage at a different insured subsidiary).

In addition, when designing cover, you should consider lessons learned from previous events and test policies by using loss scenario information to check for potential gaps and insufficient limits. While nothing can prevent the devastation that comes from a natural disaster, by being proactive in your own pre-disaster approach and then linking with those in the value chain and the community, you can help ensure your business is able to survive.

Putting things right
Once people are safe and the business can transition from emergency response to business recovery mode, everyone will move quickly onto the insurance claim. Property damage/BI (PD/BI) insurance exists primarily to provide an effective risk transfer mechanism for companies, and the value, or otherwise, of the cover will be judged on its ability to respond in the event of a significant claim. It is widely acknowledged that the claims process, particularly in relation to PD/BI, can be lengthy, complex and highly scrutinised, but it is often an overlooked fact that the company that has suffered the loss is obliged to prepare and present their claim to its insurer. It is only then that the insurers and their representatives should ‘adjust’ the claim.

A company in this situation needs to be sure that they have the required expertise on their side to be able to submit a claim report so that their full entitlement is achieved based on the terms and conditions of their policy. Receiving timely and expert guidance through the myriad claims-related issues is often the difference between a company’s successful and unsuccessful recovery. With good planning, a clear and well supported claim will often result in early interim payments – a vital influx of cash to pay for all those mitigating actions set out in the business continuity plans.

Having highlighted the importance of expert representation and the role of a claims preparer in the process, it is important to mention the claims preparation clause (CPC). This allows the additional cost of paying for a claims preparer to form part of your claim against insurers. Insurers are often supportive of this, as the use of experts helps to create a smooth process for the insurance claim and allows you to focus on what you do best – your business and helping the recovery. The claims preparers can project manage the requests for information from insurers and control the direction of the claim process.

Pre-loss claims scenario reviews will always be useful and those agreed methodologies will save time post loss. The claims promises being offered by some insurers in respect of early interim payments are welcomed. However, the universal application of claims preparation clauses ensures that all policyholders can access professional claims preparation resources, and that claims are presented in a manner that allows for efficient and timely settlement.

A final point to make is that pre-loss analysis is essential work. While it is not the answer to all BI issues and will not provide the magic key to unlocking all of the unknowns you face, it is a mechanism for you to identify many of those issues and address them in a controlled and calm environment, before the onset of a major loss.

Chapter 5: Survey
Chapter 7: Business interruption insurance

About the author

Glenn Eaglestone, Marsh

Glenn leads the Forensic Accounting & Claims Services (“FACS”) practice for Marsh in Asia. The FACS practice is a global team of forensic accountants specialising the preparation of large and complex insurance claims (primarily business interruption and property damage) as well as providing consulting advice to clients on business interruption insurance coverage requirements. The Asia practice of FACS is responsible for supporting our clients and colleagues throughout Asia on any forensic accounting matters.

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