How to calculate your business interruption insurance

Business Interruption Insurance is a vital addition to your standard business insurance policy. It protects your business against loss of income and any additional expenses you incur following a material damage event such as fire, flood, or storm that impacts your premises or contents. To avoid being underinsured, it’s essential to correctly determine both the sum insured and the indemnity period.

But how can you ensure your Business Interruption cover is calculated properly?

Due to the many unpredictable elements involved in a major business disruption, risk managers are encouraged to plan for the worst-case scenario. The last thing you want is to have your losses continue long after your claim has ended. The starting point is understanding your gross profit and then adjusting it to reflect both the length of the indemnity period and any projected growth of your business during that time.

Here are some key considerations to help ensure your Business Interruption Insurance is accurately calculated:

1. Choose the Right Indemnity Period

Determining the correct indemnity period is one of the most critical elements of Business Interruption Insurance and one of the most common causes of insufficient cover. Standard policies often only cover you until your physical property is restored. However, recovery includes far more than just rebuilding.

Be sure to review your policy to understand whether the indemnity period includes not only reinstatement but also the time needed to restore profitability and manage increased operating costs.

Delays can arise from factors like planning permission, supply chain issues, or specialist equipment lead times. For this reason, you should begin your calculations from a worst-case recovery scenario and work backwards. Typically, a minimum indemnity period of 24 months is recommended, with 36 months often being more suitable for many businesses.

This period should take into account:

• Time to rebuild the premises
• Ordering and installing new equipment
• Re-establishing supplier and customer relationships
• Recruitment and training of new staff
• Regaining market position and customer confidence

2. Understand How to Calculate Gross Profit for Insurance Purposes

The gross profit figure used for insurance purposes differs from the figure your accountant may provide. While accountants typically calculate gross profit after deducting purchases and exclude certain expenses, insurance policies define gross profit as:

Turnover – Variable Costs (e.g. purchases, bad debts, discounts allowed) + Standing Charges (fixed costs you still incur even if you're not operating)

To avoid underinsurance, include all relevant operating costs such as staff wages and utilities. Also, be mindful of fluctuations in material costs, inventory values, and freight charges during the indemnity period.

3. Factor in Anticipated Business Growth

Business Interruption Insurance is designed to restore your financial position to where it would have been had no loss occurred. If you expect your business to grow whether by entering new markets, launching products, or winning contracts your policy should reflect that.

Ensure any expected growth over the policy period is factored into the insured sum and provide documentation such as forecasts, contracts, or historical trends to support your estimates.

4. Consider Relocation Costs

If your business can operate from a temporary location during the restoration period, this can significantly reduce the overall impact. However, any additional costs incurred such as rent for temporary premises, moving expenses, or IT reconfiguration should be included in your Business Interruption cover.

5. Account for Saved Expenses

Not all costs continue during a business shutdown. For example, if your business ceases operations temporarily, you might save on utilities, maintenance, and some staff-related costs. When calculating your gross profit for insurance, subtract these saved expenses to avoid overestimating your claim.

6. Don’t Overlook Staff Costs

Retaining key employees during a closure is critical to recovery. Whether you’re paying staff wages to retain your workforce or hiring temporary employees to assist with relocation and recovery efforts, these costs should be covered in your policy.

Employee benefits, payroll taxes, and redundancy obligations may also need to be factored into your calculations.

7. Assess Your Reliance on Third Parties

If your business depends on third-party suppliers, customers, or infrastructure (like power or internet providers), a disruption at their end can impact your operations. This is where Contingent Business Interruption Insurance becomes important.

Although this type of cover can be complex - requiring detailed documentation and careful wording - it’s vital for businesses heavily reliant on external parties. It ensures you're protected if a supplier’s factory burns down or a key customer’s operations are halted.

In Summary

Accurately calculating your Business Interruption Insurance requires careful planning, realistic forecasting, and an understanding of your full operational risk. Make sure you:

• Choose a realistic and sufficient indemnity period
• Use the correct definition of gross profit
• Account for future growth and potential delays
• Include relocation and ongoing staff costs
• Consider dependencies on third-party businesses

Review your policy regularly and seek professional guidance if needed. With the right cover in place, you can be confident that your business is protected, even in the face of a major disruption.