Business Interruption SIG Financial Analysis Basic Business Interruption 16 September 2009 Phil Beadsmoore

Introduction The four fears –Accounting books & records –BI policy & formula –Understanding the business and effects of the loss –Putting it all together in practice

Financial books & records –Source documents –Why prepared? –Examples –Statutory accounts –Profit & loss accounts

Source documents –Bank statements –Purchase invoices –Sales invoices –Credit card statements –Pay advices

The Law –Maintain record of transactions for 6 years –Debtors/creditors –Stock record

Why bother? –Running the business –VAT returns –Statutory accounts –HMRC accounts –Claims condition

What books & records? –Sales daybook –Purchase daybook –Cashbook –VAT returns –Payroll records

What books & records? –Stock records –Fixed asset register –Sales/purchase ledgers –Production records –Nominal ledger

What books & records? –Statutory accounts –HMRC accounts –Monthly management accounts –Budgets/forecasts

Types of business –Sole trader –Partnership –Limited liability partnership (LLP) –Private company (Ltd) –Public company (Plc)

Statutory accounts SME’s –Small company <£6.5m turnover <£3.26m total assets <50 employees –Medium company <£25.9m turnover <£12.9m total assets <250 employees

Statutory accounts –Time limit SME -9 months Large or Plc -6 months –Companies house SME-abbreviated accounts Large/Plc-’full’ accounts –Members ‘Full’ accounts

HMRC accounts Time limit –Sole trader/partnership -return due by January includes accounts for the year ended in the previous tax year –Limited/public company -9 months following the accounts year end

Profit & loss accounts –Why prepared? –What is profit? –Matching –Fixed-v-variable cost –VAT

Financial books & records –Why prepared? –Types of books & records –Different types of accounts –Profit and loss account –Matching –Fixed/variable costs

Basic Business Interruption Material Damage –Easier to visualise –Re-establish asset base –Repair, replacement, value –Agree to invoices –Value at risk

Business Interruption –‘Invisible loss’ –Place in same financial position –Policy formula –Analyse accounts, books & records –Fully understand business and effects of the loss –Mitigation considerations –Value at risk

The four fears –Accounting books & records –BI policy & formula –Understanding the business and effects of the loss –Putting it all together in practice

BI policy & formula –Defined formula –Adjustments clause –Uninsured working expenses

BI loss formula –Calculate/agree expected turnover –Calculate/agree indemnity period –Measure actual turnover achieved –Calculate reduction in turnover –Calculate insured rate of gross profit –Apply insured gross profit rate –Add increased costs of working –Deduct savings –Consider adequacy of cover –Declaration linked policies

BI claims in practice Liability –Insured peril –Appropriate extension –Material damage proviso –Claim conditions

BI claims in practice Putting it all together –Policy details –Business understanding/details –Circumstances of loss and effects on the business –Accounting books and records –Mitigation/loss measurement

Policy details –Definition of gross profit –specified working expenses –Basis and level of cover –declaration linked –Maximum indemnity period

Business understanding –Type of business –Ownership –Location-branches –Turnover/gross profit –Employees –Working hours –Production processes –Products/markets –Major customers/suppliers –Current orders/contracts

Circumstances of loss Effects on the business –Material damage –buildings,machinery,stock –Time to repair/replace –Customers/orders under threat –Possibilities to mitigate, e.g: –alternative premises –accelerated repairs –overtime working –subcontracting –Maintain/regain customer base

Allowable increase in costs of working –Additional expenditure –Economic limit –Sole purpose of avoiding loss of profit within the indemnity period –Necessary and reasonable –Additional increase in cost of working cover –no economic limit

–Latest set of financial accounts including detailed P&L account –Last two years sales analysis (net VAT) weekly or monthly –VAT returns –BI policy & schedule –Full knowledge of business - including other circumstances Minimum information

–Own review –Supplied by Insured –Supplied by Assessor –Supplied by Accountant –accountancy fees clause –Reconcile to accounts and VAT returns Obtaining information

–Calculate expected sales from sales analysis and knowledge of other circumstances –Apply trend to prior year sales and adjust for other circumstances –Use common sense –Negotiate Calculating expected turnover

–Obtain uninsured working expenses from policy –Calculate insured rate of gross profit from review of detailed profit & loss account –Other circumstances clause Calculating insured rate of gross profit

–Review detailed P&L account –Allow for variable costs not included as uninsured working expenses –Review monthly management accounts if available Calculating savings

–Agree to supporting documentation eg invoices –Ensure fulfill policy criteria –Additional-does not include normally expected expenditure –Sole purpose –Economic –e.g. overtime, subcontractor costs, equipment hire, advertising Increase in costs of working

–Calculate expected turnover over twelve months following loss –Apply insured rate of gross profit to give VAR if twelve month maximum indemnity period (MIP) –Multiply annual amount by relevant factor if MIP>12 months –Do not deduct savings –Underinsurance does not apply if declaration linked Adequacy of sum insured

Glynn Cubes Ltd BI Loss –Fire on 31 July 2009 –Policy cover –gross profit £120,000 –MIP 12 months –not declaration linked –uninsured working expenses 100% purchases (less discounts) 100% discounts allowed

Glynn Cubes Ltd Adequacy of sum insured –Expected turnover in 12 months following loss after allowing for trend- £187,417 –Insured rate of gross profit-57.56% –Value at risk: –£187,417 x 57.56%=£107,877 –Sum insured £120,000-ok –If sum insured £100,000 apply underinsurance: –ie multiply loss by 100,000/107,877

BI reserving –Estimate repair/replacement period –Allow for subsequent recovery period –Estimate turnover/gross profit loss –Allow for increased costs –Deduct prudent savings –Consider adequacy of sum insured –Document on file and detail in report

–Payments on account –Assessors –Recoveries –Items not covered –bank interest –claim presentation costs –increased VAT liability Other matters

Types of BI policy –Standard policy –‘All risks’ –Engineering –output option –Gross revenue –Gross fees –ICW –AICW –Advance profit –Declaration linked

BI policy extensions –Accumulated stocks –Suppliers/customer extensions –Denial of access –Loss of attraction –Failure of power –Fines and penalties –Undamaged stock –Accountants fees

Common problems for Insureds –Uninsured peril –Inadequate cover –No appropriate extension –Prolongation of indemnity period –New business

Common problems for adjusters –BI loss not considered –Under reserved –gross profit rate miscalculated –failure to fully understand business & affects of the loss –interruption period underestimated –expected results over estimated –Claim overpaid –VAT not properly considered –margin confused with markup –underinsurance not considered –Excessive payments on account

Summary The four fears –Accounting books & records –BI policy & formula –Understanding the business and effects of the loss –Putting it all together in practice