Business Interruption Values & Exposures

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Piers Osborne McCarthy
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1 Business Interruption Values & Exposures Identifying, Communicating & Differentiating Your Risk Bill Warren, CPA, CGMA, Partner Bob Kirchmeier, Director of Business Development Atlanta Annual Educational Conference February 12, 2015

2 Agenda Business Interruption Overview BI Calculation / Worksheets Values by Location for Schedule of Values Exposures (MFL, PML, etc.) Reporting Best Practices & Annual Updates Q&A 2

3 Business Interruption Overview Designed to do for the Insured what it would have done for itself had no loss occurred. Reimburses net profits, continuing expenses and expenses incurred to reduce loss Net Profit + Fixed Expenses Net Sales Expenses Forms of Coverage / Reporting Gross Earnings Manufacturing vs. Other Gross Profits / Loss of Profits Time Period (Including Extended Period) Business Income Ordinary Payroll 3

4 BI Value Reporting Purpose Factor in determining: Annual premium = Values x Rate? Limits Coinsurance Probable Maximum Loss (PML) Maximum Foreseeable Loss (MFL) Reviewed by adjuster/auditor after a loss To allocate premium to business units 4

5 BI Value Calculation Annual for entire organization Historical or projected, which gets rated? Values vs. Exposures Calculated differently depending on form: Annual Net Profit + Fixed Expenses (Business Income / Gross Profits) Annual Net Sales - Direct Expenses (Business Interruption Gross Earnings) 5

6 BI Value Calculation, aka The BI Worksheet Revenue / Sales Total net sales value of production from manufacturing operations and total net sales or net revenue from merchandising or non-manufacturing operations Include all potentially impacted funding sources Cash discounts; Commissions; Rents Tax credits, public funding, license / royalties, warranty / service Deduct: Raw material / stock Supplies / Consumables / Packaging Purchased services that are not fixed Usually deduct 100% of Ordinary Payroll Ordinary Payroll Electively insure a time value The entire payroll expense for all employees of the insured, except officers, executives, department managers, employees under contract and other important employees 6

7 BI Values Net Revenue Gross Revenue Customer Sales Intercompany Sales Loan Portfolio Interest Income License / Royalty Income Other Funding Sources Less: Returns Discounts Allowances General BI Treatment Depends, is better assumption Depends, is better assumption Depends, is better assumption Depends on correlation w/ activity = Net Revenue Typically 100% variable, or very close (for for-profit organizations) 7

8 BI Values Cost of Sales Mfg/Mercantile General BI Treatment Direct Product Cost Direct / Purchased Mat ls Direct Labor, but ST deducted as Ord. Payroll Indirect Labor Depends, Generally semi-variable Fringes & Benefits Some variable, but only in ratio of above Outsourced Services Depends, is better assumption Indirect Product Cost (Mfg O/H) Occupancy (Rent/Lease, Depreciation) Depends, often fixed Utilities Depends, is better assumption Supplies Consumed, Packaging Quality Control Depends, Generally semi-variable Mfg Variance / Inventory Change Weighted average of above = Total Cost of Goods Sold Typically averages mostly variable 8

9 BI Values Cost of Sales Service, etc. General BI Treatment Direct Labor Generally mostly Fixed; Hrly = Ord. Payroll Indirect Labor Fixed Fringes & Benefits Some variable, but only in ratio of above Outsourced Services Depends, need to understand nature Utilities Depends, mostly Fixed is better assumption Occupancy (Rent, Lease, Deprec.) Depends, Fixed is better assumption Supplies Consumed = Total Cost of Sales Typically averages mostly fixed 9

10 BI Values Sales, General & Administrative General BI Treatment Operating Costs Repairs & Maintenance Depends, likely semi-variable Selling Commissions Depends, generally Bad Debts Trade Shows, Advertising, etc. Fixed General & Administrative Warranty Accrual, though confuses clients License / Royalty Expense Depends, need to understand nature Depreciation Fixed in SG&A context Engineering, R&D, Bid & Proposal Fixed Others (Salaries, Taxes, Insurance, etc.) Fixed, even Income Tax = Total SG&A Typically averages mostly fixed 10

11 BI Values Other Income / Expense General BI Treatment Interest Income Tax Credits Interest Expense Foreign Currency Gain/Loss Management Fees Discontinued Operations Others Generally excluded, but can t claim time value of money if not included in reported values Depends, need to understand Fixed Depends, generally fixed Fixed (i.e. don t consider) Generally Fixed = Total Other Income / Expense Average, depends on above 11

12 BI Values Expected Results Percent of Revenue Mfg High Margin 40% - 60% Mfg Low Margin 10% - 30% Retail High Margin 30% - 40% Retail Low Margin 5% - 20% Service Salaried Workforce 60% - 80% Service Hourly Workforce 30% - 50% Service Outsourced Model 20% - 40% Technology Services 70% - 90% BI Benchmarks available at 12

13 BI Values by Location Schedule of Values Clients almost always struggle with this, even in relatively straight-forward business models What is the relative financial contribution of a location / operation? The value by location becomes an input to insurers risk modeling, but due to interdependencies this is a bad figure to rely on. 13

14 BI Exposures Realistic Exposure Tiers: MFL, PML, EML, NLE Key Factors Disruption Scenario Duration of Impact Direct & Interdependent Values at Risk Mitigation of Loss Startup Curve / Extended Period Evaluate Sub-limited Perils/Extensions Contingent Exposures / Service Interruption EQ / Wind / Flood Include Ordinary Payroll It is subject to limits as well Use this information to decide which risks to insure Enough insurance, too much? 14

15 BI Reporting Best Practices & Updates Tailor for internal reporting that is repeatable Rational & efficient Consistent across divisions, years Key inputs are: Detailed P&L s by segment margins are generally consistent Right amount of data Location metrics to allocate values by location using a rational methodology Exposure measurements that apply the key factors to values by location Annual Updates: Minor: Update revenue & location changes Major: Business model changes / acquisitions / divestitures Accuracy + Consistency + Communication = Credibility 15

16 Q&A Thank You! Bill Warren, CPA, CGMA, Partner Bob Kirchmeier, Director of Business Development Jess Mizenko, CPA, CGMA, Manager 16

MHEC MASTER PROPERTY PROGRAM BUSINESS INTERRUPTION VALUE REPORTING. March 8, 2018

MHEC MASTER PROPERTY PROGRAM BUSINESS INTERRUPTION VALUE REPORTING. March 8, 2018 MHEC MASTER PROPERTY PROGRAM March 8, 2018 David Letzelter Senior Vice President Thom Smith Assistant Vice President BI Introduction to business interruption coverage Calculating the business interruption