Can a Business Expect Recovery For Its Normal Operating Expenses, Even If It Was Operating at a Net Loss, Prior To a Suspension? - Understanding Business Interruption Claims, Part 23
(Note: This Guest Blog is by Michelle Claverol, an attorney with Merlin Law Group in the Coral Gables, Florida, office. This is the part of a series she is writing on business interruption claims).
Keith Turner, a fellow attorney from California, forwarded me a novel and interesting court opinion from his home state that may change the typical business interruption rhetoric.
Most business interruption forms read as follows:
* * * * * *Section V-Definitions
1. “Business income” means:
a. Net income (net profit or loss before income taxes) that would have been earned or incurred; and
b. Continuing normal operating expenses incurred, including payroll.* * * * * *
Under this provision, carriers will often argue that if a policyholder was operating at a net loss greater than the business’ normal operating expenses, the business interruption recovery would be zero. In Florida, some carriers rely on Dictiomatic, Inc. v. Mercury Cas. Co., 958 F.Supp. 594 (S.D. Fla. 1997), where a court held that “business interruption insurance may not be used to put the insured in a better position than it would have occupied without the interruption,” to deny or offset recovery for operating costs if the business was not doing so well prior to the loss.
However, an appellate court in California used a different kaleidoscope to read the same provision and found that that, in the event of a covered loss that forced the complete suspension of its business operations, the policy would provide coverage for any lost profits, and, even if there were no lost profits, for ongoing expenses incurred during the period of suspension. In Amerigraphics v. Mercury Casualty Company, 182 Cal. App. 4th 1538 (March 23, 2010), the Court declined to follow Dictiomatic and held that:
[i]f a catastrophic event damages an insured's business premises and prevents the insured from being able to operate, any business in that situation would face two distinct problems: (1) a loss of money coming into the business (loss of income), and (2) payment of ongoing fixed expenses, even though no money is coming in. A reasonable insured would see that the definition of “Business Income” has two distinct components: (i) net income, and (ii) continuing normal expenses. Because the definition provides that “Business Income” includes both items, a reasonable insured relying on the plain language of the clause would reasonably conclude that the policy covers both items. Indeed, we note that the “Business Income” provision appears in the policy under the preceding heading of “Additional Coverages.” Given its placement in the policy and the plain language of the provision, it would be objectively reasonable for an insured purchasing the policy to construe it as protecting both its lost income stream and as defraying the costs of ongoing expenses until operations were restored.
Under both parties' interpretation, an insured business will be paid if the business were operating at a profit prior to the covered loss. It is only when a business was operating at a net loss greater than its operating costs that it would not be paid at all under Mercury's interpretation. But there is nothing in the policy language to suggest to an insured that if a business is not earning a profit it should not expect coverage for its continuing expenses during the period it cannot operate. It is not unusual for business income to fluctuate from year to year. A business should not have to be concerned that if it does poorly for one or two years and a covered catastrophic loss occurs during that time frame, then the business will not be paid anything under the “Business Income” provision. In essence, Mercury's interpretation relies on the implied assumption that only a profitable business would be protected by the provision. A business that is just starting out may operate at a temporary loss until it becomes established and secures a customer base. If that business knew that there would be no coverage under the “ Business Income” provision of the policy for ongoing expenses if it suffered a catastrophic loss under the policy, there would be no point for that business to purchase the additional coverage.
Feel free to contact me if you have any questions or concerns about how this new decision may impact your business interruption claim.
The court's decision in this case really seems to open a BIG door for a lot of claims to be re-opened, where the policyholder could not document a Business Income loss,as its projected net loss "and"** continuing operating expenses did not exceed $0....thus,there was no actual loss sustained.
**If I was an insurer, I would close this ambiguity by defining how the Business Income loss is mathematically calculated: Net income or Loss, PLUS (vs. the word "and") normal continuing operating expenses.
I agree with Bruce about the clarification of the language in the insurance contract. However, when I give eduactaional sessions on BI to brokers and riask manager's, I always raise this issue. Especially for the retail industry where they usually operate at a loss for 9 or 10 months a year and make all their profits in the 4th quarter in November and December. In fact, at BDO we have helped at least two small companies in the last 18 months who were originally told by their adjuster that no BI could be claimed because the company waas operating at a loss and once the broker brought asked us to look at the financials and the policy language a successful BI claim was submitted and settled making the retailer whole as to covering their continuing expenses.
The business owner operating at a loss (or otherwise) should carefully review their insurance needs with the agent/broker and underwriter prior to placing/renewing coverage.
This should include filling out (and reviewing) a business interruption worksheet and reviewing the disaster recovery plan to help estimate Extra Expense coverage needs. If this isn't part of your annual insurance review, you need a new agent/broker.
Reporting $0 for BI, or otherwise trying to hide the financial performance of the business during the underwriting process is likely to create problems if there's a claim.
Far too often I see BI numbers that are so low they wouldn't even cover 30 days ordinary payroll. Estimates are too often just pulled "out of the air" because the insured/agent/broker didn't want to take the time to fill out a fairly simple worksheet. It doesn't take long for memories to fade, and that made-up number gets treated like it's the product of sophisticated analysis.
Reported values are supposed to reflect projected values for the policy term, not historic values for some time in the past. This is a common issue with start-ups or with new locations being added to a schedule.
What is wrong with the insurance industry providing a product that insurers a business when its losses are greater because of physical loss. I have never understood why "income" has to first be positive before an insurer would want to pay.
Many businesses operate at a loss for a period of time. Why does the insurer not want to pay for additional losses caused by the insured peril which may break the business forever?
In my opinion, you have to look to the ENTIRE policy coverage language to determine whether the insured has a covered BI loss. What I mean by entire includes but is not limited to: definition of Business Income (typically net income or loss and continuing operating expenses) and the measurement period (period of restoration and extended Business Income period (if any)). I typically interpret this as the insurer will pay for any covered Business Income loss (actual loss sustained which is written in many coverages) during the period of restoration. Thus, the BI loss must occur during the period of restoration.
Based on the information in Mr. Glasser's email (I realize there may be more to the story), regarding the retail industry, I would side with the adjuster. Why?? Let's look at the counter argument.....If the loss occurred during the policyholder's most profitable part of the year, wouldn't it only be fair that the insurer indemnify them for the expected profit and continuing expenses related to the "busy" time of the year. I know I would be fighting for it!
Bruce, I always thought "and" and "plus" meant the same thing. I've never had a carrier take the position that there would be no recovery if the insured was operating at a net loss but I'm not surprised to hear they've tried.
I guess under that theory, if you had continuing expenses of $1 million but had a net operating loss of $1, there would be no recovery. But if the same insured could project a net operating profit of $1, the carrier would have to pay $1,000,001. A $2 difference in profit/loss would trigger a million dollar difference in the claim. How absurd!
On December 7, 2010, a driver traveling an estimated 80-85 mph ran his vehicle into my business destroying the entire eating area of my restaurant. No business could be operated for the month of December. In January business was conducted through the drive-up only and this process continued until the third week of February when the dining area had been refurbished and all new booths, tables and chairs had been delivered.
It was at this time I severed any further "claim period" because it was obvious my financial losses were not going to be covered to the extent of my expenses, which is all I was trying to recover. Lost sales of over $38,000, expenses paid in the amount of more than $28,000, without any sales for thirty days and less than 50% of normal sales for another forty-seven days. My attempt to recover only my expenses ($28,000) has resulted in $10,000 in insurance proceeds.
I would have been better served insured by the mob and shot than to have to attempt to recover in the current business environment. To add insult to injury, with my insurance policy period renewing in January 2011 the company increased my monthly premium from $160 to $206. By the way, my insurer (?) is covering the cost of repair and my expenses because the driver's insurance was not sufficient to cover all the costs - physical structure and furnishings are in excess of $60,000 - and an employee was injured perhaps permanently disabled whose medical and monthly payments are in excess of $50,000 thus far. So while the contractor's get full restitution for their labor and materials, and the employee is rightfully being compensated for their continued pain and suffering, I, the owner may be bankrupted, not by the driver's act, but by my insurer who has collected for ten years premiums to protect my income and expenses has paid zero for loss sales and 35 cents on the dollar for expenses incurred. So much for the "current" method of insurance companies finding a way to avoid paying the business owner for his financial losses. The California court is correct that a business no matter about profit and loss is deserving to recover expenses. A Michigan court ruled in 1987 the same way but the insurance companies have ignored that decision and have hidden behind those tried and true decisions made by courts that have no idea of how a business operates and the losses incurred when no business can be conducted. The business owner has no sales and only expenses and the California decision addresses these facts.