PF&M at a Glance

A loss of time

One night, a fire broke out and destroyed half of the premises of Hackmenot Printers, Ltd. The print shop had operated on the same corner in Playnetowne for nearly 25 years. It had a large base of customers, many of whom had done business with the shop for more than a decade. Jana and Fred Hackmenot were quite proud of the fact that they had seen steady business growth over the years, even while dealing with several well-known, national competitors.

Jana and Fred learned from their commercial property insurer that their policy limit was adequate and that there would be no problem handling the loss. The general contractor they hired to make repairs said that the job should be finished in roughly three months.

So—the Hackmenots’ building and damaged machinery will be taken care of and everything’s fine, yes?

Well no. In this situation, the Hackmenots have handled their direct loss. But there’s still a major issue. Their printing business operations have been interrupted and can’t resume for nearly three months. They have an indirect source of loss created by the fire damage. If they have received good advice from their insurance agent, they should have sufficient time element coverage to handle things.

What is time element coverage? It is protection against the natural and foreseeable consequences faced by any business that experiences direct damage. When a loss occurs, the business operation’s ability to make products, sell products, or perform services for its customers is interrupted. That is one reason that time element coverage is also sometimes referred to as business interruption or business income insurance.

Regardless what it is called, time element coverage can be critical to the survival of a business in the aftermath of a serious loss to its building(s), equipment and/or business property. Direct (tangible) losses are usually easier to deal with as far as a business is concerned. Typically, it is easy to determine the value of the applicable property that is exposed to loss, then buy coverage for that property in amounts that will handle its repair or replacement.

Indirect losses are an entirely different matter. A business has to determine a number of issues including the following:

• How is its income affected by an interruption?

• What expenses continue during an interruption? (Payroll is a particularly important consideration.)

• Are beneficial lease arrangements affected?

• What length of an interruption is acceptable?

• Should alternate facilities be found?

• Are alternate facilities affordable?

• How might competitors take advantage of the situation?

In addition, a company may need to evaluate how it is affected by the possible timing of a loss, particularly if it is a business with a peculiar business cycle or one that is seasonal (such as a college or a Christmas tree farm).

Another matter to consider is the company’s vulnerability if it has a limited number of buyers and/or suppliers. A loss suffered to a critical partner can be just as disastrous to a company as its own direct loss. Time element coverage can protect against some such circumstances.

A crucial matter with time element coverage is that business income is defined by the coverage form and consists of net income before taxes (which may either be net income or net loss). For manufacturers, it is the net sales value of production. Essentially, this refers to the value of goods produced, accounting for the difference in a business’s beginning and ending inventory.

Besides considering actual business income, most operations must consider whether or not they should purchase the protection with or without extra expense coverage. Extra expense is another form of indirect loss. Specifically, this refers to additional costs suffered by an operation that is pursuing resumption of its operations after experiencing a direct (tangible) loss. Eligible extra expenses are those that either accelerate the time needed to end the interruption or help to otherwise minimize the business income loss (such as relocation expenses).

A detailed worksheet is available to assist clients that are considering business income coverage. The worksheet includes calculations of net income and other categories that should be used to determine the amount of needed coverage.

Please note that this is only an overview of this coverage. A thorough discussion of the program may be found in the PF&M Analysis from The Rough Notes Company. Producer Online subscribers, please refer to PF&M Section 131.4-2, Time Element Coverage Forms Analysis for more details on this topic.