Common Issues In Business Interruption & Other Time Element Claims Presented By Moderators: Michael Silvestro and Bill Kolb, Skarzynski Black, LLC Expert Panel Members: Reinhard Krestel, CPA, MDD Forensic Accountants Paula Essick, Magnan Graizzaro & Associates CPAs, LLC Paul VanDerHeyden, L.J. Shaw & Company Western Loss Association Fall Conference Lake Lawn Resort, Delavan, Wisconsin September 22, 2016 1
Course Objectives Provide a general understanding of business interruption coverage Discuss common pitfalls in the measurement of a business interruption or other time element loss Understand common policy language and coverage concepts Review claims handling and adjustment concepts for business interruption claims Recognize the difference between fixed expenses and variable expenses FOR EDUCATIONAL PURPOSES ONLY, NOT TO BE DISTRIBUTED OR USED FOR ANY OTHER PURPOSE WITHOUT PERMISSION Accurately measure the business interruption loss for a restaurant under various factual scenarios
Floorplan Tenant Z - “Nonna’s W Kitchen” i (Storefront) n e “Nonna’s Pasta and Gravy” (Manufacturing Facility) “Mangia” (Restaurant)
You Get a Call From Nonna… . . . and Nonna requests an advance for business interruption and extra expense. What do you do? What do you look for?
Generally, What Do You Do? 1) Review coverage and policy forms 2) Acknowledge the notice of loss (with a reservation of rights and/or non-waiver agreement?) 3) Gather loss information and claim documentation
Basic Coverage Analysis Physical Damage Is there the required “physical loss or damage?” To Described Property What is the proximate cause? Involvement of By A Peril Insured Against covered and excluded perils? Which Causes A Necessary Interruption Of Operations Has there been a sufficient “suspension” What caused the “suspension” or or “interruption” of operations? “interruption”? What is the indemnity The Policy Covers: The Defined Loss period/period of restoration? Due diligence and dispatch? For The Defined Indemnity Period
The Physical Damage Requirement Generally, business interruption coverage requires a finding of “direct physical loss or damage,” which typically is understood to mean “ a distinct, demonstrable, and physical alteration ” of property . Port Auth. of N.Y. & N.J. v. Affiliated FM Ins. Co. , 311 F.3d 226, 235 (3d Cir. 2002) (applying NY and NJ law). A number of courts follow this general rule: ∗ Clover v. Allstate Ins. Co. , 2008 U.S. Dist. LEXIS 23823 (E.D. La. Mar. 26, 2008) (physical damage required, but there was fact question as to whether the insured closed her store due to personal reasons or damage from Hurricane Katrina) ∗ Pentair, Inc. v. American Guaranty and Liability Ins. Co. , 400 F.3d 613 (8th Cir. 2005) aff’g 2003 U.S. Dist. LEXIS 13521 (D. Minn. July 31, 2003) (inability of suppliers to function due to power loss does not satisfy physical loss or damage requirement for contingent business interruption) ∗ Port Auth. of N.Y. & N.J. v. Affiliated FM Ins. Co. , 311 F.3d 226, 235 (3d Cir. 2002) (applying NY and NJ law) (“In ordinary parlance and widely accepted definition, physical damage to property means a ‘distinct, demonstrable, and physical alteration’ of its structure”) ∗ Royal Indem. Co. v. Retail Brand Alliance, Inc. , 822 N.Y.S.2d 268, 269, 33 A.D.3d 392, 392-93 (1st Dep’t 2006) (the suspension of operations “‘must be caused by direct physical loss of or damage to property’”) ∗ Arcy Plastic Laminates v. Travelers Indem. Co. , 787 N.Y.S.2d 675, (N.Y. Sup. Ct. 2004) (no business interruption coverage where the insured failed to show that any reduction in its business was caused by property damage) ∗ Harry’s Cadillac-Pontiac-GMC Truck Co., Inc. v. Motors Ins. Corp. , 126 N.C. App. 698, 486 S.E.2d 249 (N.C. 1997) (lack of access to car dealership due to snowstorm does not equal physical loss or damage) ∗ Ramada Inn Ramogreen, Inc. v. Travelers Indem. Co., 835 F.2d 812 (11 th Cir. 1988) (applying Fla. Law) (upholding denial of BI coverage where physical damage did not occur to covered premises, but only to non-covered premises)
Loss of Function as Property Damage? However, some courts have interpreted “physical loss or damage” more favorably to insureds by holding or suggesting that a loss of function constitutes property damage: ∗ Wakefern Food Corp. v. Liberty Mut. Fire Ins. Co. , 406 N.J. Super. 524, 968 A.2d 724 (N.J. Ct. App. 2009), cert. denied , 200 N.J. 209, 976 A.2d 385 (2009) (“physical damage” is ambiguous and could include food spoilage from a blackout) ∗ Pepsico, Inc. v. Winterthur Int’l Am. Ins. Co. , 806 N.Y.S.2d 709 (2d Dep’t 2005) (holding that where faulty raw ingredients caused soft drinks to lose function and value by making them unmerchantable, the soft drinks were physically damaged) ∗ Gen. Mills, Inc. v. Gold Medal Ins. Co. , 622 N.W.2d 147 (Minn. Ct. App. 2001) (holding that food grain stocks treated with an unapproved chemical were physically damaged, even if safe for human consumption) ∗ Dundee Mut. Ins. Co. v. Marifjeren , 587 N.W.2d 191 (N.D. 1998) (holding that loss of function of a potato storage facility due to an electrical outage constituted physical damage) ∗ Western Fire Ins. Co. v. First Presbyterian Church , 437 P.2d 52 (Colo. 1968) (finding physical loss or damage where church was closed by fire department due to presence of gasoline vapors) ∗ Hughes v. Potomac Ins. Co. , 18 Cal. Rptr. 650 (Cal. Ct. App. 1962) (where house on a hillside became precariously perched on a cliff after a landslide, the court held it was physically damaged because it was unsafe to occupy the house) ∗ Widdows v. State Farm Ins. C o., 920 So. 2d 149 (5th Dist. Fla. 2006) (holding that pipe abnormality, being “backpitched” from an unknown cause, constituted physical loss or damage)
Is This Physical Loss Or Damage? ∗ Dents from hail impacts ∗ Cosmetic damage only – no change in performance ∗ Insured claims they had to replace, resulting in a few days of suspended operations
In Principle, How Is A Business Interruption Loss Measured (The Big Picture)? Basic concept: Make the insured whole. No more. No less. Concept can be modified by policy wording This raises two basic questions: 1) How much revenue would the insured have generated had there been no loss? 2) How much would it have cost the insured to generate the revenue? Calculation: Top down: Lost sales/gross earnings less non-continuing expenses Bottom up: Net profit plus continuing expenses
Floorplan Tenant Z - “Nonna’s W Kitchen” i (Storefront) n e “Nonna’s Pasta and Gravy” (Manufacturing Facility) “Mangia” (Restaurant)
Initial Steps For Adjusters To Calculate A Business Interruption Loss Understand The Loss Understand The Business What, when & how? What do they do? Business contingency/mitigation plan? How long have they been in business? Proximity of other locations Number of locations? Alternative production sites Number of employees? Property damage loss amount Understand payroll: salary, hourly, etc. Identify any duplications, such as cleanup Production schedule? payroll & additional expense Manufacturing process ? What other experts are needed?
Floorplan Tenant Z - “Nonna’s W Kitchen” i (Storefront) n e “Nonna’s Pasta and Gravy” (Manufacturing Facility) “Mangia” (Restaurant)
Key Accounting Records & Applications Property Business Extra Financial Stock Damage Int. Expense Cond. Budgets, plans and forecasts X X - Annual/multi-year Copies of all leases & contracts - Building & warehouse X X X - Equipment - Other X X Depreciation schedules Federal and state income tax X X returns
Key Accounting Records & Applications Property Business Extra Financial Stock Damage Int. Expense Cond. X X Flow charts and diagrams Maintenance records / X planned turnarounds X Production records Monthly financial statements (balance sheet and income X X X X X statement)
Key Accounting Records & Applications Property Business Extra Financial Stock Damage Int. Expense Cond. X Operating schedules X Physical inventories / X perpetual inventories X X State sales tax returns (monthly)
The Basics Sources Of Expenses/Cash Disbursements ∗ Vendor invoices and bills/receipts ∗ Bank statement and withdrawals ∗ Checkbook/One-Write system ∗ Cash disbursements journal ∗ Detailed general ledger
The Basics Sources Of Financial Information ∗ Tax returns ∗ Federal, state, payroll, and sales & use ∗ Monthly Financial Statements ∗ Income Statement - Reflects Profit & Loss Over Time ∗ Balance Sheet - Assets & Liabilities at a Point in Time ∗ Monthly Bank Statements ∗ Specific Analytical Reports (Sales, Orders, Production, Inventory, Rent Rolls, etc.) ∗ Sales Invoices/Purchase Invoices ∗ Payroll Register ∗ Fixed Asset Register ∗ Copies of Lease Agreement(s)
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