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1

Gross Profit

Reference is made to the following illustrative profit and loss account in some of the sections.

XYZ Ltd, accounts for the year ended 31 December 2010

	£m	£m
Turnover		125
Opening stock	20
Raw materials	45
Subcontracting	10
Direct labour	23
Closing stock	(18)
Cost of sales		(80)
Gross profit		45
Administrative costs		15
Distribution expenses		10
Interest		5
Profit before tax		15

1.1 Gross Profit – Definition

1.1.1Current position

Many business interruption (BI) policies are written on a Gross Profit basis, whether these are declaration-linked or not. The policy usually allows the insured to select the costs (variously described as Specified Working Expenses, Variable Costs, or Uninsured Working Expenses) to be deducted from turnover (or Revenue, Takings, or Sales) in defining Gross Profit. This is intended as a benefit rather than a complication, because it means that the purchaser of the insurance (who has the best understanding of their own business) can decide on what will make the cover most meaningful to them.

The majority of general combined commercial policies define Gross Profit as the difference between the sum of turnover plus closing stock and work in progress, and the sum of opening stock/work in progress plus Specified Working Expenses, Uninsured Working Expenses, Uninsured Variable Charges, or some similar term. Some explicitly use the word ‘Purchases’, which may or may not be denoted with a capital ‘P’, and similarly may or may not be defined. In many wordings the costs to be uninsured are not listed within the policy wording itself, but reference is made to the Schedule in which they should be set out.

Package policies often offer a definition rather than referring to a specific list of Uninsured or Specified Working Expenses. In some cases, definitions of Gross Profit refer to lists of costs set out in the Schedule, but the Schedule does not always include such a list.

1.1.2What is the problem?

Gross profit is a term in everyday use in the business community, and is one that has no particular definition. It is not defined in statute. It is not defined in any accounting standard. In stark contrast, insurance policies explicitly include a definition, which typically may be stated as turnover less purchases (adjusted for stock) less bad debts and carriage out.

Confusion over an everyday commercial term arises.

With reference to the example profit and loss account above, the gross profit for accountancy purposes amounts to £45 million. However, based on an insurance definition only deducting purchases of raw materials, and allowing for the movement between opening and closing stock, the insurance gross profit would be £78 million:

	£m	£m
Turnover		125
Opening stock	20
Raw materials	45
Closing stock	(18)
Cost of sales		(47)
Gross profit		78

In some cases, the policy refers to the Schedule to ascertain the list of uninsured costs. However, some Schedules do not contain any list, which effectively means that Gross Profit, for policy purposes, is not accurately defined pre-incident.

In other cases, insurers pre define Gross Profit, resulting in the policies not being tailored to the needs of policyholders, and lacking the flexibility otherwise available (albeit this may be an unavoidable necessity for an small and medium enterprises (SME) ‘package’ product).

Where the term ‘purchases’ is used, the BI texts, including Riley on Business Interruption Insurance¹ and Honour and Hickmott’s Principles and Practice of Interruption Insurance,² both take the view that ‘Purchases’ represent physical raw material purchases. Costs closely associated with Purchases, such as subcontracting expenses, are not always explicitly dealt with. Even where policies do contain a tight definition of purchases, it may be that that term does not appear in the books of account of the insuring business. There can therefore be a disjoint between terminology used in the policy and terminology used in the books of account. Even where the policy acquiesces to use terms in the books of account (accounts designation clause), it is not usually stated whether such books of account represent management accounts, statutory accounts, or some other underlying books maintained by the business.

As with gross profit, the term ‘purchases’ is in everyday use, and is not necessarily restricted to raw materials. For example, the term ‘purchases’ appears as a box on a standard VAT return, and, in that context, includes all types of purchase and expense, including utilities and even replacement of capital plant.

It is commonly the case that, when buying BI cover, the policyholder tends to envisage an incident of major proportions such that, say, their entire premises are destroyed. In such cases, many overheads may well cease, or abate, and thus there would have been no need for these to have been insured. This approach is flawed in that it fails to recognise those circumstances where partial damage can, for example, leave a production line operational but far less efficient. This is just one illustration of how costs that are apparently variable prove, under certain circumstances, to be fixed.

1.1.3What are the consequences?

Differences in terminology or lack of clarity between the policy and the business community cause confusion.

Many businesses, particularly manufacturing businesses, also deduct items such as wages and power in defining gross profit in the statutory accounts, and there is frequently a failure to appreciate that the definition of the term gross profit used in either the annual statutory or the monthly management accounts is likely to differ from the more specific definition of Gross Profit in an insurance policy.

Businesses purchasing insurance can fail to appreciate the significance of this point even after their insurer or broker brings it to their attention, such that any misunderstanding crystallises in a potential shortfall in coverage when an incident occurs.

If items such as wages and power are deducted in addition to purchases (adjusted for stock), the resultant gross profit that is insured will be lower than that defined in the policy. In the event of a claim, the insured may receive less than the full loss due to the application of underinsurance, policy limits, or potential voiding of the policy where a significant under-declaration of Estimated Gross Profit has been made. While the policyholder may suffer a one-off and very unwelcome and untimely shortfall, insurers would have been receiving less premium income, over the lifetime of being on cover, than if the correct level of cover had been chosen. In other words, both parties potentially suffer.

In the example above, the Estimated Gross Profit of £45 million would be 42% inadequate compared to the insurable amount of £78 million.

The claims presentation community, in discussion with clients post-incident, frequently highlights for the first time that the policy defines Gross Profit in a manner other than that used within the accounts. This can give rise to a major expectation difficulty, frequently leading to significant shortfalls in indemnity.

The difference in terminology was highlighted in the case of Arbory Group Ltd v West Craven Insurance Services.³ In that instance, a calculation of gross profit using an accountancy/business definition as opposed to that in the policy gave rise to a significant shortfall in the settlement and a subsequent claim for negligence against the broker.

Where the definition is not sufficiently clear, the level of under-recovery can be significant. On one occasion, financial information supplied after a fire was fundamentally irreconcilable to the level of declarations made in recent years. The business interruption loss was in the region of £5 million. The declarations were completed annually, showing turnover, purchases and opening and closing stock. It transpired that the finance director regularly summarised, over three pages of A4 paper, a significant list of costs (that represented things the business purchased) but entered only the total of that list against the term ‘purchases’ to reduce the amount of paper involved in the process. The existence of the list was unknown to the broker or insurer. The fact that purchases might be construed as relating to raw materials only did not occur to the finance director. If the definition used by the insured for declaration purposes had been adopted, under-recovery of 25% of the actual loss would have been achieved.

1.1.4Potential solutions

Given that the core difficulty here is an (erroneous) assumption on the part of the policyholder that Gross Profit in an insurance policy is likely to mean the same thing as it does in their accounts (which in some cases it will), it may be advantageous to introduce a new term that will require the business person to explore the relevant definition and necessary calculation when selecting the level of cover required.

The term ‘Gross Profit’ could be replaced with ‘Insurance Profit’, ‘Insurance Gross Profit’, ‘Insurable Profit’ or any similar term. By way of example, one leading insurer has already decided to adopt the term ‘Insured Profit’ in future policy wordings.

It has been suggested that the term ‘Gross Margin’ might replace ‘Gross Profit’, but it is unlikely that this would help, because gross margin is another technical accounting term in common usage; and, therefore, it is thought that it could prove equally confusing.

With regard to the specific use of the term ‘purchases’, this could be more specifically defined as ‘purchases of stock, raw materials and components (and/or consumables)’. Some policies already do this, and this brings clarity, albeit there is still the potential risk of the term ‘purchases’, including other things in the accounts. Subcontracted manufacturing processes are the most likely area of difficulty given that the owner of a business may view those costs as purchases in the same way as raw materials. The definition of ‘purchases’ could be extended to include subcontract manufacturing processes.

Given the significant number of businesses that do not use the term ‘purchases’ in their accounts at all, there may be merit in having a slightly wider and more flexible wording to include ‘purchases of stock, raw materials and components (and/or consumables) and other third party subcontracting costs’.

1.2 Gross Profit – Uninsured Standing Charges Clause

1.2.1Current position

Many policies include an uninsured standing charges clause. This will state that if an insured business fails to insure fixed costs, and thereby takes on the risk of part of the gross profit of the business, the policy will only pay a proportion of increased costs incurred to mitigate loss.

Some policies omit (deliberately or otherwise) the uninsured standing charges clause.

1.2.2What is the problem?

The term ‘standing charges’ is not one in everyday commercial use, and the application of the uninsured standing charges clause may not be clear at first reading. To make matters worse, there is seldom, if ever, a definition of the term ‘standing charges’. This also begs the question as to whether there is any relationship between ‘standing charges’ and ‘working expenses’ used in the definition of Gross Profit.

1.2.3What are the consequences?

Difficulties with the term ‘standing charges’ are likely to arise as a consequence of the difficulty in establishing what is variable and what is not. Over the course of a microsecond all costs are fixed (you couldn’t stop spending any money that quickly even if you wanted to); over the course of 100 years, all costs are variable.

It seems almost inevitable that applying the uninsured standing charges clause will prove problematic. The process of debating which costs have been shown to be fixed (although these were assumed to be variable when the sum insured was declared) will inevitably take time. Any lack of clarity over the meaning of ‘standing charges’ will be seized upon when a policyholder, having incurred additional expenditure in good faith to mitigate a loss, finds it will only be partially covered.

1.2.4Potential solutions

The term ‘standing charges’ should be abandoned, because it is not a term in general use and thus has no generally accepted meaning. The issue that the current clause seeks to address is that of working expenses that have specifically been uninsured but which are not truly variable costs.

A previously-circulated proposal suggested referring to ‘the proportion that the insured working expenses bear to all of the working expenses that have not reduced in direct proportion to turnover’.

1.3 Material Damage/Business Interruption Overlap

1.3.1Current position

Business interruption policies typically define Gross Profit as turnover less raw material purchases adjusted for stock movement (with minor variations relating to carriage, bad debts and other costs likely to vary in direct proportion to turnover). As a consequence, all overheads and wage costs are insured as part of the Gross Profit.

This gives rise to two issues.

First, there is the issue of stock. Manufacturers especially, but not exclusively, add overheads and wages to the basic raw material costs in valuing their stock. This is to comply with the terms of the Statement of Standard Accounting Practice 9 (SSAP9), issued by the Institute of Chartered Accountants, in which it is acknowledged that an increasing proportion of fixed overheads should properly be regarded as part of the value of stock while it is in the course of manufacture.

If the stock is destroyed and this also gives rise to a reduction in turnover, there is the potential for the insured to be indemnified twice, in respect of both the overheads and wages, because these are insured under both covers.

This may occur where the stock (inventory) policy provides cover for the cost of raw materials, together with labour and overhead expenditure incurred to create either ‘finished’ or partly finished product (i.e., work in progress) and the related BI policy provides cover for the turnover value of the damaged product, reduced only by the cost of the raw materials.

It may also arise where the stock (inventory) policy provides for finished goods at their sales value and the related BI policy allows only deduction of the raw material costs when calculating the Rate of Gross Profit.

In the profit and loss example above, adopting the insurance definition of Gross Profit would result in the subcontracting and direct labour costs (along with all other overheads and net profit) being insured as part of the business interruption cover. These are the type of costs that would be included in any stock valuation for manufacturers in particular. Were that to be the case, there may need to be a deduction of these amounts at the point of settlement to avoid an over indemnity.

The mere fact that there is both a BI and stock claim running in parallel does not of itself mean that there is definitely an overlap to be dealt with. If damaged stock is not re-manufactured until after the end of the Maximum Indemnity Period, the overheads incurred as part of the stock re-creation process will be those of the subsequent period and no overlap will present itself.

The fact that a stock loss has occurred does not inevitably mean that there will be a BI loss arising for it to overlap with.

Second, the insured’s overheads and wages might be paid as part of the cost of the repair and reinstatement process under the material damage cover, while also being an element of the BI claim in the event of a loss of turnover. For example, the insured’s staff might be paid to carry out cleaning work post incident. If the insured presents a valid claim for their own labour/ overhead costs incurred as part of the material damage recovery costs and simultaneously presents a claim for the same labour and overhead costs under the related BI policy (by virtue of the definition of specified working expenses applicable within the BI policy), there is a risk of the policyholder receiving more than a full indemnity.

1.3.2What is the problem?

Whenever these scenarios arise, policyholders may potentially benefit because elements of their costs are covered by both policies, or by both sections of a combined policy.

Policyholders often argue that they have paid appropriate premiums for both elements of cover and, therefore, they should be entitled to receive the benefit of any duplication in the cover.

There is no clear means under either policy by which any duplicated amounts may be deducted from the settlement, thereby restricting the overall ‘global’ figure to a strict indemnity.

1.3.3What are the consequences?

Policyholders may be seen to be claiming a double indemnity for costs incurred, contrary to the principle of indemnity.

If the insured mitigates its losses by using its own labour (often at considerable saving to insurers), it might recover the costs incurred from its material damage insurers. If the labour costs paid are then deducted from the BI claim in order to avoid this so called ‘double indemnity’, the policyholder may feel that it is penalised unjustifiably.

There is no facility for making any adjustments (to reflect the duplicated amounts) within either the material damage or the BI policy. Such adjustments are generally applied to the BI settlement, but these do not fall within any of the clearly-defined elements of the standard UK BI policy wording. Consequently, they are often treated incorrectly as ‘savings’ even though they do not fall within the definition of costs/expenses saved in consequence of the incident, giving rise to the claim.

Notwithstanding this, where one or other element of the cover (MD/BI) is underinsured and average conditions are incorporated, policyholders may be entitled to ‘cherry pick’ the sections of the policy against which the costs that are covered under both sections are allocated.

1.3.4Potential solutions

There are several possible solutions to this issue.

If it is the intention to avoid any double indemnity, a provision could be made in either the material damage or BI policy to make an appropriate deduction. Current practice would seem to be that any adjustment be made under the BI policy, but this could act to the detriment of the insured if the material damage settlement had already been limited by the application of average.

It is possible to amend the wording of the BI policy to enable such costs that have already been paid (after application of average) within the material damage policy or section to be taken into account in the BI settlement. This could be achieved by, for example, including the following clause:

Due account will be taken of any payment already made in respect of insured costs under a related Property Damage policy or section of this policy.

Alternatively, it may be insurers’ intention to pay both the BI and material damage claims on the basis that the insured has paid the full premium for both covers.

The US approach is to exclude BI losses relating to finished stock, which reduces the significance of the overlap in relation to stock but does not address the circumstance where the insured’s own labour undertakes material damage repairs to buildings, plant, etc.

1.4 Material Damage Proviso

1.4.1Current position

The material damage proviso is fused with the operative clause in some policies, and set out separately in others. Regardless, it is invariably not identified in policy wordings as ‘the material damage proviso’ (MDP) – this term is used within the industry to refer to a form of words seen in most policies.

A typical material damage proviso might read:

[The Operative clause will trigger] provided that at the time of the happening of the damage there shall be in force an insurance covering the interest of the insured in the property at the premises against such damage and that payment shall have been made or liability admitted therefore under such insurance.

The main purpose of the material damage proviso stated in Riley⁴ has been to ensure that sufficient funds are available to facilitate reinstatement, which in turn will mitigate the BI loss. A subsidiary objective is to obviate the need for the business interruption adjuster to duplicate the work of the material damage adjuster in investigating cause and considering the application of any clauses precedent to liability.

1.4.2What is the problem?

It seems to be widely accepted that when it comes to the availability of sufficient funds to effect reinstatement, the material damage proviso fails. There is no requirement for the property insurance to be adequate, or for that matter that it be on a reinstatement basis. The proviso is either satisfied or it is not; an all-or-nothing position is established, irrespective of the underlying commercial sufficiency of the cover.

The need to anticipate separate material damage and business interruption investigations into causation is anachronistic, particularly in respect of commercial combined policies.

The material damage proviso was conceived when the various covers were purchased as separate policies. Not only have commercial combined covers become the norm, but also the breadth and availability of BI extensions have increased. The extent to which the traditional material damage proviso wording can be applied to these extensions varies between wordings.

This issue was tested in the courts in the case of Glengate-KG Properties Ltd v Norwich Union Fire Insurance Society Ltd and Others.⁵ Glengate bought an old department store building on Oxford Street to redevelop. It took out two policies with Norwich Union, one for material damage and one for business interruption. It had a temporary site office in the building, which was used by the construction professionals, including the architects. There was a fire that destroyed the site office, and, with it, a large number of drawings on which the the architects were working. Importantly, the drawings were very clearly the architects’ property. They retained the copyright and ownership and the drawings were in their possession. Once completed, Glengate was to have a license to use the drawings.

The architects had not insured the drawings. There was an extension in the material damage policy that included temporary offices and plans, but only if these were the, ‘property of the insured or for which they are responsible’. Norwich Union argued that the material damage proviso in the business interruption policy was not satisfied because there was no cover in force for the drawings. The two majority judgments rejected this argument. These drew a distinction between the type of interest covered by the business interruption policy and the insurable interest necessary to insure property under a material damage policy. It was held that the former was broader and focused on the fact that the business interruption cover clause only required the property to be used by the insured for the purposes of the business at the premises. It did not spell out a need to have a proprietary interest (e.g., ownership). In contrast, they found that the material damage cover required an insurable interest in a more narrow sense, namely a proprietary or contractual interest in the property.

By this reasoning, the Court of Appeal found that there was sufficient insurable interest to allow the claim under the business interruption section but no insurable interest for the purposes of the material damage section, meaning that there was no breach of the material damage proviso. The broader interest required by BI did not need to be insured by Glengate and the claim was paid.

1.4.3What are the consequences?

The material damage proviso is ineffective in terms of the main objective stated in Riley.⁶ In the event of significant underinsurance giving rise to delay in the reinstatement process, insurers have to employ other arguments to avoid their liability being increased by virtue of a potentially extended indemnity period.

If the current wordings can produce unfairness to insurers, there can also be disproportionate difficulty for the policyholder. In Glengate, there was a suggestion that any failure to satisfy the material damage proviso might invalidate all of the BI cover, which may have produced an unfair resolution in the mind of the policyholder. If funds are made available, so that any failure to adequately insure all elements of the business at risk has no impact on the reinstatement period or BI loss, it may be inequitable for a technical breach of the material damage proviso to invalidate significant elements of claim.

Potential breaches of the material damage proviso may be more likely now than in the past, as recent wordings have required the material damage proviso to be applied to property (used by the policyholder) that others insure also, notably buildings insured by landlords, in addition to property owned by the policyholder.

Duplication of cause investigation work etc. is not relevant for combined policies, where the adjuster investigation relates to all sub-sections of cover; in cases of BI loss only (extensions), there is an underlying policy requirement to prove any loss subject to the terms and conditions of the policy, irrespective of the material damage proviso.

Historically, before policies became combined, the material damage proviso could be satisfied by any one of several separate covers, potentially underwritten by different insurers being triggered, for example: stock, engineering, computers, contents, buildings. Some recent wordings relate the proviso to a specific section of the combined policy only thereby producing a restriction in the way that the material damage proviso can be satisfied and reducing the breadth of the BI cover.

1.4.4Potential solutions

United States’ policy forms relate the indemnity period to a notional reinstatement period, which excludes additional/exacerbation of loss due to a lack of funds (irrespective of whether that arises due to inadequate insurance or any other cause). This could be adopted within UK-style policies.

The above suggestion is considered equitable if reinstatement is within the insured’s control. However, there is a difficulty when the reinstatement is under the control of a third party. For example, a third party may fail to carry out the reinstatement expeditiously, as a result of which the policyholder suffers extended business interruption losses. This could be addressed by including an explicit statement within the policy wordings concerning whether the exacerbation of loss caused by third parties is covered or not.

It seems appropriate to observe that adequate insurance does not guarantee timely reinstatement, and inadequate insurance does not lead directly to delay, if alternative funds are drawn upon to drive mitigation.

With regard to the issue of the duplication of investigation, the BI insurers could specify that they will rely on the investigations carried out by the material damage insurer to determine liability under the material damage claim. The findings of these investigations could then be accepted as prima facie evidence in relation to causation. The BI insurers would thus have the option to follow the material damage insurers’ decision to accept or deny liability, provided there were no other grounds on which liability might be disputed, such as a breach of a condition of the BI policy.

If the material damage proviso were altered, there would be a need to alter the wordings for BI extensions. Those extending the definition of Perils at the Premises (such as notifiable diseases, murder, etc.) present no particular difficulty, but those that extend the definition of Premises (such as customers, suppliers, utilities, etc.) require fundamental refreshment.

1.5 Rent

1.5.1Overview

There is sometimes confusion as to the scope of cover for Rent that is required. Where there is cover on a schedule, it can be unclear whether this is intended to relate to Rent Receivable or Rent Payable. For the purposes of the discussion that follows it is considered helpful to provide clarity as to the meaning of the following terms.

1.5.1.1Rent

The money paid by a lessee to the landlord for the benefit of occupying a building or part of it. The rent is usually expressed as an annual figure but is paid quarterly.

1.5.1.2Rent review

An agreement in the lease whereby the rent payable is reviewed at specified intervals. Many leases are written on the basis that the rent can never go down regardless of market conditions and many on the basis that the rent can only go up. Sometimes the increase is capped so that it cannot exceed a certain percentage. Rent reviews usually take place at five-year intervals although more frequent reviews could be agreed if it suits both parties.

1.5.1.3Service charges

This is the amount payable by a tenant for services provided by the landlord, for example, cleaning or security.

1.5.1.4Rent cessation clauses

This is the clause in a lease that enables the lessee to cease paying rent, or an equitable part of it, should the premises be damaged by defined risks to the point where the lessees’ business is affected. The risks will be defined elsewhere in the lease but usually correspond to defined risks under an all risks policy. There is a maximum period, specified in the lease (usually three years), during which the rent ceases to be payable.

1.5.2Rent Receivable

1.5.2.1Current position

Businesses for which rent is the main revenue for their business, that is, property owners, will usually have specific Gross Rental policies.

However, many businesses earn rent as an incidental part of their business; from owned buildings no longer needed by the business, from subletting of larger leased premises or as part of an investment portfolio. It is, therefore, desirable for Rent Receivable to be insured under a Gross Profit or Gross Revenue policy, as part of the income of the business.

Alternatively, Rent Receivable is sometimes insured under the material damage cover rather than BI cover, particularly in the case of landlords. It should be noted that this form of cover is not as extensive as that provided under a BI wording, because the Indemnity Period automatically ceases when the repairs are complete. If rent is insured under the material damage section, the cover ceases at reinstatement. However, if rent is covered within a gross profit item often the Indemnity Period is not aligned to the rent cessation clause; the cover will continue until the Premises are reoccupied by a tenant as opposed to being reoccupiable.

Leases commonly contain cessation clauses. In some cases, the lease will also specify a minimum period, of up to three years, after the cessation commences in respect of which landlords should insure the rental income under the lease.

Leases are subject to review at fixed intervals, at which times the rent may increase by significant amounts. In the event of a loss, unlike most Gross Profit claims, a reduction in Rent Receivable is not ameliorated by significant commensurate savings.

1.5.2.2What is the problem?

Although not an integral part of their business, many companies will receive rent payments. It is vital to include all of the constituent parts of an insured’s business that might be affected by an interruption in the policy business description. If the particular activity is not identified within the definition, the policy cannot respond to the losses incurred by that part of the business.

Consider, for example, the case of an office block owned and partially occupied by the insured for its business, with a portion sublet to a third party tenant. In the event of an interruption, unless ‘property owning’ has been \defined as part of the business description, the policy would not respond to any loss of rent receivable from the tenant.

Even if the policy has been extended to cover rental income, the overall rate of gross profit is likely to be substantially less than that attaching to the rental income, which may well be 100%.

In the absence of a rent cessation clause, this is not an issue from the landlord’s perspective. However, if the lease does contain a rent cessation clause (common in modern leases), the potential for an uninsured loss of rent may exist. The reduction in Rent would only be payable if the business activity specified in the schedule has been expanded appropriately. This applies equally to freeholders and tenants who sublet.

If the landlord insures Rent Receivable, this may raise the question as to the need for the tenant to effect insurance for Rent Payable, ostensibly insuring the same income stream twice.

There is frequently a mismatch between the basis of the insurance of Rent Receivable and the underlying lease.

The term ‘Rent’ as defined above may be insufficiently wide to address losses presenting themselves. Related income streams such as service charges, advance rent and ancillary charges may all be at risk and should potentially be brought within the ambit of the cover.

Where there is a minimum period stipulated by the lease, this may well exceed the Maximum Indemnity Period provided under the businesses’ BI policy. It would be costly to increase an indemnity period solely to cater for Rent Receivable when it is incidental to the main business.

Rent losses are more likely than Gross Profit losses to exceed the limit of 133.33%. This is because significant step increases in Rent Receivable may accrue within the Maximum Indemnity Period, compounded with the absence of \significant savings to deduct from the income loss.

1.5.2.3What are the consequences?

If the description of the business has not been appropriately expanded to include the receipt of rent and related income streams, a reduction thereof after an incident will not be payable.

Rent may be insured more than once; if the lease contains a rent cessation clause it is usual for the landlord to arrange loss of rent cover (and re-charge the premium to the tenant as part of the rent). If the tenant is funding the landlord’s rent premium by way of a re-charge, and is additionally insuring it as a constituent element of his Gross Profit, they are in effect paying twice for the same thing.

Where there is a mismatch between the insurance cover and the underlying lease, an under-recovery might arise.

In one case, a large retail chain discovered that it was insuring Rent three times. The landlord was insuring Rent (with a rent cessation clause in the leases) and charging the retailer its cost; Rent was not deducted from the Gross Profit calculation and so was included within the sum insured for the full three-year indemnity period; and, further, there was a separate Rent Payable sum insured on the business interruption policy. It was discovered that approximately £20,000 was being spent on unnecessary rent cover each year.

1.5.2.4Potential solutions

Rent Receivable may be insured if the description of the business is appropriately framed.

For the avoidance of doubt, a departmental clause should be incorporated to provide a true indemnity if different parts of the business likely to be affected by a loss earn differential rates of profit or revenue.