Surviving Business Interruption: Understanding Losses and Paying Your Staff

Time fades memory, so capturing the evidence and backing up production and financial records, inventory counts, lost inventory and information on contracts or jobs you were unable to complete is crucial. From there, you can review your insurance policy to see if the issue is covered under your business interruption policy. Your advisor can review your information and policy to see where the incident falls within one of the listed insurable events and work with the insurance broker and insurance company to make a determination.

But how is that determination made and – you are probably already wondering about this next question – what does this mean for paying your employees?

How Are Losses Calculated?

Insured losses are calculated in accordance with the wording of the insurance policy. Determining which approach to take depends on the type of insurance policy.

The two most common types of insurance policies are gross earning or gross profit. They both try to determine the losses suffered as a result of an incident, however, as they each have different wording, each one is calculated differently.

A gross earnings policy calculation involves subtracting the expenses that stop as a result of an incident from the lost turnover (i.e. revenue). This is typically referred to as a top-down method. While this calculation is simpler and more easily understood, it ignores historical net losses experienced.

A gross profits policy calculation involves adding the expenses that continue to the net income. This is typically referred to as a bottom-up method. While this calculation can be quite complex, it allows one to consider historical net losses experienced. It should be noted gross profit, as defined by an insurance policy, is not necessarily the same as how an accountant defines gross profit. So, care must be taken when calculating gross profit.

There may also be extra expense coverage which will cover the costs such as setting up the business operations at a temporary location or renting certain equipment to keep the business operational.

There are many factors to consider when calculating the business interruption loss. You should work with a practitioner experienced in business interruption calculation to recover the most from losses incurred during a business interruption.

Can I Still Pay My Employees?

Whether or not your policy covers your wages is instrumental to your operations and depends on the type of employee they are - key or ordinary. A key employee is one who would not be laid off in the event of a shutdown to your business. For example, the head chef in a restaurant or the general manager in a manufacturing business.

Key employee payroll is generally covered under most business interruption insurance policies. Therefore, you can keep your key personnel on staff and their wages will likely be covered — but you should identify who those key employees are. It is possible that an employee may be considered key in the case of a short interruption but cease to be key over a longer interruption period.

Payroll to other than key employees, commonly referred to as ordinary payroll, may be covered for a period of 30, 60 or 90 days (or some other period). To know if you are covered for your ordinary employees during the interruption period, you will need to confirm this coverage was added to your insurance policy. Again, look to the Declarations page for this information. 

The theory here is most interruptions can likely be fixed within 90 days and having this coverage means you, as the business owner, do not need to lay off your staff and then try to find staff to rehire when you are ready to reopen your business.

If ordinary payroll coverage was not selected, then the likely expectation is that the non-key employees will be laid off and new employees will be hired when the business reopens.

So far, we’ve ticked all the boxes. Your broker has been contacted, the incident has been documented and critical steps have been taken such as calculating losses and assessing and managing payroll. Looking to the future, what does the interruption mean for a new piece of equipment you were going to purchase or a long-planned expansion.