The impact of changing weather patterns in the UK has left many businesses at risk of underinsurance for weather related events. Changing weather patterns and an increase in extreme weather related events has left many businesses at higher risk of flooding, storm damage and other weather related disruption. It is therefore important for businesses to review their existing cover to ensure there is no element of underinsurance.

What is underinsurance?

Underinsurance occurs when the policyholder has insufficient cover for their needs.

Being underinsured is different to being uninsured, as an underinsured policyholder still has some level of cover, but when claims are settled the financial compensation received from insurers will be less than the amount needed to rebuild, replace stock or cover business interruption costs.

If your business is underinsured and an incident such as extreme weather occurs, you may not be covered for all losses and need to pay out of pocket to make up the shortfall.

There are many areas where your business may be underinsured including:

Property Underinsurance

Commercial buildings of all kinds are vulnerable to flooding and other weather related events in addition to fire, theft and vandalism. Underinsurance of commercial properties can have devastating consequences if there is a considerable shortfall in funds to rebuild the premises. In some cases, the high out-of-pocket rebuilding costs, in addition to long periods of business disruption, can lead to businesses having to scale back operations or even cease trading.

Despite this, research by the Royal Institute of Chartered Surveyors and the Building Cost Information Service suggests that around 80% of commercial properties have an element of underinsurance.

Many factors contribute to building underinsurance, some of the most common are:

Out-of-date valuations

Properties which have not been recently professionally valued for insurance purposes are at risk of being underinsured. Any extensions, alterations or changes of use must also be accounted for to be covered and property owners should inform their broker as soon as possible about any changes to ensure the property is covered appropriately.

Changes of use

If a business has expanded recently into new areas of trading or business activities, this may involve new equipment and stock, increased building capacity or change of use for some building areas. Whatever the reasons for change of use, it is important that the business’s broker is aware of these changes to ensure that the business is not underinsured.

Market Value vs Rebuild Costs

Business owners often make the mistake of insuring for the market value of the property, rather than the full cost of a rebuild. Market value is often not an accurate reflection of the cost to rebuild a premises, and other features such as car parks, driveways, lighting, fencing, and gates are often overlooked.

When calculating rebuild costs, estimates should include materials and labour, professional fees such as architect and planning costs, legal fees, demolition or make-safe costs, site clearance and access costs.

If the property is a listed building, it will typically take longer and cost more to rebuild, as these buildings must use specialist materials and traditional construction methods. Buildings that are furnished to an unusually high standard (including those with eco-friendly features) or that have been constructed using unconventional materials may also be more costly and time consuming to rebuild.

Contents & Stock

Underinsurance of contents and stock is another potentially costly oversight which could leave a business struggling with out-of-pocket stock and equipment replacement costs. Delays in replacing stock due to financial difficulties can also cause significant periods of business interruption, leading to more losses while the business is unable to resume normal trading.

When taking out a policy, it is important to determine the costs of replacing all stock and contents on a ‘new-for-old’ basis, even if a complete loss of stock or contents seems unlikely to happen. The total figure is required by your insurer (even if you wish to select a lower amount of cover), as insurers use this to establish the total level of risk they are insuring.

Additionally, the insurer may deem the insurance inadequate and apply the ‘Average Clause’, resulting in a lower settlement amount.

What is the Average Clause?

Insurers can apply the ‘Average Clause’ to claims made by underinsured businesses, which can result in a lower settlement amount than the policy limit. If an insurer discovers that a business has inadequate insurance, the settlement can be reduced by the same percentage as the asset is underinsured.

Claims Example with the Average Clause Applied

• Business A has stock with the total value of £100,000.
• When taking out insurance, the policyholder decides that they would be unlikely to lose more than 60% of total stock. Therefore, they take out a policy with a maximum of £60,000 cover, but does not inform the insurer of the total value of the stock.
• A fire destroys 50% of stock, resulting in £50,000 of losses.
• The insurer deems Business A to be underinsured by 40% and applies the average clause. This results in Business A receiving only £30,000 (60% of the insured damages).
• This leaves Business A with £20,000 deficit for the lost stock, which would have been covered if the policyholder had given an accurate stock valuation to the insurer.

Plant, machinery & equipment

Unexpected problems with plant or machinery can be very costly, and it is important to consider not only the direct costs of replacing machinery or equipment, but all the costs associated with delays to production, fulfilment of orders and additional labour costs.

The British Insurance Brokers’ Association (BIBA) strongly advises that all machinery (both hired and owned) is insured for the full value of replacing ‘new-for-old’. In addition, delays caused by any specialist machinery that would take a significant amount of time to replace must be accounted for.

Business Interruption

There are many scenarios that should be considered to fully understand how a business’s trading could be interrupted. From physical events such as a flooding or storm damage, to fires, supply chain disruptions and cyber-attacks, multiple factors will inevitably influence how long a business would need before it resumes normal trading following a major incident.

Selecting a much shorter period of cover for business interruption than the likely period of actual disruption is a common oversight, leaving businesses with ongoing additional costs after insurance pay-outs have ceased.

When selecting cover, it is also important to note that the definition of profit used for business interruption insurance is different to the definition of profit for accounting purposes. Gross profit for business insurance is defined as turnover less the cost of raw materials and other expenses directly variable with turnover.

A business continuity plan can help a business owner consider all worst-case scenarios and present a true picture of the time frame and resources needed for the business to return to pre-loss turnover levels.

Cyber Liability

Despite the global increase in cyber attacks, many businesses still do not have comprehensive cyber and crime insurance that policy which provides adequate cover in case of a cyber-attack or data breach.

Often there may be limited levels of cover provided through a commercial combined or other business insurance policies. However, as this cover is usually limited it may be insufficient for businesses that store or handle sensitive data or personally identifiable information.

A comprehensive cyber insurance policy will provide financial compensation for the direct costs incurred by the business, and any liabilities payable to third parties following a cyber-attack, data breach or loss of data.

Many policies also offer Cyber Breach Response Support, which is an invaluable resource when dealing with cyber-attacks. These services can include crisis containment, PR and reputation management and independent legal advice.

Find out more about cyber insurance here.

 Speak to an expert

Business owners face many risks and uncertainties, but having the right cover in place to protect your business can provide some peace of mind that financial protections are in place should your business be impacted by extreme weather or other commercial risks.

Tysers has many years’ experience in providing insurance cover for businesses of all sizes, across a wide range of sectors. Our experienced brokers will review your individual risks and search the market to find the best value cover, whilst ensuring your business has adequate protection.