business interruption sig financial analysis basic business interruption 16 september 2009 phil...

Business Interruption SIG

Financial Analysis

Basic Business Interruption

16 September 2009

Phil Beadsmoore

Introduction

The four fears

– Accounting books & records

– BI policy & formula

– Understanding the business and effects of the loss

– Putting it all together in practice

Financial books & records

– Source documents

– Why prepared?

– Examples

– Statutory accounts

– Profit & loss accounts

Source documents

– Bank statements

– Purchase invoices

– Sales invoices

– Credit card statements

– Pay advices

The Law

– Maintain record of transactions for 6 years

– Debtors/creditors

– Stock record

Why bother?

– Running the business

– VAT returns

– Statutory accounts

– HMRC accounts

– Claims condition

What books & records?

– Sales daybook

– Purchase daybook

– Cashbook

– VAT returns

– Payroll records

What books & records?

– Stock records

– Fixed asset register

– Sales/purchase ledgers

– Production records

– Nominal ledger

What books & records?

– Statutory accounts

– HMRC accounts

– Monthly management accounts

– Budgets/forecasts

Types of business

– Sole trader

– Partnership

– Limited liability partnership (LLP)

– Private company (Ltd)

– Public company (Plc)

Statutory accountsSME’s

– Small company <£6.5m turnover <£3.26m total assets <50 employees

– Medium company <£25.9m turnover <£12.9m total assets <250 employees

Statutory accounts

– Time limit SME -9 months Large or Plc -6 months

– Companies house SME-abbreviated accounts Large/Plc-’full’ accounts

– Members ‘Full’ accounts

HMRC accounts

Time limit

– Sole trader/partnership -return due by January

includes accounts for the year ended in the previous tax year

– Limited/public company -9 months following the

accounts year end

Profit & loss accounts

– Why prepared?

– What is profit?

– Matching

– Fixed-v-variable cost

– VAT

Glynn Cubes Ltd

Profit and Loss Account Year 1

£ £

Turnover 20,000Opening stock NilPurchases 15,000Closing stock -5,000Cost of sales -10,000Gross Profit 10,000

Rate of gross profit 50.00%

Profit and Loss Account Year 2

£ £

Turnover 32,000Opening stock 5,000Purchases 20,000Closing stock -9,000Cost of sales -16,000Gross Profit 16,000

Rate of gross profit 50.00%

Glynn Cubes Ltd

Profit and Loss Account Year 2

£ £

Turnover 32,000Opening stock 5,000Purchases 20,000Closing stock -9,000Cost of sales -16,000Gross Profit 16,000Discounts allowed 500Insurance 1,000 -1,500Net profit 14,500

Glynn Cubes Ltd

Profit and Loss Account Year 2

£ £

Turnover 32,000Opening stock 5,000Purchases 20,000Closing stock -9,000Cost of sales -16,000Gross Profit 16,000Variable CostDiscounts allowed -500

15,500Fixed CostInsurance -1,000Net profit 14,500

Glynn Cubes Ltd

Profit and Loss Account Year 2

£ £

Turnover 0Opening stock 0Purchases 0Closing stock 0Cost of sales 0Gross Profit 0Variable CostDiscounts allowed 0

0Fixed CostInsurance -1,000Net profit -1,000

Glynn Cubes Ltd

Year 2 BI Loss

£ £

Expected turnover 32,000Actual turnover 0Reduction in turnover 32,000

Insured rate of gross profit 50.00%

Loss of gross profit @ 50.00% 16,000

Less SavingsDiscounts allowed -500

15,500

Add Increased Costs 0

15,500

Financial books & records

– Why prepared?

– Types of books & records

– Different types of accounts

– Profit and loss account– Matching– Fixed/variable costs

Basic Business Interruption

Material Damage

– Easier to visualise

– Re-establish asset base

– Repair, replacement, value

– Agree to invoices

– Value at risk

Business Interruption

– ‘Invisible loss’– Place in same financial position– Policy formula– Analyse accounts, books &

records– Fully understand business and

effects of the loss– Mitigation considerations– Value at risk

The four fears

– Accounting books & records

– BI policy & formula

– Understanding the business and effects of the loss

– Putting it all together in practice

BI policy & formula

– Defined formula

– Adjustments clause

– Uninsured working expenses

BI loss formula

– Calculate/agree expected turnover– Calculate/agree indemnity period– Measure actual turnover achieved– Calculate reduction in turnover– Calculate insured rate of gross profit– Apply insured gross profit rate– Add increased costs of working– Deduct savings

– Consider adequacy of cover– Declaration linked policies

Glynn Cubes Ltd

Profit and Loss Account Year 2

£ £

Turnover 32,000Opening stock 5,000Purchases 20,000Closing stock -9,000Cost of sales -16,000Gross Profit 16,000 50.00%Discounts allowed 500Insurance 1,000 -1,500Net profit 14,500

Glynn Cubes Ltd

Profit and Loss Account Year 2

£ £

Turnover 32,000Opening stock 5,000Purchases 20,000Discounts allowed 500Closing stock -9,000Cost of sales -16,500Gross Profit 15,500 48.44%Insurance -1,000Net profit 14,500

Glynn Cubes Ltd

Year 2 BI Loss

£ £

Expected turnover 32,000Actual turnover 0Reduction in turnover 32,000

Insured rate of gross profit 48.44%

Loss of gross profit @ 48.44% 15,500

Less Savings 0

15,500

Add Increased Costs 0

15,500

Glynn Cubes Ltd

Year 2 BI Loss

£ £

Expected turnover 32,000Actual turnover 0Reduction in turnover 32,000

Insured rate of gross profit 50.00%

Loss of gross profit @ 50.00% 16,000

Less SavingsDiscounts allowed -500

15,500

Add Increased Costs 0

15,500

BI claims in practiceLiability

– Insured peril

– Appropriate extension

– Material damage proviso

– Claim conditions

BI claims in practicePutting it all together

– Policy details

– Business understanding/details

– Circumstances of loss and effects on the business

– Accounting books and records

– Mitigation/loss measurement

Policy details

– Definition of gross profit

– specified working expenses

– Basis and level of cover

– declaration linked

– Maximum indemnity period

Business understanding

– Type of business– Ownership– Location-branches– Turnover/gross profit– Employees– Working hours– Production processes– Products/markets– Major customers/suppliers– Current orders/contracts

Circumstances of lossEffects on the business

– Material damage– buildings,machinery,stock

– Time to repair/replace

– Customers/orders under threat

– Possibilities to mitigate, e.g:– alternative premises– accelerated repairs– overtime working– subcontracting

– Maintain/regain customer base

Allowable increase in costs of working

– Additional expenditure

– Economic limit

– Sole purpose of avoiding loss of profit within the indemnity period

– Necessary and reasonable

– Additional increase in cost of working cover– no economic limit

– Latest set of financial accounts including detailed P&L account

– Last two years sales analysis (net VAT) weekly or monthly

– VAT returns

– BI policy & schedule

– Full knowledge of business -including other circumstances

Minimum information

– Own review

– Supplied by Insured

– Supplied by Assessor

– Supplied by Accountant– accountancy fees clause

– Reconcile to accounts and VAT returns

Obtaining information

– Calculate expected sales from sales analysis and knowledge of other circumstances

– Apply trend to prior year sales and adjust for other circumstances

– Use common sense

– Negotiate

Calculating expected turnover

– Obtain uninsured working expenses from policy

– Calculate insured rate of gross profit from review of detailed profit & loss account

– Other circumstances clause

Calculating insured rate of gross profit

– Review detailed P&L account

– Allow for variable costs not included as uninsured working expenses

– Review monthly management accounts if available

Calculating savings

– Agree to supporting documentation eg invoices

– Ensure fulfill policy criteria

– Additional-does not include normally expected expenditure

– Sole purpose

– Economic

– e.g. overtime, subcontractor costs, equipment hire, advertising

Increase in costs of working

– Calculate expected turnover over twelve months following loss

– Apply insured rate of gross profit to give VAR if twelve month maximum indemnity period (MIP)

– Multiply annual amount by relevant factor if MIP>12 months

– Do not deduct savings

– Underinsurance does not apply if declaration linked

Adequacy of sum insured

Glynn Cubes LtdBI Loss

– Fire on 31 July 2009

– Policy cover– gross profit £120,000– MIP 12 months– not declaration linked– uninsured working expenses

• 100% purchases (less discounts)• 100% discounts allowed

Glynn Cubes Ltd

Profit & Loss Account-Year Ended 31.3.09

£ £

Turnover 144,880Opening stock 26,900Purchases 62,300Wages 16,200Closing stock -28,700Cost of sales -76,700Gross Profit 68,180ExpensesRent/rates 12,320Light/heat 2,800Telephone 540Advertising 1,200Discounts allowed 980Cleaning 520Insurance 2,300Bank charges 680Accountancy 2,200 -23,540Net Profit 44,640

Glynn Cubes Ltd

Insured Rate Of Gross Profit

Based On Analysis Of Year Ended 31 March 2008 Profit and Loss Account

£ £

Turnover 144,880

Opening stock 26,900Purchases 62,300Closing stock -28,700 -60,500

84,380Discounts allowed -980

83,400

Insured Rate Of Gross Profit 57.56%

Note

Uninsured Working Expenses

100% purchases (less discounts received)100% discounts allowed

Glynn Cubes Ltd

Business Interruption Following Fire On 31 July 2009

2007/2008 2008/2009 2009/2010£ £ £

April 9,148 10,829 11,642May 10,440 11,244 12,648June 11,213 13,296 14,854July 12,716 14,758 15,869August 12,680 16,531September 12,159 13,345October 13,769 14,644November 10,618 12,041December 22,742 24,265January 9,744 10,598February 10,190 11,178March 9,463 10,884

144,880 163,613

Glynn Cubes Ltd

Business Interruption Following Fire On 31 July 2009

Actual Actual Expected Actual2007/2008 2008/2009 2009/2010 2009/2010

£ £ £ £

August 12,680 16,531 18,387 0September 12,159 13,345 14,843 0October 13,769 14,644 16,288 0November 10,618 12,041 13,393 0December 22,742 24,265 26,989 0January 9,744 10,598 11,788 0February 10,190 11,178 12,433 7,320March 9,463 10,884 12,106 10,006April 10,829 11,642 12,949 11,244May 11,244 12,648 14,068 13,542June 13,296 14,854 16,522 15,846July 14,758 15,869 17,651 17,540

151,491 168,499 187,417 75,498

111.23%

Glynn Cubes Ltd

Business Interruption Following Fire On 1 August 2009

Interruption Period 1 August 2009 to 31 July 2009

£ £

Expected turnover 187,417Actual turnover 75,498Reduction in turnover 111,919

Insured rate of gross profit

Loss of gross profit @ 57.56% 64,426

Less Savings(6 months)Wages 2,100Rent/rates 6,160Light/heat (50%) 700Telephone (50%) 135Advertising (50%) 300Cleaning 265 -9,660

54,766

Add Increased Costs

Advertising 400Banner 120 520

55,286

Notes

SavingsExpected costs based on 2008 accounts plus 2% inflation

Glynn Cubes Ltd

Business Interruption Following Fire On 31 July 2009

Actual Actual Expected Actual2007/2008 2008/2009 2009/2010 2009/2010

£ £ £ £

August 12,680 16,531 18,387 0September 12,159 13,345 14,843 7,560October 13,769 14,644 16,288 9,547November 10,618 12,041 13,393 11,636December 22,742 24,265 26,989 21,430January 9,744 10,598 11,788 10,050February 10,190 11,178 12,433 10,436March 9,463 10,884 12,106 10,588April 10,829 11,642 12,949 11,255May 11,244 12,648 14,068 13,555June 13,296 14,854 16,522 15,472July 14,758 15,869 17,651 17,336

151,491 168,499 187,417 138,865

111.23%

Glynn Cubes Ltd

Business Interruption Following Fire On 1 August 2009

Interruption Period 1 August 2009 to 31 July 2009

£ £

Expected turnover 187,417Actual turnover 138,865Reduction in turnover 48,552

Insured rate of gross profit

Loss of gross profit @ 57.56% 27,949

Less Savings

Wages 350Rent/rates 6,160Light/heat (50%) 120Telephone(50%) 25Advertising(50%) 50Cleaning 40 -6,745

21,204

Add Increased Costs

Rent-alternative premises 10,000Advertising 400Banner 120 10,520

31,724

Notes

SavingsExpected costs based on 2008 accounts plus 2% inflation

Glynn Cubes LtdAdequacy of sum insured

– Expected turnover in 12 months following loss after allowing for trend- £187,417

– Insured rate of gross profit-57.56%

– Value at risk:– £187,417 x 57.56%=£107,877

– Sum insured £120,000-ok

– If sum insured £100,000 apply underinsurance:– ie multiply loss by 100,000/107,877

BI reserving

– Estimate repair/replacement period

– Allow for subsequent recovery period

– Estimate turnover/gross profit loss

– Allow for increased costs

– Deduct prudent savings

– Consider adequacy of sum insured

– Document on file and detail in report

– Payments on account

– Assessors

– Recoveries

– Items not covered– bank interest– claim presentation costs– increased VAT liability

Other matters

Types of BI policy

– Standard policy– ‘All risks’– Engineering

– output option

– Gross revenue– Gross fees– ICW– AICW– Advance profit– Declaration linked

BI policy extensions

– Accumulated stocks

– Suppliers/customer extensions

– Denial of access

– Loss of attraction

– Failure of power

– Fines and penalties

– Undamaged stock

– Accountants fees

Common problems for Insureds

– Uninsured peril

– Inadequate cover

– No appropriate extension

– Prolongation of indemnity period

– New business

Common problems for adjusters

– BI loss not considered

– Under reserved– gross profit rate miscalculated– failure to fully understand business &

affects of the loss– interruption period underestimated– expected results over estimated

– Claim overpaid– VAT not properly considered– margin confused with markup– underinsurance not considered

– Excessive payments on account

Summary

The four fears

– Accounting books & records

– BI policy & formula

– Understanding the business and effects of the loss

– Putting it all together in practice