What have we really lost?
One of the most common issues that arise from short duration interruptions, those measured in days as opposed to weeks or months, is whether the business actually suffered a permanent loss of revenue or whether the "lost" revenue is merely deferred. This is particularly relevant with businesses in the professional services sector and in particular those whose revenue is earned on a per hour or per project basis such as accountants, lawyers, engineers and the like.
In these cases, we are often presented with a claim founded upon the length of the interruption valued in billable hours multiplied by a matrix of hourly rates, and in some cases, with a productivity or utilisation factor applied. This is more often than not the result of a claimant misunderstanding the difference between a loss of the opportunity to perform billable work and the actual permanent loss of revenue as a result of the interruption. Although there are exceptions, our experience in handling these claims suggests that often this lost opportunity does not necessarily translate into a permanent loss of revenue. This in turn may lead to the Insured's expectations not being met and a resultant frustration with the claims process.
A thorough understanding of how the business operates and how revenue is generated is crucial to the identification of any losses. When appointed to such claims, as a first step we will usually seek to explore and understand the impact of the interruption on the business to determine where any likely losses will be. Potentially insurable losses arising from such an interruption can include one or a combination of the following:
Loss of Revenue
- Loss of revenue in respect of a current file or project. An example would be where the interruption meant that the client either terminated or abbreviated the project. This is usually easily identified and measured with reference to the specific project and contractual documentation.
- Loss of revenue in respect to future work. This would include situations where the interruption can be shown to be the direct cause for the loss of a current or prospective client or future project. The impact from the loss of an existing client due to the insured event is often easier to identify and measure, although there must be a clear link between the cause of the interruption and the loss of the client. The loss of prospective clients or unidentified projects is more obscure. It is necessary to demonstrate that this work would have been received and the revenue realised within the Indemnity Period but for the interruption, and that this work was not replaced by other future work or other mitigation efforts. This is typically much more difficult to substantiate and requires a thorough analysis of the firm's productivity and utilisation data.
In both cases above, there is the possibility that the loss of revenue, if proven, may endure well beyond the period of interruption, especially if there has been the loss of a key client that may take time to replace.
Additional Costs / Extra Expenses
Most professional firms will try their best to avoid a loss of revenue. It is possible that additional costs may be incurred to mitigate the loss of revenue and essentially recover the lost time. These additional costs could include:
- Costs incurred to subcontract work to another service provider that would normally have been performed by the Insured. Most professional firms will not consider this option but this could include sending photocopying to be done elsewhere to free up internal resources.
- Costs incurred to procure additional resources such as temporary staff and payments to existing staff for overtime worked to "catch up" the lost time.
Our experience is that in many cases the lost time is recovered without loss or cost by everyone pitching in and getting the work done either through extra effort, working late and over weekends or the management of urgent and time sensitive work. While this may cause additional stress and pressure on staff, and make them less popular at home, there is no actual loss of revenue or additional monetary cost incurred by the Insured and hence, little in the way of recovery from Insurers.
While claims based on a valuation of lost hours may appear evident and straightforward, sometimes this is only in the eye of the beholder. The reality is that short duration interruptions can be complex losses, even where the interruption may only be for a couple of hours. Evaluation of these claims requires an open mind, a very careful and methodical approach in the identification and measurement of any losses, underscored by a thorough understanding of the business.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.