Superstorm Sandy (Sandy) has impacted 12 states that account for 23 percent of the U.S. gross domestic product. The interruption to businesses in an area of the United States that is the source of so much of the country’s economic productivity will disrupt regional, national and international supply chains, which are critical to companies’ abilities to provide services, get food and goods to market, and supply parts to customers. In addition, factors out of the control of the risk managers, supply chain specialists and procurement officers will critically disrupt companies’ supply chain performance and impact their bottom lines.
Because of standard property and contingent business interruption (CBI) policy language and the nature of supply chain disruption (SCD) losses, whether SCDs are covered by insurance will be hotly contested as the cleanup after Sandy continues to reveal the short- and long-term commercial losses.
Fuel Shortages and Energy Disruptions Compound SCDs
Fuel shortages and energy disruptions are a critical aspect of Sandy’s aftermath. Whether in the form of gasoline, natural gas, diesel, heating oil or coal, fuel is absolutely necessary to our economy and supply chains. Fuel also powers electrical grids. Regional ports and railroads have warned shippers of several days of delays before normal operations are restored, which means energy shipments are also critically delayed, which in turn compounds shortages and disruptions and results in additional SCD damages. Further, while news stories focus on the personal impact, such as long lines waiting at gas pumps, these stories underscore another critical SCD: employees’ inability to get to work.
Sandy’s energy shortage also raises a critical coverage issue: whether SCDs are the result or the cause of direct physical loss or property damage. Under a standard insurance portfolio, without these threshold triggers being satisfied companies will not be able to access the benefits under their insurance policies. The satisfaction of the initial triggers will be the primary focus of SCD coverage analysis.
SCD Cause and Effect
As we have learned since Sandy’s departure, the storm left its mark on a number of SCD fronts. As mentioned above, fuel and railroad chains have been disrupted. Transit systems and roads are still under repair. Shipping by truck will be hampered by the same factors. More than 19,000 flights from regional airports, which are slowly returning to full capacity, were cancelled. Ports are still assessing the damages, with certain ports allowing critical shipping to resume while most have not completely reopened. And, because of the ripple effect involved with SCDs, shippers and customers in Asia and elsewhere around the world have been warned of delays. Whether Sandy impacts a direct or downstream customer or a first-, second- or third-tier supplier, the storm’s aftermath will disrupt supply chains well beyond the original two-day business interruption estimate.
SCD coverage issues are raised when catastrophic crisis events, such as Sandy, result in multifaceted disruptions. Power outages, regulatory enforcement, outsourcer failure, transportation network failure, IT system outages, ingress/egress delays, utility service interruption and infrastructure failure can lead to sizable SCDs but do not always involve a critical component involved with standard CBI coverage, such as direct physical loss or property damage.
To gain coverage under standard CBI wordings, the loss or losses resulting from a storm must involve (1) a necessary interruption of business (2) caused by a direct physical loss or damage of the type insured against (3) to properties not operated by the insured, and (4) that prevent a direct supplier from rendering their goods or services or (5) that prevent a direct receiver from accepting the insured’s goods or services.
In addition to whether the loss involves direct physical loss, several other issues are raised under standard CBI wording:
- Was the damage caused by an insured peril?
- Was the interruption or length of the interruption necessary?
- Are the involved properties separate and apart from the insured’s property?
- What was the actual or direct cause of the inability to receive or supply goods or services?
Under CBI, critical questions also focus on dependent properties. Under CBI policies, a Dependent Property means a property operated by others whom the insured depends on, including contributing, recipient, manufacturing or leader locations. For example, was the damage at the dependent property the cause of the interruption? Importantly, many policy wordings preclude or exclude coverage for locations such as power, water and communication supply services. Other critical issues are raised by whether the locations are scheduled or unscheduled.
Additionally, under standard CBI policies, certain exclusions will reduce coverage for storm-related losses, including Ordinance or Law, Civil Authority, Water, Flood, Sewer Backup and Water Below the Surface, Utility Failure, Collapse, Contamination or Deterioration, or Inability to Provide Sufficient Power.
An alternative to standard CBI coverage is non-damage business interruption insurance (NDBI), a relatively new insurance product, currently offered by only a few insurers and brokers. NDBI’s distinguishing factors are that its coverage is triggered by certain events not usually covered under standard CBI and it is not triggered solely by direct physical loss or property damage. Additionally, these specialty policies provide comprehensive software and access to crisis consultants who can provide pre-crisis analysis and post-crisis support. These specialty policies enable CEOs and risk managers to call a hotline number and gain valuable information and assistance that would otherwise not be available during or after a crisis.
As the cleanup unfolds and companies are doing their best to survive and get past the crisis, they will also have to spend resources on conducting loss or quantum adjustments and investigations as well as assisting insurers with them. Companies and insurers must determine the cause of their SCD or business interruption, define the scope of the damages or loss, evaluate the period of indemnity, mitigate losses, determine sale projections, and locate, preserve and provide information, documentation and materials in support of the claims. Business continuity plans, business recovery plans, and contracts with key suppliers and customers will be critical to the quantum adjustment and analysis process.
Sandy’s timing could not have been worse for companies as the holiday season approaches. SCD losses will continue through this critical revenue period and well into next year. SCD damages will include loss of productivity, increased cost of working, loss of revenue, service outcome impairment, delayed cash flows, product release delays, damage to brand and reputation, and shareholder concern – all of which can have a significant impact on a company’s bottom line at a critical time in the revenue cycle. Whether a company purchased the proper insurance and is covered for SCD losses will be analyzed over the course of the next several months under standard CBI and specialty supply chain or trade disruption policies.
The cost of a SCD event is critical to business continuity and survival, as many companies will learn over the next several months. Whether companies are properly covered for a SCD resulting from Sandy or a future crisis will be reflected by Sandy’s impact to their bottom lines. SCDs gain little attention from companies until after a crisis event. The silver lining, however, is that many companies will learn a valuable lesson after surviving this crisis. They will review their supply chain disruption contingencies and invest in the appropriate insurance so that losses can be contained in the future.