How do you pay for it?
One aspect of disaster planning that seems somewhat overlooked is the question, How do you fund the recovery efforts? Recovering from a disaster requires a lot of unbudgeted funds which must be spent or committed very quickly.
The usual thinking for this funding is that it will be collected from an insurance company. This is probably the best alternative, however, planning must go into the purchasing of the correct insurance if you are counting on it to respond to the disaster. You must ensure that the correct insurance is purchased, for the correct amounts and that the insurance purchased will respond to the disaster which has occurred.
An all risk property insurance policy which excludes coverage for earthquakes is of no value in an Earthquake Recovery Plan but will be in a plan for hurricanes. Attention must also be paid to the deductible associated with the policy. For instance, earthquake deductibles can be 10% of the insured value of the damaged building. Earthquake damage to multiple buildings will mean multiple deductibles. For a large loss of say $100 million you may face a deductible expense of more than $10 million. Can the company afford this type of non-budgeted cash impact? For a small company with a $100,000 loss, a $10,000 deductible may shut them down.
In terms of disaster planning, there are several coverages which should be considered for inclusion in your All Risk property insurance program:
Business Interruption coverage: This coverage will provide replacement of lost profits as a result of a covered loss. Attention must be paid to the expected duration of the event and ensure that the insurance will cover this same period.
Extra Expense coverage: This coverage is designed to provide financial recovery for expenses which the business would not ordinarily have if there had been no disaster. For instance; the business may need to acquire a temporary office, manufacturing facility or warehouse space to continue operations while their normal space is undergoing repairs from the disaster. The increased cost to rent the space, move people to it, rent furniture, equipment, etc. would be reimbursed by the insurance company for the period while your normal facilities were undergoing repairs/replacement.
Code Compliance: This is a very important coverage which is often overlooked. The normal property insurance policy will reimburse an insured for expenses associated with repairing or replacing a damaged building. They will not, however, pay for costs associated with changes required by building codes which have changed since the building was built. With the advent of Handicap Access requirements, earthquake code changes, etc. These upgrades can, and often do, involve substantial sums of money. We recommend that Code Compliance be included as an insured portion of the policy.
Electronic Data Processing (EDP): This insurance is designed to replace damaged or lost equipment and media which results from a covered peril (fire, lightning, earthquake, hurricane, tornado, etc.). It can also include coverage for accounts receivable, business interruption and extra expense. Remember, the normal property insurance will not provide coverage for EDP. This coverage must be purchased separately.
At the time of preparation of a disaster plan attention should be paid to funding the expenses which will inevitably result from the disaster. The plan should include a designated person(s) responsible for interface with the insurance company and their adjuster. Establishment of clear lines of communication and responsibility are critical to the efficient recovery.
The plan should also include methods and procedures for identifying all costs incurred as a result of the disaster. The accounting department should set up separate account(s) specifically for this loss. All expenses incurred due to the disaster will be run through these accounts.
These costs will include damage repairs, equipment replacement and repairs, shipping costs, installation costs, consultant fees, temporary staff, temporary facilities and equipment, clean up expenses, existing staff including payroll, overtime, benefits and overhead that are related to the disaster recovery.
Note: For disasters affecting multiple buildings all costs and records should be compiled and maintained on a building by building basis.
To the extent that this is a large loss, the insurance company will require extensive documentation to support the insurance claim. You will be required to produce cost estimates, requests for proposals, repair/replacement quotes and bids, construction drawings, pre disaster floor plans and/or as-built drawings, invoices, canceled checks, payroll reports, etc.
This process should begin on day one of the disaster. It may be wise to designate the person(s) responsible for the gathering, compiling and custody of the required documentation in the disaster planning phase. This person can then develop their plan for ensuring identification and receipt of all the required documentation.
The key words are, Document, Document, Document. If you fail to document it, you may not collect it.
As soon as possible following the disaster a written request should be made to the insurance company for an advance payment.
Most insurance companies will be responsive to this type of request and the cash will be desperately needed. The recovery efforts will be expensive and cash flow will be a large issue, especially if the business has suffered an interruption of its revenue stream.
The larger the disaster and damage to the insured the more complicated the insurance claim will be. While the insurance company will probably advance some monies, they will not settle the claims until the insured proves their loss. This proof requires extensive documentation and analysis by both the insured and the insurance company.
A large loss can take years to settle. For instance, Cox Insurance Services, Inc., has been working under contract for the County of Los Angeles to identify, quantify and document their losses resulting from the January 17, 1994 Northridge Earthquake. These claims involve some 300 damaged buildings with insured values exceeding $2 billion. The claims are still not settled and this is 1996.
In this type of situation the insured has two options: make the repairs and self fund the cost until the insurance claim is completed, or defer the repairs until settlement is reached. Neither of these options is very attractive for a business which depends on a certain building or buildings for their continuing income.
The solutions can take several forms:
1. Set up a pre-funded source of money specifically for disaster recovery.
2. Contract with a firm to provide expertise and manpower to collect these claims as expeditiously as possible.
3. Pre-agree a payment schedule with the insurance company based on the size of the disaster and the percentage of the recovery or repairs completed.
4. Do nothing and fund recovery expenses out of current cash until the claims are collected.
You may have the best, most efficient disaster plan in existence but if you do not have the funds to pay for the work, you have nothing but a piece of paper.
Lawrence P. Cox is President of Cox Insurance Services, Inc., a risk and insurance management consulting company.
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