A business that suffers a major accident such as a fire or hurricane may have to shut down for days, weeks or longer for repairs. Often, the income lost during the shut down will exceed the cost of repairing or replacing the damaged property. Businesses can protect themselves against this severe financial loss by purchasing business income insurance. However, sometimes a business can suffer a significant income loss, not because of damage to its own property, but because of damage to someone else’s.
Consider the following business situations:
- A metal parts manufacturer derives 80 percent of its income from sales to four customers.
- A restaurant located within a five-minute drive from a factory that employs 1,200 people.
- An electronic components distributor that buys its products from three manufacturers.
- A supermarket chain that sells milk under its own brand name but that outsources production of the milk to a dairy products supplier.
In all of these examples, the businesses depend on third parties for supplies, purchases, or attraction of customers. If any of these third parties were to shut down, the resulting loss of income would devastate the business.
A business that depends on a few third parties for a large share of its income may want to consider buying Business Income From Dependent Properties insurance. This coverage pays for income lost as a result of damage to the property of another business on which the policyholder depends financially. The form classifies these properties, called “dependent properties,” into four groups:
- Contributing locations, which deliver materials or services to the business or to other businesses on the policyholder’s account. The three manufacturers that provide product to the electronic components manufacturer are examples of contributing locations. The form does not consider a supplier of utilities (water, power or communications) to be a contributing location. A separate coverage form exists to insurer these types of suppliers.
- Recipient locations, which accept the business’s products or services. The four customers who provide 80 percent of the metal parts manufacturer’s income are recipient locations.
- Manufacturing locations, which manufacture products for delivery to the business’s customers under a contract of sale. The dairy products supplier producing the milk for sale under the supermarket’s label is a manufacturing location.
- Leader locations, which attract customers to the policyholder’s business. The factory near the restaurant is a leader location.
Coverage applies if the dependent property suffers damage from a cause of loss that the policy would cover if it damaged the business’s own property. For example, a typical property insurance policy covers damage caused by fire or explosion, so this insurance will pay if the dependent property burns or explodes. However, since most policies do not cover flood damage, the insurance will not pay if a dependent property floods.
The insured business has a choice of how to arrange the insurance. One option is to make the amount of insurance covering the business’s own property also apply to the dependent properties. The other option is to buy separate amounts of insurance that apply to each dependent property. Under either option, coverage begins 72 hours after the time the damage occurs.
Virtually every business depends to some degree on other firms for parts of its operation. Dependent property income losses do happen; many businesses in lower Manhattan suffered these losses in the months following September 11. Discussion of the exposure to loss from dependent locations should be a regular part of a business’s review with its insurance agent. Standard coverage protects against loss to a business’s property, but the worst loss may come from damage to someone else’s.