Why should businesses buy Loss of Profit (LOP) Insurance?

Loss of Profit (LOP) insurance comes under the category of pecuniary insurance as commonly known as Business Interruption Insurance.

This insurance needs to be purchased separately/independently along with fire or property insurance usually from the same insurance company.

It is relevant to mention here that a fire or property insurance does not include loss of profit. In other words it specifically excludes loss of profit from the policy.

However, loss of profit insurance cannot be purchased in isolation  (stand alone) without a fire or property insurance purchased at the same time.

Who can buy loss of profit insurance?

Any business houses usually by a relatively large organisation, namely, an industrial unit /factory unit ,food production unit, readymade garments factory, refinery etc. can purchase this insurance.  

When a loss of profit insurance comes into play?

It is important to mention here that loss of profit insurance triggers or comes into play only when a claim for property damage under a fire policy is admissible by the insurer.  

Importance of loss of profit insurance

It is likely that in the event of a major fire, the factory premises may be completely damaged or destroyed leading to a complete halt/stoppage or cessation of business.

In such a scenario, businesses may lose customers, local orders and in case of an export oriented industry such as ready made garments , orders from international buyers.

Consequently businesses may suffer financially for months together depending on the extent of fire loss to property. This is bound to have a serious impact or dent on the business in terms of profit. 

Loss of profit insurance provides protection against such losses.

Overhead expenses that contribute to loss of profit

In the event of cessation or closure of business due to a major or devastating fire, the business may still find itself incurring the following expenses:

1. Wages for workers/ Salary for employees

2. Bank interest (payable)

3. Rent for rented premises

4. Rent (Rate) for leased premises

5. Various utility bills (namely, electricity, water, gas etc.)

6. Other incidental overhead expenses.

Indemnity Period under a loss of profit insurance

For the purpose of this insurance, it is important to select a realistic and appropriate time period reflecting as to when the business can be restored to its previous position before the incident of fire. 

Scenario-1

In the event a factory premises or office block  etc. (owned by the business) is completely damaged or destroyed in a fire, it may take a relatively longer time ( therefore longer indemnity period) for the business to stand on its own feet  and return to normal business activities because of the following reasons: 

1. To reconstruct/reinstate the premises

2. Lead time for importation of new machinery and equipment etc. from abroad.

3. Installation time for new machinery and equipment etc.

Scenario -2

For a rented premises, It may take a relatively shorter time ( therefore shorter indemnity period) compared to scenario – 1 above in order to return and resume normal business.

Conclusion

In a current competitive business environment, where it may be difficult to count big profit unlike in the olden days when competition was not so stiff, it is important for a business to purchase loss of profit insurance as a way of protection against such losses.

Without this insurance, the owners of business/investors may find themselves caught in the wrong foot. Many businesses are likely to be ruined and go out of business because of financial hardship.

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