The World Trade Centre attack raises new business interruption issues. As a result underwriters are restricting the scope of their policies. reports

More than 25% of the World Trade Centre (WTC) losses will be due to business interruption (BI) claims, according to a recent report by PricewaterhouseCoopers (PWC). This will make it the largest single area of claims, just ahead of property losses which are estimated to account for 22%.

The tragedy brought business interruption into the limelight because of the magnitude of the claims, and it has thrown up many issues that underwriters and loss adjusters had never contemplated.

For instance: when does the period of indemnity end; what is an appropriate liability limit; what is terrorism and are business losses due to the recession or to11 September?

Because of this complexity, PWC estimates that lawsuits stemming from BI claims could drag on for the next four to six years. PWC forensic services partner Andrew Gordon explains: "Business interruption is a huge variable because of all the uncertainties surrounding where the market would have gone. There are going to be a lot of hard lessons learned by underwriters over the next couple of years as the claims get unravelled."

Likely changes in BI underwriting

  • Extended periods of indemnity reduced to 30-60 days

  • Contingent business interruption sub-limits to be reduced

  • Wordings tightened on the subject of property damage

  • Terrorism definitions extended where reinsurers have done so

  • Underwriters to do more thorough up-front risk assessment.

    Macro view
    Gordon and his team are working alongside loss adjusters to determine the correct amount of WTC claims. "To do this we will start by looking at the macro view - for example, it was clear the US was in recession. Then we will look at the company that suffered the loss in the context of its specific industry. We have to look at where that particular company was going," says Gordon.

    "We will not just be using forecasts made at the beginning of the year, but the most recent data we can get hold of. This will include the company's own forecasts and analysts' figures.

    "The market share will be another indicator. For example, if a company's market share declined by 10% we can look at its profits and say it should have been 10% higher post-WTC than it actually was," he adds.

    Gordon says BI underwriters will need to devote more time to up-front risk assessment rather than relying on past experiences. "They need to make sure they understand fully what their business interruption exposures might be, particularly in the contingent business interruption area." Previously, most underwriters relied on past claims experience to set premiums, he adds.

    "They will need to understand what the trigger is - doing things like looking at supply chains and really understanding the client's business. They will probably need to tighten wordings too," he says.

    He adds that rates will rise all round. In fact, PWC estimates they will rise as much as 200%, depending on the loss experienced by the insured.

    Problem periods
    While underwriters have been closely studying the wording of their BI policies, many seem to think future losses will be best controlled by modifying current limits. While none of the underwriters Insurance Times contacted would go on the record, one senior Lloyd's underwriter says: "The words were OK, but the periods were just too lengthy."

    He says a major issue is the length of the extended period of indemnity, which provides compensation for a company's loss of earnings while it is returning to running at its full capacity. "The extended period of indemnity in our policies used to be one to two years and was even unlimited in some cases. We have reduced it now to between 30 and 60 days."

    He says underwriters are also looking at civil authorities elements of policies. These provide cover for businesses affected by incidents such as governments shutting airports. "To deal with this we are imposing a mileage limitation from the location of events, where there was none before. We are also making the maximum period four weeks, when before it was usually unlimited," says the Lloyd's underwriter.

    An underwriter for another syndicate confirms underwriters are generally reducing extended periods of indemnity to 30 days, but adds that his syndicate is considering substantial wording changes. For example, in the US, periods of indemnity are now being incorporated into wordings for tougher classes of business, such as casinos.

    Property damage is also an issue in wordings. The underwriter says: "BI can be claimed only when actual property damage has occurred, but some speculative claims have occurred when it hasn't. This is partly because some brokers' wordings were too broad so these will be tightened up.

    "We are very wary about whom we insure. We go for successful people who do not want to suffer a downtime loss. Also, we have used the same loss adjuster for many years. It assesses a loss using recent figures, rather than the figures predicted at the start of the year when the company renewed its policy."

    UK regional BI underwriters were not badly stung by the WTC, but the tragedy has sounded alarm bells. Allianz Cornhill property manager Catherine Thomas says that within the UK market, it "has made underwriters more aware of possible BI problems. Divisions like ours were not really involved in terms of direct losses, but it has opened our eyes to the possibilities of a loss involving a major accumulation. That is an issue reinsurers are really looking at".

    Accumulation has affected their underwriting, Thomas says, because they have been made "more aware of overseas extensions" and the dangers of insuring large accumulations of buildings. She says previously insurers added overseas extensions more as a matter of course, but they are far more cautious about it now.

    "We are also more aware of the limits we are offering - nothing is unlimited anymore. Reinsurers are particularly interested in this, as the WTC made them aware that unlimited means unlimited and the potential losses are huge," Thomas says.

    But insurers do not need to change their attitudes to risk management too radically - instead clients need to be more responsible about it. She believes clients have learned an important lesson: "If anything, the WTC event has brought business continuity to the fore of clients' minds and proved its importance to them."

    This can only be good. Recent research by the Institute of Management showed a third of companies still have no contingency plan to deal with a disaster, even though two-thirds admitted to being affected by 11 September.

    Stringent approach
    In this climate of change, insurers and reinsurers alike must proceed with caution, especially when revising wordings, advises Stuart White, partner with law firm Reynolds Porter Chamberlain. At a time when the clarity of wordings has never been more important, he says if they are not rewritten correctly there is a danger of the opposite occurring - wordings could get worse.

    He explains: "With a more stringent approach from reinsurers post-WTC, many wordings are being tightened up. At a time when it is more important than ever for underwriters and policyholders to know where they stand on policy interpretation, the tightening up process must aim to define the cover in the clearest way possible.

    "There are plenty of examples of past wordings that are the result of mixing and matching clauses from different sources. Some clauses do not match at all, or have had amendments made without fully thinking through the consequences.

    "The best way to make changes is to keep the basics always in mind, starting from scratch to identify exactly what cover is to be given, what is to be excluded, how the policy is to work, and for the whole policy to be consistent from beginning to end."

    White says, if insurers and reinsurers follow this advice "it should reduce the opportunities for future challenges in the courts".