How to Estimate Business Interruption After a Partial Site Closure

Why partial closure needs a different measure than 'per square metre'

The natural instinct is to estimate a partial loss as a percentage of the site — closed floor area, number of halted lines, share of headcount. In business interruption insurance that instinct misleads, because the policy protects income flow, not the building. If a fire hits one rolling mill line or a paint shop, linked upstream and downstream departments may stop even though they suffered no physical damage, simply because they are technologically dependent on the damaged stage.

So the correct unit of loss is not area or equipment count but the reduction in output and turnover against what would have happened anyway. On a multi-line site, variable and fixed costs differ by line, so you cannot average one line's loss across every stopped machine. Assess the marginal economics of each stopped operation and what share of total turnover it contributed, then estimate each affected revenue stream separately.

Start with the period and the 'normal' course of business

Fix the indemnity period first. It begins with the insured damage and runs until the business recovers to the level it would have reached had the event not occurred — including any growth that should have happened during the claim — or until the maximum indemnity period in the policy schedule expires, whichever comes first. Reopening the building is not the same as recovering income; revenue may take months to climb back after production resumes.

In parallel, establish the comparator period, normally the twelve months before the event, adjusted for seasonality and the trends clause. Check the actual downtime against a reasonable restoration time: if the premises could have been rebuilt with reasonable speed and the delay was avoidable, the insurer may limit cover to the reasonable period. Early collection of operating records — shift logs, order books, line journals, capacity reports — makes the estimate defensible.

The base formula: reduced turnover and the rate of gross profit

The classic gross-profit method starts with the turnover the business would have earned without the event, subtracts actual turnover in the affected period, and multiplies the shortfall by the rate of gross profit — the percentage of turnover that insurable gross profit represented in the comparator period, adjusted for changes in product mix. The rate is derived from a comparable period before the loss and must be agreed with the insurer before finalising figures.

What counts as gross profit is set by the policy wording. On the difference basis, gross profit is the amount by which turnover plus closing stock exceeds opening stock, work in progress and specified (uninsured) variable working expenses. On the addition basis, gross profit equals net profit plus insured standing charges, or, where there is no net profit, insured standing charges less any net trading loss. These two bases can produce very different sums, so the methodology belongs in the contract, not left to the moment of loss.

But-for revenue when part of the site keeps trading

Because a partially closed site still sells, the central task is separating the 'background' business that would have occurred anyway from the loss caused by the closure. Build a but-for scenario: the revenue the firm would have earned if the event had not happened, estimated through recognised methods covering trends, seasonality, comparable prior periods, order pipeline and outside market factors.

Deduct actual revenue from but-for revenue to find lost revenue. But not all lost revenue converts to loss: subtract the costs the business avoided — unconsumed raw materials, saved energy, staff not paid, logistics not run. Only then add extra expenses actually incurred to continue or resume: temporary premises, overtime, expedited replacement of machinery, or buying finished goods from a competitor to keep customers. The result is the interruption loss before policy conditions such as waiting periods, deductibles and exclusions are applied.

Interaction losses between linked departments on one site

A distinct hazard is the interdependent site. A fire in a paint shop can halt the preceding body shop and the following assembly conveyors even though they are undamaged. These interaction losses arise purely from the technological linkage between units inside the insured premises and are recoverable when all the interconnected units are correctly listed in the policy. Understating them is the classic error of counting only the directly damaged line.

Distinguish interaction losses inside your own site from 'reverse impact' losses, where the interruption is caused by damage at a supplier or another third party. Reverse impact is not covered by default and requires a separate extension and premium. In practice this boundary is the main battleground: policyholders tend to widen the chain of causation while insurers confine it to the wording and the insured territory.

Avoided costs, extra expense, trends and underinsurance

Final arithmetic is not enough. Apply the trends clause so the comparator reflects growth or decline, price changes and shifting demand between the base period and the period of loss. On a gross-profit basis the average rule applies: if the declared sum insured is below the actual gross profit for the indemnity period — often because turnover growth was not forecast — the claim is reduced in proportion to the underinsurance. Sums insured therefore need an allowance for expected growth across the whole indemnity period, not just the first twelve months.

Apply the waiting period or deductible and the exclusions (war, certain named perils, pure non-physical losses) because part of the shortfall is borne by the insured. Finally, extra expense is only recoverable to the extent it actually reduced the interruption loss; every line must be evidenced. A realistic working cash-flow plan should distinguish insured loss from uninsured exposure so management knows the true gap to fund.

Putting the estimate together: a working sheet

Assemble financial and operational evidence: the profit and loss account for the twelve months before the event, monthly revenue by product and department, shift and line journals, order schedules and stock positions at the loss date. Reconstruct the timeline of the closure: exactly what stopped, when, which units kept running and at what utilisation, and when output began recovering.

Build a but-for projection per product and channel, separating segments that kept trading from those that stopped. Agree the rate of gross profit and the list of variable costs avoided. Then consolidate monthly: but-for revenue, actual revenue, lost revenue, avoided costs, extra expense, and the resulting loss for each month of the period. Any figure that cannot be traced to a document will be challenged, so record every assumption and source in writing.

• Map the boundaries of the stoppage: which products, lines and departments stopped and which continued
• Record the start and end dates of downtime per unit and compare them with the reasonable restoration time
• Collect monthly revenue and order data for twelve months before the event and for the indemnity period
• Fix the rate of gross profit from the comparator period and confirm which basis the policy uses
• Build the but-for revenue projection with seasonality, trends and outside factors
• Deduct avoided variable costs — unconsumed material, saved energy, unpaid staff time
• Add extra expense incurred to continue or resume operations
• Test for underinsurance under the average rule, then apply the waiting period, deductible and exclusions