Under insurance: Risky Business?
12th August, 2024
Property and Business Interruption Insurance is the safety net that a business buys so its directors and shareholders can sleep at night.
However, deciding on the quality of that ‘net’ i.e. the level and type of cover, is an area fraught with risk both for the insurance broker and the Insured. This has been highlighted yet again in the December 2023 decision in Infinity Reliance Limited (t/a My 1st Years) v Heath Crawford Limited.
The Facts
In 2021, Infinity, was an on-line retailer selling personalised clothes, toys, blankets for babies and youngsters. The warehouse it used was owned by a logistics company, Cygnia, with Infinity using space in the warehouse to apply the personalisation service.
Heath Crawford were Infinity’s insurance broker and arranged for Infinity to buy a Commercial Combined Policy from Aviva, which was renewed in November each year.
Under the policy Infinity had business interruption insurance, which was based on the traditional model of forecast gross profit, being £24.9m cover for a 24 month period.
Infinity enjoyed a very successful trading period during lockdown but as the country emerged from the pandemic in 2021 unfortunately a major fire occurred at Cygnia’s warehouse. This in turn caused huge disruption for Infinity, which had to find and fit-out alternative premises at a cost of £2m.
The Aviva policy responded to the fire but:
- The correct gross profit figure should have been nearer £33m meaning Infinity was underinsured by 26%. As a result, applying the doctrine of average (reducing pro-rata the indemnity paid by the proportion of under-insurance), Infinity only recovered 76% of the adjusted loss i.e. £9.25m rather than £12.17m.
- Because it could not find similar alternative premises Infinity was only partly insured for sprinklers and other equipment that it had to buy.
The Claim
Infinity claimed its Broker was at fault because:
It had given a misleading 2 page generic document, used by Infinity’s Finance Director, describing how to calculate the business interruption cover;
Given the difficulty formulating gross profit over 24 months, particularly for an on-line retailer emerging from lockdown, it was argued that the broker should have recommended a declaration linked policy (offering an automatic uplift on the sum insured, typically 130%, to accommodate unforeseen growth, and with no “average” clause) rather than policy cover based on estimated gross profit.
The broker should have realised that Infinity needed additional cover for the fit out costs that it would have to incur in the case of a worst case event, such as its warehouse being totally destroyed.
The broker’s position
It admitted it had breached its duty of care in providing a misleading explanation but raised a causation defence to the claim i.e. the failure on its part made no difference to the end result. It argued that because of the risk of variable, more costly, premiums, Infinity would not have bought either declaration based cover, nor cover for the additional fit out costs. It also argued that Infinity had made its own miscalculations when deciding on the level of cover it needed to buy, such that any error in the broker’s advice made no difference .
The Court Ruling
- The broker had provided misleading guidance and that but for this Infinity would have obtained a higher figure for its gross profit and as a result been fully insured.
- The fact that Infinity’s Finance Director did not want variable premiums back in 2018, plus the possibility this might reflect company policy at the time, was insufficient grounds for the broker not visiting the merits of a declaration linked option in 2020. At this point (Infinity then emerging from the pandemic and with a new Finance Director) had this option been given to Infinity, it would likely have bought it.
- In terms of the fit out costs, the Broker was aware that Infinity was reliant on the Cygnia warehouse. In this regard, whilst a broker could not be expected to audit all the information given to it by Infinity, it should have asked questions about the obvious issues that needed to be covered by Cygnia’s insurance, which would have included fit out costs.
- However, Infinity’s damages were reduced by 20%c(contributory negligence). This was to reflect its own shortcomings in not correctly applying adjustments to future performance when performing its own calculations using the broker’s guidance.
Infinity’s problems are a timely reminder of the care that needs to be taken both by the broker and the Insured each time the insurance policy (being an annual contract) is renewed. This is particularly when considering profit forecasts and the benefit Declaration Linked cover provides to a business, often at limited cost.
Claims for under insurance are also by their nature fact dependent and recovering losses needs guidance from lawyers with specialist experience in coverage disputes.
If you would like advice about an under insurance issue please contact Tim Toomey.
Please note that this briefing is designed to be informative, not advisory and represents our understanding of English law and practice as at the date indicated. We would always recommend that you should seek specific guidance on any particular legal issue.
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