When a business’ profits are dependent on having a truck or fleet of trucks fully operational, any downtime can lead to lost profits. For that reason, many purchase optional coverage and can make claims if a vehicle is inoperable due to theft, damage, mechanical failure or other problems.
When those things happen, loss of income is calculated as the average daily revenues earned, minus the average daily expenses saved during the downtime period. This is called daily loss of contribution margin.
Costs relevant to the contribution margin calculation include variable expenses (including but not limited to fuel, repairs and maintenance, tolls and wages), or expenses that vary in direct proportion to revenue activity.
The daily loss contribution margin is then multiplied by the number of days the truck would have been available for use and operated had the incident not occurred. So:
- An insured truck had an accident on Jan. 1 and repairs were done by Mar. 1.
- Historical use shows the truck would have operated Mondays through Fridays, except holidays.
- Making total downtime 39 days.
- The truck earns daily revenues of $800 and has average daily variable expenses of $400.
- Daily loss of income ($400) is multiplied by 39 days for a total loss of $15,600.
Sometimes it’s hard to calculate variable expenses for a particular vehicle. For example, a business may own several trucks but not track individual fuel use for the truck involved in an accident. In that case, an estimate can be derived from the ratio of fuel costs to the total business revenues. The resulting percentage can be applied to the loss of revenues for the specific truck.
Seasonality should also be considered, such as if a snowplow was stolen in July and replaced three weeks later. Snowplows aren’t used during summer, so it’s not reasonable to claim loss of income. But for a landscaping company, having a tree-cutting truck stolen in July could be significant.
Business income that mitigated losses during a downtime period should be deducted from the estimated loss of income for the period – including profits generated by rental equipment or reallocated capacity from other units in the policyholder’s fleet.
And, while it appears simple, the formula can become nuanced. For example, estimating the truck driver’s average daily revenues during the downtime period is like trying to project revenues during the indemnity period in a business-interruption loss.
Financial analysis of the loss should be based on accounting records. Typical documentation required to calculate income loss includes personal and corporate income tax returns, financial statements or revenue documentation (i.e., trip logs and invoices, general ledgers, accounting ledgers, fuel logs and bank statements).
A common problem when estimating a claimant’s income loss is that they don’t maintain complete financial records on operating results.
For example, if a business hasn’t prepared financial statements or even tax returns for a few years, it may be hard to determine the financial impact. Thankfully, other types of financial documentation can substantiate financial results, such as credit card statements, bank statements, and receipts or invoices.
If a business didn’t retain sales invoices, an analysis of deposits from bank statements may corroborate the claimant’s revenues (assuming they’re all deposited). But this records analysis takes time and will delay the claims process.
Kevin Thomas, is a manager of forensics at BDO Canada, and Tony Militello is a director of forensics at BDO Canada. This article is excerpted from one that appeared in the August-September issue of Canadian Underwriter. Feature image by iStock.com/steved_np3
