Guessing game jitters: as companies cut costs and boost productivity by using complex inventory management techniques, they may be unwittingly putting themselves at risk for a property loss—their own, or that of a key supplier. This murky pool of unknown and unknowable risk is giving underwriters a bad case of the jitters

Risk & Insurance, April 15, 2005 by Paula L. Green

Service industries, such as a catalog company that fills its customer orders through a third-party call center, are also at risk.

But it is corporations reliant on a single source, such as a semiconductor maker who obtains its chips from a specific Taiwanese factory, or a process industry like petrochemical that is dependent on a variety of products to complete the manufacturing process, that are especially exposed, industry experts say.

"Generally, the more complex the business process is, the larger and more complex is your supply chain," says Gary Marchitello, managing director of national property syndication at AON in New York City. "And the loss of a supplier could shut you down entirely as if it were your own loss."

That makes risk identification--pinpointing the critical products used in the manufacturing process and the sources of these products--a vital process for corporations. The second step is risk measurement: measuring the financial impact of losing the products obtained from any of those suppliers.

Bean says that underwriters work with corporate risk managers to analyze the company's manufacturing process so they can understand the company and the risk before they issue a policy. And if a corporation can't identify, its suppliers, its CBI cover will include smaller limits.

"When the underwriters write a CBI risk, they want to know the location of the supplier and the protection at the location," says Suzanne Douglass, managing director, property, at Willis Risk Solutions in New York City. "The underwriter is going to say, 'If you can't tell me who the supplier is, I'm going to put a limit on the risk.'"

So if the limit for business interruption cover on a commercial property policy for a large multinational is $500 million for a 12-month period, for example, the CBI coverage for an unnamed supplier would be limited to $25 million. CBI coverage for a loss suffered by a named supplier would be greater at about $150 million--if the insurer is not writing risks for other corporations dependent on that same supplier, Douglass adds.

But in some cases, the risk manager simply doesn't have the answers for their insurer. "In a big firm, the risk manager doesn't necessarily know what deals the various business units are cutting with their suppliers," says Miller of XL. "And the deals with suppliers are changing all the time. The risk manager has a credible problem because the business side is moving fast."

In addition to writing smaller limits, underwriters are handling the unknowns of CBI coverage with contracts that contain more specific language. Since the hardening of the property, market that began in the late 1990s, commercial contracts frequently include language that excludes any losses claimed by unnamed suppliers. The cover for unnamed suppliers has to be added on.

And underwriters limit their exposure by not writing too much CBI cover for companies in one industry that may be dependent on the same supplier. "CBI in today's world is an unplumbed exposure for many, many people. So many companies are changing so rapidly to respond to the demands of the global economy that it's a tough risk to write," says Douglass of Willis. "CBI will be a significant risk going forward."