In today’s changing economic and social climate, it is increasingly important for egg farms to have a carefully designed strategy for risk management and insurance placements. The strategy should evaluate, quantify, and address potential loss, and outline solutions to hazard risks, financial risks, operational risks, and strategic risks. Each one of these risk areas can have a significant impact on an egg farm following a direct and/or indirect loss. Without this careful analysis, an accurate price versus value comparison cannot be performed, leaving an egg farm mired in the unknown for the consequences of a future loss. This white paper will focus on the price versus value considerations of an effective property and boiler insurance program, and how it can protect a farm from the effects of direct and indirect hazard loss. It will review the simplistic and technical influences on the costs of loss, as well as the inherent exposures associated with an Egg Farm.
THERE’S CHANGE IN THE AIRCurrently, there are signs that the insurance market is beginning to harden. Price increases in the reinsurance market, poor return on investments on Wall Street, and climbing loss ratios for the worldwide insurance market will eventually drive retail insurance premiums higher. Along with premium increases for property and boiler insurance, risk managers will have to contend with restrictions in overall terms & conditions and higher deductibles. Some property and/or boiler insurers will propose coverage programs with limited coverage in many of the most important areas at reduced costs just to try and build some premium volume in hopes of riding out the market increases - buyer beware! It is now more important than ever for egg farms to address the price vs. value proposition for the property/boiler portion of their insurance & risk management strategy. Furthermore, the economic climate due to the current recession makes it ever more important to adequately evaluate any alternatives that may be appropriate.
ALL IN GOOD INTENTThe intent of any insurance contract is to indemnify an insured, meaning to place the insured back into the position they were in prior to a loss. This is great in theory, but the complexities of an egg production business model in relation to a property and/or boiler insurance contract make this a difficult proposition. Coverage grants, exclusions, and deductible clauses each play an important role as to whether or not an egg farm will be made whole after a given loss. This becomes particularly important when comparing coverage for live animals, and the environment in which they live.
THE COMPLEXITIES OF EGG FARM RISK MANAGEMENTThe Egg Farm of today is a highly automated enterprise that needs a constant flow of utilities to operate. Electrical power is needed to maintain a bird sensitive environment. Water, feed, and especially ventilation contribute to conditions designed to maximize egg production and processing efficiencies. These environmental conditions all affect the health and vitality of a flock of birds. The flock is essentially the equivalent of production equipment in any manufacturing plant, except with much more sensitivity to the slightest change in any of the aforementioned factors. When an event occurs that affects any one of these necessities, there is a hazard loss that produces a direct financial loss, and most often times produces an indirect financial loss as well. The framework of the insurance coverage program in place determines whether or not indemnification will be adequate to fully compensate for the loss.
After a direct loss to plant and equipment, the affected property will obviously need to be either replaced or repaired. As such, buildings, processing equipment, EDP hardware, and other owned property should all be valued at replacement cost valuations to ensure full indemnity. Correctly insuring direct loss to birds requires the ability to be able to determine bird values based on many factors. Age, feed costs, housing costs, and other factors all need to be accounted for prior to any loss. Indirect or consequential loss sets in motion additional consequences which are not only limited to further direct damage, but to financial loss resulting from the loss of production facilities.
ADJUST THE FUTURE LOSS NOWIdeally, the risk management process should provide the opportunity to assess the impact of a loss in each one of these areas prior to a loss. As part of the evaluation process, “potential loss value” should be identified and analyzed, in essence adjusting the loss before it happens. The cost of replacing the buildings, equipment, and livestock should be well researched in order to be properly indemnified after a future loss. Proper indemnification requires that the insured and the insurance provider have the ability to properly understand the costs associated with rebuilding the facilities, and that both parties agree on the intent of insurance policies. Making things difficult is the fact that construction costs have risen dramatically in the past five to seven years due to a multitude of external influences. Furthermore, certain parts of the country require different construction considerations such as wind, snow load, ventilation and, earthquake exposures, to name just a few. One thing is certain; the social influences on bird density and care has significantly increased the cost of re-constructing egg production facilities. New bird density requirements imposed by groups such as PETA, McDonalds, Burger King, as well as the public’s yearning for organically produced eggs have had a major impact on determining proper insurance limits. In addition, building codes and laws have been updated with new standards in regard to wiring, plumbing, and construction design. All of these factors must be calculated into the per-bird cost of constructing or re-building egg laying barns and processing centers.
THE SAME HOLDS TRUE FOR THE FINANCIAL LOSSThe potential financial loss resulting from a direct hazard loss continues to increase. The financial result of the interruption of a farm’s revenue stream after a loss can be staggering, as it is usually a moving target. When a direct hazard loss occurs, there are two key areas of loss to focus on; the retrospective and the prospective analysis. We have discussed the retrospective side of a loss; buildings, contents, and bird replacement. Looking at inventory, finished product needs to be addressed on a “selling price” basis to account for the expenditures assumed in producing the product, as well as the recognized profit for sold goods accounted for on the books. Looking prospectively, the ability to produce eggs has been lost, which is essentially the loss of production machines. Depending on where the loss occurs within the cycle of the specific flock or flocks of birds, a loss could be significant. All of this is subjective, based on bird costs (feed, electricity, housing), the price of eggs at the time of loss, and the total duration of the down time.
BUSINESS INTERRUPTION & EXTRA EXPENSEBusiness interruption insurance should be written to account for the “actual loss sustained” until the facility is functional to where it was prior to the loss. The definition of “facility”, and “put in the position prior to the loss” will have significant implications relative to the interpretation of the loss for both the insured and insurer perspectives. As such, there must be a complete chain of synergy and understanding between the insured, the broker, and the insurance carrier to provide the basis for proper indemnification. In addition, to be indemnified for your inability to produce product, there must be provisions in the policy to procure eggs in the market to help keep product for your customers. Accordingly, extra expense associated with mitigating the business interruption loss is an essential part of an egg farm’s property insurance program. Here again, this is a moving target, based on the same parameters discussed earlier. Adding to the complexity is the contingency planning that would provide a plug and play strategy to obtain product from third party producers in order to get it to customers. This is essential in order to preserve customer base and valuable market share. Only when this contingency planning is completed can an accurate value be determined for extra expense coverage.
PRICE TO VALUE PROPOSITION– YOU GET WHAT YOU PAY FORFrom a property loss standpoint, the egg industry is regarded as volatile, and the number of insurers that operate in this space is limited. Even still, these insurers are weary of the industry and have always tended to underwrite the risks with a heavy dose of caution. Now add in the hardening insurance market, increasing construction costs & building code changes, as well as the current economic conditions, and risk management for egg farms gets difficult at best. Now, more than ever, egg farms need to be forward looking in terms of potential loss from a multi-dimensional point of view in order to have the most appropriate property & boiler insurance program. If not, the ability to understand the ramifications of the terms and conditions that insurers offer may create a future loss pitfall. Only then can the value be understood, forming the basis for crucial business decisions associated with insurance & risk management. Times are tough for everyone, including the insurance industry, and they are looking for ways to control costs just like everyone else. They do this by means of premium increases, tightening underwriting guidelines, and restricting terms & conditions. Egg farms must be ready for these changes and have strategies in place to address them.
As the saying goes, you get what you pay for. But you have to understand what you are getting, and more importantly, what you need.
Thomas Gregory Associates is a Property & Casualty and Employee Benefits insurance brokerage specializing in risk management & insurance for egg farms across the United States. For more information, contact Tom Gregory at (781) 914-1000 or tgregory@thomasgregory.com