Event cancellation insurance: calculation of the net loss observed in practice | JS detained

[author: Giles Archer]

Introduction

“A canceled event is better than a canceled life,” says World Health Organization Director-General Tedros Adhanom Ghebreyesus during a speech in December 2021 in response to the spread of the COVID-19 Omicron variant . The COVID-19 pandemic has led to a significant increase in canceled events, leading to an unprecedented level of event cancellation insurance claims.

This article will discuss the purpose of event cancellation insurance, how these losses can be calculated, and some common issues encountered when quantifying these claims.

Why have event cancellation insurance?

Events mainly consist of a significant amount of upfront costs such as paying for talent, designing the event space, choosing the venue, hiring staff to organize and run the event, and publicity. Revenue is accrued gradually during the preparation of the event, based on sponsorships and ticket sales. As a result, the event organizer is at significant risk due to the way the event’s working capital cycle unfolds.

For example, if a paid music event is canceled the day before the event, due to extreme weather conditions, the vast majority of expenses will have been incurred (such as venue rental, stage costs, artist fees , security, etc). Additionally, it is likely that most of the tickets have been sold out for the event and therefore the event organizer will likely have to refund all tickets in full (subject to the ticket terms and conditions). As a result, the Event Organizer will have incurred all expenses without generating revenue (no retained revenue).

Event cancellation insurance

Event cancellation insurance can protect the income and expenses of an event (or series of events) against the risk of cancellation, postponement, reduction, relocation, postponement or abandonment of the event for reasons beyond the control of the organizer of the event (the owner of the policy). This can protect the event against perils such as:

  • Civil unrest
  • Communicable disease (although since outbreaks such as Covid-19 this may not be included in standard coverage)
  • Key talent (absenteeism / illness)
  • labor strikes
  • National mourning
  • Extreme weather conditions
  • Terrorism
  • Unavailability of the place

Net loss recognized

Once triggered, the response stated in the insurance policy is often based on a definite net loss wording. This can cover, for example:

  • The costs irrevocably incurred within the framework of the insured event, after deduction of the savings that the Organizer of the Event is able to make to mitigate the damage,
  • The profit reduction (where stated in the policy schedule) which the event organizer can satisfactorily demonstrate would have been earned had the insured event taken place,
  • Minus that portion of the gross income received or receivable.

In practice, this generally includes expenses that the event organizer has already incurred (or is contractually obligated to pay) that it is unable to mitigate, plus the net profit than the event organizer would have generated if there had been no loss, less any revenue the event organizer may retain, such as ticket cancellation fees or sponsorship revenue already earned .

In the ticketed music event example above, this will likely cover all expenses incurred, plus the profit that would have been made had the event gone ahead as planned (i.e. in the absence of extreme weather conditions). This would be calculated as ticket revenue minus total expenses. If all proceeds from the note were repaid, there would be no undistributed income to deduct in calculating the net loss recognized.

Issues that can complicate the quantification of claims for net observed losses include:

  • For events that are not intended to be profit-making, coverage is likely to exclude the profit element and include only the costs that have been incurred.
  • Some insureds may choose to only partially insure the costs associated with an event, which may have been overlooked during the preparation of the claim.
  • Revenue may be retained by the event organizer for future events, in which case if it can be shown to be a contractual obligation, the associated revenue is unlikely to be treated as revenue. retained earnings.
  • Event expenses can be mitigated or deferred to future events, and therefore, although expenses are incurred, they are not incurred for the covered event.
  • Underinsurance: The actual event may exceed the declared value of the event cover and therefore the loss may be limited to the declared value.

Conclusion

Each claim is unique, requiring careful analysis and review of supporting evidence, which is where a forensic accountant can assist in all aspects of validating net loss claims. This is especially true when it comes to verifying expected net profit, assessing actual expenses irrevocably spent, or determining whether the event organizer was able to mitigate its loss through retained earnings. or reducing expenses.

Thanks

We would like to thank Giles Archer for his knowledge and expertise which greatly aided this research.

Ann J. Cox