Hotel Business Interruption Claims Presented by: Tracy Cooper
Presented by Tracy Cooper
When a property suffers an insured loss of profit due to business interruption, such as that caused by weather-related damage to the physical plant or insured losses due to construction delays; hotel owners, or their asset managers, should complete a significant and detailed analysis to calculate the loss of income due to the event. This calculation can be used as part of an insurance claim to re-coup a financial loss.
The calculated loss is based on the assumption of a hypothetical circumstance, in which the event which caused the loss is assumed to not have occurred. In other words, the difference between the income that would have been generated if the damage or delay hadn’t happened, and the actual income. This can be substantiated as the appropriate insurance claim for a business interruption loss.
The financial loss calculations may include the room’s revenues lost from actual cancellations of transient and group rooms’ revenue, as well as cancelled catering and banquet business. The calculations should also include all incremental expenses associated directly with the loss, such as additional clean up crew, or regional management oversight expenses.
When calculating financial losses, there are several questions that should be taken into consideration:
- What was the property budgeted to achieve during the period of loss?
This is generally a very reliable and supportable figure, provided the date of loss is close to the beginning of the year, when budgets are relied upon most heavily. Using a budgeted number is limited in its use in that typically hotel budgets are done within a one month period. So long as the date of loss covers the entire budgeted period, budgets can be relied on as one data point for estimated the loss.
- What did the property’s onsite management reforecast to achieve during the period of loss?
The management reforecast for the period of loss is a slightly better indicator of lost income, particularly if the date of loss is later in the year. In the best of situations, reforecasts take market changes, booking pace, and real time data into consideration when being developed, and as such present more meaningful look at what might have occurred during the loss period than a budget might. Reforecasts are limited in their usefulness based on the quality of the analysis completed by those developing them, however. An asset manager or owner might do well to analyze the historical accuracy of management’s reforecast and adjust accordingly. Reforecasts have the added benefit of sometimes being completed on a weekly or daily basis, depending on the time period utilized for the analysis.
- What was the property’s booking pace (guestrooms, banquet and catering revenue) prior to the date of loss?
This is an important portion of calculating the loss for full service hotels that rely heavily on group roomnights, banquet revenue and catering revenue Using historical pick up percentages, together with booking pace data will assist with the calculation of what the estimated group and banquet revenue could have been had the event not occurred.
- What other revenue centers are available at the hotel and what generates that revenue?
If the property generates other non-rooms related revenue, such as through its onsite restaurants, spa, gift shop, retail outlets or any other revenue center, calculating what that other revenue could have been during the period of loss is crucial. Depending on the department and the complexity of the hotel’s operation, it may make sense to calculate a relationship between occupied roomnights or percent of total rooms revenue to other revenue generated at the property.
- Of the lost departmental revenues, what profit ratios should be applied?
Due to the fixed and variable nature of a hotel’s operations expenses, departmental profitability is tied to what in particular generates a type of revenue. For example, incremental increase in average daily rate is much more profitable than incremental increases in occupied room nights. As such, taking a straight profitability ratio on lost revenue is an inappropriate method of calculating lost income on lost revenue. An analysis of the components of the lost revenue, together with their respective profitability ratios, should be considered.
- How did the market perform during the period of loss?
If the period of loss was not a function of a weather related event (such as a major hurricane) that would have affected the rest of the market, it is helpful to review the performance of the competitive market during the period of loss. Smith Travel Research can provide daily data reports on the rooms occupancy and average daily rate of a particular market and this data can be reviewed, together with a hotel’s historical performance, to determine how the property might have operated in the market had the loss not occurred. Consideration and adjustment must be made for the affect that the property’s out of order rooms might have had on the overall market as a whole.
- Did the property capture incremental revenue as a result of the loss event?
An owner or asset manager must review the potential incremental increase in revenues and profit as a result of the loss. For example, if, during the period of loss the hotel captured a group that otherwise would not have been in the market but for the event (such as a FEMA work crew following a hurricane), then this revenue and profit on the group must be considered when calculating the total lost income to the property.
Tracy Cooper is a senior contract consultant with Pinnacle Advisory Group, and is based in Rhode Island. She currently serves as a Visiting Lecturer for Hospitality Asset Management at the School of Hotel Administration at Cornell University.