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Airlines in a flap over business interruption

Call it an act of god, act of nature or simply bad luck, but the airline industry just can’t seem to take a trick.

Already operating on razor-thin margins, the international aviation industry has been punished over the years by acts of terrorism, escalating fuel prices and now, bizarre as it seems, a volcanic eruption.

The Icelandic volcano Eyjafjallajokull erupted on April 15, paralysing air corridors across the UK, Scandinavia and most of the rest of Europe. Hundreds of thousands of passengers were stranded in international terminals. Costs to the airline industry are being measured in the billions of dollars.

Unlike most natural disasters, where insurers pick up the tab and reinsurers any exorbitant run-off, the ones holding the insurance policies will have to front the costs themselves.

Ian Smith, an Aon strategic account executive specialising in aviation, says the problem for airline carriers is twofold.

Firstly, the deductible wording in most business interruption policies runs at 14 days, meaning any airline wishing to make a claim must demonstrate the incident halted service for two weeks. With airlines tentatively pushing their fleets back into service, this timeframe is unlikely to be breached.

Secondly, business interruption policies lack sufficient complexity to deal with the fallout from a volcanic eruption. The standard wording only covers losses caused by property damage, meaning that airlines with loss of use cover would still not qualify.

Even in a scenario where ash fell directly on an operating aircraft, the resulting engine damage would be covered, but any other lost revenue would be highly contestable.

“It’s one of those terribly unfortunate situations,” Mr Smith says.

The International Air Transport Association (IATA) says airlines will take a $2 billion revenue hit, although as Mr Smith notes and IATA concedes, savings in operating costs, such as fuel, will offset some of the losses.

IATA says cost savings relating to flight groundings are about $US110 million ($119 million) a day. But the association is quick to point out that airlines face other costs, such as accommodation for grounded passengers.

Qantas has been reimbursing accommodation, meals and incidental expenses of up to $300 per day per booking. Bookings of three passengers or more are supplemented by up to $100 per passenger per day.

European Union airlines are bound by regulations to offer meals, telephone calls home, refreshments and accommodation – but anyone outside the EU or travelling with a non-EU carrier must rely on travel insurance.

Will business interruption policies be reviewed to take into account similar events in the future? It’s unlikely. While some carriers may revisit their policies with brokers, the costs of inserting a volcano clause for an event that may not be repeated would be a large enough disincentive.

Unfortunately, airlines’ business interruption insurance will not cover the cost of the volcano’s interruption to business. While many airlines which are already financially stretched may view this unfair, as things stand it’s just another cost they’ll have to bear.