Business Interruption, Income Loss & Value-At-Risk To Catastrophes

Not all risks are insurable. In accordance with the natural and fundamental operation of the practice of insurance, insurers envision certain characteristics that they attribute to “ideally insurable” risks. One of these key elements of an insurable risk is the degree of loss caused by the risk, if loss were to occur. For an insurer, an insurable risk would ideally not result in devastatingly destructive loss; in other words, the risk must not be catastrophic. However, the difficulty of insuring against catastrophes does not lessen the importance for companies to be able to estimate how their own performance will be impacted by the occurrence of a catastrophic loss. This paper aims to estimate the extent of a firm’s business interruption, income loss, and value-at-risk to a catastrophic loss event. The study involves a Poisson-Pareto calamity simulation to estimate business interruption and income loss, and a modified VaR simulation that offers a customized estimation of value-at-risk to catastrophe. The data utilized to run these simulations is gathered from the financial statements of a thoroughly and realistically imagined hand-tool manufacturing company—Kingston Tools, Inc.—in order to provide an estimation of the firm’s risk in a catastrophic event.