Total fire loss at a leased warehouse: indemnity measure, average and subrogation
A fire on 3 March destroyed all the stock held in a leased warehouse occupied by Brightline Foods Ltd. The tenant's commercial property policy covers stock for CNY 8,000,000 on a market value basis and tenant's improvements for CNY 1,500,000 on a reinstatement basis, with one CNY 50,000 deductible per occurrence and a CNY 9,500,000 total sum insured. The landlord's policy covers the building shell only and expressly excludes tenants' fittings. Investigators traced ignition to a refrigeration compressor maintained by CoolAir Services under a landlord contract capping liability at CNY 200,000 and waiving subrogation "in favour of the landlord and its insurers"; the tenant is not a party to that contract. At the date of loss stock had a replacement cost of CNY 9,400,000 and a depreciated value of CNY 7,100,000; the improvements would cost CNY 2,300,000 to reinstate but are worth CNY 1,400,000 depreciated, and the tenant has told the loss adjuster it will not reinstate because the lease ends in August. Stock declarations of CNY 8,000,000 were submitted for the last three quarters while turnover rose 30%.
1. State the basis on which each item should be settled, calculate the indemnity payable, and explain where the average condition bites.
Read the worked answer
Stock - market value basis. The measure is the cost to replace at the date of loss less depreciation for age and usage, i.e. CNY 7,100,000. The sum insured of CNY 8,000,000 exceeds the value at risk, so no average applies, but the insured cannot recover more than the value at risk: over-insurance does not create profit, because the policy indemnifies loss, not the declared figure. Pay CNY 7,100,000.
Improvements - reinstatement basis. Reinstatement cover is conditional on actually reinstating. The tenant has confirmed it will not, so the claim falls back to the indemnity measure of CNY 1,400,000. However, the sum insured was declared on a reinstatement footing and CNY 1,500,000 is 65.2% of the CNY 2,300,000 reinstatement cost, so the average (coinsurance) condition reduces the settlement proportionately:
- CNY 1,400,000 × (1,500,000 ÷ 2,300,000) = CNY 913,043
Deductible. The policy applies one deductible per occurrence, not per item, so deduct CNY 50,000 once from the combined figure:
- 7,100,000 + 913,043 − 50,000 = CNY 7,963,043, comfortably within the CNY 9,500,000 total sum insured.
Points to check. Confirm the exact average wording - some reinstatement clauses apply the proportion only to an actual reinstatement claim, which would be worth arguing. Confirm there is no recoverable scrap or salvage, since a total burn-out rarely leaves value but the insured must not recover twice.
2. Can the tenant's insurer pursue CoolAir, and how do the contractual cap and the subrogation waiver affect the position?
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Right of action. Once it pays, the insurer is subrogated to the tenant's rights of action to the extent of the payment. The compressor was the landlord's equipment, but the tenant's cause of action (negligent maintenance, nuisance, breach of a duty of care owed to occupiers and their property) is the tenant's own; it does not depend on the maintenance contract.
Effect of the cap and waiver. Both are contractual terms binding only the parties to them. The waiver runs "in favour of the landlord and its insurers", so it bars the landlord's property insurer from suing CoolAir; it does not extend to the tenant or the tenant's insurer, who are strangers to it. Likewise, the CNY 200,000 cap is a limitation agreed between the landlord and CoolAir and does not automatically cap a claim brought by a third party - although CoolAir will argue it is evidence of a reasonable allocation of risk and will dispute that it owed any duty to the tenant.
Practical judgment. Advise the insurer to:
- Put CoolAir and its liability insurer on notice now, before evidence deteriorates.
- Bring the action in the tenant's name, as subrogation requires.
- Recover no more than it has paid, and account to the tenant for the uninsured balance (the CNY 50,000 deductible and the CNY 486,957 lost to average).
- Value the claim realistically: a contributorily negligent landlord, an arguable absence of duty to the tenant and CoolAir's likely resistance to a cap-free claim all reduce expected recovery.
3. The broker asks whether the stock sum insured is a problem. Advise on adequacy, basis and the firm's own exposure.
Read the worked answer
On the current basis there is no shortfall. The sum insured of CNY 8,000,000 against a market value of CNY 7,100,000 is adequate, and the 30% turnover growth is irrelevant to this claim because the value at risk, not turnover, drives it. The three declarations of CNY 8,000,000 were not wrong; they were simply not re-forecast.
The real risk is basis drift. If the insured later moves to replacement cost cover, the same sum would be 85% of the CNY 9,400,000 figure and every claim would be cut by 15% under the average condition. The 30% growth means the gap widens each quarter. Advise:
- Record the basis in writing at each renewal and confirm the insured understands market value versus replacement cost.
- If replacement cover is wanted, re-rate and re-set the sum insured, adding a margin (typically 110%) for price movement between renewal and loss.
- For fluctuating stock, recommend a declaration or floating-stock policy with monthly declarations and a 100% average clause, which removes the year-end guessing.
- Obtain a professional valuation for the improvements, where the shortfall is already real: CNY 1,500,000 against CNY 2,300,000 reinstatement cost.
Exposure. If the broker undertook at renewal to keep sums insured under review and did not flag the growing gap, that is a potential professional indemnity notification. Diarise the point, tell the client, and do not amend the file retrospectively.