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Clayton Carr
Username: Clayton

Post Number: 91
Registered: 11-2001
Posted on Saturday, August 17, 2002 - 1:09 pm:   

Cory - first, "all" the discussion of ACV and depreciation is not irrelevant to farm and ranch policies (a.k.a. agri policies). The applicability of ACV and depreciation within the context are considered (when in the wording of the policy) as terms and conditions - not "regulations".

Agri structures have and are being written on fire and extended peril forms subject to RC a/o ACV, however in the last 20 years or so this is becoming the minority practice as opposed to the more usual and current practice of utilizing stated amount or valued agri policy wordings. Those amounts can range from the developed ACV at the time of study to as low as a "demolition or wreckage" value of the subject structure.

The fundamental reasoning behind this practice is rooted in the components of depreciation - the measure of the decrease in value between the RC new and the present value of the building.

Most times (other than agri exposures) we consider only physical depreciation - the reduction in value due to age and physical wear and tear. However, with agri exposures other equally important components of depreciation must be considered - functional obsolescence and economic obsolescence.

Functional obsolescence ("FO") is a measure of the decrease in value within the building caused by the inability to adequately perform its intended function. This loss in value is due to the development of new technology and is always caused by factors inherent in the property. Inadequacy, lack of functional utility, and use of obsolete materials contribute to FO. Often it is necessary to consider FO caused by the overall structure layout, appearance or design, which make the structure as a whole less desirable for its current usage. There are no guidelines or tables to calculate the depreciation caused by FO, this determination is subject to the experience and judgement of the person making the valuation. Perhaps this will be better to understand later with a few of the examples given.

Economic obsolescence ("EO") is a measure of the decrease in value independent of the subject building and is caused by external factors or economic influences in the subject community. EO may be caused by zoning ordinances or environmental changes in a neighbourhood. Since EO affects the total property, adjustments for EO are made after all other forms of depreciation have been taken into account. Again, there are no tables or guidelines to estimate this type of depreciation, and its computation is based on the experience and judgement of the person making the valuation.

I think the movement away from "traditional" RC/ACV wordings for agri exposures is due to the aging nature of the agri building inventory. I can not put my finger on it now, but I have seen statistics illustrating the increasing age of agri structures in Canada; not sufficiently offset by new agri construction - whether family or corporate agri. This is comparable in much the same way as our aging population, not offset by new birth.

I believe a few examples of how FO and EO depreciation apply to agri is warranted, and may be helpful in understanding the insurance industry move over the years to stated amount or valued wordings for agri buildings.

Lets look at a dairy operation. The father milked 20 then over the years increased to a 40 head herd. The next generation got involved and clearly understands that a 40 head herd is a money pit, but that a 120 head herd would provide sufficient cash flow for debt reduction and profit. So, a new milking barn is built with the latest technology to handle 100+ head of milking cows. The old dairy barn, 40 to 60, or 50 to 80 years old is stripped of its milking equipment, stantions etc and can be utilized as a dry cow barn a/o calf barn. This was not the intended use or built for purpose of this structure. The dairy man will get by with this converted usage, but for its current converted usage it is in some ways inadequate and has a lack of some functional utility a/o utilizes some obsolete materials or components. When this structure is destroyed by an insured peril, the farm requires a structure suitable for the calves and dry cows that are associated with a 100+ head dairy herd. It makes no sense to build a like kind structure that existed - it was burdened with FO. Therefore, from an insurance standpoint - to the benefit of both the insured and carrier - that former structure is best insured on a stated amount basis. This example is further amplified when that old dairy barn is stripped and used for any type of agri swine production that is often found as a supplement to family farm dairy operations. Here the inadequacies and lack of functional utility are much greater, and hence any consideration to rebuild like kind for current usage is of no benefit to the insured.

Examples I have encountered when the policy had a valued amount set as the demolition or wreckage value of a structure, were the logical choice. Normally they are old barns with no livestock functionality or utility usage left, but that are marginally satisfactory for feed, hay or straw storage. Again, when destroyed, there is no logical consideration for rebuilding like kind when the appropriate business decision is to construct a Hay Shed, Granary, or feed handling building.

EO on agri business is often caused by encroaching urban development on the farmland. I believe the overall staggering loss of productive farmland yearly in North America will in the next generation or two, lead to the extinction of the "family farm" and leave us only to the whims of the corporate agri giants. The family farm / ranch is subject to great pressures of EO when new subdivisions appear 10 fields away and next year only 5 fields away. Municipal zoning allowing usage change from agri to residential impact EO, and this is later amplified by the surrounding residents who belittle the hand that feeds them with their "not in my back yard" attitude concerning the waste by-products of the agri business.
Roy Cupps
Board Administrator
Username: Admin

Post Number: 155
Registered: 1-1997
Posted on Saturday, August 17, 2002 - 10:28 am:   

Bulletin Board Transfer, Posted: Cory Edmiston

So let me get this right.....All of the discussion regarding ACV and Depreciation does not apply to Farm and Ranch policies? Why are they not subject to the same regulations. An Adjuster to Adjuster Community

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