Loss of Stock and Assets, Average Clause

Loss of Stock:

When a fire occurs, it destroys a number of assets such as building, machinery, furniture, stock, etc. The books of account maintain accounts of all the assets except (usually) stock-in-trade. The value of stock on hand on the date of fire, therefore, has to be estimated.

This is done by ascertaining the cost of goods sold (sales minus the gross profit at the usual rate) and then deducting it from the total of opening stock, purchases, wages and other manufacturing expenses. All figures except relating to gross profit will be available from the books of account; gross profit will be the average rate of gross profit earned in the previous years adjusted for known changes.

Average Clause:

In order to discourage under-insurance, fire insurance policies often include an average clause. The effect of this clause is that if the amount of the policy is less than the value of the subject-matter insured, the insurer will be liable only for that proportion of the loss which the amount of policy bears to the total value of the subject-matter.