COVID-19 Business Interruption Update: Further details of FCA Test Case
The FCA has now published details of its proposed test case in which it seeks to determine a number of coverage issues common to a majority of declined COVID-19 business interruption claims.
Insurers/Policy Wordings
Following consideration of over 1200 submissions to its preliminary policyholder consultation process, 17 Policy wordings have been selected as a representative sample covering the broadest spread of common issues.
At present the FCA has indicated that 16 insurers have issued policy wordings within the list identified, eight of whom have been invited to participate in the proceedings:
• Arch Insurance (UK) Limited
• Argenta Syndicate Management Limited
• Ecclesiastical Insurance Office plc
• Hiscox Insurance Company Limited
• MS Amlin Underwriting Limited
• QBE UK Ltd
• Royal & Sun Alliance Insurance plc
• Zurich Insurance plc
It is anticipated however that other insurers who have issued policy wordings materially identical will also be affected by the court’s finding, and the FCA intends to issue a comprehensive list of affected insurers in July.
Issues
As anticipated, the focus of the proceedings is on the coverage provided by ‘non-damage’ extensions to business interruption policies, including Non-Damage Denial of Access, Infectious Disease, and Public Authority clauses.
The key issues that have been determined to be common to a majority of disputed COVID-19 BI claims include the following:
• What is meant by ‘interruption or interference’ and is closure required in whole or in part?
• Does “notifiable disease” or “human infectious or human contagious disease” include COVID-19?
• If the disease is required to be in the “vicinity of the insured premises” what does this mean?
• If the policy requires that the disease must exist within a geographical limit of the premises (e.g. 25 miles) what is required by way of proof?
• What is the meaning of an “occurrence” of notifiable disease or an “outbreak” of notifiable disease?
• What does a policyholder have to prove to show prevention or hindrance in access or use of premises?
• What is meant by “actions”, “advice”, “restrictions” imposed by government or other authority?
• What is meant by an “emergency likely to endanger life” (or similar)
• What is meant by “public authority” or “competent local authority”?
• What are the relevant causal links that must be established depending on the words used in the policy?
• Is there more than one potentially operative cause of loss, and if so what is the effect on recovery?
• What effect do any trends clauses have on the application of causation arguments?
• Do micro-organism, pollution or contamination exclusions act to exclude the losses?
Timeframe and Procedure
The FCA intends to file its claim on 9 June 2020, with Defences to be filed by 23 June 2020, and a final hearing is anticipated to be scheduled in the second half of July. In a Framework Agreement executed between the FCA and the participating insurers, it is expressly recognised that the FCA or any Insurer may appeal the decision of the court in relation to any particular issue, but the parties agree to explore the possibility of an expedited leapfrog appeal to the Supreme Court if necessary.
Further Documents
Alongside its announcement, the FCA has published:
• A proposed representative sample of 17 policy wordings;
• A preliminary list of affected insurers;
• Proposed Assumed Facts against which the determination will be made;
• Proposed Questions for Determination by the court arising from insurers’ reason fo declining claims; and
• Proposed Issues Matrix, showing which questions for determination by the court are engaged by each policy in the sample.
• The Framework Agreement agreed by the FCA and Insurers
All documents can be accessed at the FCA website https://www.fca.org.uk/firms/business-interruption-insurance
Consultation
Policyholders, insurance intermediaries, insurers and other stakeholders are invited to provide comments by 3pm on Friday 5 June, to biinsurancetestcase@fca.org.uk
Comment
Taken together, the FCA’s proposed sample of policy wordings, sets of assumed facts, and questions for the court amount to an ambitious and comprehensive set of issues for determination. With eight insurers invited to participate and make submissions across such a broad set of issues in such a compressed timetable, case management will be challenging. Nonetheless, if successfully completed, and not subject to a protracted appeals process, the exercise has the potential to provide insurers, policyholders and intermediaries with a welcome degree of certainty in relation to the vast majority of outstanding COVID-19 business interruption claims. Disputes over discrete issues such as aggregation and quantification of loss will remain, particularly in relation to those policyholders with significant and more complex losses, but even for these policyholders the FCA’s test case should narrow the issues in dispute and reduce the overall costs and time incurred in pursuing claims through formal proceedings.
COVID-19 Business Interruption Update: FCA Invites Policyholder Submissions
Further to its announcement on 1 May that it intended to seek a declaratory court ruling on common coverage issues arising in relation to COVID-19 business interruption claims, the FCA has now invited submissions from policyholders and intermediaries who would like their insurer to be considered for inclusion in the process.
https://www.fca.org.uk/news/statements/business-interruption-insurance-during-coronavirus
Policyholders and intermediaries are invited to submit:
• arguments why they consider cover should be available, together with details of policies that they consider have not responded appropriately to a claim; and
• brief relevant facts of the case.
Any material for consideration is to be emailed to biinsurancetestcase@fca.org.uk by Wednesday 20 May 2020.
The FCA has committed to engaging openly with policyholders and their representatives at key stages of the process, and a dedicated web page has also been set up to provide information, updates and access to documents including court pleadings:
https://www.fca.org.uk/firms/business-interruption-insurance
Endurance Corporate Capital Limited v Sartex Quilts & Textiles Limited [2020] EWCA Civ 308 – Indemnity on the Reinstatement basis
In its decision earlier this year, the Court of Appeal confirmed that, absent a contractual provision to the contrary, an insured does not need to show a genuine, fixed and settled intention to reinstate in order to recover on the reinstatement basis under a property policy.
Background
Sartex Quilts & Textiles Limited (“Sartex”) was the owner of a factory at Crossfield Works, Rochdale (‘the Property’), from which it had manufactured textiles.
A serious fire occurred at the Property in 2011 destroying it and the plant and machinery it contained. Sartex was insured by Endurance Corporate Capital Limited (“Endurance”).
Endurance accepted liability for Sartex’s claim, but the parties disagreed as to the basis on which Sartex was entitled to indemnity. Specifically, Sartex claimed that it was entitled to the cost of reinstating the Property to the condition that it was in immediately before the fire, whereas Endurance argued that Sartex was only entitled to (significantly lower) sums representing the diminution in market value of the Property as a result of the fire.
The matter originally came before David Railton QC, sitting as a Deputy High Court Judge, in May 2019. He concluded that Sartex had a genuine intention to reinstate the Property, and that accordingly, reinstatement was the appropriate measure of indemnity. The Deputy Judge also rejected Endurance’s argument that there should be a discount for betterment.
The Appeal
Endurance appealed the decision on the basis that the Deputy Judge was wrong to assess damages on the reinstatement basis, when Sartex had not demonstrated a genuine intention to reinstate. In this regard, it asserted that Sartex’s ongoing failure to achieve reinstatement, 8 years after the fire, showed that it had no such intention.
Further, if Endurance failed on its primary case, it argued that the Deputy Judge was wrong not to make a deduction for betterment.
The Court’s decision
The measure of indemnity
Leggatt LJ observed that in indemnity insurance, damages were intended to put the insured in the same position it would have been in had the loss not occurred. What an insured actually intended to do with the damages was generally irrelevant.
There were two bases on which the court could award damages: (a) the cost of repair; or (b) the reduction in the market value of the property. Endurance argued that the latter applied, and relied on the decision in Great Lakes Reinsurance (UK) SE v Western Trading [2016] EWCA Civ 1003, in which a listed building was destroyed by a fire. Unusually in that case, the value of the property increased following the fire because its listed status was revoked, thereby improving its development potential. In Great Lakes, Clarke LJ commented that the basis of indemnity was “materially affected by the insured’s intentions in relation to the property”. He went on to say that “the insured’s intention need to be not only genuine, but also fixed and settled. And that what he intends must be at least something which there is a reasonable prospect of him bringing about (at any rate if the insurance money is paid)”.
The Court of Appeal in Sartex said that these comments did not assist Endurance. It was only in rare cases such as Great Lakes, where the property had gone up in value, that there was a need to demonstrate a fixed and settled intention to reinstate. No such issue arose in this case. Therefore, to put Sartex in an equivalent position as if the fire had not occurred, it was necessary to award it the cost of repairing the buildings and buying replacement plant and machinery.
Betterment
Endurance asserted that a percentage deduction should be applied to any award of damages, representing the alleged betterment arising from the replacement of the original building with modern materials. The Court of Appeal agreed that a deduction could, in principle, be made for savings if the building or the new machinery would have generated lower running costs; however, it was incumbent upon the insurer to identify and justify those savings. In this case, Endurance had made no attempt to do so, and simply advanced notional deductions for betterment that were unsupported by evidence. Therefore, absent any evidence, the Deputy Judge had been right to reject Endurance’s argument.
Implications of the decision
The decision in Sartex is good news for property owners, who, subject to any alternative provision in a policy, will not be required to show an intention to reinstate in order to recover on the reinstatement basis. The insured’s intentions will only be relevant in exceptional circumstances, which did not apply on the facts.
As to betterment, although property owners may, in some instances, be required to give credit for savings made as a result of reinstatement, the “blanket percentage” approach will be impermissible. A deduction will only be allowed where insurers can prove and quantify the lower running costs of the new building or the greater efficiency of the new plant and machinery.
Alex Rosenfield is a Senior Associate at Fenchurch Law
FCA Takes the Lead - Fenchurch Law Covid-19 Business Interruption Briefing Note
Since the designation of COVID-19 as a notifiable disease in England on 5 March, and the subsequent ratcheting of measures to slow the spread of the disease, business owners large and small have incurred catastrophic losses which, for the time being, continue to mount up on a daily basis.
Those with business interruption insurance have turned to their insurers for assistance, but have by and large been met with outright rejection of their claims.
Matters have escalated rapidly in the course of the last two weeks as thousands of declined claims pile up, with action groups being formed, ‘class actions’ announced, and regulators adopting an increasingly interventionist stance, culminating with the FCA’s announcement on 1 May 2020 that it intends to take legal action to obtain a court declaration on the disputed wordings.
This update takes stock of developments so far, considers the positions of the market and policyholders in relation to the disputed issues emerging, and sets out the options for policyholders wishing to pursue their declined business interruption claims.
What is the market’s position on COVID BI Claims?
ABI
As the representative body of insurers in the UK, the ABI has unsurprisingly sought to manage the expectations of policyholders and government as to the extent to which the insurance market can be expected to shoulder a share of the burden currently being suffered by the nation, stating that “no country in the world is able to provide widespread pandemic insurance, and the UK is no exception”, “only a very small number of businesses choose to buy any form of cover that includes business interruption due to a notifiable or infectious disease”, and “such policies often only apply when the disease is present at the premises.”
Insurers
Some insurers have taken an even more extreme approach than the ABI, announcing that “[our] policies do not provide cover for business interruption as a result of the general measures taken by the UK government in response to a pandemic”, and “these extensions are intended to cover danger and disturbance and are not expected to cover a pandemic (or similar) breakout of disease.”[1]
This has been reflected in insurers’ responses to claims notified, which have largely been to issue blanket declinatures using cut-and-paste standard responses, often with no apparent consideration of the facts of the claim submitted.
FCA
Unlike the steps being taken by regulators in some other markets, notably some US states, there has been no attempt by the FCA to mandate retrospective coverage for COVID-19 losses on existing policies. Taking a relatively measured approach, the FCA wrote a ‘Dear CEO’ letter to CEOs of London market insurers on 15 April 2020, specifically in relation to SME BI insurance, acknowledging that many policyholders would have no cover, but noting that some policies do give rise to a clear obligation to pay out, and encouraging insurers to comply with their legal and regulatory obligations to pay claims promptly. Following the escalation of the situation over the following fortnight, and the entrenchment of insurers’ coverage positions, on 1 May 2020 the FCA took the bolder step of announcing that it intended to “obtain a court declaration to resolve contractual uncertainty in business interruption (BI) insurance cover.”
FOS
The Financial Ombudsman Service, which handles complaints for individuals and SMEs up to maximum claim value of £350,000 has also issued its own guidance in relation to the anticipated high volumes of disputed BI claims. On 14 April 2020 it indicated that it would “expect the insurers to think beyond a strict interpretation of the policy terms and consider carefully what’s fair and reasonable in each case, taking into account the unprecedented situation”. Interestingly that language has now been removed from the latest version of its guidance provided online.
What are the disputed coverage issues?
Damage
In the absence of extended cover, most policyholders will need to establish that any business interruption losses arise from insured damage to property. At first sight that may appear to have no relevance to COVID-19 BI claims, since there has been no obvious property damage that would trigger the cover. However, under English law, a number of cases have found that only very small changes in physical state can amount to property damage, leading to suggestions that viral contamination leading to loss of use can amount to damage. Much has been made of a recent decision in Canada, in which the court adopted a broader interpretation of the term physical damage, which incorporated such things as the loss of the function or use of a building, even if only temporary[2]. Whether this can successfully be argued under English law will depend in part on the definition of property damage in the policy (some policies refer to ‘physical’ damage, which requires a permanent and irreversible change in physical condition, while others refer only to ‘accidental loss or damage’, which extends to transient and reversible changes in physical condition), and the application of any contamination or pollution exclusions. Insurers will certainly resist paying any claims on this basis, but it is quite possible that litigation will be pursued on this point which, if successful, could dramatically widen the scope of cover under traditional BI policies.
Locality
Many policies that do contain extended cover for losses caused by infectious disease, prevention of access, or public authority action, under which cover is now sought, will include some form of reference to an occurrence of the insured peril on the premises, in the vicinity, or within a specified radius, commonly 1 mile or 25 miles.
Insurers’ response has broadly been that these provisions mean that the extensions will only respond to localized incidences of disease, and not to widespread epidemic or pandemic circumstances where the whole country (or in this case the world) is affected.
Policyholders on the other hand might reasonably question why, in the absence of any pandemic exclusion, the presence of the disease elsewhere can have any effect on the local coverage provided by their policy. Perhaps insurers’ decisions on coverage are being driven by concerns over their likely overall exposure rather than the actual cover provided by a policy? The correct answer will as ever lie in the drafting of the policy wording in question, but this is set to be one of the key contested issues.
Causation
The second broad category of issues on which disputes will turn are various forms of causation argument. Insurers are arguing that, even if the relevant policy trigger can be demonstrated to have occurred, the losses suffered by the policyholder are not caused, or are not solely caused, by the insured peril.
Although such arguments may be couched in various different terms, they all effectively seek to apply the controversial principle established in the case of Orient Express Hotels v Generali, in which the losses of an insured hotel in New Orleans following Hurricane Katrina were found not be insured because they were caused not by the relevant trigger (property damage), but by damage to the wider area, i.e. the losses would have happened anyway even if the insured property damage had not occurred.
Again the outcome of such arguments will depend on application of the policy wording, including the relevant causation language in the insuring clause, and any ‘Trends Clause’ to the facts of any given claim. Causation arguments are generally complex and difficult to generalise in relation to multiple claims, and we can expect to see some hard-fought litigation in this field.
Aggregation
A perennial issue that is not unique to COVID-19 claims is whether losses suffered at multiple insured locations should be aggregated for the purpose of applying limits of liability and deductibles. As a general rule, the cover provided by the non-damage BI extensions tends to be sub-limited to a level which may be a small fraction of the total policy limits. Whether policyholders may claim for multiples of the specified sub-limit will depend on the existence of any express aggregation clause, and whether for example the sub-limit is expressed as applying to any one ‘loss’, ‘occurrence’, ‘event’, or arising from the same ‘originating cause’. For those policyholders with multiple locations insured under the same policy, for example restaurants, pubs and shops, this issue may determine whether whether a claim is worth £1 million or £100 million (and beyond), and as such will no doubt give rise to some hotly contested claims.
What happens next?
Policyholders whose BI claims have been rejected have various options open to them at this stage, and it is important to note that there is no one-size-fits-all solution for all policyholders.
Negotiation
As a general starting point, negotiations through open dialogue with the insurer are always advisable, either directly or through a representative such as a broker or lawyer. For the many thousands of SME businesses this is unlikely to be a realistic option at this stage, but for those larger businesses with more significant losses reaching seven, eight, or nine figures, insurers are more likely to be willing to engage in constructive discussions.
FOS
For eligible policyholders, the FOS provides a cost-free and fair solution to resolving disputed insurance claims. However, the prescribed timescales may frustrate some policyholders in the current situation, since they are required to make a complaint following an insurer’s rejection of any claim, following which the insurer has eight weeks to each a ‘final decision’. Only then may the policyholder refer the matter to the FOS. Following those timescales, policyholders are prevented from taking any action for the next two months unless the insurer agrees to issue an expedited ‘final decision.’
Arbitration
Any policyholder with an arbitration clause in their policy will be required to pursue private arbitration proceedings to resolve their dispute, unless they are FOS-eligible. This may be an appropriate option for some larger policyholders with bespoke coverage issues, and the resources to pursue lengthy and expensive arbitration proceedings, but for many smaller policyholders the prospect of having to arbitrate will be a significant barrier to pursuing their claim. Further difficulties with arbitration in the present situation are the absence of effective procedures for aggregating claims, and the lack of any system of binding precedent.
Group Litigation
There has been much talk of ‘class actions’ or other group litigation being pursued against certain insurers, and several action groups have been formed for this purpose. Whilst this remains a possibility, there are significant downsides to policyholders in attempting to pursue their claims as part of a group, not least that each of their claims will have factual, if not legal, issues that are specific to their own circumstances. The ability of group legal proceedings to determine large numbers of complex BI insurance claims is doubtful, and the procedural complexities and timescales are unlikely to be attractive, not to mention the funding necessities that will see policyholders sacrificing a significant proportion of any damages in return for representation as part of the group. Moreover, this option may now have been rendered largely redundant by the FCA’s announcement of its own legal action.
FCA legal action
The FCA’s proposal to seek a ruling on the disputed coverage issues is an unusually interventionist but potentially welcome step. The action sensibly stops short of over-reaching the FCA’s remit, and preserves the role of the English courts as the proper arbiter of matters of contractual interpretation. The FCA has indicated that it intends to invite the participation of a select group of insurers in the process by 15 May 2020, and further details are awaited on the proposed process.
It is not known at this stage whether policyholders or their representatives will have any opportunity to make submissions or representations in the proceedings, or what procedural mechanism will be followed, although a claim for a declaratory ruling under CPR Part 8 seems likely. Provided that the right issues are put before the court, supported by appropriate representations on both sides of the fence, this may well be the most cost-effective and efficient way to resolve the common issues. The proceedings will not and cannot provide an answer to all of the questions, and some disputed claims will inevitably still proceed to litigation or arbitration. But for a large majority of policyholders, particularly those whose claims do not justify the pursuit of independent legal proceedings, this development may provide the best opportunity to overturn the rejection of their claim, without requiring any active participation on their part.
Next Steps
For most policyholders, a wait-and-see approach is likely to be advisable at this stage. Any attempt to negotiate with insurers or take more formal steps such as commencing arbitration or litigation is unlikely to produce results until all parties have a better understanding of the proposed FCA legal action, including the likely timetable and the scope of the issues for determination.
For now, policyholders’ focus should therefore be on ensuring that effective notification has been given to insurers in sufficiently broad terms (usually via brokers), taking steps to mitigate losses where possible, and keeping records of any costs reasonably and necessarily incurred in doing so.
[1] https://qbeeurope.com/media/8685/covid-19-qbe-faqs.pdf
[2] MDS Inc v Factory Mutual Insurance Company (1 April 2020)