On 15 January 2021, the Supreme Court of England and Wales issued its landmark decision in The Financial Conduct Authority v Arch Insurance (UK) Ltd and others. It dismissed the insurers’ appeals in favour of insured small and medium enterprises that were represented by the Financial Conduct Authority. Commentary on the High Court’s decision, which was appealed directly to the Supreme Court in an unusual ‘leap-frog’ procedure, is available here.
While the Supreme Court decision left the outcome of the High Court decision largely in place, so far as the individual policy wordings at issue were concerned, those findings are of limited relevance to New Zealand insurers and insureds as there are significant and widespread differences between most UK and New Zealand policy terms. However, the Supreme Court’s decision is important and relevant to the New Zealand market because it contains:
a) clear rejection of the “but for” causation test in many cases of loss with concurrent causes; and
b) clarification of the extent to which trends clauses apply in the case of concurrent insured and uninsured losses.
Of considerable interest to insurers, the Court found that the much-criticised Orient-Express case, which assisted insurers to reject business interruption claims where the loss was caused by both insured and uninsured causes, was wrongly decided. In that case, the Court held that a hotel in New Orleans that suffered hurricane damage could not recover under its business interruption policy because the whole area had been evacuated (an uninsured cause) so that even if it had been undamaged, it would have had no custom. Insurers have relied upon this case for a decade to reject claims on the basis that business interruption cover was not available where the insured would have suffered business interruption loss, i.e. turnover would have been reduced to zero, in any event irrespective of the insured cause.
These findings have ramifications for New Zealand insurers and business interruption claims.
(a) Causation in business interruption claims
Following the onset of the COVID-19 pandemic, governments around the world imposed measures with the aim of preventing citizens from interacting with each other in close proximity. One of the most common measures was the ordered closure of businesses. Naturally, businesses that were subject to closure orders (assuming other means of trading, such as online ordering, were not able to continue) suffered revenue losses. Many lodged business interruption insurance claims. Most were rejected on the basis that the loss suffered as a result of the Government-imposed closure measures was not proximately caused by an insured peril, e.g. cases of the disease within a defined radius of the premises. The insurers argued that, “it cannot be said that, but for any individual case of illness resulting from COVID-19, the Government measures would not have been taken.”
The Supreme Court, agreeing with the High Court, found that “in the present case it obviously could not be said that any individual case of illness resulting from COVID-19, on its own, caused the UK Government to introduce restrictions which led directly to business interruption. However, as the court below found, the Government measures were taken in response to information about all the cases of COVID-19 in the country as a whole.”
While the Supreme Court’s reasoning varied slightly with respect to each category of insuring clause (disease, prevention of access and hybrid clauses), the common thread was that cover was available where the insured could show that Government-imposed measures which caused interruption were in turn caused in part by an insured peril e.g. a case of the disease in the defined radius in the insuring clause, even though they were also a result of uninsured causes e.g. cases of the disease outside the defined radius.
This is a departure from traditionally held views on causation. It will require insurers to consider whether equally contributory insured and uninsured perils that result in business interruption may be separated and treated as distinct. If not, and the underlying cause of interruption is the same across insured and uninsured perils, it will not be possible for insurers to rely upon “but for” causation to deny cover.
This is a departure from traditionally held views on causation
Notwithstanding the above, two important features of the decision will be welcomed by insurers:
- The Court reiterated the long-held position that cover is not available where loss is suffered as a result of equally causative insured and excluded perils. However, the Court took a dim view of the insurers’ attempt to rely upon an epidemic exclusion which was buried deep in the policy wording and which directly contradicted the insuring clause extension. The Court in effect found that the exclusion did not apply because no reasonable reader would assume that cover was intended to be removed by an obscure exclusion. If that was intended, the insurer would have done so transparently as part of the insuring clause.
- The Court’s rejection of “but for” causation may not be appropriate where it is possible to apportion financial loss resulting from insured and uninsured causes. In such a situation, insurers are entitled to look to actual insured losses and exclude uninsured losses, keeping the following in mind:
- “An approach which involves weighing the relative potency of insured and uninsured causes […] might be appropriate if it were feasible to apportion the financial loss sustained by a policyholder’s business between different cases or groups of cases of disease. However, that is not a realistic possibility. Where interruption of a business is caused by an outbreak of an infectious disease, the situation is not one of discrete concurrent causes each of which, acting on its own, would have caused part of the loss but not the whole of it.”
(b) Trends clauses – a new approach
Having addressed causation, the Supreme Court analysed the impact of “trends” clauses on the quantification of business interruption claims. A trends clause requires a “smoothing” approach so that insureds are compensated only for loss resulting from the insured peril, leaving to one side revenue/profit fluctuations that would have occurred regardless of the peril.
The insurers’ main argument was that the trends clauses relieved them from liability to indemnify insureds for losses they would have suffered regardless of the insured perils, by reason of the wider consequences of COVID-19. The Court rejected this argument and held that the trends clauses in issue, which are similar to most market-standard clauses, ought to be interpreted, “absent clear wording to the contrary, by recognising that the aim of such clauses is to arrive at the results that would have been achieved but for the insured peril and circumstances arising out of the same underlying or originating cause. Accordingly, the trends or circumstances referred to in the clause for which adjustments are to be made should generally be construed as meaning trends or circumstances unrelated in that way to the insured peril.”
The Court made it very clear that trends clauses are not to be used as proxies for exclusions, placing emphasis on the following:
- First, trends clauses do not address or seek to delineate the scope of the indemnity, which was the role of the insuring clause.
- Secondly, trends clauses should, if possible, be construed consistently with the insuring clause in the policy.
- Thirdly, to construe trends clauses consistently with the insuring clause meant that, if possible, they should be construed so as not to take away the cover provided by the insuring clauses.
Orient-Express murdered – 10 years of claims decisions out the window?
In Orient-Express, a hotel of that name suffered business interruption loss as a result of damage to its premises and to the wider New Orleans area by Hurricanes Katrina and Rita in 2005. The arbitral tribunal and court (on appeal) both found that the insured was not entitled to indemnity for two reasons. First, “but for” the damage to the premises, the business would have been interrupted by the damage to the wider New Orleans area which had caused a general evacuation so cover was not available under the insuring clause. Secondly, the trends clause operated to remove cover because it required a revenue adjustment based on an assumption of what loss would have been suffered had the damage to the premises not occurred, not what loss would have been suffered had the damage to the premises and the event that caused the damage not occurred. This reduced cover to zero.
The Supreme Court held that Orient-Express was wrongly decided. This was remarkable given that one member of the Bench had sat on the arbitral tribunal and another was a judge who had decided the appeal. The Supreme Court held that:
- As to the insuring clause: “… the tribunal and the court were […] wrong to hold that the business interruption loss was not covered by the insuring clause to the extent that it did not satisfy the “but for” test.”
- As to the trends clause: “the correct approach in the Orient-Express case would have been to construe the trends clause so as to exclude from the assessment of what would have happened if the damage had not occurred circumstances which had the same underlying or originating cause as the damage, namely the hurricanes.”
What does this mean for insurers going forward?
We think that this case has two key impacts on business interruption claims:
- It is no longer safe for insurers to reject claims on the basis that the insured would have suffered loss regardless of the insured peril. Instead, insurers will need to look carefully at whether interruption was caused by insured and uninsured causes that cannot be separated (in which case cover is likely to be available for all losses), insured and uninsured causes for which the consequences are separately identifiable (in which case cover will be available only for loss suffered as a result of insured causes) insured and excluded clauses of equal potency (in which case cover is unlikely to be available).
- Where the wording is the same as that dealt with by the Supreme Court, trends clauses ought to be applied so as to exclude from the assessment of what would have happened if the damage had not occurred, those circumstances which had the same underlying or originating cause as the damage.
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