COVID-19 Business interruption Insurance – Round 1 of Second ICA test case to insurers

Insurers have won the first round of the Second ICA test case on business interruption insurance cover for losses arising from COVID-19 related causes. But the devil is in the detail of Justice Jagot’s judgment, and if one key finding is reversed on appeal then policyholders with cover for prevention of access and interruption arising from actions by authorities are back in the hunt for compensation.

Pleasingly, Jagot J has largely followed the reasons given in the UK FCA test case, including the English Supreme Court’s decision to overrule the Orient Express Hotel (OEH) case which would have allowed insurers to reduce claims on the basis that, even if losses were caused by an insured trigger, they were also concurrently caused by the (uninsured) wider impact of the pandemic.

The Two Key Findings in favour of insurers

The headline that 9 of 10 cases were won by insurers was essentially due to 2 key findings – one legal and the other factual:

1. Legal finding - that it would be “incongruent” to read prevention of access extensions – the clauses extending cover for losses arising from the actions taken by authorities to close/prevent/restrict/hinder access to premises - as being applicable to actions in response to diseases where the policy contains another clause specifically extending cover for diseases. As most policies contained a disease clause (or hybrid clause), this practically meant that only claims based on the disease (or hybrid) clause could be considered as potentially applicable.
2. Factual finding – that while it is possible that there had been a local “outbreak” of the disease within the relevant radius of the insured premises as contemplated by the disease/hybrid extensions, it could not be said on the facts of the test cases before Her Honour that the local outbreak was a “proximate cause” of the government orders interrupting the business or the loss of revenue. While it would not have mattered that the loss was at least partly caused by the wider pandemic issues, the factual finding that the local outbreak was not even partly a proximate cause of the loss meant that the “concurrent causes” reasoning which allowed UK policyholders to recover was not applicable in Australia.

We expect that the “incongruent” finding will be the main target of the appeal by policyholders. It does not appear to have been an issue argued in the UK test case, but it is inherently contrary to the findings in that case which held that certain prevention of access clauses were triggered by circumstances arising from COVID-19 (and therefore by implication were not incongruent with the disease clause in the same policy).

For example, one of the wordings considered in the UK Test case, ‘RSA 4’, contained both a disease clause and a prevention of access clause.¹ Despite the presence of the disease clause, the High Court concluded that the prevention of access clause would, in principle, provide coverage. That finding was not appealed.

Furthermore, the incongruency finding by Jagot J affected a range of policies - from the ‘Aon Vertex’ wording (where the disease and prevention of access extensions were sub-clauses in the same clause) to one where the disease clause was in the standard terms and there was an endorsement added for prevention of access. The same reasoning was applied to all. But surely (if an incongruency approach is to be applied) an endorsement meant to enhance the cover should be preferred to the extent of any incongruency with the standard terms?

Additional findings in favour of policyholders

Despite the headline (and important) win for insurers, Jagot J went on in her reasons to decide most of the remaining issues in favour of policyholders.² Her Honour held that, if she was wrong on the “incongruence” point, then in many claims the prevention of access or “action by authorities” cover had been triggered and was a proximate cause of the loss. The following findings were made in favour of the policyholders’ positions, which will be of assistance if the key “incongruence” finding is overturned in the appeal to be heard in the week commencing 8 November 2021. Those findings include:

• The issues are not to be answered at a level of generality inherent in the insurers’ submissions such as ‘the policy is not intended to cover pandemics’. Rather, consideration of the meaning of the clauses is required without pre-conceptions about pandemics one way or the other.³
• A number of insurers sought to exclude the potential operation of the contra proferetem rule on the basis that the policyholders were represented by brokers. However, her Honour affirmed the principle that the insurers as promisors remained the profferers of the policies.⁴
• The trends clause cannot be construed as requiring an adjustment for circumstances involving the same cause of loss as the insured peril. Her Honour rejected submissions by insurers that OEH should be upheld, saying it would be to rewrite the policy to conclude that the damage only must be disregarded and the effects of COVID-19 generally must be taken into account as a circumstance that would have affected the business had the damage not occurred.⁵
• For there to be an ‘outbreak’ of a disease, it was not necessary to show that there have been cases of community transmission. Rather, for a disease as contagious as COVID-19, it is only necessary to show that there has been a single case active in the community⁶ – i.e. not in hospital or hotel quarantine. Further, in the hybrid clauses (where authorities acted in response to an outbreak), it didn’t actually matter whether there were any cases, as long as that was the reason given for the action taken by authorities.
• A requirement that government action be done ‘in order to avoid or diminish the risk to life’ within a radius of the situation is satisfied where the government was responding to the risk of the disease in the State as a whole, since that included a risk to the situation.⁷
• Similarly, a requirement that government action be done ‘as a result of a threat of damage to persons’ within a radius of the situation is satisfied where the government was responding to the threat to the State as a whole, since that included a threat to the situation.⁸
• A requirement for ‘the discovery of an organism likely to result in a human infectious or contagious disease at the situation’ does not require a discovery of an organism at the situation, but simply the discovery of an organism anywhere which authorities are concerned could likely result in disease across the whole State, which includes the situation.⁹
• ‘Closure’ of a situation (business or premises) extends to include closure of part of a situation.¹⁰ Much will depend on the character of the action and of the premises (and nature of the business).¹¹
• A requirement that a government order ‘prevent’, ‘restrict’ or ‘hinder’ access does not require a physical prevention, restriction or hindrance.¹² For example, caps on the number of patrons on the premises could be a restriction or hindrance.¹³ However, lockdown laws including WFH directives do not close or restrict a business, even though they may be inferred to undermine demand.¹⁴
• At least in the context of actions by State Governments, the existence of COVID-19 and its effect on the business does not reduce the claimable loss on either a causation analysis or through application of the trends clause. Curiously, Jagot J made a distinction between the actions of the Federal Government and the State Governments and found them to arise from different underlying causes – the former closing international borders to prevent COVID-19 coming to Australia and the latter to prevent the spread within the States – such that if the claims had succeeded she would have allowed an adjustment for the impact of the Federal Government’s actions under the trends clause. This finding is also likely to be appealed.
• Section 61A of the Property Law Act 1958 (Vic) which provides that references in contracts to repealed legislation shall be construed as a reference to re-enacted legislation does not apply to federal legislation such as the Quarantine Act – confirming the decision in the First ICA test case that the Quarantine Act exclusion is not effective (even in policies subject to the law of Victoria).¹⁵

Commentary

This is an important win for insurers in Australia, but it is worth bearing in mind that the 10 claims which made up the Second ICA test case were chosen by the ICA members (the insurers), who unusually commenced proceedings against their policyholders seeking declarations that those claims were not in fact covered by their policies. At least half the claims chosen were never realistically likely to be covered, but it was presumably considered important for the ICA to seek clarity on a range of different circumstances. The facts of the travel agency claim chosen for the test case are eerily similar to the example given in the UK test case judgment as a loss that would not be covered.¹⁶ Unsurprisingly, the Australian travel agency policyholder failed on the facts because its business was 90% dependent on international travel and cruise ships, neither of which was dependent on walk-in customers affected by the (acknowledged) local outbreak of the disease.

It is clearly possible that had different claims been chosen for the Second ICA test case, there might have been different outcomes. For example, if a restaurant or bar dependant on local trade had held the same policy as the travel agency, it seems likely on Her Honour’s reasons that the claim would have met the requisite causation test and been covered.

The truth is that not all factual circumstances with all available policies have been considered and ruled out. Her Honour acknowledged that each policy must be construed in its context. Justifiably, Her Honour observed that the outbreak in the UK was “so widespread” and considered that to be an important part of the reasoning in the UK FCA test case¹⁷, providing a basis for distinguishing the key (different) factual finding in the Australian context. That distinction does not appear to be as pronounced where policyholders were depending on local trade (and can prove the local outbreak was a cause of their loss). But the big hope for policyholders has to be that the ‘incongruency’ finding is overturned on appeal, in which case the factual differences with the UK will no longer be important.

What happens next?

The Full Federal Court (3 judges) is scheduled to hear the appeal in the week commencing 8 November 2021, with judgment expected before Christmas. The Star City Casino appeal (on the Civil Authorities Extension for losses arising from the action by authorities to retard a catastrophe) is scheduled to be heard as part of the same appeal.

Whoever loses that second round will inevitably apply to the High Court for special leave to appeal, and it would be a strange result if the High Court did not consider the issues to be of sufficient importance for special leave to be granted. On that basis, we doubt there will be any finality to the COVID-19 business interruption cover issues in Australia until this time next year.

For further information on this article, please contact Mark Darwin, Partner or Travis Gooding, Senior Associate.