Current Issue

Among the looming problems surrounding COVID-19 is the degree and duration of disruptions to business activity and daily life. Significant supply chain disruptions, mandatory or voluntary quarantines, “social distancing” measures, and reduced or restricted travel are increasing in the United States and around the world. Such disruptions loom especially large for business concerns that will be most directly impacted, including in the form of lost inventory, revenues and profits. They will affect a wide range of businesses, from single location firms including local restaurants, concert venues, tourism hot spots and retail stores, to large, multi-location firms. Impacts will also be felt “upstream” of direct losses, as suppliers, contractors, vendors and service providers will also experience material financial losses.

For all businesses, disruptions can cause immediate liquidity problems and ruinous financial impacts. For insureds and insurers, once-hypothetical questions surrounding COVID-19 are urgently turning to familiar insurance coverage questions such as the availability, scope and limitations of coverage, number of occurrences, exclusions, along with limits, sub-limits, deductibles and retentions. These claims will raise unique questions, as well. Routine business interruption claims often present proof and quantification challenges, and in the context of COVID-19, the challenges are even greater and need to be taken into consideration by any potentially affected insurer or insured.

First-Party Business Interruption Coverage

First-party policies covering commercial insureds typically provide a narrow type of coverage against an insured’s lost or diminished earnings resulting from a disruptive, covered peril following a suspension of its business activity.Generally, such coverages are intended to restore an insured to the position it would have been in had if not for the damaging condition. Business interruption coverage is most often included in an endorsement but may be a stand-alone policy. A common BI coverage grant is worded as follows:

“We will pay for the actual loss of business income you sustain due to the necessary suspension of your ‘operations’ during the period of ‘restoration.’ The suspension must be caused by or result from a covered cause of loss.”

Physical Loss or Damage Requirement

BI coverage is distinct from what is commonly referred to as “first-party property” coverage. But these coverages are similarly limited insofar as neither typically provides coverage in the absence of a covered physical loss or damage to first-party property. Contingent business interruption (CBI) provisions may extend coverage to a loss of income related to the impacts to the property of the insured’s suppliers or providers, and the same requirement applies.

In the context of COVID-19, the requirement for physical loss or damage will create difficult problems of proof for many insureds, since coverage generally contemplates that the virus physically damaged or contaminated the property of an insured, or that of the insured’s customer or supplier in the case of CBI. U.S. courts generally hold that policies requiring “direct physically loss or damage” provide no coverage in the absence of “actual” or “physical” damage. Under this case law, a mere loss of use, or lost access to, property would not trigger such coverage. Losses caused by customers’ ambivalence or fear about contracting the virus are likewise not likely to be covered unless absent unique policy language.

BI provisions in COVID-19 cases raise more questions than answers. The actual peril or situation giving rise to any claimed loss must be carefully identified. For instance, losses may be caused by preemptive or preventative measures, or “community-based” measures such as “social distancing” rather than an outbreak or actual contamination of relevant property. They might also be caused by a supply interruption where actual contamination is a pending or hard-to-resolve question. Policy language will dictate the availability of arguments to the effect that lost use may fall within the scope of coverage in the absence of physical loss or damage, for instance where access to an insured facility is restricted or prohibited, an argument often rejected where typical policy wording is at issue.

Covered Causes of Loss

BI coverages are most often either “basic” or “broad” form under which specified types of “perils” may trigger coverage. Beyond commonly known perils such as “fire” and “explosion,” these policies may specify “civil commotion” but do not typically extend to viral or contaminant causes such as COVID-19. Some insureds may have obtained “all risk” coverage triggered by all perils not excluded by the policy, which could encompass COVID-19. It should also be noted that many policies, and ISO forms, specifically exclude coverage for losses caused by quarantinable disease, or by “contaminants” defined with sufficient breadth to include viruses such as COVID-19. As others have observed, however, industries such as hospitality or retail may have unique coverages or coverage extensions under which COVID-19 would be a covered peril.

Duration of Lost Income Claim

Business interruption generally includes coverage for repair or replacement of property impacted, in addition to loss of business income for a specified period. The usual coverage is for lost of income through the date damaged property is repaired or replaced (“period of restoration”), but endorsements extending the loss period are common. Policies may have differing definitions and measurements relevant to the period of restoration. Complications can arise where an insured opts not to resume business operations.

Calculation and Adjustment of Accepted Claims

The substantiation and valuation of business interruption claim often comprise the devilish details of a BI claim. Insureds bear the burden of substantiating claimed BI losses. Even where there is an accepted BI claim, the processing of valuing and adjusting claimed losses underscores the uncertainties attendant to the future or projected revenue, costs and profits of most any business. These problems can be even more challenging for small businesses, which may keep minimal or even lackluster accounting and financial documentation.

In all cases, insureds should detail and retain documentation for all business activities, the precise direct or indirect cause(s) of any disruption(s), and mitigation efforts. Insureds must also be prepared to value and substantiate losses by reference to business history, benchmarks and forecasts. These issues quickly become complex for businesses having multiple locations and the ability to offset lost production in one facility using other facilities that may involve higher costs and lower profit.

William Lalor is of counsel at Early Sullivan Wright Gizer and McRae LLP.