High Court rules in favour of reinsureds seeking recovery of UK COVID-19 BI losses

Overview 

The High Court has, for the first time, considered the reinsurance recovery of non-damage COVID-19 (first lockdown) business interruption losses, specifically under catastrophe excess of loss property reinsurances.  CMS successfully acted for Markel International Insurance Company Limited (“Markel”) in the case, which determined appeals against two separate arbitral awards on questions of law under Section 69 of the Arbitration Act 1996.

The parties to the two appeals were:

1. Markel and its reinsurer, General Reinsurance AG (“Gen Re”); and
2. Covéa Insurance Plc (“Covéa”) and its reinsurer, UnipolRe Designated Activity Company (“Unipol”).

The judgment considered two key issues:

1.  the meaning of “catastrophe” under the property reinsurances - the English Courts’ first decision on this issue (the “Catastrophe Issue”); and
2. the operation of the reinsurances’ hours clauses - its most detailed assessment of such clauses to date (the “Hours Clause Issue”).

Whilst such issues have, of course, been disputed previously in the reinsurance market (including in the context of ongoing COVID-19 recoveries), reinsurances typically provide for disputes to be resolved confidentially by arbitration.  Reinsurance disputes are therefore unlikely to see the light of day unless a party seeks to appeal any such arbitral award.

Mr Justice Foxton found in favour of the reinsureds on both issues such that both were entitled to recover their losses under the reinsurances.  As regards the Catastrophe Issue:

• The Court held that the Tribunals had not erred in law in determining that there was a “catastrophe” for the purposes of the reinsurances; and 
• The Covéa Tribunal had identified the outbreak of COVID-19 in the UK in the period up to 18 March 2020 (i.e. the date of the relevant government order), whereas the Markel Tribunal had identified the relevant government order “as necessitated by the pandemic”.

As regards the Hours Clause Issue, the Court held that:

• The Markel Tribunal had erred in law in finding, in effect, that Markel was only entitled to recover 168 hours of BI losses (i.e. the relevant hours period), notwithstanding that the BI had lasted several months.  This meant that Markel was unable to recover because its covered losses fell below the relevant attachment points; and 
• The Covéa Tribunal was correct that, for the purposes of the hours clause, the individual loss “occurred” when the insureds lost the ability to use their premises, with the effect that all BI losses arising from the relevant government order fell within the hours clause.

The decision will be of significant interest to the reinsurance market, particularly those engaged in ongoing COVID-19 BI recoveries.

Background

Both Markel and Covéa commenced separate arbitral proceedings against Gen Re and Unipol respectively to recover COVID-19 BI losses.  Coincidentally, both Markel’s and Covéa’s losses were suffered by nurseries and childcare facilities, which had been forced to close by the UK government’s decision of 18 March 2020 to close such businesses from Friday, 20 March 2020 onwards (i.e. with effect from Monday, 23 March 2020) (the “18 March Order”).

Both reinsurances contained substantively similar hours clauses based upon the “LPO 98” market wording, which was first drafted in the 1960s. The Markel clause stated, in part, that:

“1) The term ‘Event’ shall mean all individual losses arising out of, and directly occasioned by one catastrophe. However, the duration and extent of any “Event” so defined shall be limited to:

…

f) 168 consecutive hours for any “Event” of whatsoever nature that does not include individual loss or losses from any perils mentioned in (a), (b), (c) and (d) above, and no individual loss from whatever Insured period, which occurs outside these periods or areas, shall be included in that ‘Event.”

The remaining hours periods related to named perils which were each capable of causing damage to property, such as hurricane, earthquake and riot. Accordingly, it was common ground that, if cover was available, a 168-hour period would be applicable.

The Covéa clause used “Loss Occurrence” instead of “Event” but it is widely accepted that the two terms are synonymous, so this difference was immaterial.

Whilst the two sets of appeals remained separate, the Court decided to conjoin the two hearings and to produce a single judgment due to the significant overlap in issues.

The Catastrophe Issue

The Tribunals’ findings

Markel and Covéa had advanced slightly different cases regarding the relevant “catastrophe”.

Markel had amended its primary case to focus upon the 18 March Order following the Supreme Court’s finding in the FCA test case that an outbreak of disease was not an occurrence and following the High Court’s findings in Stonegate Pub Company Ltd v MS Amlin Corporate Member Ltd that certain government decisions or orders were occurrences for the purposes of aggregation under direct policies.

The Markel Tribunal agreed that the 18 March Order was a “catastrophe” “both in general and for the purposes of this treaty”. However, the Markel Tribunal also accepted Markel’s alternative argument that the “order as necessitated by the pandemic was to be regarded as a catastrophe” on the basis that the pandemic and the response could not be disentangled.

In contrast, Covéa’s primary case focused upon the initial outbreak in the UK.  The Covéa Tribunal found that “the outbreak of Covid-19 in the United Kingdom, reflected in an exponential increase in the number of infections during a period up to and including 18 March 2020 [i.e. the date of the 18 March 2020 Order], was a ‘catastrophe’.”

However, unlike the Markel Tribunal, the Covéa Tribunal did not accept Covéa’s alternative case that the various instructions to close schools and nurseries

issued by the UK and national governments were to be regarded as a catastrophe because they were “rational and considered measures taken in the public interest”.  The Covéa Tribunal stated that those measures “may only be viewed as incidents in an overall catastrophe if they are regarded as essentially indivisible from the underlying catastrophe to which they are a response.”

Both Gen Re and Unipol therefore appealed against the Tribunals’ respective findings.

Was “catastrophe” limited to some special meaning?

Gen Re and Unipol advanced similar cases as to why there had been no “catastrophe”, specifically that the use of the term in the reinsurances was limited to some special meaning. The reinsurers submitted that:

1.  it is inherent in the meaning of “catastrophe” that it is something capable of causing physical damage;
2. “catastrophe” requires a sudden and violent event or happening; and
3. a “catastrophe” is a species of “occurrence” or “event”, and must satisfy the established “unities test” requiring unity of time, place and way.

Gen Re also advanced a further argument that the 18 March Order could not be a “catastrophe” on the basis that it was “a sensible order to mitigate further damage”.

The Court found that dictionary definitions were a useful starting point for establishing the ordinary meaning of a word. Whilst definitions of “catastrophe” referred to sudden events, the ordinary use of the word was not always so confined. The Court considered the most appropriate meaning in the present context offered “sudden or widespread or noteworthy” as alternatives.

The Court agreed with the Tribunals that both established market practice and the terms of the reinsurances were inconsistent with a requirement for damage.  The Tribunals were right to place significance upon, amongst other things:

1.  protected books of business having changed over time to include cover for non-damage BI;
2. loss of access involving interference with property such that it is apt for such losses to be covered; and
3. the usage of the words “of whatsoever nature”, which indicated that cover was not limited to perils of the same nature as those named in the hours clause (i.e. perils capable of causing damage).

As indicated above, the Court found no support from dictionary definitions that there was a requirement for a sudden and violent event or happening. The Court also observed that certain named perils (specifically “riot, civil commotion and malicious damage” and floods) could be sudden but could also build up over time. 

The Court similarly did not accept that “catastrophe” was a species of event or occurrence which must satisfy the unities test.  The Court again referred to the hours periods for named perils, such as the 504-hour requirement for flood and the geographical limits for a riot which could cover an entire city.  The Court also drew support from Lord Briggs’ judgment in the FCA test case that “a hurricane, a storm or a flood…may take place over a substantial period of time, and over an area which changes over time.”

Characteristics of a “catastrophe”

Having rejected that “catastrophe” had some special meaning, the Court considered that, in the present context:

1.  the “catastrophe” must be something capable of directly causing individual losses as required by the clauses. This requirement was likely required to exclude attempts to aggregate by reference to “states of affairs”;
2. the “catastrophe” must be something which, in the context of the terms of the reinsurances, can fairly be regarded as a coherent, particular and readily identifiable happening, with an existence, identity and “catastrophic character” which arise independently of the fact that it causes substantial losses;
3. it ought to be possible to broadly identify when the “catastrophe” comes into existence and ceases to be, even if an attempt at a precise temporal delineation offers scope for legitimate debate and dispute; and
4. a “catastrophe” will involve an adverse change on a significant scale from that which preceded it.

Notably, the Court did not consider it necessary to provide a definition of “catastrophe” for all scenarios (and questioned whether such a definition was possible). 

Application to the Tribunals’ findings

The Court held that each of these characteristics were consistent with:

1.  the Covéa Tribunal’s finding that the outbreak up to the 18 March Order was a “catastrophe”; and
2. the Markel Tribunal’s finding that the “order as necessitated by the pandemic was to be regarded as a catastrophe”. 

As regards the Covéa Award, the Court noted that:

1. the Covéa Tribunal “identified the relatively short period within which the catastrophe came into existence”;
2. as the Covéa Tribunal observed, during that period, “the COVID-19 outbreak assumed a certain coherence in its development and effect and gave rise to a profound subversion of the order of life within the UK”; and
3. the Covéa Tribunal had similarly identified the wholesale disruption of life in the UK caused by the outbreak.

As regards the Markel Award, the Court also noted that:

1.  the Markel Tribunal also identified March 2020 as the time when the “pandemic was gathering force around the world” and in which the response in the UK occurred;
2. the Markel Tribunal similarly noted the “subversion of the ordinary or natural course of things”, the “grave infringement of personal liberty” and the adverse consequences which the order and emergency with which it was inextricably linked occasioned; and
3. the Markel Tribunal’s findings were consistent with the High Court’s recent decision in Gatwick Investment limited v Liberty Mutual Europe SE that, in an insurance context, the Coronavirus Job Retention Scheme or furlough scheme cannot be regarded as wholly separate from the restrictions introduced in response to the pandemic.

As a result, the Court did not need to assess whether the 18 March Order alone could be regarded as a catastrophe.

The Court therefore dismissed both Gen Re’s and Unipol’s appeals on the Catastrophe Issue.

The Hours Clause Issue

The Tribunals’ findings

Markel’s primary position was that the hours clause is concerned with the duration of the “catastrophe” and that all individual losses directly caused by the catastrophe can then be aggregated, regardless of the date of the individual losses.  However, in the alternative, Markel supported Covéa’s position that the date of an individual loss for the purposes of the hours clause is the date when the original insured was first denied access to its premises.

Whilst Markel and Covéa therefore advanced different primary cases regarding the hours clause, the overall impact was the same, i.e. that all BI losses arising from the 18 March Order fell within the hours period, notwithstanding those BI losses continued after the 168-hour period.

The Covéa Tribunal found in favour of Covéa by determining that the reference to “individual loss” in the hours clause meant “a loss sustained by an original insured which occurs as and when a covered peril strikes or affects insured premises or property”. 

However, the Markel Tribunal found against Markel. In reaching its decision, the Markel Tribunal said that it was “natural to think that business interruption losses occur day by day”.  The Markel Tribunal held that the closing words of the clause were not “dealing with causation but with the occurrence of a particular loss” and that the “subject-matter of an ‘Event’, its duration and extent, and its occurrence, are all referenced to losses, not perils”.

The effect of the Markel Tribunal’s findings was that Markel was only entitled to recover 168 hours of BI.  Given the BI had extended until at least June 2020 (i.e. when the relevant restrictions were first lifted), this meant that the vast majority of BI fell outside of the hours period and Markel was unable to reach the relevant attachment point under the reinsurance.

Unipol and Markel therefore appealed the Tribunals’ respective findings.

Comparison of damage BI and non-damage BI

It was common ground in both arbitrations that, in the case of damage, the entire loss (including BI) was treated as having occurred on the date of the damage, although Unipol had submitted that this was driven by pragmatism and wrong in principle. The Markel Tribunal also appeared to share Unipol’s concerns in that regard.

However, both Gen Re and Unipol sought to distinguish damage BI and non-damage BI.  Gen Re submitted that, in the case of damage, the BI loss could be estimated and assessed from the damage that had taken place.  In contrast, for non-damage BI, the parties were in a “wait and see” situation, with the relevant order and BI occurring “day by day”. 

However, the Court was not persuaded such a distinction could be drawn and, on the contrary, considered that there were strong similarities between the two. In that regard, the Court noted, amongst other things, that:

1. even with pure damage, the consequences of the initial “strike” by the peril might continue to manifest after the hours period, for example by damage worsening over time;
2. the extent of damage BI will depend on the speed of any repairs, which might depend on “post-strike” contingencies, such as the length of supply chains; and
3. the inability to use premises through denial of access (for whatever cause) could be regarded as inherently and immediately detrimental to the user of those premises and was therefore comparable with damage to property.

The Court also considered that this “wait and see” and “day by day” analysis did not sit comfortably with the High Court’s findings in Stonegate and Various Eateries Trading Ltd v Allianz Insurance Plc, which treated the closure orders as having an immediate impact on property similar to damage. The High Court had also identified the forced closure as a “trigger” with continuous effect (rather than a series of day-by-day triggers), which had been approved by the Court of Appeal in its recent decision in Various Eateries

Unipol also sought to distinguish damage and non-damage BI on the basis that both entailed different insured perils.  Unipol submitted that, unlike damage BI, non-damage BI does not entail an independently indemnifiable “anchor” incident to which a sequence of BI can be tethered. However, the Court disagreed on the basis that the Supreme Court’s decision in the FCA test case suggested that the “correct causal sequence” for non-damage BI approximated that of damage BI.

Was the hours clause concerned with the duration of the “catastrophe” or the “individual losses”?

The Court then considered whether the hours clause defined the duration of the “catastrophe”. 

Although the Court considered that the wording “offers something for both sides on this issue”, the Court determined that the clause concerned the duration of the individual losses. The Court considered Markel’s strongest point as the words “the Reinsured may choose the date and time when any such period of consecutive hours commences, and, if any catastrophe is of greater duration than the above period, the Reinsured may divide that catastrophe into two or more ‘Events’”.  However, the Court still found that those words could readily be understood as referring to individual losses caused by one catastrophe.

The Court ultimately agreed with the Markel Tribunal that the words “no individual loss from whatever peril, which occurs outside these periods or areas, shall be included in that ‘Event’” “were clearly a reference to the date of occurrence of the individual loss not the catastrophe”.  The Court also highlighted that the word “included” contemplated the identification of small elements comprising an “Event”. 

When does an individual loss occur for the purpose of an hours clause?

The Hours Clause Issue then rested upon when an individual loss was said to occur for the purpose of the clause.

Before assessing the parties’ arguments, the Court found it helpful to set out how BI losses are assessed under direct insurance policies.  The Court noted that:

1. BI cover is subject to a “Maximum Indemnity Period”, which will provide a cut-off.  It was not uncommon for cover to last as long as 36 months;
2. the amount of the indemnity is not calculated on a “day-by-day” basis but across the period, with claims for increased cost of working, and credits for saved expenses; and
3. there is usually provision for the adjustment of trends of the business.  The Court referred to a detailed explanation of such clauses by the Supreme Court in the FCA test case.

Based upon the above, the Court considered that the amount paid to settle an individual BI loss was very far-removed from a “day by day” calculation.  It was also clear that the assessment of BI at the direct insurance level involved looking at the net effect over a particular period and not the aggregation of a series of daily losses.

The Court then identified various provisions within the reinsurances which were relevant to the meaning of “individual loss which occurs” and, in particular, inconsistent with losses being treated as occurring day-by-day.  As regards the Covéa reinsurance, the Court placed significance upon, amongst other things:

1. the Reinstatement Provision, which provided that “Losses hereunder are applied chronologically by date of loss.” It was difficult to see how this provision was to operate for pure BI losses if there were separate losses day-by-day (or even hour-by-hour); and
2. clauses which addressed how the quantification or assessment of losses at the insurance level impact on the reinsurance: the Ultimate Net Loss clause, with the allocation of loss adjustment expenses, litigation costs and the application of salvage and recoveries, and the “follow the settlements” clause. 

The Court noted that there were similar provisions in the Markel reinsurance.

Application to the Tribunals’ findings

The Court noted that the Covéa Tribunal found, and it was common ground before the Markel Tribunal, that when considering damage BI, the individual loss occurs when the insured peril damaged the insured premises. The Court agreed with the Covéa Tribunal that this supports an analysis which treats an individual loss as occurring “when a covered peril strikes or affects insured premises or property”, and that when the insured peril which strikes the premises is the loss of the ability to use it (for whatever reason), the individual loss occurs at the same point.

Drawing together its findings above, the Court found that:

1. this reflected the position at the direct level, to which the words “individual loss” naturally direct attention;
2. there was no sufficient basis to distinguish between damage BI and non-damage BI. On the contrary, there were obvious parallels between the impairment of property rights resulting from damage and that resulting from the inability to use the property;
3. this was consistent with the Courts’ approaches in Stonegate, Various Eateries and the FCA test case;
4. this construction better cohered with the remaining provisions in the reinsurances; and
5. this avoided the uncommercial consequences of the “day-by-day” construction.

The Court considered that the Markel Tribunal reached a different view, principally because it concluded that “it is natural to think that business interruption occurs day by day”, which did not readily accommodate with the manner in which BI losses under direct insurance policies are assessed.

The Court therefore allowed Markel’s appeal but dismissed Unipol’s appeal on the Hours Clause Issue.

Comment

The High Court’s decision will be welcomed by many cedants and will inhibit the ability of reinsurers to challenge the presentation of ‘first lockdown’ COVID-19 BI losses, where a similar catastrophe wording applies. We expect that cedants with ongoing recoveries might now seek to amend or finesse their claims presentations to exploit the Court’s findings. Whilst there remains uncertainty regarding broader bases of aggregation, plainly the wider the presentation, the more challenging it will be for cedants to satisfy the characteristics of a “catastrophe” outlined by the Court.

More generally, the Court’s commercially minded decision on the Hours Clause Issue should also provide significant comfort to cedants as regards the recovery of ongoing BI losses in future recoveries (both damage and non-damage).