Though insurance penetration is low in Pakistan relative to comparable economies, many businesses routinely obtain insurance for coverage against losses caused by unforeseen events, known as business interruption insurance. The present unprecedented global crisis, in which further rounds of lockdowns or similar restrictions are expected, may seem like exactly the sort of event such businesses consider themselves covered against.
This paper will explore whether insurance policies commonly taken by businesses in Pakistan are likely to cover losses suffered due to the pandemic.
Policy terms
To illustrate the main issues involved, we have examined the provisions of an industrial all-risks policy (the “Policy”) issued to a business by an insurer in Pakistan, having terms typically found in other such policies. The insuring clause of the Policy has two main sections, namely: property damage and business interruption (“BI”). The most important factor in determining whether coverage extends to a particular loss in any policy is whether the occurrence causing the interruption (and the resulting loss) is the result of a peril insured against. As the Policy is an all-risks policy, the property damage section insures against all risks of physical loss or damage to covered property while on described premises except as is excluded. The BI section insures against loss of revenue (gross profit) due to loss of capacity directly resulting from an occurrence covered by the all-risks policy. Notably, the Policy does not define the term “physical loss” or “physical damage.”
The Policy lists several excluded perils, including “microorganisms, toxic moulds and fungi.” An insurer may look to rely on these exclusions to decline a claim by contending that a virus having attributes similar to the exclusions should also be excluded. Unusually for policies issued after the SARS outbreak in 2003, the Policy does not list viruses or pandemics in the excluded
perils. Given that the Policy did not expressly list viruses as an excluded peril, viral contamination is unlikely to fall within the scope of the exclusion. However, whether viruses will be treated as excluded perils will depend on the language of the specific policy issued to the policyholder.
Physical loss
Many businesses will have had to evacuate manufacturing plants and suspend operations if viral contamination of the premises is suspected, for instance, after an employee tests positive. In such a case, the question of whether a property insurance policy will cover any losses that may arise will depend on whether viral contamination is held to constitute physical loss or damage to property. The conventional view has been that permanent and tangible alteration in the physical state of a property must exist for coverage under a property damage insurance policy to attach. Mere loss of function or usefulness to the property has not been treated to amount to physical damage. Like the Policy, most policies do not define the term “physical loss” or “physical
damage.” It often falls to lawyers to interpret whether a particular occurrence constitutes physical damage by attempting to determine the intention of the parties from the language of the policy as a whole and the surrounding circumstances when the policy was issued and examining that against the facts of the occurrence causing the loss. A survey of case law from foreign jurisdictions indicates that jurisprudence is evolving. In Quorum AS v Schramm it was held that sub-molecular change, which was not visible, constituted physical damage to a painting as it could quicken deterioration and shorten the life of the pastel. Even intangible, physical damage can therefore meet the threshold in appropriate circumstances. In the case of Losinjska Plovidba v Transco Overseas Ltd (The Orjula), the Commercial Court in London found that spillage of hydrochloric acid onto a vessel requiring decontamination constituted “damage”, even though there was no apparent physical damage to the deck. A relevant consideration. In that case was whether there had been “injury impairing value and usefulness” and whether expense would need to be incurred to restore the property to its former useful condition. The decisions in Quorum and The Orjula may provide a basis in English law to contend that an intangible physical occurrence, whose effect on a property is reversible, can constitute physical
damage in appropriate cases. Some courts in the US have interpreted the term physical damage even more expansively by holding that it also entailed the effect of any intangible phenomena, such as odour or noxious gases, that diminished a property’s suitability for use. A case in point is Gregory Packaging, Inc. v. Travelers Prop. Cas. Co. of Am, in which the District Court for New Jersey decided that “property can sustain physical loss or damage without experiencing structural damage.” Recently the Ontario Superior Court of Justice, in the case of MDS Inc. v Factory Mutual Insurance Company (FM Global), held that the term ‘physical damage’ in an all-risk insurance policy included “impairment of function or use of tangible property”. A decisive factor was the court’s conclusion that the commercial purpose of an all-risk policy was to provide broad coverage to the policyholder. Based on the Court’s expansive interpretation, the policyholder could claim business interruption losses arising from its supplier’s production facility being shut down due to a leak.
There is no reported case law in Pakistan on the question of what constitutes physical loss or damage to property in the context of insurance. Having said that, in order to raise a tenable claim, a policyholder will have to prove that the virus was, in fact, present.
While some business closures are caused by the actual presence of the virus on the premises, others will result from government orders for lockdowns. Losses suffered due to measures taken to quell the spread of the virus are unlikely to be covered unless it can be established that these were in response to an actual outbreak.
Coverage under BI
The BI coverage under the Policy covers losses caused by a whole or partial interruption resulting from an occurrence covered under the property damage section of the Policy to any property insured under the Policy. BI Loss is defined in the Policy as the reduction in production or turnover caused by an interruption or interference. The necessary elements that must be satisfied for the
coverage to be triggered are: (a) the loss must result from a whole or partial interruption of business; (b) caused by an occurrence covered under the all-risk property damage section of the Policy; and (c) to any property insured under the Policy.
In general, business interruption insurance is intended to return to the insured’s business the amount of profit it would have earned had there been no business interruption or suspension of its operations. However, business interruption coverage ought not to be used to put the insured in a better position than it would have occupied without the interruption. As with most policies, the Policy excludes coverage for any consequential (or remote) losses or loss of market.
Conclusion
While the world battles through the pandemic, businesses will make claims in the hope of recovering at least some of their losses. As discussed above, the success of every claim will depend on the particular wording of the policy, the circumstances of the occurrence causing the loss and the policyholder’s compliance with other policy requirements, such as warranties and notice provisions.
In the US, there has been a spate of lawsuits in which policyholders have sought to recover BI losses because of the pandemic. A threshold issue in the pending lawsuits is whether a policyholder has experienced “direct physical loss or damage,” which is typically required to recover business interruption losses flowing from that property damage. Another issue is the effect of
virus exclusions, which are present in some policies and vary in language and form. The government of China has directed domestic insurers to cover Chinese enterprises against disruption from the COVID-19 outbreak.
In the United Kingdom, the government declared COVID-19 a ‘notifiable disease’ in order to extend coverage under insurance policies for losses caused by such diseases. One of the UK’s insurance regulators, the Financial Conduct Authority, announced that it would seek a declaratory judgment from the High Court in London on sample policy wordings commonly used in business interruption to obtain an authoritative ruling as to whether such policies respond to losses caused by the pandemic. The FCA named eight insurers to be the Defendants in the test case and is asking for rulings on seventeen of those insurers’ policy wordings which are typical of wordings used in the UK. The hearing will take place in an eight-day period at the end of July. The
judgment should address the meaning of various expressions which are commonly used in BI policies, and also principles of causation and quantification of loss.
There is no indication at the moment that Pakistan will enact any policyholder-friendly legislation to ensure that insurers cover losses arising from COVID-19 on existing insurance policies. Courts generally tend to be lenient with policyholders after unforeseen events, as they were in the aftermath of 9/11 and Hurricane Katrina. In this regard, the outcome of litigation in foreign jurisdictions is certain to impact disputes that have or will inevitably arise between policyholders and insurers in Pakistan. The traditional view that losses caused by a virus will not, under any circumstances, be covered by a physical loss policy is unlikely to hold good.
In the short term, businesses will likely require an in-depth review of their insurance policies to determine the possible coverage for losses caused by COVID-19. In the medium and long term, the experience of many businesses in Pakistan during the pandemic may lead them to consider obtaining insurance with coverage for similar events in the future, such as non-damage
business interruption (which covers loss caused by events disrupting business operations that are not caused by physical damage to property, such as cyber-attacks, governmental or regulatory actions and pandemics).
If you have any queries on Business Interruption Insurance, speak to Karachi partner Mayhar Kazi or Shafaq Rehman today.
Note: This article does not provide legal advice, and no legal or business decision should be based on its content. It is intended to provide information of general interest about current legal issues.
