Business interruption insurance: Supreme Court implications

With the COVID-19 pandemic affecting the global economy in unprecedented ways, many businesses have been compelled to stop operating because of government action, including restrictions and enforced closure. Many of these businesses will have suffered significant losses as a result and have filed or will be filing claims with their insurers under their business interruption policies.

Traditional business interruption policies are designed to protect businesses against financial losses caused by an incident affecting their ability to trade, including lost income. They predominantly relate to property damage, such as that caused by a flood or fire. Some policies, however, also provide cover for non-damage business interruption, including in the case of disease or prevention of access to premises.

The unprecedented nature of the pandemic, and the government’s response, however, led to disparity of treatment with some insurers accepting liability while others disputed it under, what appeared on the surface, to be similar policies. As a result, the FCA sought to obtain clarity on contractual terms by bringing a test case in the High Court on behalf of policyholders. The High Court in September 2020 and the Supreme Court in January 2021 – following a leapfrog appeal – ruled largely in favour of policyholders, adopting different reasoning.

The FCA has been collating data on the progress on non-damage business interruption cases submitted to affected insurers. The latest figures indicate that, out of approximately 36,000 policyholders who had made successful claims, around 50 per cent had received at least an interim payment with an aggregate value of approximately £700 million. With some analysts estimating the total cost of business interruption claims for insurers to be over £2 billion, it is expected many more policyholders will benefit from coverage as a result of the test case.

Providing further clarity for policyholders

The Supreme Court’s ruling now entitles policyholders with coverage to be indemnified for all their losses relating to the pandemic. For the purpose of loss calculations, this includes lower turnover prior to closing business operations, not adjusted when measuring actual performance.

The judgment establishes that businesses can make a claim for partial interruption, for example, where a discrete part, but not all, of a business’ operations was affected by COVID-19. It also brings insured businesses who were able to partially mitigate their losses within the scope of policies with prevention of access or inability to use conditions, even where access or use was not wholly prevented.

In such cases, the loss is adjusted and the relevant comparison is between the actual turnover and the adjusted standard turnover of interrupted activities.

Although this provides clarity, the ruling left some areas open for future dispute between policyholders and insurers. These include aggregation (where a policyholder suffered losses at different premises or during different local and national lockdowns), damages for late payment where claims were not paid promptly and costs were incurred as a result (such as costs of financing), or the treatment of government financial assistance in calculating a claim.

Understanding the challenge for businesses

As with traditional business interruption claims, securing appropriate internal documentation will be crucial to determining the business’ earnings had the incident, in this case the coronavirus pandemic, not occurred. Documentation will also need to evidence any additional expenses incurred and demonstrate implementation of mitigation strategies.

Loss of profit calculation for business interruption claims are further complicated by the challenge of determining relevant profits and allocating costs in the context of COVID-19 related claims, including considerations of seasonality or market trends.

Business interruption claims will take into consideration both costs and savings of a business resulting from the ability to use its premises, or its ability to mitigate losses by moving some activities off premises, for example, an eat-in restaurant business setting up a takeaway or delivery service.

The size and structure of the business will also impact upon the complexity of the claim, for example supply chain disruption. For larger businesses, costs and savings may need to be allocated across multiple sites affected by different local restrictions or support measures.

So, what steps should businesses be taking?

• Conduct a thorough review of insurance policies to determine applicability of policy coverage.
• Communicate with insurers early and regularly.
• Assemble a team, considering both internal and external expertise, to ensure appropriate resource is available to deal with the size and complexity of the claim and include colleagues from all the affected parts of the business.
• Prepare a timeline of events to determine the most relevant period of comparison for measuring against actual performance.
• Collect supporting financial information, including from the supply chain. This may include monthly or quarterly management accounts, production and inventory reports, business plans and forecasts, and comparable results at similar locations or business units.
• Calculate the loss suffered by the business and identify any additional expenses incurred, together with cost savings, using external assistance as required.

Insurers can expect to receive a high volume of claims as business activity begins to increase in the coming months. Businesses need to prepare and take necessary action and advice to bring a successful claim as early as possible and ensure the best possible chance of recovery from the pandemic.