Summary
Our insurance lawyers, Amy Nesbitt and Basiru Terry, provide an overview of recent legal developments and their take on future trends against the backdrop of climate change, a looming recession and further guidance from the Court concerning the operation of business interruption policies.
Transcript
Amy Nesbitt: So my name is Amy Nesbitt. I'm a Partner in Weightmans' specialty team. And I'm joined today by my colleague and Associate Basiru Terry for a quick whistlestop tour of some of the developments and highlights of this year, which are of importance to anyone working in the specialty insurance sector.
Amy: So 2022 has been a year of several important decisions for insurers, which, together with the disruption to the financial markets and lasting damage caused by the political mayhem, means there's much to talk about.
Basiru Terry: Absolutely thanks, everybody. I'm Basiru Terry. I am an Associate in our specialty litigation team. I work with Amy. As Amy has already said, 2022 has certainly been an eventful year. In some ways, it has seen a perfect storm of events that has left us at the end of the year, probably with a degree of uncertainty and perhaps slight trepidation as to what the new year holds.
Basiru: Early on in the year, we witnessed extreme weather in the UK, the likes of which we have rarely ever seen. At the start of the year, we witnessed three named storms in the space of a week — storms Dudley, Eunice and Franklin. I'm not sure where they get their names from, but they are quite interesting names.
Basiru: So these caused havoc to large sections of the UK, resulting in millions being without power and countless homes destroyed. Conversely, this summer was the fourth hottest summer for daily average temperature since the Met Office started collecting data. I'm sure few will forget the day when temperatures topped 40 degrees. Even within the last few weeks, we have seen large parts of the country covered in snow.
Basiru: So to many, there is little doubt that climate change is the cause of these extremes of weather. If this is any indication of what we are likely to see in the years to come, then there's potentially reasons to be concerned.
Basiru: I know the ABI estimated that the clean-up from Storm Eunice alone cost more than £300 million. But the reality is, is that insurers are largely responsible for picking up this large bill, whether it is paying out for damage to property or lost contents caused to businesses and homeowners.
Basiru: The managing director of Squeaky, a renewable energy marketplace, believes that the economic losses attributable to climate change related activities are on track to become the biggest risk in the global insurance industry. The central bank of France found that premiums could rise by as much as 200% over the next 30 years, due to a five-fold rise in claims related to natural disasters.
Basiru: So clearly the increased incidence, magnitude and severity of natural disasters leads to greater exposure for insurers, which in turn means more expensive premiums for policyholders. It could even lead insurers to restrict the availability of cover for climate change risk. This is a worrying situation. However, the challenge for the industry will be predicting future climate change events and ensuring that policy wording is clear and specific. Since even our wildest imaginations may not go far enough in predicting the future impact of climate change, this will be a real challenge for the industry and we can expect some innovation here.
Basiru: Running alongside this, we had the spectre of COVID-19. That has been a feature of our lives over the past three years as one of the most significant pandemics that the UK and the world has ever seen. COVID saw many companies turn to their insurers to recover their losses from government-enforced closures. Whilst many made claims under business interruption insurance policies, insurers maintained that their policies weren't intended to cover unprecedented BI caused by government measures to control the pandemic.
Basiru: The 2021 judgment in FCA v Arch Insurance found that cover may be available for partial closures of premises and for mandatory closure orders that were not legally binding. As of October 2022, claims data shows a massive £1.5 billion paid out by insurers to over 36,000 small businesses as a direct result of this case. With many cases still in the pipeline and yet to be decided, perhaps for years to come, it is hard to guess what the total figure will be, but a figure over £2 billion is at best a conservative estimate.
Basiru: With sums like this, it stands to reason that insurers will be very, very reluctant to provide unspecified and generic BI cover in the future, with insurers more likely wishing to ensure policy wording is watertight and removing any potential coverage for pandemic risk.
Basiru: Finally, and I use this word cautiously, we have the dark clouds of a recession over our heads. According to the Chancellor of the Office for Budget Responsibility, the UK is now in recession, with Britain's output shrinking 2% in the three months to September.
Basiru: Meanwhile, inflation is at a level unseen for over 41 years. All this, which potentially is linked to the massive government assistance provided during the pandemic, has been exacerbated by the war in Ukraine.
Basiru: So against this rather gloomy backdrop of events, the insurance market has received court judgments that are in some way a result of or will be connected to the events already mentioned. These judgments will have significance in the years to come.
Basiru: These cases are:
- Spire Health Limited v Royal Sun Alliance, dealing with the correct approach to segregation;
- Rashid v Direct Savings Limited, dealing with the Third Parties (Rights Against Insurers) Act 2010 and limitation.
Basiru: Then we had the trio of business interruption cases, namely:
- Stonegate Pub v MS Hamlin and others;
- Various Eateries Trading v Allianz Insurance; and
- Greggs PLC v Zurich Insurance.
Amy: Now, those three final cases that you mentioned, first, they've all been treated in the same sort of respects, haven't they, by the industry? And in fact, I think that there's an outstanding well permission — we don't know whether the application will be made — but a permission has been granted for the insurers involved in those cases to make an application to appeal certain sections of the judgment. So in some respect, there is definitely some commonality there in respect of those cases and I think if we look at the commentary surrounding those decisions, that's very much how they've been treated in the industry. So can we just focus on those issues for today's discussion? Because there's a lot in there. And I think what we may have to do a follow-up session concerning those other cases. But let's have a look for today's purposes at business interruption. What can you tell me about those three?
Basiru: Absolutely. Well, the key issues in common to all three cases were:
- What is the trigger for the relevant insuring clauses of the policy?
- Did the BI loss arise from one or more single occurrences for the purposes of education as one or more single business interruption loss?
- Were the claim losses proximally caused by covered events which occurred during the relevant periods of insurance?
- Are any payments received under the coronavirus job retention scheme and/or is any business rate relief received to be taken into account when calculating any sums recoverable under the policy?
- Was the additional increased costs of working supplement an aggregate limit or applicable to each single business interruption loss?
- And does additional increased costs of working cover apply to economic increased costs of working or only to unlikely increased cost of working?
Amy: So as Bas mentioned in Stonegate, there were a number of important issues which were decided by the court. In fact, in all three cases, on the basis of a trial of preliminary issues, there were matters not resolved by the FCA test case and which have wider significance to the market.
Amy: And as you've alluded to already, there were four important takeaways basically aligned to those issues that you've identified in that short intro. So the court decided that if a third party has made a payment which has eliminated or reduced the loss to which the insured and has insurance against, then subject to a number of exceptions, insurers are entitled to the benefit of that payment, either in reducing any payment that they might have to make under the policy or if they've already paid it, claiming the amount from the insured in respect of which the insured has received that payment. Save where it can be established that the third party who made the payment intended it only to benefit the insurers, the exclusion of insurers.
Amy: And the court looked at what you might need to factor in order to decide whether or not that payment was made with the intention of excluding insurers. And essentially, the court found that in the facts of this case, the government, of course, was aware that there were a number of potential claims against insurers for business interruption insurance. Yet notwithstanding that, the furlough scheme was still implemented without any statement, for example, that it was to the exclusion of insurers.
Amy: And so taking that in the round, the court decided that, in fact, this was not a payment made by the government, which was intended to benefit the insured to the exclusion of insurers, and therefore it is one that ought to properly be taken into account when it came to deductions.
Amy: The second issue that the court determined was in respect of aggregation and essentially the court found that the government-mandated closure at the start of the first lockdown in March 2020 amounted to a single occurrence under the policy.
Amy: And I think in order to give this a bit of context, it's important to look back at the history. And our listeners will recall that the first case of COVID-19 was detected in China back on 31 December 2019. And then we had the first cases of COVID-19 in the UK back towards the end of January 2020, and then came 5 March 2020. That was when COVID-19 was added to the list of notifiable diseases in the UK under the health protection regulations and the virus causing COVID-19 was also added at the same time to the list of notifiable causative agents.
Amy: This meant that local authorities were required to be notified of any cases, and on 12 March, the World Health Organization classified COVID-19 outbreaks as the pandemic, urging governments to implement containment strategies.
Amy: The virus continued to spread and it led to the introduction of various restrictions, some of which were mandatory and some of which were advisory. So on 16 March, the government advised but didn't demand that the public stay away from pubs, restaurants and the like.
Amy: On 20 March, that advisory remark was then made mandatory. And in fact, government announced the closure of cafes, pubs and restaurants except for takeaway facilities, and all nightclubs, theatres, cinemas, gyms, etc. they were all closed and on 23 March we then had closure of schools, save for children of key personnel, and the lockdown was introduced with people only able to leave their homes to shop for basic necessities. Seems like a bit of a distant memory now, but there we go.
Amy: The court found in the Stonegate case that the loss suffered by Stonegate across all of its UK locations during the first lockdown from March 2020 was to be treated as a single business interruption loss. And it found that there was a single cause — a single occurrence — and that was the government-mandated instruction given on 20 March.
Amy: Therefore, all the losses that Stonegate suffered across its various premises were capped at 2.5 million. Now, that's a massive decision, given that the claim itself was worth, as I understand it, in excess of £1 billion.
Amy: The court then went on to find that there was a further single occurrence on 16 March and potentially this is a controversial element of the judgment, which was, in fact, the date, you'll recall, that the government advised the public to stay away from pubs and cafes, and the court commented that this could also provide the basis for aggregating these losses.
Amy: Thirdly, we had a decision concerning causation. So the court found that Stonegate had only established proximate causation up to the end of the first lockdown and the reopening of venues. And this happened in July 2020.
Amy: The court found that there was no basis for the recovery of business interruption losses caused by government action beyond the first reopenings in July 2020, as the government was then reacting to more recent cases and the threat of future cases, almost it was distinct from that very first occurrence.
Amy: And then finally the fourth issue that the court decided was in respect to the additional increased costs of working. And the court found that covered only uneconomic expenditure and could not be used to supplement the increased cost of working cover in respect of economic expenditure, i.e. it couldn't be used to supplement the increased costs of working limits where they were inadequate.
Amy: So as I said, the practical result of all of this is that the claim in Stonegate, which was nearly £1.1 billion, I believe it reduced to, at a maximum, £2.5 million, which is a massive victory on the face of it for insurers.
Amy: However, as I mentioned at the very outset, there has been permission granted for the insurers in this case, along with the insurers in Greggs and Allianz, to make applications to appeal certain parts of the judgment. And as I understand it, that permission was granted that towards the end of last month. And so it's very much fresh news and we need to watch this space.
Basiru: Yeah, as you said, Amy, then there are challenges that we are going to face. And as you rightly say, we have to watch this space. And there are likely to be developments in the coming years. And I suspect that these are not going to be the last judgments that we hear on these points.
Basiru: And as we've already seen, there is strong evidence that the premiums will increase significantly across all levels of insurance market. If I take my own recent experience of trying to renew my car insurance and the renewal price that I was quoted was double what I paid previously. After shopping around, I managed to find car insurance, but that still was probably £500 more than I paid last year. Now I could easily have downgraded my cover, but that would not have given me the protection I actually needed.
Basiru: So if we apply this to our discussion piece, we could easily see a situation where policyholders either do not obtain the full cover that they require or are simply priced out of the market.
Basiru: If we take the example of a startup business that has just begun operations before the pandemic, they have just survived the devastating impact of the pandemic to their operations, through no fault of their own. They are now faced with insurance, which could be triple what they were paid before and which does not afford them the protection that they require. They are already concerned about the impact of future pandemics, yet the cost of premiums seemingly prevents them from protecting against this risk. They then have the added pressure of climate change, queries with regards to recession are staring them right in the face.
Basiru: So I suspect what we're going to see is a large number of business businesses going insolvent. And clearly, this is a risk that a lot of businesses are facing and why the new year doesn't look as rosy to them as it might do to other sectors and businesses.
Amy: Insolvent insurers means only one thing, doesn't it? A rise of claims under the 2010 Act. I'm sure that's not the only trend we're going to see Bas, but it's an important one, isn't it?
Amy: And insurers will definitely be in the driving seat, we think, when it comes to certain claims, particularly in the professional indemnity sector.
Basiru: Absolutely. And, you know, we'll probably touch on this in another discussion. But that then brings into fact the case of Rashid v Direct Savings, which deals directly with the Third Party (Rights Against Insurers) Act and limitation. And as a short introduction to that matter, we can actually say that what we'll probably see from that case, is that a lot of insurers and businesses will be probably frontloading their litigation to make sure that they get their claims in on time, which means more work for the insurers in the sense that they will have to make sure that they do all the investigations upfront, and they don't have as much time as they might have thought they did.
Basiru: So we are going to be seeing a change to the legal and insurance landscape over the next couple of years. And that's simply due to the current climate that we face and the perfect storm of events that we've seen.
Amy: I mean, that's right Bas because without wanting to sort of jump in and stray off to a huge discussion about the impact of Rashid and maybe strategic considerations for insurers in that respect, what, of course, the court did say for the context and benefit of our listeners, is that it is the time limit, which applied to the underlying action that is then the subject of the 2010 Act that is passed on to insurers, which is applicable when it comes to limitation.
Amy: So essentially there is no stopping of the clock or pausing of the clock. And claimants who are looking to make a recovery pursuant to the 2010 Act have a much, in theory, shorter time frame in which to get their house in order.
Amy: So as you say, front loading of costs is definitely going to be something that we see, I think, over the next year or so.
Basiru: Absolutely and clearly, the risk facing businesses is that, as I've mentioned, that are not fully covered should something happen. But that doesn't stop the story there. Recession breeds litigation and where one avenue of protection is cut off, litigation does give businesses another route to obtaining protection of some sort.
Basiru: If we go back and look at the recession in 2008, we saw a rise in claims of disputes relating to insolvencies, banking claims, property reset, repossessions, etc. According to City of London Police, fraud soared in the recession with a 64% increase in the number of reported frauds.
Basiru: So in times of recession, people inevitably become more willing to make claims for compensation against professionals offering advice and services. So it would not be outside the realms of possibility that this current recession which is predicted to last several years, will be coupled with a rise in claims against solicitors, brokers, surveyors for the services that actually provide.
Amy: I mean, as we've seen before, Bas, of course, this almost will be history repeating itself, won't it? We've got a whole string of those nationwide cases which all arose out of the 2007 recession and are we be going to be back in that territory?
Basiru: Absolutely. If we look at brokers for the moment, the changing regulatory and legal landscape means that it's even more important that brokers ensure that they are giving the right advice. This is particularly true in the long-standing relationship between brokers and insureds. But much of the discussion about type of cover required is based on previous years of informal chats with little to no paper trail. In this situation, brokers are probably the first in the firing line for disgruntled policyholders who finally realise later on down the line that all the cost-cutting that they did with regards to their premiums has left them without the necessary cover that they actually require.
Amy: And we might see that in the future, because if it is a hard market, then, as you say with your car insurance example, one option would have been for you to downgrade your cover. And when you've got these optional add-ons, are we then going to see a trend of businesses you know, having to make those priority decisions and deciding not to incept those additional covers.
Basiru: Absolutely. And I think an important factor that can't be overlooked is the need to make sure that policy wording is fully explained to insureds and that care is taken over form filling and making sure they insureds give the correct information. There is a tendency in times of recession for people to cut corners.
Amy: So as you say Bas, as you know, there is the potential for there to be a bit of shortsightedness when it comes to insureds that are submitting their proposal forms. And it might provide answers in the hope that they will be returned a more preferential offer in terms of insurance, but also lowering premiums. But as we know, that can come back to bite them. We need to be mindful of this. We're not saying that fraud is going to be on the rise, but it is an obvious potential consequence of any recession and we've seen it before.
Amy: So fair presentation issues are likely, in my view, to be at the fore when it comes to any future claims. That means that everyone needs to be alive to that. Brokers when advising their clients in respect of what is asked of them in the proposal forms need to take care to ensure they're actually looking at the questions and having that discussion with their client in terms of understanding their risk transfer options.
Amy: But also, I think, you know, there's a positive spin on all this and brokers potentially have a really large role to play when it comes to looking for any mitigating factors that could be put forward in proposals for the benefit of insurers. And risk mitigation strategies are no doubt something that insurers will be looking for, particularly in this hard market.
Amy: So fair presentation is obviously going to be a big one, as we've discussed. Where there is this evolving legal and regulatory landscape affecting, you know, all walks of professions but, you know, just the world generally. It's an obvious consequence that insurers are going to be looking at their proposal forms and varying them accordingly. And it's just important that everyone involved in that process is really looking at what's being asked and ensuring that those discussions that are taking place with the insured are fully informative and, as far as they can be, that investigation is undertaken.
Amy: So, I mean, that's just a general comment. We've obviously looked already at business interruption and the trio of cases that we've mentioned before. And the obvious question then is, how does that then have an impact on any potential subsequent claims against other professionals in so far as it transpires, as is the case in Stonegate, that where an insured believes that they've got an indemnity in respect of billions, but in fact it's reduced to a fraction of that sum, are they going to look to recover their losses from elsewhere?
Basiru: Absolutely and it's no surprise that we've seen a lot of COVID-19 exclusions being inserted into policies, professional indemnity policies, and dealing with business interruption. It's a logical conclusion and it's a logical step that insurers actually take it. But the impact then is where do insureds seek to recover money from and who do they seek to blame? Because as we've already mentioned, in times of recession, people always look to try to blame somebody for losses that they're unable to recover.
Basiru: And we've actually recently dealt with a similar case that deals with something like this. And for the benefit of our listeners, it's worth just going through it in a short, short form. So during the COVID-19 pandemic, a business suffered a significant downturn in revenue and inquired with their broker as to whether the business interruption cover arranged by them would respond. Notification was made to the relevant insurer in accordance with the FCA's guidance in circulation at the time.
Basiru: However, the claim was rejected, so the business is naturally quite upset. Alleged that the broker was negligent, failing to place or recommend non-damage business interruption cover with an extension for disease.
Basiru: Having exhausted the broker's internal complaints procedure, the business referred the complaint to the FOS. The loss suffered was alleged to be in the region of hundreds of thousands of pounds. Now, this is just a microcosm of what potentially could happen in the future. So what the outcome was? Well, you know, the broker's own professional indemnity policy contained an exclusion for claims directly or indirectly arising from COVID-19 losses.
Basiru: So the broker did not benefit from insurance cover for the costs of defending this complaint. Nevertheless, with assistance from BMA and an early intervention by us at Weightmans, a detailed and robust response to the complaint was prepared as submitted to the FOS, and the complaint against the broker was dismissed.
Basiru: The defence was multi-faceted. Together with the challenge concerning jurisdiction, it comprised of some of the following key points. The state of the industry knowledge at the time was such that the recommendation for non-damaged business interruption cover was an extension for disease was not indicated.
Basiru: The incidence and scale of the loss, for which COVID-19 is the cause and which has been suffered on a global scale, was not a reasonable contemplation at its point of inception. There was no way that the broker could have predicted in March 2020, less still in March 2019, that the disease could would prevail for a long period of time.
Amy: And then less still, had they been had they made that prediction, be able to find and advise their client as to which policy would respond.
Basiru: Absolutely
Amy: Particularly against the backdrop of all the decisions that we've discussed today and the fact that this is an evolving legal landscape, there'd have needed a crystal ball, wouldn't they?
Basiru: Absolutely. And, you know, if you had that same sense of foresight, then arguably some of the judgments that we've seen already maybe would have had a different outcome.
Basiru: So the next point was the state of the law in general, is such that it was not known before the Supreme Court's decision in the FCA's business interruption test case handed down in January 2021, which is a sample of what is considered by the court in that case, but respond to COVID-19 losses. Even now, there is considerable uncertainty concerning the operation of and scope of cover available under policy wordings that were not the subject of the FCA's test case.
Basiru: As a result of this legal uncertainty, even if the possibility of COVID-19 losses on the scale and the magnitude suffered globally could have been predicted, the broker would still have been unable to identify a policy, which would respond to the business's losses. The placement of a responsive policy in these circumstances would have been very unlikely and would only have occurred by happenstance.
Basiru: So overall, even if the broker had been required to recommend cover for non-damaged business interruption with an extension, for disease, first, the broker's renewal files indicated that the business was extremely price sensitive and not risk averse, something that we've already mentioned when we talked about the impact of the recession and a perfect storm of events. How that will impact businesses' decision making and cost cutting.
Basiru: So the structure to incept the hypothetical policy would have been unlikely to be forthcoming, and second, an insurer would have been extremely unlikely to offer a non-damaged business interruption policy with an extension for disease at all or favorable terms.
Basiru: So what we've seen in this example, in the case that we've dealt with, is another avenue that a business has taken to try to recover money rather than going down the litigation route, they've taken the FoS route, which had they been successful with the FOS, undoubtedly would have led to a case for a claim for compensation.
Basiru: And it's a cost-effective way for them to test the water because making a complaint to the FOS is relatively inexpensive for them. On the contrary, now to the actual broker, the broker didn't have the benefit of having that exclusion within the policy, but they took the good decision to front load their costs and seek advice from ourselves to try to make sure that we robustly defended the allegations rather than seeking to deal with it themselves.
Basiru: They involved us. We were able to front-load all the investigations, make all the correct arguments, lay the foundations and dismiss the claim. So it's important that brokers understand that as well, and all professionals understand that themselves. Even if they do have exclusions in the policy, it's not the end of the road. There are avenues that they can take that will help them along the way.
Amy: So I think all of that has been hopefully really helpful for our listeners. It only really scratches the surface of what's been going on this year. I'm hoping that this has been of interest to our listeners. As I said, I think we've only scratched the surface really in terms of the developments that we've seen this year and our forecast for what's in store for the year ahead.
Amy: There are a couple of other cases that we talked about in the intro that we'd like to talk to you about in more detail, not least the Rashid case. And so that will be the subject of our next instalment towards the end of January. Thank you for listening.
Basiru: Thank you.