The consequences of the COVID-19 pandemic – and the responses by State and Federal Governments - led to many businesses suffering losses stemming from interruptions to their ability to trade during the pandemic.
In Episode 4 of Called to Account (April 2021), we identified a number of key issues likely to feature in appeals underway in the Australian Courts related to COVID-19 business interruption losses, including causation, proximity and the offsetting impacts of government support initiatives. The episode also touched on findings in the recent UK Supreme Court judgement, The Financial Conduct Authority v. Arch Insurance (UK) Limited and Others (UK Test Case) 1.
Those, and other legal, issues are comprehensively addressed in the Federal Court's decision in the second COVID-19 business interruption insurance test case, Swiss Re International Se v LCA Marrickville Pty Limited 2 (Second COVID-19 insurance test cases) (Second Test Case). The presiding judge, Justice Jagot, handed down her decision in the Second Test Case on 8 October 2021.
Second Test Case overview
The Second Test Case considered the claims of ten parties. In nine of the ten claims, the Court found that none of the insuring clauses in the policies applied and, accordingly, the insurers were not liable to indemnify the policyholders.
The tenth claim in the Second Test Case, concerning Meridian Travel (Meridian), is distinguished from the other nine cases because Meridian's insurer had accepted that the infectious diseases clause was triggered. While Justice Jagot determined that the insuring clause responded, her Honour concluded that the losses were not caused by the insured peril.
While the decision in the Second Test Case favours insurers, leave to lodge an appeal to the Full Court of the Federal Court has been granted. That appeal is expected to be heard in November or December 2021.
Should an appeal be successful, Justice Jagot notes that government and other support initiatives (such as JobKeeper, rental waivers and other relief payments) would reduce the losses claim by the insured.
The judgment in the tenth claim includes an illuminating discussion on causation and proximity, with direct relevance to forensic accountants when quantifying losses generally, not solely in the context of business interruption. For that reason, this article focuses primarily on the Meridian claim.
Meridian is a travel agency business headquartered in the Melbourne CBD. The company generated some 90% of its revenues from international travel bookings (of which approximately 65% comprised international tours and international cruises) with the balance attributable to domestic bookings. From 31 May 2020, business operations were adversely affected as restrictions were incrementally imposed by the Federal and Victorian State governments. During the period of restrictions, business operations continued with Meridian staff working from home. Importantly, the restrictions did not prevent customers being able to book tours.
Meridian's insurance policy contained an infectious diseases clause that could be triggered by an infectious disease occurring within a 20km radius of its premises without any government-mandated requirement that the premises be closed.
Causation: proximity and concurrent events
The full judgment provides a neat summary of legal precedent relating to causation in an insurance context, particularly in complex situations involving multiple causes of loss. My key takeaways from her Honour's summary of the principles of causation in an insurance context are:
- Where numerous causes of loss arise, the dominant or "most efficient" event(s) causing loss must be distinguished from more remote causes of loss, such as events that arise in consequence to another event (that is, a cause of the cause). An insured's ability to recover is thereby limited only to proximate events covered by the terms of the policy,
- Where concurrent proximate causes of loss exist and the policy covers one of the events and excludes others, the independence and/or interdependence (that is, the extent to which neither event would have occurred without the other) of the concurrent causes must be assessed,
- Conversely, when quantifying the "but for" losses, the impact of uninsured perils that would have occurred anyway or that arose indirectly (such as a consequence of the pandemic), should be excluded from the quantification of losses suffered by an insurable event covered in the policy (trends clause), and
- While a policy exclusion is likely to be applied to interdependent concurrent causes, a determination on independent concurrent events is more difficult, in which case, factors such as the terms of the policy, the commercial context in which it was written and the factual context in which the loss arises, will be relevant to the Court's determination,
I am particularly drawn to Justice Jagot's judgment because (i) the manner in which her Honour sets out the rationale for her decision on causation creates a step-by-step framework that can be adopted by forensic accounts to identify and evaluate the causes of loss in an insurance context, and (ii) I love a good framework (which may also explain my choice of key takeaways).
Based on my reading of the decision, it seems to me that the exercise of determining the primary cause of Meridian's loss was relatively straight-forward, without the need for detailed financial analysis. However, in more complex matters – such as the UK Test Case –identifying and evaluating the proximity of the primary causes of loss may not be as straight-forward or easily discernible.
From experience, an assessment of the causes of loss in more complicated matters can require complex quantitative financial modelling to identify whether linear and non-linear (causal) relationships may exist between the loss event and the loss, and to also evaluate the extent to which the identified causal relationships can be said to be the primary drivers of the incurred losses. How linear and non-linear relationships can deepen our understanding of causation is examined in the article in BRI Ferrier's COVID-19 economic loss series, "Economic loss, coronavirus and causation", which can be accessed by clicking here.
Causation: contextual differences to the UK Test Case
While acknowledging the usefulness of the judgment in the UK Test Case, Justice Jagot arrives at a different conclusion by reference to two critical contextual differences:
- The localised nature of Australia's COVID-19 experience relative to the broadly UK-wide experience, and
- Australia's Federalised system of government in which the Federal Government is responsible for Australia's international borders.
In the UK Test Case, their Lordships observed that the restrictions imposed by the UK government were not in response to a single COVID-19 outbreak, but in response to the pervasive nature of the outbreak across the entire country. Importantly, as her Honour notes at , the UK Supreme Court:
"...assumed or was confronted with a material number of cases of COVID-19 inside and outside of the relevant areas. On this basis, to infer that each and every case (both inside and outside the area) was an equally effective cause of the actions of the UK Government is rational. Given the facts in FCA v Arch UKSC of: (a) a small in area and densely populated country, (b) a national outbreak of COVID-19, (c) material numbers of cases inside and outside of the specified areas, their Lordships reasoned that: (d) even if there were no cases within the specified areas the Government would still have taken the actions it did including in respect of those areas, and (e) by inference, the cases inside the specified areas would also have caused the UK Government to take the actions it did, at the least in respect of those areas. The issue was one of two concurrent sufficient causes of the UK Government actions."
That is, their Lordships concluded that the UK government would have imposed the restrictions irrespective of whether the outbreak occurred within a specified radius. The same cannot be said for the Federal Government's border restrictions, which, in her Honour's view, were designed to prevent COVID-19 from entering the country, which did not give rise to an insured peril. In a similar vein, Justice Jagot concluded that the State-imposed restrictions were largely in response to the threat of an outbreak, or the risk to everyone equally, across the State, not as a direct consequence of the insured peril.
One element of Justice Jagot's decision that resonated strongly with me was her focus on understanding and assessing the causal link between the loss event and the actions taken by the State and Federal Governments to understand what actions were taken, the circumstances at the time and the rationale behind the decisions taken. In my experience, the factual context prevalent at the time of the loss event, together with the rationale for subsequent actions (or inaction) taken by business owners, is sometimes overlooked or minimised when quantifying the "but for" profits. For those reasons, I consider Jagot's decision to be poignant and highly instructional for evaluating, and developing approaches for quantifying, economic loss.
The Insuring Clauses
The Second Test Case concerned the application and operation of policies of insurance for business interruption or interference in the context of the effects of COVID-19, including government actions which were taken to control the spread of COVID-19. The clauses specifically addressed in the Second Test Case were the hybrid clauses, infectious disease clauses, prevention of access clauses and catastrophe clauses.
In substance, Justice Jagot concluded that the insuring clauses do not apply in the circumstances of each of the nine cases, principally because the forced closures were not specific to any circumstance at the premises or within the specified radius.
Section 61A of the Property Law Act 1958 (Vic)
And finally, Justice Jagot also concluded that s 61A of the Property Law Act 1958 (Vic) does not apply to Commonwealth Acts, precluding insurers from relying on s 61A to operate to replace references to the Quarantine Act 1908 (Cth) with references to the Biosecurity Act 2015 (Cth). Accordingly, exclusions in policies based on the Quarantine Act 1908 (Cth) do not apply as COVID-19 was not a quarantinable disease under the Quarantine Act 1908 (Cth).
1  UKSC 1
2  FCA 1206
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