The court found that none of these clauses responded in respect of COVID-19 losses because it could not be said that any outbreak of COVID-19 within the specified radius of these clauses was a proximate cause of the orders made by either the Commonwealth or State Governments.
The Second COVID-19 Test Case in Australia – what does it mean for insurers?
On 8 October 2021, the Federal Court of Australia handed down its first instance decision in the second Australian business interruption insurance test case, Swiss Re International Se v LCA Marrickville Pty Limited  (the Second Test Case), in which insurers were largely successful.
The First Test Case (HDI Global Speciality SE v Wonkana No. 3 Pty Ltd ) had primarily considered the efficacy of a particular exclusion clause. Various insurers had attempted to exclude cover for pandemics in business interruption policies by relying on an outdated reference in those policies to “the Quarantine Act of 1908 and subsequent amendments”. The Quarantine Act of 1908 was repealed in 2015 and replaced by the Biosecurity Act 2015, which lists COVID-19 as a human disease. It was determined in the First Test Case that “subsequent amendments” could not be construed as referring to diseases determined to be listed human diseases under the Biosecurity Act, and therefore this was not sufficient to exclude claims for COVID-19.
The Second Test Case specifically considered whether the business interruption clauses contained in the policies of ten separate policyholders (the policies in dispute were issued by Allianz, Chubb, Guild, IAG, QBE and Swiss Re) could provide cover to policyholders for COVID-19 losses. The court identified four types of clauses under which claims for COVID-19 could arise. It was determined that only one of these clauses (the disease clause) could be triggered prima facie, though whether the policy responds will depend on the particular facts giving rise to a claim.
While the decision in the Second Test Case is a favourable outcome for insurers, an expedited appeal has already been listed before the Full Court of the Federal Court on 8 November 2021. It is therefore possible that the findings of the court could be overturned before the end of the year.
The court identified that the relevant insuring provisions of each policy considered in the Second Test Case could be categorised into the following four types of clauses:
- Prevention of access clause — these clauses provide cover where the order or action of a competent authority prevented or restricted access to insured premises because of damage or a threat of damage to property or persons (often within a specified radius of the insured premises).
- Disease clause — these clauses cover loss that arises from the presence or outbreak of infectious disease at the insured premises or within a specified radius of the insured premises.
- Hybrid clause — these clauses are a hybrid of the first two, providing cover for loss where the orders/actions of a competent authority have closed or restricted access to premises, and the orders/actions are made or taken as a result of the presence or outbreak of infectious disease within a specified radius of the insured premises.
- Catastrophe clause — these clauses provide cover to a policyholder where they suffer loss resulting from the action of a civil authority during a catastrophe for the purpose of retarding the catastrophe.
Prevention of access and hybrid clauses
The court also found that cover was not triggered under the terms of the catastrophe clause considered, which required that there be “an action of a civil authority during a conflagration or other catastrophe for the purpose of retarding same”. Supported by reference to the decision of The Star Entertainment Group Limited v Chubb Insurance Australia Ltd & Ors  (the Star case), the court found that while the pandemic is a “catastrophe” in its ordinary sense, the operative words “conflagration or other catastrophe” and “retarding” indicate that the “other catastrophe” must be of a kind similar to a conflagration, which is a physical event.
In coming to the conclusion that only the disease clause was capable of providing cover, the court considered the disease clause in the case of Meridian Travel. Importantly, the clause did not require any action by an authority for it to trigger.
While the parties agreed that there had been an outbreak of a human infectious or contagious disease within a 20 km radius of Meridian's business premises, the key issue was whether the loss suffered by the policyholder was the “direct result” of the outbreak.
Critically, the policyholder was a travel agent. On the evidence, the court could not infer that any decline in Meridian's revenue resulted from the insured peril, as a number of events had occurred which likely caused a decline in Meridian Travel’s revenue including:
- Various Commonwealth travel restrictions on foreign nationals entering Australia indicating the presence of COVID-19 internationally.
- The imposition of self-isolation requirements on persons arriving in Australia.
- Agreements about banning non-essential gatherings in the National Cabinet.
- The ban on cruise ships from foreign ports arriving at Australian ports, when a large part of Meridian's business involved international cruises.
Though Meridian Travel was invited to provide further evidence to prove that the insured peril was a proximate cause of loss, it was clear from the court’s decision that satisfying the test for cover would be challenging.
Three key takeaways
While much of the court’s decision in the Second Test Case is relevant only to insurance policies issued in Australia, and it remains to be seen whether any of the court’s findings will be overturned on appeal, three key takeaways can be distilled from the decision which have relevance beyond the Australian jurisdiction:
1. Geographical and political context is critical
Notwithstanding the similarity of the policy clauses that were considered, the conclusions reached in the Second Test Case differed markedly from the findings made by the UK Supreme Court in the decision of The Financial Conduct Authority v Arch Insurance (UK) Ltd  (the UK Test Case).
The Federal Court distinguished the context considered in the UK Test Case by reference to a number of points. In particular, it was observed that:
- The UK is geographically small and densely populated
- The UK has a unitary system of government
- There was a national outbreak of COVID-19 in the UK that was “widespread” and therefore all the cases of COVID-19 (inside and outside of the specified radius of the insuring clauses being considered) were equal causes of the imposition of national measures.
The Supreme Court Justices in the UK Test Case had therefore reasoned that even if there were no cases within the specified radius, the UK Government would still have taken the actions it did, including in respect of those areas.
The Australian context is materially different, in that:
- The Australian constitutional system is a federal system, and the Commonwealth Government and State/Territory governments have their own fields of operation
- Australia is large and in many areas sparsely populated
- It could not be said that the occurrence of COVID-19 cases in Australia was widespread.
Therefore, it could not be concluded (as it was in the UK where COVID-19 was widespread) that each and every known case of COVID-19 in any location in a State was an equally effective cause of the State government actions.
These geographical and political distinctions also led the Federal Court to take a different approach with respect to issues of causation and trends in business interruption clauses.
2. The COVID-19 pandemic is not a catastrophe?
The court’s findings that a catastrophe must be a physical event is noteworthy, and alongside the Star case, is an important decision which supports the conclusion that catastrophe clauses (at least in direct insurance policies) will not respond to COVID-19 losses.
This may be of interest to reinsurers providing excess of loss insurance. However, it should be borne in mind that reinsurance principles were not considered by the court in the Second Test Case when reaching this conclusion, and this finding was made in respect of the specific language of the catastrophe clause it was asked to consider.
3. Jobseeker payments and rental waivers must be deducted
When considering what payments should be taken into account as savings to the business and therefore deductible from the amount payable by insurers for claims arising from COVID-19 losses, the Federal Court found that:
- Government grants (such as small business recovery grants) purely intended to support, rather than compensate policyholders, are akin to “act of grace” payments. These payments therefore should not be considered as deductible savings.
- In contrast, jobseeker payments are compensatory in nature (rather than merely supportive of a business) and should therefore be deducted from any sums payable by insurers. The jobkeeper scheme both provided support to businesses and saved the businesses money in the form of wages that the business otherwise would have to pay. While the Commonwealth Government may not have characterised this as a compensatory scheme, it had the effect of compensating eligible business for losses that would otherwise be suffered.
- Rental waivers from landlords must also be accounted for in savings. It does not matter that the rental relief was caused by COVID-19 rather than the insured peril, as they arise from the same underlying cause.
In the absence of any judicial commentary to date in the UK regarding the appropriate treatment of furlough payments, government grants and rental relief subsidies when adjusting for COVID-19 related losses, this commentary provides useful guidance for both insurers and loss adjusters.