Business interruption insurance during the pandemic
published in sb 6/2020
The officially ordered business closures have hit many companies hard. Those who had hoped to be able to offset the financial loss with compensation payments from their insurers have probably been disappointed. After all, how could a company insure itself against the consequences of a pandemic whose pathogen was previously unknown? Insurance brokers Lucas Brenken and Matthias Wendt report on their practical experience and outline possible consequences for the future.
Business interruption insurance provides cover for companies that pose an increased infection risk to human health. Classical examples are food processing, gastronomy, hospitality, health and care services, as well as leisure centres and swimming pools.
Business interruption insurance covers the cost of ongoing operation (e.g. rent and payroll) as well as the lost business profits of the insured business if an insured disease or pathogen is detected at the insured business and the competent authority orders the closure of the business. The same applies if essential workers are prohibited from working due to illness.
Business interruption insurance was available from some insurers before the advent of coronavirus. As a plausible example of a loss, insurers envisaged a localised, short-lived contamination with salmonella, legionella, germs or viruses. In this case, the potential cost and probability of loss are fairly quantifiable and therefore insurable.
One of the basic principles of the private insurance industry is that a multitude of similar risks are covered in an uncertain but clearly defined loss scenario. A community is thus formed in which each member, to cover the risk, makes a financial contribution: the insurance premium. These funds are then available for compensation payments.
Since not all members of the community are normally affected by a loss at the same time, members have to pay insurance premiums lower than what they would have to pay if they incurred an insured loss. This principle is known as collective risk equalisation.
However, the system can only work if cover is required for a limited number of cases, because if all policyholders suffer a loss at the same time, there may not be enough capital available to cover all claims.
This is why insurers regularly exclude so-called “accumulation risks” or unforeseeable large-scale losses such as “war” or “aviation” from insurance cover.
Does business interruption insurance apply to coronavirus?
Business interruption insurance was introduced to cover individual cases. This is probably due to the fact that a loss scenario such as the one that has now arisen due to the COVID-19 pandemic was previously inconceivable or considered unrealistic.
However, the loss has now arisen and insurers are confronted with the claims. Whether a policyholder has a right to compensation is to be checked as always on the basis of the insurance policy, the insurance conditions and – if available – on the basis of individual agreements.
For the policyholder to receive a payment, the following basic requirements in particular must be met:
There is an active insurance contract.
There is an active claim for cover (no premium default).
The insured event has occurred and no exclusions apply.
The policyholder has incurred a demonstrable loss.
While the first two points can be checked quickly and easily, things can become complicated from the third point onwards.
In the insurance conditions, insurers define the diseases and pathogens for which insurance cover is to be provided. Depending on the insurer, either a positive list or an open definition with reference to the Infection Protection Act is given – ideally with the clarification that the version valid at the time of the claim applies and the diseases and pathogens listed in it are insured.
Since the COVID-19 SARS-CoV-2 pathogen was previously unknown, it naturally could not be included in the positive lists of the insurers concerned. For insurers with positive lists, the rejection of claims was therefore comparatively simple and, in my personal opinion, legally unobjectionable.
Preventive business closures
Whether or not the insurance cover is effective depends on the type of official order. In all cases the insured business must actually be contaminated with the pathogen / disease and be obliged to (partially) close by individual order. In the course of the COVID-19 pandemic, however, all companies in certain sectors were ordered to close as a preventive measure. The authorities were not interested in the evidence in individual cases. This is known as a “blanket order”.
Whether this results in a legally valid reason to reject claims must, in case of doubt, be established by the courts. The courts will probably still have to consider and decide on a large number of cases.
Procedure in practice
As brokers specialising in swimming pool businesses, we have recently held a large number of discussions on business interruption insurance and have found broad variation in the settlement of claims by German insurers. Three settlement practices are common:
Total rejection of claims
Partial settlement on the principle of the “Bavarian solution”
Complete settlement in conformity with the contract
For the reasons mentioned above, some insurers have completely rejected the claims of their policyholders. Whether each of these rejections is justified can in case of doubt only be clarified by the courts.
The legal uncertainty explains the emergence of the “Bavarian solution”. Insurers who could neither fully accept nor reject claims for compensation possibly saw the “Bavarian solution” as a way to avoid expensive and protracted legal disputes and to resolve the situation with comparatively little financial loss.
Working with insurers and industry representatives, the Bavarian Ministry of Economic Affairs reached an agreement under which policyholders should receive 10 to 15 % of the agreed daily rates after all.
The outcome of these negotiations and their legality are highly controversial. Recent court rulings have fuelled doubts in the Bavarian solution and in insurers’ settlement practices. As always, however, it depends on the individual case. In cases of doubt, we recommend seeking advice from specialist lawyers.
This solution always leaves an unpleasant aftertaste. If the policyholder agrees to the compromise, he waives 85 to 90 % of any insurance benefit. The majority of insurers have exempted themselves from further claims if the policyholder accepts the “Bavarian solution”.
Risk of protracted legal clarification
Policyholders, who are already under great financial pressure due to the general lockdown and the subsequent continuation of limited business opportunities, are faced with having to choose the lesser of two evils. However, those who are convinced of their entitlement to compensation and want to obtain the full agreed daily rate can expect time-consuming and costly clarification in court. Some companies will be intimidated by this prospect.
But there are also positive counter-examples. We are currently aware of three insurers who have fully recognized their policyholders’ claims from the outset and compensated them in accordance with the insurance conditions.
Most insurers have abandoned this segment for the time being.
Those insurers that have fully indemnified their policyholders have naturally notched up enormous, unexpected expenses. In this respect, it is only logical that something will have to change for future pandemic events. For example, some insurers have already revised their insurance conditions and are generally excluding the right to compensation in the event of a “blanket order”.
In order to reinstate the basic idea of the private insurance principle, the policyholder will in future have to be individually ordered to close by the competent authority. Insurers have also adjusted their premiums.
In my opinion, coverage in the event of a pandemic cannot be provided by the various insurers alone. As has already happened concerning the coverage of terrorist, pharmaceutical or nuclear risks, a broader framework with state involvement, in the form of an insurance pool for example, could be an appropriate solution.
As long as there is no state-organised coverage through an insurance pool, each business should check which insurer offers insurance coverage for future pandemic-related business interruption. We advise consulting a specialist with knowledge of the industry.