Business Interruption: Are You Covered for the Next Disaster?

Business interruption coverage can be vital in mitigating the income losses incurred following a hurricane, terrorist attack or other disaster. In recent years, this has been proven time and time again with Hurricane Katrina, September 11 and the four hurricanes that ravaged Florida in 2004-all grinding operations to a halt for countless companies. 

Of course, your company is already protected by business interruption coverage, so you have nothing to worry about. Or do you? 

Risk managers should not assume that their company is covered for all types of interruptions, even if they have purchased a policy with seemingly comprehensive business interruption coverage. In some cases, policyholders have found themselves left without coverage even though they purchased business interruption coverage with civil authority, ingress/egress and contingent business interruption provisions. Depending upon the subtle differences in the specific nature of the interruption, the language of the insurance policy, and the court's interpretation of that language, you may not be covered. 

US Airways & United Airlines: Same Loss, Different Outcomes 

On September 11, 2001, after the World Trade Center was struck by a terrorist attack but before the Pentagon was attacked, the Federal Aviation Administration (FAA) feared a similar strike in Washington and ordered Reagan National Airport closed. The FAA sought to protect life and property at Reagan, including the property of airline operators like US Airways and United Airlines. Ultimately, no property was damaged at the airport, but it remained closed until October 4, when the aviation watchdog allowed normal operations to resume. 

As a result of the closure, both US Airways and United Airlines lost income. Both sought insurance coverage for business interruptions. Both were denied coverage. And both ended up in litigation with their insurers. 

In the end, one airline received coverage while the other did not and the conflicting results surprised many. In the case of US Airways, a Virginian state court ruled that its business interruption losses were covered. The Second Circuit, however, held that United's business losses were not. How can these two results be reconciled? While many believe that federal courts are more inclined to adopt narrow interpretations of policy language than state courts, that does not explain what happened here. The distinction appears to be nuanced differences in the policy language governing the business interruption and civil authority coverage issued to US Airways and United. 

A clause in United's policy provided coverage if access to insured property was prohibited by order of civil authority as a direct result of "damage to adjacent premises." US Airways' business interruption clause, in contrast, provided coverage if access to insured property was prohibited by order of civil authority "as a direct result of a peril insured against." 

The "perils insured against" section of the US Airways policy provided coverage against "all risk of direct physical loss of or damage to property described herein." 

In regards to United's claim, the federal appeals court held that the Pentagon is not "adjacent" to Reagan given that the two facilities are three miles apart and separated by roads and buildings. But even if the Pentagon was "adjacent" to the airport, the court still would have held that United has no right to coverage because the FAA closure order was not issued because of damage to the Pentagon since it had been issued before the Pentagon was attacked and suffered actual damage. 

Conversely, a Virginia state court concluded that the civil authority clause in US Airways' policy "does not require actual damage or loss of property to invoke coverage," but only the risk of actual damage. Because the order to close Reagan was issued due to the risk of an imminent attack on the airport, which included covered US Airways property, US Airways was entitled to coverage for its business interruption losses. 

It is worth noting that the coverage provided by one policy was not necessarily broader than the coverage afforded by the other. Rather, each policy was triggered by a different type of event. If you had asked the risk managers at US Airways and United prior to September 11 if they had adequate insurance to cover losses from an airport shutdown by an order of the civil authorities, both probably would have thought they were covered and neither would have much basis to prefer the other's policy over its own. In fact, United undoubtedly could have obtained coverage similar in language to the US Airways policy, either by shopping around in the marketplace or negotiating directly with its existing carriers. 

Civil Disturbances: When is a Riot  Covered? 

Another example of how slight variations in language can expand or limit coverage can be seen through the context of civil disturbances. Many policies appear to cover business interruption due to civil disturbances under the civil authority provisions of their business interruption coverage. But, as with the airlines, the devil is in the details. In the two cases of Sloan v. Phoenix of Hartford Insurance Company and Syufy Enterprises v. Home Insurance Company of Indiana, an almost identical set of facts led to one company being covered, and another being denied coverage. 

In Sloan, the policyholder owned and operated a number of movie theaters in Detroit, where widespread riots disrupted the social order in the summer of 1967. At one point, the rioting became so out of control that the city issued a civil order setting an evening curfew and closing "all places of amusement." But since no actual damage had been inflicted on Sloan's theaters, its insurer denied the business interruption claim. 

The court disagreed, holding that, while the standard "business interruption" portion of the policy required damage to or destruction of insured property, the "civil authority" provision did not contain any such language. The civil authority provision referred to an order of civil authority issued "as a direct result of the peril(s) insured against." As a riot was enumerated as an insured peril, the court ruled that Sloan was covered. 

In Syufy, the policyholder also owned and operated a number of movie theaters. The spring of 1995 featured extensive rioting in Los Angeles and other areas in response to the verdict in the Rodney King case, which led to a dusk-til-dawn curfew order in Los Angeles and Las Vegas, where Syufy operated its movie theaters. But unlike in Sloan, the court in Syufy held that this was not a covered loss under the policy. The court's ruling appeared to hinge on several key pieces of policy language.

First, as in the United case, the policy referred to "damage to or destruction of property adjacent to the premises herein described." Because Syufy could not show that any property adjacent to one of its establishments had been damaged or that authorities issued the curfew order due to damage to adjacent property, it could not recover its losses. The court also held that a dusk-til-dawn curfew did not constitute a "specific" prohibition against entering the theaters, as required by the policy language. 

In comparing the two similar cases, it is evident that Sloan was covered because its civil authority clause provided coverage without requiring actual physical damage to or near the insured's business-in fact, it did not require damage at all, merely an order issued in response to an insured peril. But Syufy's policy was much more restrictive, requiring not only damage to adjacent property, but that a civil authority order specifically deny access to the insured's premises. 

There are countless other cases detailing judicial rulings on the minutiae of business interruption policy language after losses from terrorism, hurricanes and other catastrophes. Many of them demonstrate not only the stark difference a few words can have, but the surprising results when a court interprets a policy in a way that deprives a company of coverage it thought it had purchased. 

Getting the Necessary Coverage 

As these case studies demonstrate, risk managers should not feel content simply because they have purchased "business interruption coverage." Not all business interruption coverage is the same, and different types of businesses are exposed to different types of risks. When procuring insurance or renewing coverage, think through the policy language, ask for policy forms from different companies, and shop around for the language that best suits your company. 

Because catastrophes are often unforeseen, it can be difficult to identify in advance the particular types of business interruption risks to which your company is exposed. It is important to identify the critical and most vulnerable links in your company's production chain and then look for coverage to protect those links. Some companies will be more vulnerable to an outbreak of avian influenza or a similar disease that, while causing no physical property damage whatsoever, cripples business through supply chain disruptions or quarantine orders by civil authorities. Others organizations may not be as affected by an outbreak and instead need to focus on hurricanes or terrorist attacks that could block access to a key supplier of raw materials or important customers. 

While it can be challenging to purchase a policy with your exact preferred language, if you do not see the language that you want in the forms available to you, negotiate for the necessary language. Some insurers will entertain requests to modify policy language to fit your particular risks. If an insurer agrees to provide the language you prefer, confirm that the language actually makes it into the policy, and that other language does not contradict or nullify it. Being familiar with the language and making informed decisions regarding the policy you ultimately procure will result in fewer surprises when it comes to making a claim for coverage. 

John E. Heintz is a partner in the Washington, D.C. office of Kelley Drye and Warren, LLP and chairs the firm's insurance recovery and litigation practice groups. Andrew S. Wein and Elissa O. Tomanda are associates in the Washington, D.C. office of Kelley Drye and Warren, LLP.