The U.S. Court of Appeals for the Seventh Circuit recently joined the Sixth, Eighth, Ninth, and Eleventh Circuits in ruling in favor of insurers facing COVID-19 business interruption lawsuits. The consolidated appeal dealt with three different claims under Illinois law brought by affected businesses in a diversified range of industries from a dentist office to a hotel.
Each of the plaintiffs was a business that had purchased a commercial-property insurance policy from the Cincinnati Insurance Company. Shortly after the initial outbreak of COVID in Illinois, Governor J.B. Pritzker issued several executive orders that forced each business to shut down or drastically scale back operations. As a result, the businesses claimed to have lost substantial business income and submitted claims to Cincinnati under their policies. Cincinnati denied each of the plaintiff’s insurance claims.
Each of the policies included the familiar coverage trigger of a “direct physical loss” to covered property. Similarly, each policy defined “loss” as “accidental loss or damage.” Cincinnati denied each of the plaintiffs’ claims, maintaining that there was no coverage because there had been no direct physical loss.
The businesses responded by filing suit. Each suit was dismissed for failing to state a claim upon which relief could be granted. The businesses appealed, and their cases were consolidated on appeal.
The Court first noted that the cases were well suited for consolidation because the three policies were materially identical. The Court then moved on to examining the language of the relevant policies to determine exactly what events the businesses were covered for. “Incorporating the stated definition of ‘loss,’” the Court explained, “the businesses were covered for income losses resulting from direct physical loss or direct physical damage to property.” Thus, the Court observed that to state a viable claim, the businesses “needed to allege that either the virus or the resulting closure orders caused direct physical loss or direct physical damage to covered property.” Framed differently, the Court articulated the core question of its inquiry as: “whether loss of use, unaccompanied by any physical alteration to property, may constitute ‘direct physical loss’ under the relevant insurance policies.”
The Court noted that it had no direct guidance from the Illinois Supreme Court on the interpretation of the phrase “direct physical loss” in the policies. Instead the Court sought guidance from another case in which the Illinois Supreme Court had addressed similar language. In considering the meaning of the phrase “physical injury” in other insurance policies, the Illinois Supreme Court in Travelers Insurance Co. v. Eljer Manufacturing, Inc. held that the term “unambiguously connotes … an alteration in appearance, shape, color or in other material dimension.” The Court observed that many courts considering COVID-related denial of claim lawsuits have relied on the Illinois Supreme Court’s analysis in Travelers to hold that “direct physical loss” requires a physical alteration to property.
The plaintiffs, however, urged for a more expansive interpretation of the policy language. They argued to the Court that “direct physical loss” included not only physical alterations to covered property but also loss of use of that property. They bolstered their argument by pointing to the use of “loss” and “damage” in the coverage trigger language. According to the plaintiffs, the word “loss” must mean something different from “damage,” lest the policy language be redundant. They urged the Court to adopt and interpretation by which “loss” refers to deprivation of use or possession while “damage” refers to physical alteration of property.
The Court partially agreed with the plaintiffs, stating that “we have no quarrel with the idea that the disjunctive indicates that ‘loss’ means something different from ‘damage.’” However, the Court found that the plaintiffs’ interpretation was neither the only possible reading nor a likely one. The Court reasoned that the words “direct physical” most sensibly modified both the words “loss” and “damage.” Accepting the plaintiffs’ interpretation, the Court noted, would result in the same error the plaintiffs accused the defendant of, namely rendering words in the policy language unnecessary. Plaintiffs’ interpretation resulted in surplusage of words by reading out the word “physical” from the policy language.
Having determined that coverage required some physical alteration of the covered property, the Court next turned to each plaintiff’s allegations to determine if any of them had adequately alleged a loss of income due to a physical alteration of its property. Turning first to the dental practice plaintiff, the Court found that the plaintiff had only alleged a direct physical loss in a conclusory fashion and had made no attempt to describe the physical alteration allegedly caused. The Court similarly disposed of the allegations by the other plaintiffs as inadequate. The Court sided with the other circuits that had considered the sufficiency of allegations that coronavirus altered the air and droplets attached to property inadequate.
The takeaway from the Court’s decision is that would-be plaintiffs in the Seventh Circuit must clearly allege how the coronavirus caused a physical alteration to the covered property, at least to survive a motion to dismiss. We will continue to monitor and report on developments in this area of law.
The Court’s full opinion is available here.
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