COVID shutdown not a ‘physical loss,’ insurance lawyer says

A recent Court of Appeal for Ontario ruling, in favour of commercial property insurer FM Global, could be good news for insurers facing pandemic business interruption claims but the decision may also be reviewed by the Supreme Court of Canada, suggest a lawyer involved in the case.

In MDS Inc. v. Factory Mutual Insurance Company, released Sept. 3, a panel of three Ontario judges overturned a 2020 Superior Court of Justice ruling in a disputed $25-million business interruption claim.

MDS v. Factory Mutual did not involve the COVID-19 pandemic but instead arose from the 2009 shutdown of an Atomic Energy of Canada reactor that was making isotopes for cardiac imaging, cancer treatment and sterilization of medical products.

One major dispute was over whether “physical damage,” in the insurance policy FM Global wrote for MDS, could extend to mean loss of use.

“I feel comfortable in saying there is no merit in the argument – that COVID causing [a business] shutdown would be seen as physical loss, and therefore [a claimant] would get business interruption insurance on the physical loss component of their all-risk policy,” said Paul Pape, founding partner of law firm Pape Chaudhury LLP, in an interview with Canadian Underwriter. Pape was part of the legal team that represented FM Global in its appeal, of the original 2020 Superior Court ruling in the claim dispute with MDS.

Pape was reacting to the Sept. 3 ruling in favour of FM Global.

Separately, COVID-19 was declared a pandemic March 11, 2020 by the World Health Organization. Many businesses that suffered loss of income made insurance claims. Different commercial policies have different wordings.

Some wordings covering business interruption for things like “denial of or hindrance in access to the business premises imposed by the police or other statutory authority” and outbreak of a notifiable disease within a certain radius, such as 1 mile or 25 miles.

But several insurers have publicly said most of their business interruption policy wordings only provide coverage if there is some form of physical loss or damage to the property.

When it comes to BI policies requiring some sort of physical damage, there was some speculation that the original 2020 ruling against FM Global could be used as a precedent for COVID BI claims.

In 2020, Justice Janet Wilson of the Ontario Superior Court of Justice found that  a broad definition of physical damage – to include impairment of function or use of tangible property caused by the unexpected leak of heavy water – should apply in the MDS case.

The Insurance Bureau of Canada was an intervenor in the MDS case. IBC argued that the original 2020 finding – that “loss of use” was covered as “physical loss”, without any actual physical damage – “would provide an unintended windfall and impact upon claims and the industry’s exposure under these common policies,” IBC told Canadian Underwriter after the Court of Appeal for Ontario released its ruling Sept. 3, 2021.

The Ontario appeal court ruling may not be the end of it. MDS could apply for leave to appeal to the Supreme Court of Canada.

“For the amount of money that’s involved in this case, and the investment [MDS] had in this case, I would be surprised if they did not” apply for leave to appeal to Canada’s highest court, Pape told Canadian Underwriter.

“The question is, what would the Supreme Court be interested in?”

The Supreme Court of Canada often denies leave applications and does not give reasons when denying leave to appeal.

The FM Global policy had exclusions both for radioactive contamination and for corrosion. There is an exception, in the corrosion exclusion, for resulting physical damage.

Th contract of insurance reads in part:

This Policy excludes the following, but, if physical damage not excluded by this Policy

results, then only that resulting damage is insured: …

3) deterioration, depletion, rust, corrosion or erosion, wear and tear, inherent vice or latent

Citing several Canadian, British and American decisions as precedents, judges have ruled in the past that “resulting physical damage” does not extend to loss of use, Justice Julie Thorburn wrote for the Court of Appeal for Ontario in its 2021 ruling.

“On the contrary, they have held that where loss of use is to be included as resulting physical damage, this must be made clear in the policy.”