Hurricane Harvey caused complete or partial interruption of many businesses in the Gulf Coast region, including many refineries and hotels. Business interruption insurance covers such a loss, but how business interruption insurance treats post-hurricane market conditions can have a significant impact on how much is recoverable.
For example, a hurricane-related interruption might result in higher refining profit margins or more hotel demand after the hurricane than existed before. Due to these conditions, some businesses may be able to "make up" losses at other locations, or earn greater profits on operations that continue or resume after the storm. Of course, the storm may just as easily create a post-loss environment in which earning opportunities diminish, for any number of reasons, such as reduced hotel occupancy in a devastated, post-loss resort area.
Is it appropriate to consider actual post-loss market conditions after a hurricane when measuring the insured's actual loss sustained under business interruption insurance policies? The short answer: It depends. There are sharp differences among courts that have considered this issue in lawsuits arising when an insured peril, like a hurricane, creates a significantly different market environment after the loss than the environment immediately preceding the loss.
Disputes regarding the propriety of considering post-loss market conditions typically focus on the proper interpretation of the phrase "had no loss occurred." This phrase appears in common policy language stating that, when valuing a loss, "due consideration shall be given to the experience of the business before the period of recovery and the probable experience thereafter had no loss occurred." One interpretation is that the word "loss" in this phrase means the financial result to the policyholder of the hurricane, and does not mean either the hurricane itself or the effect of the hurricane on customers or other business. Under this reading, therefore, policy provisions direct the parties to give due consideration to the policyholder's probable experience at the insured location had that location not been damaged, but instead had been able to operate in the environment that existed in the immediate aftermath of the hurricane. Although neither courts nor litigants are rigidly consistent in their interpretations, this reading tends to permit consideration of actual post-loss market conditions. This approach is neither inherently coverage-maximizing nor coverage-minimizing.
A contrary interpretation is that the words "had no loss occurred" mean "had no peril occurred," or, stated otherwise, had no hurricane occurred. Generally (though not uniformly), this reading tends to forbid consideration of actual post-loss conditions, at least when those conditions are related to the hurricane, because it posits that the hurricane did not occur.
As will be seen, the Fifth Circuit, when hearing cases from Texas, Louisiana and Mississippi, has tended to favor the interpretation of the phrase "had no loss occurred" that forbids consideration of the actual post-loss conditions, regardless of whether those conditions maximize or minimize coverage. That said, many policies now in effect have language intended to address this issue, which may (or may not) render prior court decisions distinguishable. Disputes over the valuation of business interruption losses are heavily dependent on the policy terms and the particular facts of the insured business. It is exceedingly difficult to assess probable litigation or appraisal outcomes without analyzing these terms and facts. With that caveat, a thorough discussion of the case law follows.
A. The Divided Panel in Colleton Enterprises Aptly Frames the Post-Hurricane Market Conditions Issue
In a decision of a divided panel of the Fourth Circuit in Prudential LMI v. Colleton Enterprises, Inc., 976 F.2d 727 (4th Cir. 1992), the majority interpreted the "had no loss occurred" language to preclude a motel owner's claim that, had a hurricane not damaged the motel, the insured would have been able to profit from increased demand for hotel rooms caused by the hurricane. The majority's decision rested not on its interpretation of the insurance policy language, but on its conclusions regarding the parties' reasonable expectations and the proper purposes of business interruption insurance.
The Colleton majority ignored the difference between "loss" and "hurricane" (or other peril) and held that the phrase must be read to mean that gross earnings should be determined by giving due consideration to likely earnings "had no hurricane occurred."
The Colleton majority criticized the policyholder's interpretation of the policy as conferring a windfall, but the majority failed to consider that the same policy interpretation would diminish recoveries if a regional catastrophe destroyed or eliminated the insured's market, rather than created an increased profit opportunity. The Colleton majority held that this result is not what "contracting parties rightly could have expected," which arguably was a substitution of the majority's judgment for the language of the contract.
The dissent in Colleton applied a stricter standard to the construction of the policy. The dissent reasoned:
The majority acknowledged that the language of the policy would permit recovery if the policyholder could prove that it would have earned a profit during the period of interruption, even though it had been losing money for many months before the hurricane. Therefore, the dissent reasoned that, although the hurricane "caused both the property loss and created the profit opportunity, it does not strike me as an 'intuitively-sensed logical flaw' to permit recovery under these circumstances." (Another unreported decision, American Automobile Insurance Co. v. Fisherman's Paradise Boats, Inc., Nos. 93-2349-CIV-Graham, 94-0014-CIV-Graham, 1994 U.S. Dist. LEXIS 21068, at *9-10 (S.D. Fla. Oct. 3, 1994), followed the reasoning of the Colleton majority without independent reasoning).
The reasoning of the Colleton dissent accords with the common definition of "gross earnings," which focuses on the individual insured's business – how the business was doing before it suffered damage or destruction, and how it would have done had it not suffered the "loss." Dictionaries define the term "loss" to mean "injury or diminution of value," or "the amount of an insured's financial detriment by death or damages that insurer becomes liable for." "Loss" is not commonly defined to mean "peril" or "catastrophe," and therefore it is arguably mistaken to treat the words as equivalent in an insurance policy. A policyholder would certainly argue that any ambiguity in the phrase should be construed to maximize coverage.
B. Post-Colleton Cases Disregarding Post-Loss Conditions
In Finger Furniture Co., Inc. v. Commonwealth Ins. Co., 404 F.2d 312 (5th Cir. 2005), the insured owned furniture stores in Texas, and the business of the stores was interrupted by flooding caused by a tropical storm. The weekend following the stores' reopening, sales soared as Finger cut prices and customer demand increased.
The insurer argued that Finger's losses during the period of interruption should be offset with Finger's additional post-storm profits after re-opening. The Fifth Circuit rejected this argument, in a holding which maximized coverage on the facts before it, reasoning that:
The contract language does not suggest that the insurer can look prospectively to what occurred after the loss to determine whether its insured incurred a business-interruption. Instead, the policy requires due consideration of the business's experience before the date of the loss and the business's probable experience had the loss not occurred. Finger's historical sales figures reflect that consideration.
Another more recent Fifth Circuit case illustrates that this reasoning minimizes coverage on different facts. In Catlin Syndicate Ltd. v. Imperial Palace of Mississippi, Inc., 600 F.3d 511 (5th Cir. 2010), the policyholder was a casino whose business was interrupted by damages caused by Hurricane Katrina. After the casino re-opened, its revenue was significantly greater than before the hurricane because several competitors remained closed after the hurricane. The court addressed whether the amount of a covered loss should be calculated solely on the basis of the policyholder's pre-loss sales, or whether the court could consider post-loss sales, which were significantly greater. The casino claimed a loss of $80 million during the period of recovery; the insurer calculated a loss of $6.5 million.
The parties urged different constructions of the policy language "had no loss incurred." The casino argued that its loss should be calculated as if the hurricane had struck and damaged all of the competitors but spared the policyholder. The insurer argued that the loss should be calculated as if the hurricane had never happened. The court agreed with the insurer and held that "only historical sales figures should be considered when determining loss, and sales figures after reopening should not be taken into account."
The Fifth Circuit drove home the point in another post-Katrina case, Consolidated Companies, Inc. v. Lexington Ins. Co., 616 F.3d 422 (5th Cir. 2010). The owner of a warehouse damaged in the hurricane sought coverage for business interruption damages, and the insurer resisted, arguing that the adverse effects of Katrina on the insured's market should effectively reduce the amount of actual loss sustained. The court, applying Louisiana law, disagreed:
This is effectively the same interpretation rejected in Catlin, namely, that the policy requires Conco to calculate damages as if Hurricane Katrina 'struck but did not damage [Conco's] facilities,' not as if 'Hurricane Katrina did not strike at all.' We reject this interpretation for the same reasons that we rejected it in Catlin. The jury was not to look at the real-world opportunities for profit post-Katrina, but instead was to decide the amount of money required to place Conco 'in the same position in which [it] would have been had [Katrina not] occurred.'"
C. Post-Colleton Cases Recognizing Post-Market Conditions
The opposite conclusion was reached in another hurricane case, Stamen v. CIGNA Property & Casualty Insurance Co., No. 93-1005 CIV-Davis (S.D. Fla. June 13, 1994). In Stamen, the owner insured 35 convenience stores under the same policy. Hurricane Andrew damaged some of the stores, which were then closed for repairs. Most of the insured's stores that remained open, or that could re-open quickly, experienced increased income immediately after the hurricane. The insurance policy provided that "in calculating your lost income, we will consider your situation before the loss and what your situation would probably have been if the loss had not occurred." The insured argued that in measuring lost profits, the parties should consider profits the stores would have made if the hurricane had occurred but the stores were able to remain open. The insurer argued that the parties should only consider pre-hurricane profits in measuring the covered loss.
The Stamen court held that the policy required the insurer to consider what each insured store would have earned if it had been open after the hurricane. The decision criticized the Colleton majority's "windfall" argument, which the insurer had urged on the Stamen court:
The insurance policy calls for [the insurer], in calculating business interruption losses, to consider what each Food Spot store would have profited had it been open after the hurricane. The fact that the Food Spot stores would have reaped greater profits in the aftermath of Hurricane Andrew and that [the insurer] therefore must pay higher business interruption losses is not accurately described as a windfall. Food Spot is seeking to recover its actual losses, which is exactly what the insurance policy requires [the insurer] to pay.
Another case that looked to post-loss market conditions was Levitz Furniture Corp. v. Houston Cas. Co., No. 96-1790, 1997 U.S. Dist. LEXIS 5883 (E.D. La. Apr. 28, 1997). There, the insured's furniture store was closed as a result of flood water that damaged the insured's building and destroyed its inventory. When the insured reopened, it experienced strong sales as a result of the flood. The insured argued that it was entitled to a recovery based upon the improved market conditions. The court agreed, although it rested its decision on the differences in language between the policy before it and the policies at issue in Colleton and other cases. The Levitz policy provided that the amount of loss was to be determined based upon the experience of the business before the interruption and "the [p]robable experience thereafter ... that would have existed had no interruption of production or suspension of business operations or services occurred." The court allowed consideration of the post-loss environment to increase recovery.
As with the other approach, however, whether consideration of the post-loss environment minimizes or maximizes coverage will depend on the facts. For example, consider the coverage-minimizing decision of a federal district court in Penford Corp. v. National Union Fire Ins. Co. of Pittsburgh, Pa., No. 09-CV-13-LRR, 2010 U.S. Dist. LEXIS 60083 (N.D. Iowa June 17, 2010). There, the court permitted the insurer to offer evidence that the actual loss sustained should be adjusted downward to account for the effect of a recession on post-loss demand for the insured's products. The Penford court distinguished the Fifth Circuit's reasoning in Catlin, holding that "unfavorable market conditions, such as a recession, would have affected Penford's earnings regardless of whether the flood ever occurred. Accordingly, they are relevant to the question of what Penford's likely revenues would have been in the absence of a flood." Similarly, another district court in a Katrina case considered the insured's post-loss market to deny recovery where the insured's business increased after resumption. B.F. Carvin Constr. Co., Inc. v. CNA Ins. Co., No. 06-7155, 2008 U.S. Dist. LEXIS 53678, at *10 (E.D. La. 2008) (disallowing recovery where damage due to Hurricane Katrina required business to shift from bidding on public contracts to smaller, residential projects, which proved more lucrative).
D. Alternative Wording May Govern The Issue
Be aware that the policy language may specify a narrower method for calculating gross earnings. For example, one of the ISO forms has been modified to specifically exclude from consideration income "that would likely have been earned as a result of an increase in the volume of business due to favorable business conditions caused by the impact of the Covered Cause of Loss on customers or on other businesses." ISO Form CP 00 30 06 95. This form has not been without its own issues. See Berk-Cohen Assocs., LLC v. Landmark Am. Ins. Co., No. 07-9205c/w07-9207-SSV-SS, 2009 U.S. Dist. LEXIS 77300 (E.D. La. Aug. 27, 2009); Rimkus Consulting Group, Inc. v. Hartford Cas. Ins. Co., 552 F. Supp. 2d 637, 642-643 (S.D. Tex. 2007).
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