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Business-Interruption Claims and COVID 19: When Courts Interpret Direct Physical Loss as a Metaphysical Loss

In GEICO v. Moore, the Supreme Court of Virginia memorably held that “[c]ontracts of insurance . . . are not made by or for casuists or sophists, and the obvious meaning of their plain terms is not to be discarded for some curious, hidden sense, which nothing but the exigency of a hard case and the ingenuity of an acute mind would discover.”  266 Va. 155, 164, 580 S.E.2d 823, 827 (2003).  That phrase succinctly captures Virginia jurisprudence on interpreting insurance policies – courts must apply them according to their plain meaning and give full force and effect to the ordinary and accepted meaning of every term in the policy, construing it together as a whole.  While simple and direct enough as a legal maxim, in Virginia and elsewhere judges have found its application anything but simple.  Business-interruption (BI) claims based on the Great COVID Lockdown of 2020 are the latest case in point.  

Commercial property insurance policies typically insure against loss of business income resulting from “Covered Causes of Loss,” and in the standard ISO-based policy those causes of loss comprise “direct physical loss,” with the term “loss” being defined in the policy as “accidental physical loss or accidental physical damage.”  The terms “direct” and “physical” are usually not defined, and courts in Virginia and most states therefore interpret them according to their “ordinary and accepted meaning,” usually determined by reference to a standard dictionary.  Simple enough, right?  Not necessarily.

In the recent flood of COVID-related BI claims, courts have reached a variety of results in interpreting and applying the phrase “direct physical loss” in trying to determine whether losses of business income due to the pandemic are insured.  The trend in many, and perhaps most, of the decisions on BI claims has been to interpret “direct physical loss” to mean that the insured business’ property has been physically altered or damaged.  See, e.g., Diesel Barbershop, LLC v. State Farm Lloyds, No. 5:20cv461, 2020 U.S. Dist. LEXIS 147276, *15-*16 (W.D. Tex. Aug. 13, 2020); Rose’s 1, LLC v. Erie Ins. Exch., No. 2020 CA 002424 B, 2020 D.C. Super. LEXIS 10, *11-*13 (D. C. Super. Ct. Aug. 6, 2020).  Based upon the standard definitions of “direct” and “physical,” however, other courts have held that the term “direct physical loss” standing “alone does not require a ‘physical alteration of the [insured] property’ or ‘a physical change in the condition of the property.’”  Mudpie, Inc. v. Travelers Cas. Ins. Co., No. 20cv3213, 2020 U.S. Dist. LEXIS 168385, *10 (N.D. Cal. Sept. 14, 2020); see North State Deli, LLC v. The Cincinnati Ins. Co., No. 20CVS02569, slip. op. at 6 (N.C. Super. Ct. Oct. 9, 2020).  Yet even among these courts, if “direct physical loss” is deemed ambiguous when interpreted in a vacuum, many courts have read the phrase in the context of the entire policy to hold that the language can only be interpreted to require physical alteration or damage to the property insured.  See Mudpie, 2020 U.S. Dist. LEXIS 168385, *10.

North State Deli represents a notable, recent departure in this respect.  There, the court applied standard definitions of “direct” and “physical” in concluding that “‘direct physical loss’ describes [a] scenario where businessowners and their employees, customers, vendors, suppliers, and others lose the full range of rights and advantages of using or accessing their business property.”  North State Deli, slip. op. at 6.  In other words, the court interpreted “physical” to mean something intangible or abstract – something, in fact, metaphysical.  The court applied that broad interpretation of “direct physical loss” to hold that even if the insurers’ proposed interpretation of the phrase as requiring “some form of physical alteration to property” was reasonable, “the ordinary meaning [derived by the court] is also reasonable, rendering the Policies at least ambiguous.”  Id.  Based on its conclusion that the phrase “direct physical loss” was ambiguous, the court held that governing law required it to construe the policy in favor of insurance coverage for the BI claims at issue.

Unlike the Northern District of California in Mudpie and many other courts, the North State Deli court did not discuss the other terms of policy under review and how they might, or might not, shed light on the meaning of “direct physical loss.”  The court also did not provide a written analysis of why it concluded that the policy’s “Ordinance or Law,” “Acts or Decisions,” or “Delay or Loss of Use” exclusions did not apply to the claim, omissions which potentially could require a reversal and remand of the court’s decision upon appeal.

COVID BI claims are presently percolating through the federal and state courts in Virginia, Maryland, and other courts throughout the Mid-Atlantic region and the rest of the country, and it likely will be years before any general jurisprudential consensus might be reached on whether such claims constitute “direct physical loss.”  The current trend in the decisions is to find that such claims are not based upon direct physical loss to insured property, particularly in the absence of allegations or evidence that the COVID 19 virus was physically present on insured property and/or that it caused a physical alteration to the property.  The presence of outliers such as North Star Deli is a sharp reminder, however, that courts are not in lock-step on this question, and that each claim is ultimately dependent on its specific facts, whether proven or alleged.  If you have questions regarding situations such as these and how courts are treating the “direct physical loss question” in a specific state or federal circuit, feel free to contact Kevin Streit (kstreit@setlifflaw.com) at (804) 377-1270 or Steve Setliff (ssetliff@setlifflaw.com) at (804) 377-1261.

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