by William A. Schneider
On April 21, 2022, the Massachusetts Supreme Judicial Court (“SJC”) became the first state court of last resort to weigh in on the question of whether economic losses arising from the COVID-19 pandemic are covered under standard commercial property insurance policies. In Verveine Corp v. Strathmore Ins. Co., 489 Mass. 534, 184 N.E. 2d 1266 (2022), the SJC agreed with the insurer, and held that the plaintiffs’ losses were not covered in the absence of “direct physical loss of or damage to” property, the provision under which the plaintiffs claimed losses. In doing so, the SJC joined a groundswell of rulings issued by federal courts around the country interpreting similar provisions which have found that neither the virus itself, nor the governmental orders restricting businesses, rose to the level of an insurable event absent some distinct, demonstrable, and physical alteration of the insured’s property. Although the SJC denied the insureds recovery for their pandemic business losses, the decision provides helpful guidance for businesses making risk management decisions to address similar issues that may arise in the future.
The plaintiffs in Verveine were three Massachusetts companies that operated popular restaurants in Boston and Cambridge. Each restaurant maintained a policy of property insurance that covered, among other things, direct physical loss of or damage to covered property and business income loss. In Spring 2020, the novel coronavirus that causes the COVID-19 respiratory illness spread throughout the globe and eventually reached Massachusetts. In order to slow the spread of the virus, state and local authorities began issuing “stay at home” orders and other restrictions on businesses and public activities. On March 15, 2020, Governor Charlie Baker issued an emergency order prohibiting in-person dining at all restaurants and bars. Shortly afterwards on March 23, 2020, restaurants were deemed to provide essential services and made exempt from the order. The order exempting restaurants encouraged them to offer takeout and delivery services, so long as they complied with social distancing requirements. Many took advantage of the exemption. Others struggled financially and failed.
Based on the limitations imposed upon their businesses and the resulting economic loss, the plaintiff restaurants each filed claims for lost business income with Strathmore, their insurer. Strathmore denied the claims, citing to the lack of any “physical loss of or damage to the property”, as well as to a virus exclusion in one restaurant’s insurance policy. Unwilling to accept the denial of their claims, the restaurants commenced a declaratory judgment action to determine the scope of coverage under their policies, asserted claims for breach of contract, and claimed that the insurer engaged in unfair and deceptive business practices in violation of the Massachusetts Consumer Protection Act, G.L. c. 93A. Strathmore promptly moved to dismiss the plaintiffs’ complaint. The trial court granted the insurer’s motion, and the plaintiffs appealed.
The SJC construed the insurance policies based upon well-established principles of contract interpretation, including those that govern ambiguities which, the insureds argued, established coverage. Id. at 1272-73. With those principles in mind, the Court turned first to the language of the policies which used a selection of standardized forms. The Court found that the phrase “direct physical loss of or damage to covered property” applies to the impacts that the covered causes of loss must have on the property in order to trigger coverage, rather than the policies’ definition of covered causes. Id. at 1274. It found the same interpretation applied to the recovery of business income loss. Recognizing that the questions of coverage turned on whether there was any direct physical loss of or damage to covered property, the Court concluded that no reasonable interpretation of the phrase supported the plaintiffs’ claims. Id. This was in accordance with a survey of its precedent which revealed that the term “loss” in the context of a property policy must fairly be understood to require physical damage. Id. at 1276-77. In response to the insured restaurants’ argument that the presence of the virus and resulting orders were in fact a physical loss, the Court concluded that, in accordance with its precedent, the phrase “direct physical loss of or damage to” property required some distinct, demonstrable, and physical alteration of the property. Id. at 1275. It held that the mere presence of the virus would not amount to physical loss or damage because a virus is readily removable, returning the property to its uncontaminated state and allowing its particular use. Id. In addition to its own precedent, the SJC recognized that “[e]very appellate court that has been asked to review COVID-19 insurance claims has agreed with this definition for this language or its equivalent.” Id. In the context of the business interruption coverage forms, the SJC found its interpretation supported by the policy definition of “period of restoration” which was measured by the time necessary to repair or replace the damaged property. Id.
In light of the Court’s determination that coverage did not attach in the first place, it stated it need not reach the defendants’ alternative arguments that other terms in the policy would exclude coverage. Id. at 1277. The Court did, however, address the “virus exclusion” in one policy “not for whether it would exclude coverage, but whether, as plaintiffs claim, it creates a clear negative implication that policies that do not contain the exclusion should cover claims arising from the COVID 19 virus.” Id. at 1277. The Court emphasized the importance of not drawing negative implications and concluded that “no such negative implication can or should be drawn” here. Id. It relied on “basic insurance law principles that absence of an express exclusion does not operate to create coverage.” Id. (internal quotations omitted). Applying these principles, it found in the first instance that the “virus exclusion” contained in one restaurant’s policy which contains an exclusion for “loss or damage caused by or resulting from any virus … that induces or is capable of inducing physical distress or disease” cannot somehow “create coverage” in the policy of the other two restaurants that does not otherwise exist under that policy’s plain language. Id. In short, it held that “the scope of that exclusion is irrelevant to the coverage” under the policy of the other two restaurants. Id. at 1277-78. Thus, the Court rejected outright the claim that simply because a policy did not have the virus exclusion in it that the policy should be deemed to cover the claim. Second, it found that this interpretation did not render the primary coverage meaningless or surplusage. Id. at 1278. Rather, it held that “most obviously” the exclusion “had independent significance where, for example, personal property, such as food, becomes physically contaminated or infected with a virus, requiring its destruction or some form of remediation.” Id. It again noted that the COVID-19 virus is different from this circumstance in that the contamination is “readily removable” returning the property to its uncontaminated state and allowing its continued use. Id. The Court also acknowledged other appellate court decisions that found similar exclusions inapplicable where no physical loss or damage occurred to establish coverage.
The economic consequences of COVID-19 will likely have impact – anticipated and unanticipated – for years to come. Decisions such as Verveine make clear that not every loss is a covered loss. However, the decision offers important guidance that will assist in managing the expectations of policyholders and assist them in deploying alternate risk management strategies to deal with uninsured economic losses. Businesses now know, for example, that some distinct, demonstrable, and physical alteration of the property is necessary to establish coverage under most “all-risk” policies. In addition, businesses may seek out insurance products that provide limited coverage for virus-related losses, or develop alternate business models to sustain operations and generate revenue in the event of a future pandemic or event which may limit normal activities.
Bill Schneider is a Partner in the Boston office of Morrison Mahoney LLP, where he focuses his practice on civil litigation and first-party insurance, with an emphasis on trial and appellate work in the state and federal courts. Bill also represents insurers in arbitration, appraisal, reference, and other non-judicial proceedings required by the policy or applicable law. He received his Chartered Property Casualty Underwriter designation in 2001, and has extensive coverage experience, including policy drafting, policy interpretation, and the general representation of insurance companies in a variety of matters across several lines of insurance.