I was asked to provide an opinion by one of my colleagues who had been appointed as a loss adjuster under a stand alone Business Interruption policy. The circumstances were that a water pipe had failed under a concrete floor and a large amount of water had escaped. As a result, the Insured had received a very large excess water bill. The broker had lodged a claim under an Industrial Special Risks “ISR” policy, but the claim had been denied on the grounds that consequential losses were excluded. The broker then lodged the claim under the Business Interruption policy and, hence, LMI’s involvement.
This issue has come up more times that I think most people realise. It can also arise with the stealing of electricity as well. The loss is clearly a recoverable loss under an ISR policy and is not a Business Interruption claim. I will explain why.
Let me start by looking at the property insured. The ISR policy, whether it be the Advisory or Modified wording, defines the Property Insured as:
THE PROPERTY INSURED
“All real and Personal Property of every kind and description (except as hereinafter excluded) belonging to the Insured or for which the Insured is responsible or has assumed responsibility to insure prior to the occurrence of any damage, including all such property in which the Insured may acquire an interest during the Period of Insurance.”
Water is not excluded property under an ISR Policy. As soon as the water passes the water metre, the water is the property of the Insured and the Insured is certainly responsible to the water supply authority for the cost of the water. Therefore, the lost water falls within the scope of the definition of “the Property Insured”.
Next, we need to look at the trigger for the policy. While the ISR policy is often called an Accidental Damage Policy, the trigger is as follows:
In the event of any physical loss, destruction or damage (hereinafter in Section 1 referred to as “damage” with “damaged” having a corresponding meaning) not otherwise excluded happening during the Period of Insurance at the Situation to the Property Insured described in Section 1 the Insurer(s) will, subject to the provisions of this Policy including the limitation on the Insurer(s) liability, indemnify the Insured in accordance with the applicable Basis of Settlement.”
Turning now to the exclusions, it is appropriate to look at perils exclusion 4 a) which reads:
The Insurer(s) shall not be liable under Sections 1 and/or 2 in respect of:…
4. physical loss, destruction or damage occasioned by or happening through:
(a) moths, termites or other insects, vermin, rust or oxidation, mildew, mould, contamination or pollution, wet or dry rot, corrosion, change of colour, dampness of atmosphere or other variations in temperature, evaporation, disease, inherent vice or latent defects, loss of weight, change in flavour texture or finish, smut or smoke from industrial operations (other than sudden and unforeseen damage resulting therefrom).”
In the first instance, the loss has been occasioned by or happened through rust or corrosion. Both causes of which are excluded. The damage occasioned in the first instance is to the pipe and the damage to the pipe is clearly excluded.
The ISR policy has an all important write back for resultant damage to Perils Exclusion 4. This reads
Provided that this exclusion 4 (a) to (e) shall not apply to subsequent loss, destruction or damage to the Property Insured occasioned by a peril (not otherwise excluded) resulting from any event or peril referred to in this exclusion.”
The effect of this proviso is that where circumstances that are excluded under Perils Exclusion 4, create other circumstances that are not excluded and which causes subsequent loss to Property Insured, that loss is covered by the Policy.
The subsequent loss here is the loss of the water. The whole issue of what is subsequent damage, what is meant by a peril that occasions subsequent damage and what is meant by the phrase “not otherwise excluded was addressed in Prime Infrastructure (DBCT) Management Pty Ltd v Vero Insurance Ltd & Ors (2004).
In that case, the weld that failed was said to be damaged many years before the collapse of the machine. It was certainly not entertained by any party, nor ought to it have been, that the subsequent collapse of the entire machine was a consequential loss. I will return to the meaning of consequential loss later.
In the Prime Infrastructure case ‘Peril’ was found to mean:
Exposure to injury, loss, or destruction; risk; jeopardy; danger” .
Here there is no doubt that the escape of the water is subsequent loss of the water, which is exactly what the drafters of the write back clause had in mind when they drafted the write back provision.
Turning now to the definition of “Accidental Damage”. While the policy defines the term, “Accidental Damage” it only does so for the purpose of imposing a Sub-Limit or Policy Deductible. In other words, it is restricting the underwriter’s liability – not broadening the coverage.
I support the view of the claims officer that the loss is not caused by one of the perils listed and, therefore, the loss would be subject to any Accidental Damage Sub-Limit or Deductible. It is a bit tricky as the word “water” is shown in the definition but the loss is not physical loss .. caused by …water. Water is the property lost and not the cause of the loss. It is a fine but important distinction.
- The damage to the pipe itself is excluded.
- The cost of locating the leak but not the cost of fixing the pipe is covered under the policy, but not as accidental damage, but is limited to the Sub-Limit /deductible for Accidental Damage. The cover is, in fact, in place due to additional benefit (c) under the policy heading, The Indemnity.
- The loss of the water is subsequent, as opposed to consequential loss and is therefore covered under the policy, subject to the Sub-Limit for Accidental Damage not being exhausted.
Turning back to the issue of consequential loss. To suggest here that the loss of the water is consequential loss is like trying to suggest that theft of property is a consequential loss of someone breaking into the building, or a fire is a consequential loss to a rat chewing through a wire. They are subsequent not consequential losses.
The types of loss that are true consequential losses other than that covered by a business interruption policy are described in the remainder of the exclusion. The most common one I see is that, say, food in a fridge is undamaged in a fire by smoke or heat. However, the power goes off to the refrigerator and as a consequence of their not being any power the food perishes.
No business interruption policy or consequential loss policy that I can think of would cover the loss of the water. Section 2 of the ISR policy would not cover the loss of the water, even if the Insured had elected to take out the cover under the policy. The reason is that it is a first party or property loss, not a consequential loss.
As I said at the start of this opinion, there have been many claims considered under ISR and business pack policies for this type of loss or the loss of electricity where it has been stolen. In all cases, the claim has been met under the policy as a valid property, in the case of a ISR Section 1 Material Damage loss.
Hopefully in this case, my explanation will allow the insurance broker to go back to the property insurer and have them to reconsider their position in view of the above explanation and also advise the business interruption insurer that the claim under their policy has been withdrawn, as there is no coverage provided for this type of loss under the business interruption policy.