Amid nationwide hesitance by courts to extend business coverage to businesses that shut down during COVID, Coast Restaurant Group came closer to winning its case than most. In the case of Coast Rest. Grp. v. Amguard Ins. Co., No. G061040, 2023 Cal. App. LEXIS 269 (Ct. App. April 10, 2023), although the court agreed that the government shutdown qualified as a "direct, physical loss" under the policy, the existence of a virus exclusion as well as a clause specifically excluding coverage for loss caused by an ordinance or law foiled Coast Restaurant's hopes of getting Amguard to pay up. This ruling is significant because it effectively splits the opinion of the appellate courts on this issue and leaves more wiggle room for trial courts on this issue.
Underlying Facts of the Case
Cedar Creek Inn is a restaurant operating in North Orange County. In addition to offering fine food and drinks, it also entertains guests with live musical performances. The owners of Cedar Creek purchased business operation insurance from Amguard Insurance. The policy ran from March 30, 2019 - March 30, 2021. It stated that "Business interruption insurance protects against the loss of income and other losses caused by an interruption to the normal operations of the business."
When the COVID-19 pandemic hit, Cedar Creek was forced to shutter its doors in compliance with an order by California Governor Newsom which prohibited restaurants from serving food on their premises or allowing the gathering of people. Only pickup, delivery and drive thru food services were allowed.
Cedar Creek filed a claim with Amguard for its business income loss as a result of the pandemic closures and reduced business. Unlike other cases, however, Cedar Creek did not claim that the business income loss was the result of contamination of the premises by the virus, but rather a result of the stay-at-home orders issued by the Governor. Amguard denied the claim finding that the property did not sustain any direct physical loss or damage to trigger coverage. In addition, the policy contained a virus exclusion as well as a government ordinance exclusion which also precluded coverage.
Cedar Creek sued for breach of contract and the implied covenant of good faith and fair dealing. Cedar Creek pointed to the "Additional Coverages for Business Income" section of the policy which read, " [Insurance company] will pay for the actual loss of business income you sustain due to the necessary suspension of your operations during the period of restoration. The suspension must be caused by direct physical loss of or damage to the property….The loss or damage must be caused by or the result from a Covered Causes of Loss." The trial court found in favor of the insurer.
Interpreting the Insurance Contract
California follows widely-established principles in interpreting insurance contracts. Generally, if the contract language is clear the inquiry need not go further. If ambiguous, the courts will do its utmost to give effect to the parties intentions and also interpret the provisions in accordance with "the objective and reasonable expectations of the insured." Minkler v. Safeco Ins. Co. of America (2010) 49 Cal.4th 315, 321. In other words, contract provisions that are unclear will be construed in favor of the insured. Additionally, exclusions in an insurance contract are only factored into the coverage analysis once it affirmatively established that coverage exists in the first place. Apple Annie, LLC v. Oregon Mutual Ins. Co. (2022) 82 Cal. App.5th 919, 924. Here although COVID cases still prove a gray area of the law, the contract in place between the parties proved clear.
Were the Cedar Inn's Business Losses Caused by Government Shutdowns Covered by the Policy?
Cedar Inn had the burden of proving that the governmental orders prohibiting in-person dining resulted in a direct physical loss of or damage to their property. It claimed that the shut down orders did result in direct physical loss and that the loss should include "deprivation or dispossession of property even if the property has not been physically damages or altered."
Given the fact, that the policy does not clearly define "direct physical loss", the court looked to the dictionary for answers. Webster’s Third New International Dictionary (2002) defines “direct” as “marked by absence of an intervening agency, instrumentality, or influence: immediate”; “physical” as “of or relating to natural or material things as opposed to things mental, moral, spiritual, or imaginary”; and “loss” as “failure to keep possession: deprivation,” “act or fact of failing to gain, win, obtain or utilize,” or “destruction, ruin, perdition.” (Webster's 3d New Internal. Dict. (2002) pp. 640, 1706, 1338.)
Based on the dictionary definitions, the court reasoned that the government orders did directly impact the property because they were the only reason for the harm that the Cedar Inn suffered. Further, the court found that the orders also impacted the restaurant physically because they mandated how the physical space and objects within the restaurant could or could not be used. The court concluded that the restaurant suffered a "loss" because the orders resulted in the restaurant losing significant property rights. "A governmental order that temporarily deprives the insured of possession and use of covered property can qualify as a direct physical loss."
The insurer argues that under the policy it is only required to cover business losses during a period of restoration. The contract defines a period of restoration as, "Beginning 72 hours after the time of direct physical loss or damage and ending on the earlier of the date he property at the described premises should be repaired, rebuilt, or replaced with reasonable speed and similar quality, or the date when the business is resumed a new permanent location." They argue that because the government orders were issued indefinitely, it did not qualify as placing the property in a period of restoration. The court disagreed. It found that the period of restoration having an open-ended end date did not render it superfluous. In addition, the court found that deprivation or dispossession of the property triggered coverage as well as direct, physical loss. Therefore, the court concluded that the restaurant's insurance coverage was triggered when the governmental orders forced them to shut down.
Exclusions Under the Insurance Policy
Despite the court's finding that a government order shutting down the restaurant could satisfy the loss requirement under the policy and trigger coverage, there was also a specific exclusion in this case. According to the "Ordinance or Law Exclusion" in the policy "loss or damage caused directly or indirectly by… enforcement of any ordinance or law… that regulates the construction use, or repair of property are not covered." Thus, even though the government order triggered coverage, the restaurant was not owed reimbursement by their insurance because it is indisputable that the orders restricted the use of the property and therefore, this exclusion would preclude coverage.
Cedar Inn, however, argues that the rule of noscitur a sociis should be applied. This rule says that "a word of uncertain meaning may be known from its associates and its meaning enlarged or restrained by reference to the object of the whole clause in which it is used." Cedar Inn claims that since the governmental order did not compromise the physical, structural integrity of the property, the court should not preclude coverage. The court disagreed noting, "nothing suggests the term 'use' is limited to structural integrity even when interpreted in connection with construction and “repair.”
The Insurance Policy's Virus Exclusion
The virus exclusion in the policy states, "The policy does not cover loss or damage caused directly or indirectly by any virus, bacterium, or other microorganism that induces or is capable of inducing physical distress, illness, or disease."COVID-19 is clearly a virus within the parameters of this definition. Thus, the virus exclusion would also preclude coverage.
Cedar Inn argued as a last ditch effort, that the efficient proximate cause doctrine should apply here. That doctrine provides, "When a loss if caused by a combination of a covered and specifically excluded risk, the loss is covered and specifically excludes risks, the loss I covered if the covered risk was the efficient proximate cause of the loss, but the loss is not covered if the covered risk was the efficient proximate cause of the loss." State Farm Fire & Casualty Co. v. Von Der Lither (1991) 54 Cal.3d 1123, 1131-1132. The efficient proximate cause is the predominant or most important cause of the loss. Julian v. Hartford Underwriters Ins. Co. (205) 35 Cal.4th 747, 754.
The court determined that the efficient proximate cause doctrine did not apply because it requires both covered and specifically excluded risks. Here both the government orders and the virus are contained in exclusions. "The efficient proximate cause doctrine applies only when two or more conceptually distinct perils combine to cause the loss. Roberts v. Assurance Co. of America (2008) 163 Cal.App.4th 1398. The two distinct perils must have occurred independently and either could have equally caused the loss. Id. In the case at hand, the COVID and the restrictive government orders are not distinct perils. Thus, the efficient proximate cause doctrine did not apply.
In conclusion, although the court went against the grain in determining that the government orders during the pandemic did constitute loss under the insurance policy, the finding still not benefit the restaurant as their policy also included virus and government order exclusions that barred coverage under the circumstances.