External Considerations

OVERVIEW

The October 2013 ruling by Ontario’s Divisional Court, 1422253 Ontario Limited v. Coachman Insurance Company, is an important decision addressing when coverage will be found under all-risks policies. In lowering the threshold test established by the trial judge, a three-judge panel ruled that for coverage under such a policy to be found, it is enough for the insured to show that the loss arose from an external cause. This was interpreted to mean that the loss (1) was not deliberately caused by the insured, and (2) was not expected to arise in the ordinary course of the insured’s business.

With respect to this second element, the court suggested two important propositions. Firstly, the court proposed at para. 12 the appropriate question was not whether there was evidence that the damage was “inevitable,” but rather whether the damage was not “something one would expect to arise in the ordinary course of business.” The court opined that just because an event is inevitable, does not mean that its occurrence is in the regular course of business.

Secondly, the court held that the precise cause of the damage need not be proved by an insured in order to determine whether or not the event was expected to occur in the ordinary course of business.

FACTS

This decision involved an appeal from an order granting the defendant insurer’s motion for non-suit. The insured owned and operated a gas station and held an “all-risks” policy issued by the insurer, Coachman Insurance Company. The policy insured stock and equipment against “all risks of direct physical loss or damage from any external cause.”

The damage in question was caused by a crack in a fuel fill-pipe, which allowed water to contaminate the fuel. This contamination rendered the fuel unusable, caused damage to the fuel pumps, and resulted in the interruption of the insured’s normal business activities.

The insurer paid for the loss related to the contaminated fuel, but not the pumps or the business interruption loss. The insured commenced an action for the unpaid damages. At the conclusion of the insured’s case, the insurer brought a motion for non-suit.

THE TRIAL DECISION

In August 2012, Justice Theresa Maddalena of Ontario’s Superior Court of Justice identified the issue as whether or not the insured had provided prima facie proof that the loss was fortuitous, so as to fall within the parameters of the policy’s all-risks coverage.

The trial judge held that, although there was evidence of a loss, there was no evidence that the loss was the result of a fortuitous event, which she defined as “a happening by chance rather than by design.”

Justice Maddalena held that there must be some evidence to connect the cracked fill-pipe to a fortuitous event and not some other cause. In these circumstances, she found that such a connection could only be made on the basis of expert evidence, which was not adduced.

ISSUES ON APPEAL

The Divisional Court was asked to decide whether or not the insured was required to establish that the loss in question was the result of a “fortuitous event, not an inevitable event.”

Further, the court was asked to consider if the threshold set by Justice Maddalena when proving the cause of the loss – that expert evidence was required to connect the cracked pipe to a fortuitous event and not some other cause – is the correct one.

THE APPEAL DECISION

Analysis

The Divisional Court stated that an all-risks policy is meant to insure against all risks except those specifically excluded from the policy. The court explained that these policies “are meant to insure against risks, not certainties, and accordingly, the policy in this instance required that the damage arise from an external cause.”

In order to constitute a loss arising from an external cause, the loss cannot be (1) deliberately caused by an insured, or (2) expected to arise in the ordinary course of the insured’s business.

The court held, at para. 13, that the trial judge erred in concluding the insured was required to establish that the loss in question was “the result of a fortuitous event, not an inevitable event.”

In so finding, the court reasoned that just because a loss is inevitable, does not mean its occurrence is in the ordinary course of the insured’s business. Specifically, while the corrosion of the pipe over time to the point that the pipe fails is inevitable, the failure of the pipe (even if due to corrosion) may not be expected in the ordinary course of business if the pipe has been regularly inspected.

Thus, the court concluded at para. 14 that the proper inquiry was as follows:

Accordingly, the question for the trial judge was not whether there was evidence before her upon which she could find the break not to have been inevitable but whether the break in the pipe was not something one would expect to arise in the ordinary course of business.

The evidence relied on by the Divisional Court included the following facts: (1) the experienced contractor had never seen fill-pipe rust out or break in this manner, (2) the principal of the insured, an experienced gas station owner, had never experienced a broken fill-pipe and had recently had the pipes tested, (3) the break occurred during business hours and required the immediate shutdown of the gas supply operation, and (4) the insurer’s denial of coverage on the basis of a policy exclusion was perceived as a deemed admission by the insurer that the loss would be covered by the policy, but for the exclusion.

The court ruled the precise cause of the cracked pipe need not be proved in order to determine if the event was expected to occur in the ordinary course of business. Accordingly, the test formulated by the trial judge was too high a standard, as it effectively required the insured to prove the exact cause of the loss.

In support of its ruling, the court relied on the result in the 1999 decision, Goderich Elevators Ltd. v. Royal Insurance Co., which involved a financial loss when too much stored grain had become “heated.” In that case, the Court of Appeal for Ontario held that, “although the cause remains unknown, the fact that grain became ‘heated’ while in the care and control of Goderich is exactly the kind of ‘fortuitous event’ that triggers the coverage of this all-risks policy. Something happened which resulted in damage to the grain. The answer to the insureds’ assertion that this conclusion would extend coverage to the normal day-to-day business risks of warehousing is that the Goderich plant manager, with over forty years of experience in the business, had never before had a cargo of grain downgraded as occurred here.”

Similarly, the Divisional Court concluded that although the cause remains unknown, the cracking of the fill-pipe is exactly the kind of fortuitous event that triggers coverage of the all-risks policy.

Disposition

The appeal by 1422253 Ontario Limited succeeded. The Divisional Court held that as the loss was not caused by the deliberate acts of the insured, and this was not a loss that could be expected in the insured’s ordinary course of business, the loss was truly a fortuitous event. Accordingly, the order of the trial judge was set aside and the insured was awarded indemnity under the policy.

COMMENTARY

Insureds should take comfort in this ruling, as it proposes that a much lower threshold is required to establish coverage under all-risks policies. They need only show that something external has happened which resulted in damage; they need not prove the precise cause of that fortuitous event. The latter would involve a much higher threshold that would, in many cases, require retaining expert witnesses, significantly increasing the cost of litigation.

This case also assures insurers that all-risk policies will not be interpreted so broadly as to find coverage
where none was intended. The Divisional Court emphasizes that, despite the lower threshold for a finding of coverage, all-risk policies do not insure certainties (i.e., risks that arise in the normal course of business).

The court underscores that the result in this decision does not inappropriately extend coverage offered by all-risk policies to normal day-to-day business risks (i.e., business risks involved in the operation of a gas station) given the damage at issue (i.e., a cracked fuel-pipe) is of such a nature that it rarely occurs in the ordinary course of business (i.e., both the contractor and the gas station owner testified they had never before in their careers seen a fill-pipe damaged in this manner).

Additionally, the nature of the coverage position taken must be carefully considered. As seen here, the denial of coverage solely on the basis of a policy exclusion can lead to an unintended consequence.

Specifically, a court could potentially deem the taking of an off-coverage position on the basis of the exclusion alone as an admission by an insurer that the loss would be covered, but for the exclusion.

This very sort of deemed admission was one factor relied on by the court to conclude that the loss was not something one would expect to arise in the ordinary course of business, thus bringing it within the parameters of the all-risks policy.

As the trial judge, Justice Maddalena, gave oral reasons, the decision at first instance is not readily available. Thus, while it is not possible to confirm the exact language of the exclusion, or whether, initially, the insurer only argued an off-coverage position on the basis of the exclusion, and not fortuity, the Divisional Court’s decision appears to indicate this is what transpired.

Many thanks to Casey B. Marvin, student-at-law in Hughes Amys LLP’s Toronto office, for her excellent assistance in the preparation of this article.