Moves to force insurers to pay BI claims an ‘existential threat’ to industry

Moves by some US states to force insurers to retroactively pay unfunded business interruption claims due to the COVID-19 pandemic, represents an existential threat to the insurance industry and will cause substantial solvency risks.

That is the view of Joseph Scheerer, CEO, and Ravi Arps, partner, Stonybrook Capital, writing in a market update covering the impact of COVID-19 on the insurance industry.

A number of US states including Ohio, New Jersey, New York and Massachusetts have proposed legislation that cover business interruption claims stemming from COVID-19 despite the fact that they do not cover losses to businesses shut down due to state efforts to combat the spread of coronavirus.

They note that, in fact, these policies typically contain a specific exclusion for losses caused by pandemics given that they are hard to predict, model, and manage, and present an extraordinary catastrophe impacting the global economy all at once.

The accept, however, that there is so much at stake, lawsuits are inevitable. “Some may view the epidemic as a qualifying event for force majeure contract provisions and business interruption insurance policies. In any event, several restaurants and casinos are already filing suits against their insurers seeking recoveries for business interruption due to the pandemic under their existing policies,” they wrote.

But they stress that if insurers are required to cover these losses, then this will create substantial solvency risks for the industry given that these risks were neither underwritten nor was any premium ever collected to cover them.

“The ability of insurers to pay other claims may be impacted and this could exacerbate the already dire financial and economic reality the country is facing,” they said. “This may also set a dangerous precedent to contract law and insurance companies in the US. On a go-forward basis, other legislation is in the works to propose a pandemic reinsurance program, similar to the Terrorism Risk Insurance Act (TRIA), to provide a federal backstop that would cap total insurance losses faced by carriers.”

In New York, there is proposed legislation to effectively mandate the pooling of business interruption claims in the state so that insurers operating in the state would pay the claims for COVID-19 losses. Following this bill, Governor Andrew Cuomo issued an executive order preventing insurers from cancelling, non-renewing, or conditionally renewing policies including imposing late fees and accepting any delays caused by COVID-19 over the next 12-month period. Other states are exploring similar mandates for insurance companies.

“The proposed business interruption legislation presents an existential threat to the insurance industry. Depending on the direction of these conversations in the coming months and the precedent that is ultimately set, this could drastically change business interruption insurance policies in the future and how pandemic-related risks are viewed by insurance companies,” they said.

One other consequence of the fallout of COVID-19 could be that private equity players, many of which have been sitting on cash for several years now, will view the market dislocation as an opportunity to do deals as valuations fall.

“In many instances, private equity players are leaning into the current market conditions. While many sponsors and their portfolio companies are finding the need to adjust quickly, they have also recognized the opportunity at hand with the current market dislocation,” they said.

“Many funds have accumulated dry powder over the last several years waiting for the right opportunities to deploy their cash. Private equity has the opportunity to capture deals across struggling sectors that are now finally getting the pullback in valuations that they've been waiting for. In the insurance industry, multiples have trended high in recent years, and we may see private equity firms take advantage of the current situation.”

In contrast, they noted that more traditional debt providers such as regional and commercial banks are prioritizing existing client relationships and taking a more conservative approach. “The stimulus package and the Fed's initiatives including cutting interest rates to zero and efforts to increase funds for SBA loans will greatly assist with access to credit, however, credit spreads since the onset of COVID-19 still present un unknown future.”