Divided Court reverses judgment on the pleadings and rules that allegations of contamination by SARS-CoV-2 was sufficient to trigger coverage as “direct physical loss or damage to property” under a business interruption policy and to survive a Rule 12(c) motion.

Huntington Ingalls Industries, Inc. v. Ace American Insurance Co.,  2022 VT 45 (filed 9/23/2022)

EATON, J. Insured Huntington Ingalls Industries, Inc. and insurer Huntington Ingalls Industries Risk Management LLC seek a declaratory judgment stating there is coverage under a property insurance policy for certain losses incurred by Huntington Ingalls Industries due to the COVID-19 pandemic. The trial court concluded that the complaint did not allege facts that would trigger coverage under the policy and granted judgment on the pleadings in favor of reinsurers. We reverse.

In September 2020, insured and insurer sued reinsurers seeking a declaratory judgment that they are entitled to coverage under the policy for property damage, business interruption, and other losses suffered as a result of SARS-CoV-2, the pandemic, and civil authority orders. The complaint alleges the pandemic caused “direct physical loss or damage to property” when the virus adhered to surfaces for several days and lingered in the air for several hours at the shipbuilding yards. The alleged losses include disruption in orderly construction and repair of vessels, schedule impacts in the construction and repair of vessels, expenses—including increased labor and information technology costs—incurred to continue as near to normal operations as practicable, loss of profit.

Before any discovery, insured and reinsurers filed cross-motions for judgment on the pleadings pursuant to Vermont Rule of Civil Procedure 12(c). Reinsurers sought complete judgment on the pleadings, arguing that insured had not sufficiently alleged that “direct physical loss or damage to property” had occurred. Insured filed three motions for partial judgment on the pleadings. In the first motion, it argued that reinsurers’ affirmative defense that the presence of SARS-CoV-2 in or on property cannot constitute “direct physical loss or damage to property” was incorrect as a matter of law.The trial court granted reinsurers’ motion for judgment on the pleadings and consequently denied all of insured’s motions. The inquiry below focused on the meaning of “direct physical loss or damage to property” under the policy. The trial court t concluded that insured did not experience loss of property but instead suffered an uncovered loss of income because the shipbuilding yards remained in operation despite the presence of the virus.

On appeal, the overarching issue remains the same: how do we interpret “direct physical loss or damage to property” in this insurance policy?

The phrase “direct physical loss or damage to property” is unambiguous, and the common meaning of these terms therefore controls the interpretation of the property insurance policy in this case The phrase “direct physical loss or damage to property” includes two distinct components, either of which will trigger coverage unless an exclusion applies: “direct physical damage” and “direct physical loss.” “Direct physical damage” requires a distinct, demonstrable, physical change to property. “Direct physical loss” means persistent destruction or deprivation, in whole or in part, with a causal nexus to a physical event or condition. Purely economic harm will not meet either of these standards.

The complaint adequately allege that the virus physically altered property in insured’s shipyards when it adhered to surfaces. That the virus “adheres” to property, thus “altering and impairing” it in a tangible way, that provides reinsurers with notice of insured’s allegations for how the virus can cause “direct physical loss or damage to property.” This description of the process of how the virus causes damage to property also raises the complaint beyond the threshold of mere “conclusory allegation[s].” Colby, 2008 VT 20, ¶ 13. 

Insured’s complaint contains sufficient allegations to survive a Rule 12(c) motion for judgment on the pleadings under Vermont’s extremely liberal pleading standards. The losses it alleges are either “direct physical loss” or “direct physical damage” to property We therefore reverse the trial court’s grant of judgment on the pleadings in favor of reinsurers and the trial court’s denial of insured’s motion for partial judgment on the pleadings on the issue of reinsurers’ affirmative defense.

To be clear, this opinion does not state that what occurred in insured’s shipyards is “direct physical loss or damage to property” under the policy. We merely conclude that insured has alleged enough to survive a Rule 12(c) motion under our extremely liberal pleading standards. See Colby, 2008 VT 20, ¶ 5 n.1 (declining to adopt heightened federal pleading standard). Reinsurers may well be correct that insured’s losses were not caused by any “direct physical loss or damage to property,” but instead from the risks employees posed to each other or some other non-covered reason; however, we cannot agree that this is an “obvious fact” that undermines the various allegations in the complaint, which, at this stage, we must accept as true.

Reversed and remanded for further proceedings consistent with this opinion.

CARROLL, J., dissenting. As a matter of law, human-generated droplets containing SARS-CoV-2 cannot cause “direct physical loss or damage to property” under this insurance policy. No future litigation can change that reality. While I agree with the majority’s conclusion that the insurance contract term in dispute is unambiguous, I cannot agree that insured’s claim survives beyond the pleadings stage. Accordingly, I respectfully dissent

The gist of insured’s allegations on this point is that virus-infected droplets have continuously landed on surfaces in its facilities, and the presence of these droplets—known as “fomites” when they land on surfaces—renders the property incapable of functioning for its intended purpose. But a fomite cannot cause damage to property if damage is defined as a “distinct, demonstrable, physical change.” SARS-CoV-2 does not “alter the appearance, shape, color, structure, or other material dimension of the property.” No matter what verb insured uses, whether “adheres,” “attaches,” or even “on,” a fomite does not physically change property. Verveine Corp. v. Strathmore Ins. Co., 184 N.E.3d 1266, 1276 (Mass. 2022) (“Evanescent presence of a harmful airborne substance that will quickly 36 dissipate on its own, or surface-level contamination that can be removed by simple cleaning, does not physically alter or affect property. “)

To sum up, insured’s allegation that fomites cause physical damage to its property cannot be proven because fomites demonstrably have no effect on the tangible, physical dimension of insured’s property. No reasonable person in insured’s position would think otherwise. It is one thing to conclude that a disputed insurance policy term is ambiguous and permit litigation to proceed in a Rule 12(c) posture. It is quite another to conclude that one phrase—“direct physical damage”—is unambiguous and accept as true the implausible claim that human-generated, infectious droplets can damage property,. Accordingly, to save valuable time and energy for both the court and the parties from litigation with a preordained outcome, I would affirm the trial court’s order granting reinsurers’ motion for judgment on the pleadings and affirm the trial court’s order of dismissal.

I am authorized to state that Judge Bent joins this dissent.

How cited