Commercial buildings in New Zealand are insured under what is called a Material Damage Policy (also known as an Industrial Special Risks Policy in Australia). Since the Canterbury earthquakes, this policy has come under unprecedented scrutiny by the New Zealand Courts as a result of disputes arising from earthquake claims.
The cover for commercial buildings under this policy tends to be similar worldwide and so the New Zealand decisions will become useful precedents for other common law jurisdictions.
In this article, we look at two of the most recent decisions.
VERO INSURANCE NZ LTD V MORRISON  NZCA 246
The insured’s building was insured for approximately NZ$3.5 million on a per event basis. This means that for each earthquake event potentially NZ$3.5 million was available under the policy. The cover was on an indemnity only basis. This is commonly referred to as ‘old for old’ cover based on depreciation applying. Therefore, the insured was only entitled to the building being restored to its condition immediately before the loss (and not to an as-new condition).
The building suffered five earthquake events and the insured made claims for damage caused by each of them. Because the earthquake events occurred in relatively quick succession, little or no actual repairs occurred between them.
There was no straightforward way of determining how much damage was caused by each earthquake event. To overcome this, the insured developed a model, which purported to allocate damage to each event. The insurer rejected this model on the basis that there was independent and reliable evidence of the damage from each event in interim reports prepared by loss adjusters and others. The Court of Appeal held that although modelling could provide useful evidence in order to produce practical justice, there were obvious difficulties with this model and the trial judge had placed too much emphasis on it. Contrary to the model, the Court of Appeal found that the final earthquake event in June 2011 had caused little, if any, further damage to the building.
A further issue was whether the building was ‘destroyed’ by the February 2011 earthquake event, exhausting the policy at this point. The policy defined ‘destroyed’ as:
... so damaged by an insured event that the property, by reason only of that damage, cannot be repaired.
The insurer argued the definition contained an implied requirement that the building could not be ‘reasonably’ repaired, which was the case where the cost of repair made repair uneconomic. The Court of Appeal rejected that argument and held that whether a building was destroyed was to be:
‘... informed by considerations which may include any special features of the building, the insured’s intentions for it so far as they are not eccentric or unreasonable, and the respective costs of reinstatement or replacement.
On the facts, the building was still functional, it retained some heritage value and repair costs were NZ$7.1 million against replacement costs of NZ$9 million. It was not, therefore, destroyed.
The final issue was whether the cost of new piles for the building that were required as part of earthquake strengthening during the repairs were covered. The Court of Appeal agreed with the trial judge that they are not because the building did not have piles before the earthquake and the policy only provided ‘old for old’ cover.
PARKIN V VERO INSURANCE NZ LTD  NZHC 1675
The insured’s house was near new and suffered damage in both the September 2010 earthquake and the February 2011 earthquake.
The policy contained a basis of settlement clause that paid for the costs actually incurred by the insured to repair the damaged portion of the house, using currently equivalent materials to a ‘when new’ condition. This is commonly referred to as ‘new for old’ cover. The dispute related to what all this meant in a practical sense. The Court held:
- While it was clear the insured had to incur repair costs before the insurer faced any liability under the policy, this did not equate to the insured having to spend his own money first. Liability is triggered when he is under a legal obligation to pay the repair costs.
- The insurer had not broken its duty of utmost good faith by not settling as the insured had requested. In any event, any duty owed by the insurer to the insured arising from the policy came to an end once court proceedings were issued. After that point, the insured’s entitlement to any consequential losses was governed by the High Court Rules.
- Repairing to the standard of ‘when new’ did not require the insurers to replace rather than repair every single damaged item, even although the house was near new before the earthquakes. The standard of repair required by the policy was to render the fact of damage immaterial. Where an item only had a functional purpose, so long as the repair or replacement restores that functional purpose to a ‘when new’ condition, the policy obligation was met. If there was an aesthetic purpose,the remedial process required is to restore the former aesthetics to a ‘when new’ quality and that might mean that in some situations, replacement was the only option.
Despite the 6th anniversary of the first earthquake occurring in September 2016, there is no sign of earthquake related court proceedings being at an end. We expect some further interesting decisions from the New Zealand Courts on the application of the Material Damage Policy and the Business Interruption Policy this year and beyond.