The Court of Appeals of New York, the state's highest court, ruled on two separate cases contemporaneously on February 19, 2008, that extra-contractual consequential damages may be awarded for an insurer's breach of a commercial property insurance policy.
The cases, Bi-Economy Market, Inc. v. Harleysville Ins. Co. of N.Y., 2008 WL 423451, 2008 N.Y. Slip. Op. 01418 (N.Y. Feb. 19, 2008) and Panasia Estates, Inc. v. Hudson Ins. Co., 2008 WL 420014, 2008 N.Y. Slip Op. 01419 (N.Y. Feb. 19, 2008), permit the award of consequential damages beyond the policy limits where they are the "foreseeable" and "natural and probable consequence" of a policy breach and were "within the contemplation of the parties" at the time the policy was issued.
In Bi-Economy, the insured sought consequential damages for the insurer's failure to make payment under a "Deluxe Business Owner's" policy following a fire that consumed Bi-Economy's inventory and damaged the building and machinery. The policy provided business interruption insurance for up to one year from the date of the fire. Bi-Economy sued the insurer seeking consequential damages, arguing the "complete demise of its business operation" was the result of the insurer's failure to make timely payment under the policy.
Following conventional breach of contract rules, the Court of Appeals found the extra-contractual consequential damages sought by Bi-Economy were recoverable. Under the law of New York, and most states, a breaching party is responsible for the damage that flows from the breach and that was reasonably foreseeable at the time the contract was entered into. The existence of the policy's business interruption element evidenced that the insurer should have foreseen the potential for a resulting business loss in the event a claim was denied in breach of the policy. According to the Court:
The purpose served by business interruption coverage cannot be clearer - to ensure that Bi-Economy had the financial support necessary to sustain its business operation in the event the disaster occurred . . . Thus the very purpose of business interruption coverage would have made [the insurer] aware that if it breached its obligations under the contract to investigate in good faith and pay covered claims, it would have to respond in damage to Bi-Economy for the loss of its business as a result of the breach.
The Court qualified its ruling by emphasizing the significance of the business interruption element as evidence of the insurer's awareness of the exposure for consequential losses by noting "the nature, purpose and particular circumstances of the contract known by the parties" are significant factors for determining whether consequential damages were reasonably contemplated. "Of course, proof of consequential damages cannot be speculative or conjectural."
The Dissent vigorously disagreed, declaring "the consequential damages authorized by the majority, though remedial in form are punitive in fact . . . [t]hey are not triggered as true consequential damages are, simply by a breach of contract, but only by a breach committed in bad faith."
In response, the majority explained the significant distinction between consequential and punitive damages:
Consequential damages, designed to compensate a party for reasonably foreseeable damages, "must be proximately caused by the breach" and must be proven by the party seeking them. Punitive damages, by contrast, "are not measured by the pecuniary loss or injury of the plaintiff as compensation, but reassessed by way of punishment to the wrongdoer and example to others."  Unlike consequential damages, which are quantifiable, "[t]here is no rigid formula by which the amount of punitive damages is fixed, although they should bear some reasonable relation to the harm done and the flagrancy of the conduct causing it."
The Court of Appeals' decision in Bi-Economy is the first recognition that a policy insuring "business interruption" proves the foreseeability required for an award of consequential damages stemming from an insurer's breach of the policy contract by failure to timely pay a claim, even where the policy contains an exclusion for "consequential loss."
Conversely, the Panasia Estates decision involved an insured's claim for consequential damages for non-payment of a claim under a "Builder's Risk" coverage. The insured claimed weather damage to its property, and sought direct and consequential damages for the insurer's alleged failure to properly investigate the claim and wrongful denial of coverage. Consistent with its ruling in Bi-Economy, the Court held the policy exclusion for consequential loss did not preclude recovery of consequential damages, but found a lack of proof that they were foreseeable by the insurer when the coverage was bound. The Court remanded the case for a determination of whether the consequential damages were "foreseeable."
The Court of Appeals' decisions in Bi-Economy and Panasia Estates significantly affect an insurer's extra-contractual obligation exposure in New York and may be transferable elsewhere. Underwriters can anticipate allegations of foreseeable consequential loss due to wrongful denial of claims becoming as routine as bad faith charges in coverage litigation.