Beck Redden Prevails at the Fifth Circuit in a Significant Business Interruption Coverage Dispute
January 25, 2024 Case Study
The United States Court of Appeals for the Fifth Circuit recently ruled in favor of Beck Redden client, Southwest Airlines Company, in a cutting-edge lawsuit regarding cyber insurance coverage and business interruption insurance.
The appeal involved issues of first impression regarding the insurability of losses arising from mitigation efforts taken in response to a network interruption. The Fifth Circuit’s decision will provide guidance to businesses and insurers that deal with cyber risk events, which are becoming increasingly common in today’s world.
The dispute arose from a cyber risk insurance policy that Southwest purchased. Southwest purchased the policy from the primary insurer as well as follow-form policies from several excess insurers, including Liberty Insurance Underwriters, Inc. The policy provided coverage for all losses that Southwest “incur[red] . . . solely as a result of a System Failure.” In other words, the policy covered business interruptions caused by a network failure.
On July 20, 2016, Southwest suffered a massive computer failure, which resulted in a three-day disruption of its flight schedule. The disruption affected thousands of Southwest passengers who experienced either a flight cancellation or a delay of two hours or more.
Southwest, which is universally recognized for its customer service and passenger loyalty, compensated its customers in various ways through its “gestures of goodwill.” These customer compensation efforts were undertaken by Southwest in mitigation of the system failure. In total, Southwest incurred more than $77 million in losses (including the costs of the gestures of goodwill) as a result of the system failure and resulting flight disruptions.
Southwest successfully received $50 million in coverage from the first few levels of the insurance tower. But when Southwest sought $10 million in excess insurance from Liberty, Liberty wrongfully denied coverage. Liberty argued that because Southwest made a voluntary decision to engage in mitigation efforts and provide customer compensation, such losses were not “incur[red] . . . solely as a result of a System Failure.” The district court agreed with Liberty’s interpretation of the policy language, and granted Liberty summary judgment.
On appeal, the Fifth Circuit reversed and remanded. The Fifth Circuit sided with Southwest’s interpretation of the insurance policy and faithfully applied principles of Texas contract interpretation.
Southwest’s losses from the customer compensation efforts qualified as “losses” within the meaning of the policy because they satisfied the but-for causation standard found in the policy’s definition of “loss.” Next, because the policy covered losses that Southwest “incurs,” Southwest’s voluntary mitigation efforts were covered by the policy. In other words, coverage was not lost simply because Southwest decided to mitigate in response to the business interruption.
Finally, the Fifth Circuit held that, under the sole causation requirement in the policy, Southwest’s losses from the customer compensation efforts were covered if the system failure was the sole precipitating cause of its mitigation expenses and those expenses placed Southwest in the same position that it would have occupied if there had been no business interruption. The Fifth Circuit then remanded the case for further factual development and trial on Southwest’s claims for insurance coverage and its claims for bad faith in the claims-handling process.
In sum, the Fifth Circuit rejected a reading of the sole causation requirement that would have excluded virtually all voluntary mitigation efforts made by a business in response to a catastrophic network interruption—which would have frustrated one key reason companies purchase business interruption insurance in the first place. This important ruling is certain to guide businesses faced with similar interruptions and insurance policies in future cases.
Beck Redden partner, Russell S. Post, served as lead counsel and presented oral argument. Beck Redden associate, Parth S. Gejji, assisted with the briefing. The Beck Redden appellate team was assisted by trial counsel, Andrew B. Ryan of Ryan Law Partners LLP.
The opinion can be found here.
The oral argument recording can be found here.