Insurance & Reinsurance
We reported last year on the case of Sartex Quilts & Textiles v Endurance Corporate Capital Ltd heard at first instance in the English High Court, which considered the correct measure of indemnity where an insured had failed to comply with its property policy's reinstatement memorandum. On 5 March 2020, the Court of Appeal dismissed insurers' appeal.
The insured manufactured 'shoddy hard pads' used in mattresses. The insured's property insurance incorporated a typical reinstatement clause / memorandum, confirming that insurers were not obliged to indemnify the insured on a reinstatement basis until such time as reinstatement had been commenced and the costs of such had actually been incurred by the insured, otherwise the indemnity would be measured as if the reinstatement memorandum had not been incorporated. In May 2011, fire damaged the insured building and machinery. The insured had not reinstated the damage as at the date of trial. It was common ground that indemnification pursuant to the reinstatement memorandum was, therefore, unavailable. Notwithstanding that, the insured argued that it was entitled to an indemnity on a reinstatement basis (£3,492,041) pursuant to common law principles. Insurers argued that the insured was instead entitled to an indemnity equal to the market value of the property as at the date of the fire (£2,141,526).
First instance decision
The first instance judge accepted that in line with established legal principles the insured was entitled to an indemnity equivalent to the value of the property to the insured at the date of the fire. To determine what that value was, the judge found the following principles applied:
The judge was satisfied that the correct measure of indemnity in this instance was one based on the theoretical costs of reinstatement. Insurers appealed that decision.
The main issue on appeal was whether (in order to recover the theoretical reinstatement costs) an insured needs to show a genuine, fixed and settled intention to reinstate the property (and if so, whether on the same site, in the same style and general shape as it was pre-damage).
The appellant insurers argued that there was a legal requirement for the insured to prove so and in this instance it had failed to establish that requisite intention. The respondent insured defended the first instance decision and argued that the correct legal test had been applied by the judge.
The Court of Appeal noted that it was not in dispute that the insured intended, had the fire / damage not occurred, to use the buildings and machinery at the site for the manufacture of shoddy hard pads. Prima facie, therefore, the appropriate measure of the insured's loss was the cost of reinstating the buildings and machinery so that the insured was put back in the position it was before the damage occurred. The Court went on to consider whether that prima facie measure was inappropriate in circumstances where the insured had not at the time of the trial actually incurred the cost of reinstating.
The Court cited well established authorities that, in general, what an insured does or does not intend to do with the proceeds of insurance is irrelevant to the question of the amount of damages that the insured is entitled to receive to put it back in the position it would have been had the peril not occurred (although the question of reasonableness of the insured's decisions may be relevant to the issue of mitigation). The Court rejected insurers' argument that Great Lakes Reinsurance (UK) SE v Western Trading Ltd  was precedent for the proposition that the insured must demonstrate a genuine, fixed settled intention to reinstate before it is entitled to the theoretical costs of so doing. The facts in Great Lakes were different and unusually concerned property whose value had actually increased on account of the fire damage (because it had lost its grade-listed status and was more attractive to redevelopers). The Court found that the court's comments in Great Lakes were obiter (i.e. not binding), limited to the particular circumstances of that case, and did not alter the general (prima facie) position at law.
Accordingly, the Court held that on account of:
the question of whether or not the insured intends to reinstate the property on the site and to use them to manufacture shoddy hard pads is irrelevant to the measure of indemnity. The Court ruled that the insured was entitled to the theoretical reinstatement costs and dismissed insurers' appeal.
The Court of Appeal's judgment re-emphasises the general common law position that the correct measure of indemnity in these circumstances is, prima facie, the theoretical costs of reinstatement (less any allowance for betterment). That would not be an appropriate measure where: (1) the property was being marketed for sale at the time of the peril; (2) the insured failed to mitigate its loss; or (3), potentially, where the value of the property increased after the occurrence of the peril.
It is of course open to insurers to revise the standard reinstatement memorandum to make clear precisely how the basis of indemnity is to be calculated if reinstatement does not take place. Such wordings could, for example, make it clear that if reinstatement does not happen the policy will only cover the diminution in market value caused by the damage.