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The tremendous growth of the Internet has caused insurers to come forward with new products designed to cover online risks that many believed are not addressed by traditional insurance policies. While a number of businesses have started subscribing to these special “Internet” policies, last year an Arizona federal judge held that certain cyber-risks can be covered by traditional insurance policies. If coverage becomes the trend, it is likely that more claims relating to Internet losses will be made on traditional insurance policies. It’s also possible that businesses will think carefully about whether they truly need to spend additional premiums on Internet-specific insurance policies. So far, the decision by the Arizona federal court stands alone, but future legal developments must be closely monitored. WHAT TRADITIONAL INSURANCE COVERS The most comprehensive type of traditional insurance policy is the commercial general liability (CGL) policy. The standard CGL policy potentially responds to claims relating to damage to “tangible property,” in addition to “loss of use of tangible property that is not physically injured.” A core question in the online world has been whether such damage can include destruction or loss of electronically stored data. So far, most courts that have addressed this issue have held that electronically stored data is not tangible property. In the rare case when courts have held that data loss can amount to damage to tangible property, there usually has been damage to the associated computer hardware or disk. Nevertheless, some courts have found that there still would not be coverage for lost data even where data loss is caused by damage to the storage hardware or medium. SPECIAL INTERNET POLICIES In recent times, certain insurers have offered new insurance products created to fill the gap in coverage for cyber-risks that were not addressed by traditional insurance policies. Some of these new insurance products have been written as add-ons to traditional insurance policies, while others have been written as entirely freestanding policies. Some of the new Internet policies address first-party risks (risks to a company’s own assets), whereas others address third-party risks (liabilities a company has to other companies or individuals). These new Internet policies generally respond to two large risk categories: physical damage on the one hand, and information and media damage on the other hand. Physical damage includes the loss of confidential information, credit card numbers, destruction of software, malfunction of hardware and lost profits resulting from viruses, hackers, insiders, trespassers, denial of service, business interruption, man-made acts and acts of God. Information and media damage includes the loss of value and control of intellectual property, reputation and money caused by words, symbols, expressions and images and the manner in which they are used. ARIZONA FEDERAL CASE So, very generally speaking, it appeared that traditional insurance polices would respond to brick-and-mortar risks and that the new Internet insurance polices would address the online risks of the new high-tech world. That, of course, was until Senior Judge Alfredo Marquez, of the U.S. District Court in Arizona, issued a ruling in the case of American Guarantee & Liability Ins. Co. v. Ingram, which basically held that pure data loss can constitute damage to tangible property worthy of coverage under a traditional insurance policy. In the Ingram case, the policyholder company had purchased a policy that insured against “All Risks of direct physical loss or damage from any cause, however or wheresoever occurring.” The policyholder company later suffered a power failure. Although the computer systems were restored shortly thereafter, significant electronic data was lost. Judge Marquez held that this loss of data was covered as damage to physical property. He specifically found that “physical damage is not restricted to the physical destruction or harm of computer circuitry but includes loss of access, loss of use, and loss of functionality.” Interestingly, Judge Marquez admittedly reached this result by not looking for guidance to insurance coverage precedent, but instead because “the federal computer fraud statute, which makes it an offense to cause damage to a protected computer, defines damage as ‘any impairment to the integrity or availability of data, a program, a system or information.’ “ AFTERMATH The insurer in the Ingram case is reportedly appealing Judge Marquez’s decision, presumably because the judge relied on a penal statute rather than on coverage precedent for the basis of the decision. This will be an important case to watch. If Judge Marquez is affirmed on appeal and if other judges rule the same way in other cases, you can bet that there will be a growing number of cyber-claims made against traditional insurance policies. Companies also may take a closer look before deciding whether to spend additional premium dollars for new Internet insurance policies. However, because it takes many years to iron out coverage rules when new risks emerge, companies still would be smart to consider fully insuring their cyber-risks. Eric J. Sinrod, is a partner focusing on Internet and litigation issues in the San Francisco office of Duane Morris LLP. Please access his website at www.sinrodlaw.comand his firm’s website at www.duanemorris.com.

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