UK: Court Of Appeal Upholds Market Expectation On Exhaustion Of Layers And Ordering Of Losses

Last Updated: 23 December 2011
Article by James Roberts and Chris Dunlop

In February 2011 we reported on the judgment of the English Commercial Court in Teal Assurance v WR Berkley & Aspen, a case which demonstrated the tensions that can arise in cases involving insurance programmes consisting of more than one layer of cover. In a ruling handed down on 15 December 2011, the Court of Appeal has revisited the issue, and in so doing brought clarity to the market by again finding in favour of WR Berkley and Aspen, represented by Clyde & Co.

At the heart of the case was excess layer language in standard market form (LSW055), but a major dispute nevertheless arose as to whether the top excess layer policy was triggered by incurred losses at a time when the underlying insurers had reserved in full in respect of other potential future losses but had not paid out their full limits.

A brief reminder of the facts

Teal is the captive insurer of Black & Veatch ("B&V"), a major international engineering company based in the USA. For the 2007/2008 policy period B&V had structured its professional liability insurance as follows:

  • Excess its each and every claim deductible, a self-insured retention ("SIR") of US$10m any one claim and US$20m in the aggregate, responding to worldwide claims.
  • Thereafter, a Primary Layer of US$5m any one claim and in the aggregate, responding to worldwide claims.
  • Above that, spread across three excess layers (all underwritten by Teal), a further US$55m worth of cover (any one claim and in the aggregate), each responding to worldwide claims and each reinsured.

B&V effectively therefore had US$60m worth of aggregate cover responding to worldwide claims, excess its SIR and its deductible, collectively referred to as the underlying tower.

Above the underlying tower was an additional layer also underwritten by Teal ("the Top and Drop Layer"), which provided cover of Ł10m (sterling) each and every claim with no aggregate limit, but which excluded US and Canadian claims ("American claims"). The Top and Drop Layer was reinsured by WRB and Aspen.

All of the relevant policies incorporated by reference the Primary Policy. The Primary Policy provided standard professional indemnity cover in respect of B&V's liabilities to third parties. By endorsement, the cover also provided the common extension for necessary costs and expenses incurred in rectifying design defects, i.e. cover for first party losses incurred in mitigation attempts.

Each of the excess layer policies within the tower and the Top and Drop Layer underwritten by Teal contained wording in common market form (referred to as "Clause 1") to the effect that: "Liability to pay under this Policy shall not attach unless and until the Underwriters of the Underlying Policy/ies shall have paid, or have admitted liability or have been held liable to pay, the full amount of their indemnity inclusive of costs and expenses."

The issue

The issue before the Court can be summarised by reference to a generic assumed example, which broadly reflects the factual scenario which led to the dispute.

B&V faced a major American claim in the policy period, which would necessitate ongoing and extensive remedial works (potentially in excess of US$200m). B&V also faced two Non-American claims, again involving ongoing remedial works, one of which involved losses of some US$10m, the other one of which involved losses which might ultimately be in the region of US$35m.

The question for B&V and Teal was whether they could present losses to the re/insurance programme regardless of the order and timing of the establishment and ascertainment of B&V's liability or of the incurring of loss by B&V. To put that in perspective:

  • On B&V/Teal's case, B&V could hold back incurred losses on the two Non-American claims until such time as the underlying tower had paid out on the future expected losses on the American claim, and then collect two total or near total losses under the Top and Drop Layer;
  • Whereas on WRB and Aspen's case, the incurred losses on the two non-American claims had to go in order and come out of the underlying tower before any future losses on the American claim – meaning that on the particular facts B&V was unlikely to be able to access the Top and Drop Layer to any significant extent and would have greater uninsured losses on the American claim.

The case at first instance

Teal issued declaratory proceedings against WRB and Aspen seeking a declaration of indemnity in respect of the two Non-American claims. WRB and Aspen denied indemnity, on the basis that the underlying tower had not yet paid out, and that the losses incurred on the two non- American claims should therefore fall to the underlying tower (which responds to worldwide claims). The parties agreed that this core issue of principle as to attachment would be heard as a preliminary issue.

Teal argued that the Clause 1 operated effectively as a primary insuring clause, such that the underlying tower could not be treated as exhausted until all underlying insurers either admit or have been held liable to pay the full amount of their indemnities. Effectively therefore Teal could decide to pay the American claim first (in the underlying tower), and then look to the Top and Drop Layer for the (deferred) Non-American claims.

WRB and Aspen argued that to treat Clause 1 in this manner was to give it unwarranted significance, given it was standard market excess layer attachment language. B&V's entitlement to indemnity, and thus Teal's liability to B&V, arose when B&V's liability was established and ascertained (for the purposes of third party cover), or when losses were incurred (for the purposes of first party losses). Thus Teal was already liable to B&V for the Non- American losses on the underlying policies, and these should be presented to the underlying reinsurers. Clause 1 simply created an additional precondition to payment, by emphasising that no insurer would actually be liable to make payment unless and until underlying insurers had paid.

On 28 January 2011, Mr Justice Andrew Smith of the Commercial Court found for WRB and Aspen, and so reiterated the principle of chronological ordering of ascertained losses for the purposes of exhaustion of primary and excess layers.

The Court of Appeal

The Court of Appeal has endorsed the decision of the Commercial Court, and so endorsed the market's understanding of the appropriate operation of Clause 1, and indeed of excess layer policies of this nature generally.

In particular, the Court took the view that Clause 1 had to be read in the context of the various excess layer policies, which included other terms which made clear the manner in which the policies were designed to "drop down" and replace the Primary Policy (and effectively thereafter operate "as primary") sequentially upon the exhaustion of the underlying policies. Clause 1 thus did no more than determine the inter-relationship between layers of cover, and act as a condition precedent to payment under a layer in question. It was irrelevant to the fundamental question of attachment.

In agreeing with the submissions put forward by WRB and Aspen, Longmore LJ stated: "There can, in my judgment, be little doubt that this is the commercial common sense of the top and drop policy. Any other conclusion would mean that Teal (which, as a matter of fact, are an associated company of [B&V], known in the insurance trade as a "captive") could determine when they (Teal) admitted liability further up the layer and could themselves organise the lower levels to pay American claims, leaving reinsurers to face non-American claims where those claims should otherwise have exhausted the tower. Such ability to manipulate liabilities is unlikely to have been the intention of the parties."

Longmore LJ concluded: "The fact is that the construction of the policies of insurance, for which [Teal] contends, does not lead to a sensible commercial result, while the reinsurers' construction (that the policies are exhausted in an orderly manner depending on the time when liability is established against [B&V]) does produce a commercially sensible outcome."

The potential dangers of such an approach not being correct were highlighted by Tomlinson LJ who warned that: "The anarchy which would ensue from [Teal's] approach can readily be imagined if once it is supposed that the first, second and third excess layers had been underwritten by different insurers."

Conclusions – and the future

The unanimous decision of the Court of Appeal (applicable to all classes of insurance, and to reinsurance as well as to direct covers) is to be welcomed as it upholds market expectations, reaffirming as it does the principle of chronological ordering of ascertained losses for the purposes of determining exhaustion of primary and successive excess layers. The Clause on which Teal's argument turned was an extremely common form of standard excess layer language, and had the Court of Appeal held otherwise then there was potential for significant effects to be felt in the market.

Parties to the insurance contract of course remain free to choose the language they wish and to depart from this principle of ordering of losses. It is therefore possible that in another case with different wording that the courts would not reach the same conclusion. Ensuring that policy wordings (including standard terms) are suitable for the particular programme as ever remains key.

Finally, Teal has already expressed its intention to seek leave to appeal to the Supreme Court, not only in relation to the appropriate interpretation of Clause 1, but also (even more fundamentally) on the question of when the liability of insurers under a policy is established.

Clyde & Co acted for the successful defendant reinsurers in this case.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
James Roberts
 
In association with
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.