UK: Lumbermanīs Dealt a Blow

Last Updated: 23 February 2006
Article by John C.G. Lockey

The recent decision of Aikens J in Enterprise Oil Limited v Strand Insurance Company Limited [2006] EWHC 58 Comm ("Enterprise Oil") goes some way to put at rest fears that the decision of Colman J in Lumbermanís Mutual Casualty Co v Bovis Lend Lease Ltd [2005] 1 Lloydís Rep 494 ("Lumbermanís") has rendered it impossible for insureds to recover from their liability insurers anything paid under a settlement of insured and non-insured liabilities unless the settlement itself identified what was agreed to be paid in respect of the insured liabilities. However, until there is a judgment of the Court of Appeal on this point, uncertainty about the consequences of Lumbermanís remains.

The Enterprise Oil case concerned a claim for an indemnity under a liability policy. The Claimant, Enterprise Oil, was a defendant in US proceedings brought by a US drilling company, Rowan. Various claims were advanced by Rowan against Enterprise Oil, including a claim for tortious interference with a contract. Following a dry run of the trial before a mock jury, the defendants, including Enterprise Oil, concluded a Settlement Agreement with Rowan. The Settlement Agreement provided for the payment of a single lump sum amount to Rowan. It also provided that each defendant was jointly and severally liable to Rowan for the lump sum. The Settlement Agreement did not divide up the lump sum between the defendants. Instead, the defendants agreed between themselves the amount each was to pay towards the total. Nor did the Settlement Agreement apportion particular sums to particular causes of action or heads of damage claimed in the action.

Enterprise Oil paid its agreed share of the settlement sum and sought reimbursement of its share from its captive liability insurer, Strand. The policy issued by Strand to Enterprise Oil indemnified Enterprise Oil in respect of all sums which Enterprise Oil may be "obligated to pay by reason of liability imposed by law or under agreement or otherwise" on account of (amongst other perils) the infringement of contract rights.

Enterprise Oilís case was that by reason of the Settlement Agreement, it had incurred an insured liability (tortious interference with contract) and was entitled to indemnity in respect of the amount it had paid. Enterprise Oil accepted that Rowan had claimed in the US proceedings matters for which Enterprise Oil could not claim indemnity from Strand, including punitive damages and irrecoverable costs, and that these claims had been disposed of within the settlement.

At the instigation of its reinsurers, Strand denied indemnity on a number of grounds. One of the grounds for refusing indemnity was that because there was no specific identification in the Settlement Agreement of the cost to Enterprise Oil of the only (alleged) liability which was insured under the policy (tortious interference), Enterprise Oil could recover nothing.

The basis for this somewhat unattractive proposition was Colman Jís decision in Lumbermanís. At paragraph 47 of the judgment in that case, Colman J had held that if a settlement agreement is made in respect of liability to a third party for several heads of loss, only one or some of which are insured under the policy, then unless the settlement agreement specifically identifies that part of the settlement sum that represents a loss by an insured peril under the policy, the insured loss has not been ascertained. This lack of ascertainment is then fatal to a claim under a liability policy. No amount of "extrinsic evidence" as to what part of the settlement was attributable to the insured peril is admissible.

Although an appeal was lodged, the Lumbermanís dispute was settled before the appeal could be heard.

The repercussions of Lumbermanís are potentially widespread. If the case stands, settlements which cover insured and non-insured liabilities, without an apportionment of the settlement sum appearing in the settlement agreement, have become irrecoverable, even where there is clear evidence of agreement in the course of negotiations as to what part of the settlement sum is to be apportioned to the insured liabilities. For the future, those concluding settlements of insured and non-insured liabilities would have to be astute to apportion sums to the insured liabilities Ė although it was one of the oddities of Lumbermanís that such an apportionment, regarded by Colman J as being crucial to the accrual of the cause of action for indemnity, is not binding on the insurer, who can challenge both his insuredís liability, and the apportionment of quantum, by reference to extrinsic evidence: see eg MDIS v Swinbank [1999] Lloydís Rep IR 516.

How does an insured insist that the settlement agreement apportions the settlement sum across the insured and non-insured claims? A third party claimant may not be particularly interested in structuring the settlement so as to make it easier for the defendant to recover from his liability insurers, except perhaps in the case of potential insolvency, and he may not want particular sums to be allocated to particular claims in the settlement agreement. Furthermore, it is somewhat odd that the law should require an insured settling a third partyís claims to have to admit, in the settlement agreement, a particular amount in respect of a particular claim in order to maximise the insuredís chances of recovery from his liability insurer.

What is the position where there has been no agreement at all on the amount to be attributed to the insured liability, and simply a commercial settlement for a lump sum? Is the insured to be allowed to demonstrate that he was under a liability to the third party for a particular amount, or does Lumbermanís mean that he can recover nothing from his liability insurer because the settlement relied on as the ascertainment does not state the amount paid in respect of the insured liability?

Lumbermanís may also cause difficulty where there is a judgment or award for a single sum in proceedings in which insured and non-insured liabilities have been alleged. For example, there may be US claims in respect of an insured liability and a non-insured liability, and the jury returns with a single verdict that the insured must pay $100 million. Or an arbitration panel returns an award of a single sum. Does Lumbermanís mean that because there has been no ascertainment in the judgment of the amount payable in respect of the insured liability, there is no recovery? Although Colman J does not say in Lumbermanís that the same principle applies to these other forms of ascertainment, it is difficult to see why it would not.

The repercussions of Lumbermanís also appear to extend beyond liability insurance into the realms of reinsurance. Suppose a reinsured settles a whole number of inwards claims made by his insured in return for a single lump sum. Some of those claims, if they had been paid in full by the reinsured, would have been recoverable from his reinsurer, but others would not. Many forms of reinsurance contract have been treated as akin to liability insurance. For example, in excess of loss reinsurance, the cause of action accrues when the reinsuredís liability for the inwards claim has been ascertained by judgment, award or agreement. Colman Jís decision would seem to apply with equal force in the excess of loss reinsurance context. Indeed, in reaching his conclusion in Lumbermanís, Colman J drew some analogies with reinsurance cases. It is difficult to see how the principles enunciated in Lumbermanís could be limited to liability insurance and could be said to be inapplicable as a matter of principle to any form of reinsurance contract.

Accordingly, in the reinsurance context, similar issues would appear to arise. Must the ascertainment of the amount of the reinsured liability appear in the settlement agreement? Is extrinsic evidence of the amounts attributed to particular claims inadmissible? What if the parties do not agree to attribute sums to particular claims, but the reinsured can show that he would have been liable for at least the full amount of the lump sum on those inwards claims that were covered by the reinsurance? Lumbermanís, if correct and if applicable, would appear to rule out recovery for any form of settlement or commutation which did not contain a specific identification of the amount paid in respect of the reinsured liabilities. Lumbermanís therefore presents yet another point for reinsurers to take in response to demands to pay a share of a commutation payment.

In the Enterprise Oil case, Aikens J has now expressed the opinion, obiter, that Colman J was wrong in holding that the settlement agreement itself must identifies specific amounts for those claims in respect of which the liability policy responds.

Before reaching that decision, Aikens J held that where (as is common) a liability policy provides indemnity in respect of "sums which an insured may be obligated to pay" by reason of liability imposed on the insured "by law" or "assumed under contract or agreement", the assured must show that he was liable in law to the third party. It is not enough to point to a liability assumed under a settlement agreement in respect of an alleged liability to the third party. Although there was already authority which indicated that this was indeed the position, Aikens Jís judgment on the point is clear and welcome.

Having reached that conclusion, Aikens J decided that it was necessary for Enterprise Oil to show that the judge and jury in the Texas court would have held Enterprise Oil liable for interference with contract, applying Texas law. It was enough to show that Enterprise Oil could have been found liable. On the evidence of Texas law, Aikens J decided that Enterprise Oil could not show that there was a liability under Texas law and therefore there was no basis for any claim under the Strand policy.

Aikens J also rejected Enterprise Oilís claim that its defence costs were recoverable, even though there was no express provision to that effect in the Strand policy. Aikens J concluded that the indemnity provided in respect of sums which an insured may be "obligated to pay by reason of liability imposed on the insured by law or assumed under contract or agreement" did not cover the insuredís own costs of defending the claim.

Having found that there was no insured liability, the claim against Strand fell to be dismissed. It was therefore unnecessary for Aikens J to consider the Lumbermanís point. However, he decided to express his views because the point had been fully argued. In short, Aikens J was of the opinion that Colman J was wrong in concluding that the well-known authorities on the accrual of a cause of action for the purposes of the Third Party (Rights against Insurers) Act 1930 (particularly Post Office v Norwich Union [1967] 2 QB 363 and Bradley v Eagle Star [1989] 1 AC 957) lead to the conclusion that it is a precondition for recovery under a liability policy that the insured has "ascertained", by virtue of the terms of the judgment, award, or settlement agreement, the specific cost to the insured of discharging the insured liability. Aikens J was of the view that it was indeed open to the insured to assert and prove, by extrinsic evidence, that it was liable to the third party for a particular sum under a settlement that has been made and that the particular sum represents a loss covered by an insured peril. He held, with respect correctly, that none of the cases referred to by Colman J actually required that the specific cost be identified in the judgment, award or agreement relied on as having ascertained the liability.

Aikens J also relied on the fact that Colman Jís conclusion to the opposite effect would lead to "great commercial inconvenience" and to "artificial statements in judgments, awards and settlement agreements." He recognised that parties to settlements, for good commercial reasons, may not wish to identify the particular sums that are attributable o particular heads of claim or alleged types of loss. These factors also drove him to conclude that Colman J was wrong.

Aikens Jís conclusions, although obiter, are to be welcomed, as they appear to mark the beginning of the end of the Lumbermanís point. But the end has not yet been reached. A judgment of the Court of Appeal on the point is needed. Even if there is an appeal in the Enterprise Oil case, it seems unlikely that the Court of Appeal would get to the Lumbermanís point, which would arise only by way of a Respondentís Notice. The Court of Appeal is notorious for not deciding points unless they really have to (see for example Tioxide v Commercial Union [2005] EWCA Civ 928, where the Court of Appeal, having decided that the appeal could be dismissed on the grounds of late notification of the claim, decided none of the interesting issues which had arisen in the first instance judgment at [2004] EWHC 2116 Comm). In the meantime, Judges of the Commercial Court are free to depart from Lumbermanís and to follow Enterprise Oil, whilst because of our doctrine of precedent, Colman Jís decision in Lumbermanís appears to remain binding on arbitrators as "inferior tribunals".

This article was previously published in Issue 112 February 2006 of Sweet & Maxwellís† Insurance and Reinsurance Law Briefing.

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.

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