UK: Reinsurance: Claims Co-Operation Clauses

The recent Court of Appeal decision in AIG Europe v Faraday focused on the interpretation of "loss" and "knowledge" in Claims Co-operation Clauses ("CCCs"). The main purpose of a CCC is to ensure that reinsurers are told about matters that may affect them as soon as possible – this decision supports that purpose.

Major points arising from the decision are:

  • Some CCC clauses that are used as standard by reinsurers are not appropriate for liability insurance.
  • The Court of Appeal recognised that the purpose of a CCC is to keep reinsurers informed of claims that may affect them.
  • It was once again emphasised how critical effective notification can be in the reinsurance context.

To view the article in full, please see below:


Full Article

The recent Court of Appeal decision in AIG Europe (Ireland) Limited v Faraday Capital Limited re-examined the issue of how to construe and interpret common Claims Co-operation Clauses ("CCCs"). In particular, the decision provides guidance upon the meaning of "loss". The court’s conclusions offer support to reinsurers’ original intentions in using CCCs.

The facts

Following the insured’s merger with a US corporation, an announcement was made in November 2002 that the insured would be re-stating its accounts for the previous three years. The immediate resulting fall in the insured’s share price led to class actions against the insured and its directors, which were settled in a mediation in March 2004. The insured recovered under its D & O policy with AIG.

Despite receiving timely notification of these claims, AIG only notified its reinsurers after the mediation in 2004. One of its reinsurers, Faraday, refused to pay out because the notification did not comply with the CCC which stated:

"It is a condition precedent to any liability under this Policy that:

  1. The reinsured shall upon knowledge of any loss or losses which may give rise to a claim advise the reinsurers thereof as soon as is reasonably practicable and in any event within 30 days.
  2. The reinsured shall furnish the reinsurers with all information available respecting such loss or losses and shall co-operate with the reinsurers in the adjustment and settlement thereof".
  3. At first instance, the court found for AIG on the basis that the word "loss" in the CCC meant actual loss and not alleged or potential loss. In the Court’s view, the "loss" was not suffered by the Claimants unless and until it was proven that the claimants had in fact purchased shares at an artificially high price due to the default of the directors. That was not "known" to AIG until the insured had settled in the March 2004 mediation. Therefore, there was no "loss" until the date of the settlement and, accordingly, the reinsured’s notification to reinsurers had complied with the CCC. In reaching its decision, the Court applied the reasoning in Royal Sun Alliance v Dornoch, which concerned the interpretation of a similar clause in the context of similar facts.

For more information on the first instance decision click here.

Court of Appeal decision

The Court of Appeal overruled the Commercial Court’s decision, and distinguished the facts of this case from those in Dornoch.

i) Loss

Although it was correct that the "loss" in the context of CCC referred to an actual rather than alleged loss, the announcement in November 2002 was an event so related to the drop in share price that it could not have been mere co-incidence or attributed to market fluctuations. The Court of Appeal distinguished the similar facts in Dornoch where there had been no such event to trigger the loss and, because it was possible that the fall in share price that took place in that case could just as easily have been due to normal market fluctuations, the reinsured could not have known that there had been a loss before it was ascertained by the fact of settlement.
The Court of Appeal emphasised that the "loss" envisaged in the CCC was not necessarily the loss that would ultimately constitute the claim. On any view, the sharp fall in the share price in November 2002 was, from the shareholder’s point of view, a "loss". On any view, that was a "loss" which "may" give rise to a claim. The only question was whether the directors were liable for the loss that had occurred.

ii) Knowledge

The CCC also required AIG to know about the loss that might lead to a claim. On the facts, "the loss which may give rise to a claim" was "known" to AIG once they had been notified by the insured that a claim in respect of that loss had been made. It was at that point that AIG should have notified the matter to its reinsurers in accordance with the CCC. As the Court of Appeal acknowledged, that was how Faraday had intended the clause to work.

Analysis

There was veiled criticism by the Court of Appeal of the repeated and inappropriate use by reinsurers of standard CCCs (such as this) that are apt for property damage insurance but inapt for liability insurance.

"Knowledge of a loss" might be appropriate for reinsurance of a house when damage is generally obvious and which will constitute a loss which a reinsured can be said to "know". It is far less appropriate for insurance of liability since a loss may not be as readily "known".

The main purpose of a CCC is to ensure that reinsurers are told about matters that may affect them as soon as possible. This is to allow reinsurers to obtain the reinsured’s co-operation in dealing with the claim. This decision supports that purpose. Had the "loss" in the context of the CCC been construed as a "proven fact" by reference to a settlement, it would have had the unintended effect of frustrating the purpose of the CCC. For example, if, as AIG argued, the "loss" was not proven until after settlement in mediation, it would be too late for reinsurers to influence the adjustment and settlement of the claim with the co-operation of the reinsured.

Implications

Reinsurers should check that the CCCs in their wordings are fit for purpose. Compliance with CCC’s is often stated to be a condition precedent to any liability and, despite the Court of Appeal’s ruling on the specific facts of this case, reinsurers can still expect the courts to continue to construe such clauses narrowly.

Reinsurers may wish to amend the wordings of their CCCs to refer to "potential loss or losses" although, as the Commercial Court commented, there are inherent difficulties in the concept of a "potential loss" (would a mere possibility be enough or would there need to be a likelihood that actual loss would in fact happen?). For the sake of certainty and to ensure reinsurers are informed of all matters that affect them as early as possible, reinsurers should replace the word "loss" with "circumstance".

Reinsureds would be wise to treat "loss" in the context of CCCs as actually meaning "circumstance", which carries connotations of a lower threshold for the purposes of notification. Certainly, where it is clear there has been an actual loss which may give rise to a claim, reinsureds should not await ascertainment of the loss by fact of settlement before notifying their reinsurers. More than ever, reinsureds should err on the side of caution when notifying claims to reinsurers.

Further reading: AIG Europe (Ireland) Limited v Faraday Capital Limited [2007] EWCA Civ 1208

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to www.law-now.com/law-now/mondaq

Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.

The original publication date for this article was 03/12/2007.

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