UK: HFW Insurance & Reinsurance Bulletin - December 2009

Last Updated: 15 December 2009

Placing The Blame
By Geoffrey Conlin

Dunlop Haywards Ltd ("DHL") (formerly Dunlop Heywood Lorenz) & Ors v Barbon Insurance Group Ltd (formerly Erinaceous Insurance Services Ltd formerly known as Hanover Park Commercial Ltd ("HPC")) & Ors v Lockton Companies International (formerly Alexander Forbes Risk Services UK Limited ("Forbes")) [2009] EWHC 2900].

The insured, DHL, sued the producing broker, HPC, for failure to obtain professional indemnity insurance for £10m excess £10m to cover its valuation activities. HPC sued insurers claiming the excess of loss insurance covered the relevant risk as a matter of construction or should be rectified so as to provide cover. HPC also joined the placing broker, Forbes, as Part 20 Defendant.

The Judge rejected the construction and rectification claims against insurers. To succeed on a claim for rectification, the party seeking rectification must show that:

  1. The parties had a common continuing intention, whether or not amounting to an agreement, in respect of a particular matter in the slip and there was an outward expression of accord; and
  2. The common intention continued at the time of the execution of the slip; and
  3. By mistake the slip as executed did not reflect the common intention.

The Judge accepted that it had been the contracting parties' intention at the time of the initial quotations to provide insurance for all activities of DHL. However, he found that there was a re-broke of the risk on the basis subsequently set out in the slip. The slip, therefore, properly reflected the parties' intention and HPC could not establish the necessary prior agreement.

The Judge would have been inclined to accept that DHL's failure to read the terms and conditions of the excess cover or renewal report did constitute contributory negligence, were it not for HPC's covering email, which referred to a summary of the renewal report and stated that the broker was "very confident that it covered all bases". There was no reference to the limited cover and DHL's reliance on its professional brokers was reasonable.

The Judge found HPC negligent in failing to obtain the insurance required by DHL. As between HPC and Forbes, the Judge held that Forbes had been instructed to obtain the cover shown in the slip but ought to have queried, clarified or confirmed the instructions given, especially where it was clear that the new cover would be more restrictive than the expiring cover. Assessing their relative blameworthiness, the Judge apportioned liability 80% to HPC and 20% to Forbes.

Comment

This case is another reminder of the care that should be taken by brokers when producing, placing or renewing insurance, even where the client is a sophisticated commercial entity.

Practical Justice?
By Andrew Bandurka, Luke Hacker and Edward Rushton

Equitas v R&Q [2009] EWHC 2787 (Comm)

Our previous client briefing (http://www.hfw.com/news/ newsletters/2009/insurancereinsurancebulletin-issue15) (www.hfw.com/news/newsletters/2009/insurancereinsurancebulletin-issue15) looked at Mr Justice Gross' recent decision in Equitas v R&Q. In the wake of news that R&Q and Equitas have reached a compromise deal, thus eliminating any possibility of an appeal, we consider here what implications the judgment might have for the market.

The case concerned incorrectly aggregated Kuwait settlements and unrecoverable Exxon Valdez settlements that had entered the LMX spiral. These claims "tainted" otherwise recoverable losses which had been processed at the same time as part of the same UNLs and caused the market to "lockdown" when the Court of Appeal ruled that there had been contamination. Most spiral participants agreed a market standstill agreement pending a resolution of the problems. Also "stuck" at the bottom end of the spiral were UN compensation payments paid in respect of Kuwait.

In this case Equitas used actuarial models to prove minimum recoverable amounts due under ceded spiral contracts. R&Q argued that Equitas' ability to recover losses from its reinsurers gave rise to an issue of law - Equitas had to prove on a contract by contract basis, up through the spiral, each element of the sums claimed.

Equitas argued - successfully - that it was not a question of law, but one of fact and evidence. Equitas' actuarial models did not try to reconstruct the spiral, but provided a reasonable representation of reality; and as such, the models proved, on the balance of probabilities, that at least some losses were recoverable under the selected contracts. The discounts found to apply to UNLs were 13.5% for Kuwait and 25% for Exxon.

In reaching his decision, Gross J. considered Lord Mustill's two rules in Hill v M&G Re ([1996] 1 WLR 1239 HL) namely: first that the loss must fall within the cover of the policy reinsured and within the cover of the reinsurance, and second that the parties are free to agree on how those requirements are met. Gross J. found that the burden on the reassured (set by the first rule in Hill v M&G Re) did not compel a process of regression involving proof of loss at every underlying stage of the spiral. Instead, Gross J. decided it was sufficient that Equitas showed that, on the balance of probabilities, its losses fell within its inwards policies.

Gross J. considered that Equitas' actuarial models were capable of satisfying the test in Hill v M&G Re. They afforded a route to "practical justice... a solution emphatically preferable to leaving the losses to lie crudely where they fall".

The Judge hopes that his judgment will "kickstart" the LMX spiral, a comment which may inspire cedants in the spiral to instigate fresh collection attempts. Of course, some of the trickier aspects of the spiral, such as quantum, and the allocation of unprocessed UN refunds (which were not modelled by Equitas), remain unresolved.

This 'test case' is primarily about Equitas' reliance on an actuarial simulation of the LMX spiral. Depending on the applicability of the model to other contracts/cedants this could inspire other terminations of the standstill and fresh collection attempts. Conversely, we would not be surprised to see claims by reinsurers for return of mistaken over-payments made in the past.

The Court's approval of an actuarial model to prove losses might encourage re/insurers to present claims in respect of commutation payments for "uncrystallised" IBNR and OSLR. However, the defence to those claims is usually that they are not recoverable because they are not loss settlements within the terms of the underlying or reinsurance contracts, rather than because the actuarial modelling is inadequate.

This case's most interesting consequences will come to light if the market perceives this judgment as a green light to innovate - to develop more novel methods of proving inward losses. There is great potential here for cedants, since this judgment arguably softens the strict requirements of Lord Mustill's first test in Hill v M&G Re. Whilst Equitas may have been uniquely positioned to develop an actuarial model of the LMX spiral, the ramifications of the Judge's analysis of Hill v M&G Re are not necessarily restricted to proofs of loss by actuarial model, or even just to spiral cases.

Limitation: Contingent Liabilities
By Alison Zobel and Eleanor Midwinter

Axa Insurance Ltd v Akther & Darby Solicitors [2009] EWCA Civ 1166

The Claimant, Axa, appealed against the Court's ruling that certain claims against the Defendant, Akther, were time barred. The question on appeal was when the clock started running for the purposes of the accrual of a cause of action in negligence, when the damage is alleged to flow from an unsecured contingent liability?

Axa was the assignee of one of the insurers offering ATE within a claims management scheme. Akther were panel solicitors. Axa claimed that Akther were negligent in both their initial vetting of claims under the scheme (the prospects of success had to be at least 51%) and their subsequent conduct of the litigation. The judge at first instance ruled that, for the vetting breaches, time started to run at the inception of the policies; and for the conduct claims, either on the relevant failure to notify when claims fell below the relevant criteria or where in failing to pursue a claim with due care and attention, there had been a material diminution in the prospects of success.

The Court considered the Sephton ([2006] UKHL 22) decision in detail in respect of contingent liabilities, and the underlying insurance context. Axa argued that upon payment of the premium a purely contingent liability arose as to whether or not a claim would be made. This argument was rejected as superficial: premium and liability in an insurance policy are not separable and the policy was of a measurably lower value upon inception due to inadequate vetting. Thus, the cause of action accrued on inception, rather than upon the failure of the insured claim, putting the older policies outside the relevant limitation period. The policy itself represented a loss caused by negligence due to the non-compliance with agreed risk levels.

For the conduct claims, the relevant damage occurred when the conduct breach first arose, which caused larger liabilities than would otherwise have occurred had the poor conduct of the case not taken place.

Comment

This line of authority will assist professional indemnity insurers but may be a burden to ATE insurers and the prospective Claimants, who will need to ensure swift action can be taken on negligence before the clock stops ticking on limitation.

Solvency II Adopted
By Andrew Carpenter and Kapil Dhir

After several months of delay, on 10 November 2009, the Council of the European Union ("EU") finally adopted the Solvency II Directive (the "Directive"). The Directive sets new solvency rules for insurance companies and aims to strengthen the supervision of insurance companies and prudential regulation. It replaces the 14 existing insurance directives with a single legal text. The new rules are intended to:

  1. Increase the integration of the EU insurance market;
  2. Strengthen protection of policyholders and beneficiaries;
  3. Enhance the competitiveness of EU insurers and reinsurers; and
  4. Encourage improved legislation in this sector.

The version of the Directive that has been adopted is not the final version as there are still some formal approval stages to go through prior to the publication of the final version in the Official Journal of the EU. Despite this, no major changes are expected to the text as it now stands. The official press release includes a link to the 689-page text which Member states must implement into national law by 31 October 2012. The text can be found here: http://ec.europa.eu/internal_market/insurance/solvency/index_en.htm#november2009 (ec.europa.eu/internal_market/insurance/solvency/index_en.htm#november2009)

Intermediaries And The FSA: A Fairer Future?
By Kapil Dhir and Andrew Carpenter

In a recent speech made to the British Insurance Brokers Association (BIBA) Scotland Conference, the FSA set out their view of current issues in the insurance intermediary market.

Reform in the current economic climate was high on the agenda, but the FSA's head of Mortgages & Insurance, Jeremy Heales, was at pains to point out that the Turner review applied only to banking and he reiterated Lord Turner's comment "there is no equivalent need for a revolution in insurance." However, protecting the FSA's position, he also went on to say that, "change will only occur if there is a strong case for it and where we can learn wider lessons from the crisis."

In terms of the regulator's approach to small firms, Mr Heales noted:

"If your firm engages with us, works with us to maintain a sound financial footing and conducts its business with the ultimate aim of treating your customers fairly, then, you do not need to be frightened of the FSA. But if you don't do this, you will face more intensive and intrusive supervision from us and you can expect us to take whatever action necessary."

Mr Heales closed with six key points:

  1. There is a huge amount of work going on to reform the financial services industry since the crisis, but change for the insurance sector will only occur if there is a strong case for it.
  2. The FSA is adopting a more intensive and intrusive approach to supervision.
  3. Senior managers must ensure they have appropriate systems and controls in place in their business, particularly if advisors are remunerated through sales.
  4. The regulator remains completely focused on ensuring firms treat their customers fairly and that this remains at the heart of a firm's culture. Again this is key and is set by senior management.
  5. The FSA has put even greater emphasis on assessing firms' financial position, which means it must have accurate data reported to it.
  6. As long as firms engage with the FSA and work with it, they do not need to be frightened of the FSA.

The FSA's two main elements of concern in the shorter term are clearly (1) treating customers fairly, and (2) financial strength and resources. Intermediaries should expect to come under closer scrutiny in both these areas. Keen EUwatchers will also be mindful of the separate imperative for regulatory change which seems to be developing on the continent. Combined with a potential change of government, the next few months will be interesting.

Arbitration Clauses And Commercial Interpretation
By Saman Salimi-Pour

Secretary of State for Transport v Stagecoach South Western Trains Ltd [2009] EWHC 2531 (Comm)

The Secretary of State for Transport (SST) and Stagecoach entered into a franchise agreement, which provided for supplementary sums to be paid by the SST if there was a shortfall in Stagecoach's turnover. There was a dispute as to the correct way of calculating the payments going forward. Stagecoach wished for the dispute to be arbitrated based on the arbitration clause, which, on the face of it, would only apply if the parties disputed the payments already made. Otherwise, the Court had jurisdiction. The SST made a section 72(1) of the Arbitration Act 1996 application to the Court to obtain a declaration that the dispute was not covered by the arbitration clause because it related to calculation of future payments and the arbitration clause only applied when there were disputes after the obligation to pay arose. Stagecoach argued that the SST's construction was not commercially sound as it was hard to see why the parties would agree for an identical dispute to be resolved either by the Court or by arbitration based solely on the timing of the dispute.

The Court dismissed the SST's application. Gross J stated that the Court's role was not to rewrite commercial bargains but that it had a duty when dealing with questions of construction to determine the document's meaning as it appeared to a reasonable person with the relevant experience and knowledge. Therefore, the commercial rationale behind the agreement was a relevant criterion that needed to be considered to determine the intention of the parties objectively. Although it could initially be said from the arbitration clause that referring any such disputes to arbitration would only occur after the obligation to pay had arisen, the Court thought the idea that the parties had agreed for an identical dispute to be decided either by Court proceedings or arbitration based on the timing of the dispute served no particular commercial purpose and led to uncertainty. Therefore, considering the commercial rationale behind the agreement, the Court decided in favour of Stagecoach that it lacked jurisdiction over the dispute and the matter was to be arbitrated.

Comment

The case is a clear example of the Court applying the commercial soundness criterion in construing and giving effect to an arbitration agreement. It also highlights the risk of making agreements in part subject to arbitration and in part subject to Court proceedings as disputes may arise in case of ambiguities as to which regime should apply.

News: Australia Unveils International Arbitration Amendment Bill
By Andrew Dunn and Donny Low

The International Arbitration Amendment Bill 2009 was introduced by Attorney General Robert McClelland on 25 November. If the Bill is passed, it will reform the International Arbitration Act 1974.

The Bill implements many of the 2006 amendments made to the UNCITRAL Model Law. It allows courts to make and enforce interim measures to support international arbitrations. It also gives the country's Federal Court a concurrent jurisdiction on matters arising under the Act. Early reviews suggest it also allows courts greater guidance in interpreting the Act and removes the ability of parties to opt out of the Model Law. The proposed law applies to international arbitrations and foreign awards, including those under insurance contracts. A copy of the Bill can be found at http://parlinfo.aph.gov.au/parlInfo/download/legislation/bills/r4261_first/toc_pdf/09243b01.pdf (parlinfo.aph.gov.au/parlInfo/download/legislation/bills/r4261_first/toc_pdf/09243b01.pdf)

News: HFW Sydney launch

HFW is pleased to announce the opening of our Sydney office on 1 December 2009. This is the latest step in the development of HFW's Australian business, which began when the Melbourne office opened in 2006. Since then, the firm's Australian business has continued to develop strongly, and with the addition of a Sydney office, and especially the international commercial arbitration and complex cross-border dispute resolution capabilities that it brings, HFW has a crosspractice strength in this very important and dynamic jurisdiction that makes it a leading player in the Australian legal market, now with a presence in the Insurance and Reinsurance capital. HFW Australia is a key component of HFW's pan-Asian Insurance and Reinsurance practice.

Launch events were held in Sydney and Melbourne, which were attended by clients, legal professionals and the press. The events were hosted by Gavin Vallely, HFW Australia's Country Head. Paul Wordley and John Duff attended from London Insurance and Reinsurance Practice Group.

News: International Commercial Arbitration: Efficient, Effective, Economical?

Alex Baykitch of HFW Sydney spoke at the conference on International Commercial Arbitration in Melbourne on 4 December 2009. The conference brought together a group of eminent and influential members of the legal profession who examined the issues and challenges of international and domestic commercial arbitration with the Attorney General of Australia giving the opening address.

News: Awards

The annual Insurance Day London Market Awards were held on Thursday, 3 December at the Grosvenor House London. HFW sponsored the Transaction of the Year Award, which Partner Kapil Dhir presented to Paul Schultz, President of Aon Benfield Securities for the Blue Fin II transaction.

Conferences And Events

Presentations on US/UK Reinsurance Arbitration
Following the recent seminar held at our London office on 1 December 2009, HFW is pleased to announce that presentations are being offered in relation to the issues that a US or UK re/insurer may encounter in reinsurance arbitration. If you are interested in scheduling a presentation or would like further information please contact events@hfw.com.

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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