2004 legal review for the insurance and reinsurance market
Any one who has seen Disney's The Incredibles might be forgiven for thinking that those involved in the insurance industry don't have much to smile about. Any disillusioned Bob Parr's may however take heart from the fact that, from a legal standpoint, 2004 has produced some favourable decisions for the London insurance market. Amanda Stoner, professional support lawyer in the Insurance and Reinsurance Department at CMS Cameron McKenna, reviews some of the decisions emanating from the Royal Courts of Justice over the past twelve months that should engender a degree of optimism for 2005.
Confirmation of entitlement to run alternative defences
Judgment from the Privy Council in Superchem Products Limited v American Life and General Insurance Company Limited (January 2004) confirmed that, as a matter of business common sense, an Insurer should be entitled to resist a claim on alternate bases, even if one involves allegations of fraud. In that case, the Insured sought to claim in respect of premises damage under two fire and special perils policies. Insurers denied liability on the grounds of fraud, alternatively breach of policy conditions. The Privy Council rejected the Insured's contention that an allegation of fraud amounted to a repudiation of the contract and precluded reliance on any policy argument. In raising an allegation of fraud, an Insurer will not lose his right to resist the claim on an alternate basis.
In Midland Mainline v Eagle Star (July 2004), the Court of Appeal held that, where two concurrent and inter-dependent causes bring about a loss with equal efficiency, one falling within the general wording of the policy and the other within an exclusion, the exclusion will prevail. The factual background concerned insurance cover for business interruption losses following the Hatfield rail crash in October 2000. At first instance, the Judge had concluded that "wear and tear" was merely the underlying state of affairs rather than the trigger for the cover; thus the wear and tear exclusion did not apply and the rail companies' losses should be recoverable from Insurers. This decision was reversed in the Court of Appeal where it was held that "wear and tear" was one of the two proximate causes of the loss; the exclusion was therefore effective to limit the extent of Insurers' obligations.
Virus damage to software - exclusions upheld
In Tektrol v International Insurance Company of Hanover (October 2004), the Insured claimed for material damage and business interruption in respect of the theft or damage of crucial software source code (which rendered the software useless). The policy in question was subject to the usual restrictions in respect of "deliberate damage" by "malicious persons". The Insured argued that, as the loss had been caused by a virus, this was not "deliberate" or "malicious" and that the loss was not excluded under the policy. The Judge disagreed; the erasure of the source code was caused deliberately by those who created and transmitted the virus; the loss caused by the virus was accordingly excluded. This decision demonstrates the Courts' general reluctance to allow the opening of floodgates of claims of this nature with potentially wide-ranging losses.
Indemnity only for ascertained legal liability
In Lumbermans Casualty v Bovis Lease Lend (October 2004), the Insured settled proceedings brought against it and then sought to recover an indemnity from its Insurers. The Insuring Clause in the policy stated that Insurers would provide indemnity for any sum that they might become legally liable to pay in respect of claims specified in the policy. The Insurers argued that no such legal liability had been ascertained; the broad terms of the settlement agreement were insufficient. The Judge held that it was an essential requirement of an Insured's cause of action that its loss had been specifically ascertained by means of a judgment, arbitration, order or settlement agreement. In this case, the global settlement agreement entered into did not satisfy the requirement of the ascertainment of loss - it merely identified the overall price paid and did not specifically identify the cost to the Insured of discharging the claim. Extrinsic evidence, whether subjective or objective, would not be admissible by the Insured.
In Toomey v Banco Vitalicio (May 2004) the Court of Appeal confirmed Reinsurers entitlement to avoid on the basis of a material misrepresentation (Reinsurers having been advised in the slip that the underlying cover was an indemnity, not an agreed value) as well as to repudiate for breach of warranty. The underlying policy was reinsured on the basis of a facultative reinsurance slip policy containing the provisions "as original" and " full reinsurance clause". The description of the underlying insurance in the "interest" section of the slip went to the root of the transaction and was descriptive of, and bore materially on, the risk. Reinsurers' obligation was to provide proportional reinsurance of the risk insured under the underlying policy. They were therefore entitled to treat the description of the underlying policy as a warranty, as it provided the description of the risks they had agreed to reinsure. There had accordingly been a breach of warranty, discharging Reinsurers from liability.
Follow the Settlements
In Assicurazioni Generali SpA v CGU International (April 2004), the Court of Appeal considered the classic test for the operation of a follow the settlements clause in a reinsurance policy as laid down in the seminal case of Insurance Company of Africa v Scor (1985). In particular, if the reinsurance and insurance are written on a "back to back" basis, then, (assuming that the settlement is based on the Reinsured's bona fide and business like assessment of its liabilities under the policy thus satisfying the first limb of the Scor test), can Reinsurers argue that the loss does not as a matter of law fall within the reinsurance agreement? The Court of Appeal pointed out that the scope of a follow the settlements clause will ultimately depend on its wording. In this case, the clause included a provision which stated that Reinsurers would "...follow without question the settlements of the Reassured...". The correct approach, according to Lord Justice Tuckey is that "... the reinsurer cannot require the insurer to prove that the assured's claim was in fact covered by the original policy, but requires him to show that the basis on which he settled it was one which fell within the terms of the reinsurance as a matter of law or arguably did so. This and the need for the insurer to have acted honestly and taken all reasonable and proper steps in settling the claim provide adequate protection for the reinsurer." However, the Court of Appeal did not accept the Reinsured's argument that the words "without question" meant that the only limitation on Reinsurers' obligation to follow was that the Reinsured should not have acted in bad faith. Following the earlier conclusion reached in Charman v Guardian Royal Exchange Assurance, where the words "whether liable or not" were held not to vary the follow the settlements clause, the words "without question" merely reinforced the basic obligation to follow the settlements but did not add anything further.
The long running saga of whether the scope of legal advice privilege would be dramatically reduced following its journey through the courts was finally resolved by the House of Lords in the Three Rivers case in November 2004. The issue before the Lords was whether all communications between the Bank of England and its lawyers relating to the Bingham Inquiry (into the collapse of BCCI) were protected by legal advice privilege. The Court of Appeal had previously ruled that communications which did not relate to the Bank's legal rights and obligations were not privileged, a decision which caused much consternation. On 11 November, the House of Lords handed down their opinions in favour of the protection of legal advice privilege. The House of Lords confirmed that the correct test for legal advice privilege is as set out in Balabel v. Air India  namely that "…legal advice is not confined to telling the client the law; it must include advice as to what should prudently and sensibly be done in the relevant legal context" and that when determining whether advice is "legal advice", the courts will look at whether or not a lawyer is providing advice in his or her capacity as a lawyer, in other words using his or her legal skills. The need for legal advice privilege, for example in matters of conveyancing or the drawing up of a will, was seen as unquestionable by the Lords, in contrast to the doubts raised by the Court of Appeal. The decision of the House of Lords certainly does not provide all the answers - for example, the vexed question of "who is the client" remains unresolved. However, the decision will be welcomed by most as confirming the existence and scope of legal advice privilege as understood by the majority before the Court of Appeal's controversial decision.
As far as the establishment of legal principles is concerned, 2004 produced some favourable results for the London insurance market. The start of 2005 is likely to be dominated by other matters, not least the decision of New York Attorney General Elliot Spitzer to investigate and bring charges in respect of the use of so-called contingent commissions and bid-rigging. The fall out from this decision continues to be felt in the London market, not least by those undertaking a close investigation of their own existing practices.
The role to be taken by the FSA, due to assume regulatory responsibility from mid January, will no doubt feature high in the list of key issues facing the insurance market in 2005. Careful note should be taken of the early priorities which John Tiner identified in his speech on 13 December 2004 to the LeBoeuf Lamb Greene & Macrae Symposium in New York, namely: contract certainty; lack of authorization for several insurance intermediation business; conflicts of interest (with specific reference to Contingent Fee Arrangements); segregating client money; and systems and contracts around binding authorities.
A version of this article first appeared in Legal Week on 06/01/05.
Article by Amanda Stoner, Professional Support Lawyer to the Insurance and Reinsurance Group
For further information on any of these issues, please contact Paul Beattie at [email protected] or on +44 (0)20 7367 3487.