Reinsurance Focus

After holding that the follow the fortunes doctrine required a reinsurer to pay claims for business interruption and property damage at a theme park due to Hurricane Floyd in 1999 (see August 16, 2006 post to this blog), a Magistrate Judge entered a Report and Recommendation holding that the reinsurance claim was not subject to the Texas prompt payment statute, Texas Insurance Code article 21.55. Houston Casualty filed objections to the Report and Recommendation, and the district court rejected the objections, adopting the Magistrate’s Report and Recommendation in a two sentence Order. Houston Cas. Co. v. Lexington Ins. Co., Case No. 05-1804 (USDC S.D. Tex. June 25, 2007).

It has been estimated that as a result of Hurrican Katrina, the Mississippi Windstorm Underwriters Association will pay its insurance company members approximately $700 million in claims. The Association has only $175 million in reinsurance. A number of members have sued various members of the Association and individuals, who allegedly were members of the Board of Directors of the Association, contending that they breached fiduciary duties and committed other wrongdoing in failing to procure additional reinsurance for the Association. The Association purchased reinsurance to cover a 250 year event; the Plaintiffs contend that it should have purchased reinsurance to cover a 500 year event. A US District Court has denied a motion to dismiss and denied cross motions for summary judgment. The Motion to Dismiss had contended that the dispute was subject to the exclusive jurisdiction of the Mississippi Insurance Commissioner. This theory was rejected, in part because the Court found that any administrative remedy that the Insurance Department could provde would not be adequate. The Motion for Summary Judgment was denied because of factual disputes as to whether Board members were member companies or individuals, and if individuals, whether the individuals served in an individual capacity or as representatives of member companies.

This dispute centered around a 1995 General Indemnity Agreement (“GIA”) between defendant PEC and Amwest, a surety company. Pursuant to the GIA, PEC agreed to indemnify Amwest in connection with any bonds written on behalf of PEC. In late 1998 or early 1999, Amwest issued a performance bond to the United States as obligee, with PEC as principal, in connection with a construction contract for the Army Corps of Engineers. Shortly thereafter, Swiss Re agreed to provide reinsurance to Amwest on that performance bond.

Two years later, a Nebraska court declared Amwest insolvent and entered an order of liquidation. When PEC was unable to obtain substitute bonding for the Corps construction project, PEC’s involvement was terminated and Swiss Re was required to complete the project at a cost of over 1.4 million dollars, exclusive of legal fees. Swiss Re filed the instant case seeking to enforce the indemnity agreement between Amwest and PEC.

The district court held that the indemnity agreement did not require PEC to indemnify Swiss Re. Specifically, the court concluded that: (1) the indemnity agreement was unenforceable due to a failure of consideration and/or Amwest’s prior material breach of the contract; and (2) the GIA was unenforceable under the doctrine of ‘frustration of purpose.’ Swiss Reinsurance v. Airport Industrial Park doing business as P.E.C. Contracting Engineers, Case No. 2:05-cv-01127 (USDC W.D. Pa. Aug. 27, 2007).

In posts to this blog on September 22, 2006 and February 21, 2007, we reported on developments in a case in UK courts alleging fraud by a broker in the placement of reinsurance and a fraudulent, undisclosed binder addendum that substantially increased the brokers' compensation. The UK Court of Appeals has affirmed decisions of the lower court in this matter. R + V Versicherung AG v. Risk Insurance and Reinsurance Solutions SA, [2007] EWCA Civ. 807 (July 30, 2007).

In a December 5, 2006 post, we described a dispute over allegedly fraudulent reinsurance claims from North Korean insurers. The insurers filed suit in the UK to enforce the judgment of a North Korean court, and a judge has stricken a defense alleged by the reinsurers that they had reached a settlement of the claims. The court found that there was no reasonable prospect that the defense could be established given the absence of a written confirmation of the alleged settlement. Other defenses remain at issue. Korea National Insurance Corp. v. Allianz Global Corporate & Specialty AG, [2007] EWHC 1744 (Comm. July 24, 2007).

Plaintiff, Propak Loigistics, insured workers' compensation risks with Clarendon National Insurance Company, which reinsured the risks with Defendant, Foundation Insurance Company. Foundation entered into a risk sharing agreement directly with Propak, which was essentially an experience rating agreement. Foundation was placed in liquidation. Clarendon filed a timely claim in the liquidation estate, but Propak did not. The liquidation court entered an order distributing the remaining assets of Foundation to Clarendon. Because Propak failed to file notice of its claims under the Liquidation Order, the court held that it was barred from obtaining relief, noting that under South Carolina law, “the failure of a potential creditor to submit a claim in the liquidation estate, or have an ancillary estate opened in a reciprocal state, is conclusive as to that creditor’s rights.” Propak Logistics v. Foundation Ins. Co., No. 04-2178 (W.D.Ark., August 8, 2007).

Massachusett's Supreme Judicial Court recently held, in a case of first impression, that a following form excess insurer is not bound by claims payment decisions made by a primary insurer, in an analysis that is akin to the reinsurance follow-the-fortunes doctrine. The Court held that although such an excess policy borrows language from the underlying primary policy, it is a separate insurance policy, and that the excess insurer retains the right to make its own claims decisions absent a provision in its policy to the contrary. This is similar to opinions holding that courts will not imply the follow-the-fortunes doctrine into a reinsurance agreement if it is not explicitly a part of the reinsurance agreement's written terms. Allmerica Financial Corp. v. Certain Underwriters at Lloyd's, London, No. SJC-09834 (Aug. 6, 2007).

This breach of contract case arose out of a dispute between insurer-plaintiff National Union Fire Insurance Company of Pittsburg (“NU”) and its reinsurer-defendant, Clearwater Insurance Company (“Clearwater”). NU alleged that Clearwater breached its reinsurance agreement by failing to fully indemnify it for losses incurred from the settlement of an underlying dispute. While Clearwater paid for roughly ¼ of the $1.9 million dollars sought by NU, Clearwater claimed it was not responsible for the remaining amount since some portion of the settlement payment was to settle consequential damages claims not covered by the reinsurance certificates. In response, NU asserted the “follow-the-fortunes” doctrine and moved for summary judgment. Clearwater moved to compel additional discovery.

The Court denied NU’s motion for summary judgment, reasoning that “a genuine issue of material fact exists as to whether the settlement did indeed involve payment in some substantial amount of the consequential damages claims. . ..” The Court appear to accept that if it could be proven that a portion of the payment was for losses not covered by the reinsurance agreement, that the follow-the-fortunes doctrine would not apply to those amounts. The Court granted in part and denied in part Clearwater’s request for additional discovery. National Union Fire Ins. Co. v. Clearwater Ins. Co., Case No. 04-CV-5032 (S.D.N.Y., July 19, 2007).

This matter came before the Northern District of New York on appeal from a Bankruptcy Court Order, awarding Richard Breeden, Chapter 11 trustee (the “Trustee”) of The Bennett Funding Group, judgment on the pleadings and dismissing the Ades and Berg Groups’ (the “Ades Investors”) counterclaims for imposition of a constructive trust upon the proceeds of a reinsurance policy allegedly covering the Ades Investors’ losses. The proceeds of the reinsurance policy were to be paid to the Trustee pursuant to the terms of a settlement agreement with Sphere Drake.

In a de novo review, the Court affirmed the Bankruptcy Court’s Order, concluding that the Ades Investors’ claim failed to satisfy all four elements applicable under New York law for the imposition of a constructive trust. Specifically, the Court concluded that while three of the four elements were satisfied, the fourth element, requiring a showing that the Trustee was unjustly enriched when he retained the settlement proceeds from Sphere Drake, was not met. In re: The Bennett Funding Group, Case No. 97-70049 (N.D.N.Y. July 10, 2007).

Baylor Health Care System (“Baylor”) was insured by Church University Insurance Company, a captive insurer, which was reinsured by Employers Reinsurance Corporation (“ERC”). Following the mediation of a malpractice claim involving serious brain damage, Baylor and ERC agreed to jointly fund a settlement of the claim. A dispute arose as to whether this agreement was merely an interim funding of the settlement, subject to later apportionment between Baylor and ERC, or a final settlement of insurance obligations. Baylor filed an action for breach of contract, and seeking a declaratory judgment against ERC, and the district court entered summary judgment in favor of ERC, finding that a series of post mediation e-mails between counsel for Baylor and counsel for ERC amounted to a full settlement of all disputes between them. The Fifth Circuit reversed, finding that there were disputed issues of material fact as to whether the argreement was a complete settlement or merely an agreement to fund a settlement with the claimant, envisioning a later allocation of the settlement amount through arbitration or a mock trial. Baylor Health Care System v. Employers Reinsurance Corporation, Case No. 06-10582 (5th Cir. July 5, 2007).

Reinsurers, Dornoch and others, sought a declaration that they were not liable under an Excess Physical Loss or Damage cover for losses sustained by the defendants, Mauritius Union Assurance (“MUA”), a Mauritian company which conducts both life and general insurance business. The Excess Reinsurance policy was written on a slip policy; the cover was excess 50 million Mauritian Rupees any one loss. It provided for “Premises” and “Transit” cover, but did not carry any general infidelity cover. It also provided for a 72 hour discovery period and contained a clause to follow all terms and conditions of the primary reinsurance policy.

The reinsurers argued they were not liable on the ground that the underlying losses were not of their nature within the physical loss or damage cover provided by the policy and that they were not discovered within the 72 hour discovery period. Additionally, they argued that the losses did not exceed the deductible (of MRS 50m x/s MRS 500,000) applicable to each loss under the policy.

The English High Court agreed with the reinsurers on all grounds. Specifically, it found that the reinsurers did not have any liability to MUA pursuant to the Excess Reinsurance because the described losses fell outside the scope of cover due to the fact that the losses sustained by the underlying insured were a direct result of employee infidelity. The court also concluded that none of the many losses alleged were discovered within 72 hours of their occurrence. Lastly, the court agreed that the underlying losses were not capable of meeting their applicable deductible of Maur Rup 50,000,000 any one loss. Dornoch Limited v. The Mauritius Union Assurance Company and Mauritius Commercial Bank, [2007] EWHC 155 (Comm. Feb. 6, 2007).