Costly and painful

Matt Eisele, of Vinson & Elkins, discusses recent developments in reinsurance law

US courts have continued to see a significant increase in reinsurance disputes over the past year. Many of these disputes started with the parties' choice of arbitration. Arbitration is generally designed to save costs, and courts are increasingly holding parties to their arbitration selection.

Judicial Review of Arbitration Awards

Northwestern National Ins Co v Generali Mexico Compania De Seguros (2000 WL 520638 (S.D.N.Y. 2000) involved a dispute between Northwestern and its reinsurer, Generali, which led Northwestern to initiate arbitration proceedings. Northwestern appointed an arbitrator, but when Generali ignored the proceedings, Northwestern also appointed the second member of the panel. The panel then agreed on an umpire and ordered Generali to transfer funds to an independent escrow account as security. Generali refused and the panel found Generali to be in default and liable to Northwestern.

Generali challenged the composition of the panel, but the district court denied Generali's claim because it was hesitant to overturn an award 'based upon a technical procedural irregularity.' Generali also sought to avoid the arbitration result by claiming arbitral misconduct under the Federal Arbitration Act. However, the district court denied Generali's claim,noting that Generali had been granted extensions to allow it to participate in the arbitration and to establish its escrow account.

Scope of abitration

In Hartford Accident & Indem Co v Swiss Reinsurance American Corp (246 F3d 219 (2nd Cir 2001), the Court of Appeals held that a dispute regarding the billing method for pollution claims was subject to arbitration. In overruling the district court's order compelling arbitration only as to claims paid and billed, the panel found the scope of the arbitration clause broad enough to include any dispute over contract interpretation.

Another area increasingly subject to scrutiny and litigation is the process of placing reinsurance. An error or oversight in the placement process can have unintended and costly results.

Broker's misrepresentation concerning clause in underlying policy
In Houston Casualty Co v Certain Underwriters at Lloyds, London (51 F Supp 2d 789 (SD Tex 1999), aff'd, (5th Cir 2001) (table No 00-20406), reinsurers were sued for breach of contract, bad faith, and violation of the Texas Insurance Code. Houston Casualty adjusted and paid claims related to a fleet of rental cars when coverage was triggered because of hailstorm damage. The reinsurers refused to indemnify Houston Casualty because the adjustment of the loss did not properly track a 'basis of loss' clause the reinsurers had been led to believe was in the underlying policy.

The reinsurers counterclaimed for reformation of the reinsurance contract based on mutual mistake and for recission based on material misrepresentation. The district court, applying English law, held that the reinsurers were entitled to avoid the reinsurance contract based upon the reinsurance broker's misrepresentation.

A third area that can undercut a reinsurer's profit margin is the claims side. Once litigation becomes likely, broad vision, consistency, and timely case handling is essential.

Unfair trade practice finding upheld

In Commercial Union Ins Co v Seven Provinces Ins Co Ltd (2000 WL 863031 (1st Cir 2000), cert denied, 121 S C 1084 (2001), the Court of Appeals concluded that a reinsurer's conduct constituted bad faith in violation of Massachusetts' Unfair Trade Practices Act because the reinsurer raised a series of constantly shifting defences to force a settlement of the cedent's claim. The court held that although a good faith denial of a claim is not sufficient to constitute an unfair trade practice, a reinsurer's continuing delay in order to compromise a claim was.

Over the next year, the courts in the US are expected to continue to strictly enforce arbitration clauses. The motivating factor for such enforcement is to unburden crowded court dockets and support the original intent of contracting parties. Decisions are expected to demand competent professionalism from both the placement and claims handling sides throughout the industry as the cost of failure can be painful and lasting.