LAW REPORT : 21 June 1996 : Reinsurance clause did not set preconditio n

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The words "actually paid" in the ultimate net loss clause of a reinsurance contract referred to the ultimate outcome of the net loss calculation and did not introduce, as a condition precedent to recovery against the reinsurer, a requirement that the reinsured had already paid out in respect of the relevant losses.

The House of Lords dismissed an appeal by the reinsurers, Patrick Feltrim Fagan and the other members of Lloyd's Syndicates 540 and 542 for the 1989 and 1990 underwriting years of account, against the decision of the Court of Appeal ([1996] 1 All ER 406), affirming that of Mr Justice Mance, that they were liable under reinsurance contracts with the reinsured, Charter Reinsurance Co Ltd, even though Charter Re was in provisional liquidation and unable to pay its debts.

The contracts provided by clause 2:

(a) The reinsurers shall only be liable if and when the ultimate net loss sustained by the reinsured in respect of interest coming within the scope of the reinsuring clause exceeds pounds 3m or US or Can$6m each and every loss . . . arising out of one event and the reinsurers shall thereupon become liable for the amount in excess therof in each and every loss, but their liability hereunder is limited to pounds 2m or US or Can$4m each and every loss . . .

(c) The term "net loss" shall mean the sum actually paid by the reinsured in settlement of losses or liability . . .

Jonathan Sumption QC, Robert Hildyard QC and Stephen Ruttle (Ince & Co) for the syndicates; Sydney Kentridge QC, John Rowland and Andrew Neish (Davies Arnold Cooper) for Charter Re.

Lord Mustill said the syndicates did not for present purposes dispute that all the requirements of a valid claim against them by Charter Re were present, save one: Charter Re had not paid, and could not pay, the claims which they had reinsured. Thus, said the syndicates, Charter Re had no cause of action under the contracts.

The practical importance of this defence, if sound, was obvious; and its implications had been multiplied by the levels of financial frailty experienced in the London insurance market in recent years. Across the market, very large sums depended on it.

Charter Re sought a declaration that its own payment under the inward policies was not a condition precedent to the liability of the syndicates. But the syndicates argued that the contract wording plainly created a condition precedent to any liability on their part. The condition was that Charter Re should have "actually paid" under the original policies.

At first sight, his Lordship would agree. But the focus of the argument was too narrow. The words must be set in the landscape of the instrument as a whole. Once this was done, the shape of the policy and the purpose of the terms quoted became quite clear.

The policy required the satisfaction of only two conditions before an indemnity fell due. First, that an insured event should have occurred within the period of the policy, and second, that the event should have produced a loss to Charter Re of a degree sufficient, when ultimately worked out, to bring the particular layer of reinsurance into play.

The words "if and when" in clause 2(a) were concerned only with the point, not of time but of arithmetic, at which the figures for the ultimate net loss reached the appropriate level. The purpose of "the sum actually paid" in clause 2(c) was not to impose an additional condition precedent in relation to the disbursement of funds, but to emphasise that it was the ultimate outcome of the net loss calculation which determined the final liability of the syndicates under the policy.

In this context "actually" meant "in the event when finally ascertained" and "paid" meant "exposed to liability as a result of the loss insured".

These were far from the ordinary meanings of the words and they might be far from the meanings they would have in other policies, particularly first-tier policies of reinsurance. But the courts had been called upon to interpret them in a very specialised form of reinsurance and his Lordship was now satisfied that, as the judge had said, the words in question did not have the purpose of introducing a temporal precondition to recovery in the form of disbursement or other satisfaction of the precise net commitment between Charter Re and its reinsured, but were there "for the purposes of measurement".

Paul Magrath, Barrister