In the very recent (20 May 2009) case of Flexsys America L.P. -v- XL Insurance Co Ltd, the UK Commercial Court considered some interesting issues of overlap between different parts of the same overall programme, and in particular whether reinstatement provisions in the master cover could be used to provide extra cover for the same claim. (Short answer: No)

The Claimant, Flexsys, is the US subsidiary of a global corporation based in Belgium. It bought a master policy providing cover, including to its subsidiaries, in excess of any local policies issued to those subsidiaries.

Flexsys was insured locally under a CGL policy, and incurred legal costs of over US$2m in defending a claim brought in the US by a Korean company. It settled with local policy carriers (who expressly denied liability) for the policy limit of US$1 million, and then sought to recover the balance of its legal costs from the master policy insurers.

However, cover under the master policy was narrower than under the local policy. Memorandum E (the “Drop Down Clause”) of the master policy provided that:
>In the event of partial exhaustion of a local policy this Policy will pay in excess of the reduced underlying Limit of Indemnity. In the event of total exhaustion of a local policy this Policy will continue in force as the underlying insurance subject to the terms Exceptions and Conditions of the particular local Policy.

Flexsys argued that, the local policy being exhausted, the master policy should drop down to provide further cover for this claim on the same terms as the local policy (save for limits).

Tomlinson J sensibly rejected this argument. He held that such drop-down cover did not apply where a claim was recoverable under the local policy but not under the master policy. There would have to have been some express wording to allow for recovery where the master policy terms were narrower than those of the local policy. The true intention of the second part of the Drop Down Clause, he found, was to provide “a reinstatement of the local policy to be available to meet subsequent claims….It means that in the case of either partial or total exhaustion there is cover available from the ground up for the next claim” (emphasis added).

His Lordship also rejected Flexsys’s argument that it made no commercial sense for it to have chosen to have only US$1 million of cover in certain circumstances. Such a case was meaningless, he held, without considering further commercial questions, such as the cost of buying further cover and balancing that additional cost against the perceived risk involved.

Finally, the judge considered whether the local policy gave Flexsys cover for the legal expenses which it had incurred—it did not. Cover for ‘product disparagement’ was subject to Exclusion 2, where the insured had acted knowing that its actions would violate the rights of a third party, and/or that the material published was false. The Korean company’s claims were that Flexsys had intimidated customers into boycotting it.

>In my judgment the allegation made against Flexsys is not that it said things which turned out to be incorrect which conduct might therefore have occurred through mere negligence or recklessness but rather that Flexsys set out deliberately to injure KKPC by saying things about it and its products which it knew to be untrue. Liability in respect of such conduct is plainly excluded from the ambit of the local policy cover.

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Insurers should be wary of reliance on an apparently iron-clad warranty. Context is critical, and the courts will look beyond the mere words to discover the true intentions of the parties.

In Pratt -v- Aigaion Insurance Company [2008] EWCA Civ 1314, the Court of Appeal held that insurers were not entitled to rely on a warranty to decline indemnity. Rather, their Lordships said, one must look to what a reasonable man would have understood the parties to mean by the clause in the situation they were in at the time of the contract.

Mr Pratt owned a trawler which suffered fire damage while berthed. At the time, no crew were on board. The insurance contract with Aigaion warranted

“Owner and/or Owner’s experienced skipper on board and in charge at all times and one experienced crew member”.

Insurers argued that the terms of the warranty were unambiguous, there had been a breach and hence they were entitled to decline cover; the owners said that this interpretation ignored the fact that the clause plainly applied only to periods when the vessel was navigating or working and, if applied literally, would lead to absurd results.

At first instance, Mackie J found in insurers’ favour and refused leave to appeal. Sir Paul Kennedy did give leave, saying “the words ‘at all times’ cannot have been intended to be read literally”.

Sir Anthony Clarke, the Master of the Rolls, noted that “any clause in a contract must be construed having regard to its context within the contract, which must in turn be set out in its surrounding circumstances or factual matrix”, and cited Hoffman LJ’s comments in ICS -v- West Bromwich Building Society [1998] 1 WLR 897: “The meaning of words is a matter of dictionaries and grammars; the meaning of the document is what the parties using those words against the relevant background would reasonably have been understood to mean”.

While there is no conceptual limit to what might be relevant, the emphasis should be on the conventional above the fanciful (Hoffman LJ in BCCI -v- Ali [2001] UKHL 8), and the commercial over the literal (Steyn LJ in Sirius Insurance -v- FAI [2004] UKHL 54). Attention is to be placed on the actual language used, applying the ‘ordinary’ meaning of the words in question while bearing in mind the sometimes inevitable use of specialist vocabulary (Mustill LJ in Charter Re -v- Fagan [1997] AC 313).

Their Lordships found for Mr Pratt. While accepting that the court “must not invent a new bargain for the parties”, Sir Anthony found that “the underlying purpose of the warranty…was to protect the vessel in circumstances in which at least two members of the crew…could be expected to be on board.”

Those circumstances, Sir Anthony held, were probably when the vessel was navigating, manoeuvring and perhaps landing her catch, and this was a necessary qualification to the “at all times” on which insurers pinned their case. How far that qualification went was open to question, but the clause must then be decided contra proferentem, i.e. in this case against insurers.

Reinforcing the main judgment, Stanley Burnton LJ noted that the incorporated trawler wording provided cover in circumstances where it would be unlikely or impossible for any crew to be on board, such as when the vessel was in a shed or being dismantled. That, of itself, indicated that “at all times” cannot have meant “at all times” stricto sensu.

For insurers, the message is clear. While the courts will look to the words of the agreement, they are concerned above all with giving effect to the true intentions of the parties. In a clash between the two, the latter will prevail.

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London Market reinsurers have ended their long-running Commercial Court litigation with Korea National Insurance Corporation (KNIC) by agreeing to pay approximately 95% of KNIC’s reinsurance claim and to retract and withdraw all allegations of fraud and impropriety made against the North Korean insurer.

The litigation, which began in January 2007, involved a claim by KNIC to enforce in the UK a North Korean judgment for more than €44 million. Reinsurers had rejected the claim, which arose from an accident in 2005 when a helicopter crashed and destroyed a Pyongyang warehouse containing emergency relief goods.

Reinsurers’ primary defence was struck out by the Commercial Court in August 2007, a decision upheld by the Court of Appeal in October 2007, but continued to maintain both that the underlying insurance claim was fraudulent and that the Korean judgment was fraudulently obtained, in each case with the knowledge of KNIC.

The trial proper began in the Commercial Court on 12 November 2008. After submissions and evidence, including that of numerous North Korean witnesses of fact challenging the allegations of fraud, reinsurers agreed to settle the case by paying KNIC €40 million, effectively some 95% of the claim. The reinsurers and their lawyers, Clyde & Co, further agreed to retract and withdraw all allegations of fraud and impropriety against KNIC.

According to Reuters, the lawsuit is “one of several which North Korea is pursuing, with claims exceeding $150 million dollar according to some estimates, involving several calamities.”

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