On August 1, 1997, a commercial court judge in London ruled in Commercial Union Assurance Co., et al. v. NRG Victory Reinsurance Limited, 1996 Folio No. 1350, and Skandia International Insurance Corp. v. NRG Victory Reinsurance Limited, 1997 Folio No. 1042, QBD Comm., that Exxon's excess of loss reinsurers, the NRG defendants, are liable under their reinsurance contracts for their portion of a $300,000,000 settlement between Exxon Corp. and its insurers under the property coverage provision of a global corporate excess ("GCE") policy arising out of the clean up of the Exxon Valdez oil spill.
Upon the NRG defendants' appeal, the Court of Appeals held on March 16, 1998 that the NRG defendants are not liable for that settlement under the excess of loss reinsurance contracts.
BACKGROUND
On March 24, 1989, the oil tanker Exxon Valdez ran aground in Prince William Sound in Alaska, resulting in a major oil spill that led to an extensive clean-up operation. The tanker was owned by Exxon Shipping Co., and the oil was owned by its parent, Exxon Corporation. Exxon made claim under a global corporate excess insurance policy, and the plaintiffs in this action are among those insurers who subscribed to the GCE policy, which is actually comprised of three policies -- a Lloyds policy, a UK Companies policy1, and a policy led in the Scandinavian market2. All the policies, however, contained essentially identical terms.
In order to fully understand the Court's decision with respect to the NRG defendants, we must first examine the facts of the underlying case between Exxon and its insurers, and the results of that case. In the underlying case, Exxon commenced an action against its direct insurers in August 1993 in Texas state court. In that proceeding, Exxon made claim under both Sections 1 and 3 of the GCE policy, which covered:
Section 1
Property of the Assured or property held in trust for others for which they had responsibility to elect to insure (including but not limited to the Hulls and Machinery, Cargo, Drilling Rigs, Offshore Platforms, Pipelines, construction risks and Onshore Property of every description) including Costs of Control, Removal of Debris and/or Residual Structure and Liabilities and Directors and Officers and Fidelity Coverages.
Section 3
All liabilities in respect of Assured's Worldwide operations all as per form.
Exxon claimed clean-up costs arising out of the oil spill under both Sections 1 and 3, in addition to punitive damages for breach of the Texas Insurance Code. In response, the direct insurers filed an action in federal court in New York seeking a declaratory judgment that they were not liable to Exxon under the GCE policy and asking the court to compel arbitration of the claim.
Exxon moved to dismiss the declaratory judgment action, but was unsuccessful. In October 1995, Exxon sought summary judgment in the Texas state court action on its claim under Section 1 on the basis that the plain meaning of the policy language entitled it to coverage for its clean-up costs. On March 15, 1996, Exxon settled its claim under Section 1 with the direct insurers, shortly before the motion for summary judgment was to be heard. The insurers agreed to pay $300,000,000 and Exxon agreed to dismissal of that claim in the Texas and New York proceedings.
Exxon's claim under Section 3 of the GCE policy proceeded to trial in Texas before the same jury that would have tried the claim under Section 1. On June 10, 1996, the jury decided that the insurers were liable to Exxon for $250,000,000 under Section 3, exclusive of a $210,000,000 deductible.
THE REINSURANCE CONTRACTS
The parties agreed that in order to recover under the reinsurance contracts, the plaintiffs must establish that they were liable to Exxon under the GCE policies. The reinsurance contracts, which are excess of loss treaties, provided that the reinsurers shall:
...indemnify the Re-assured in settlement of its net loss ... under business accepted by the Re-assured as fully described in Section C of the schedule ...
It is a condition precedent to liability under the contract that settlement by the re-assured shall be in accordance with the terms and conditions of the original policies or contracts.
Section C described the business covered as:
All losses howsoever and wheresoever arising sustained by the Re-assured in respect of all business allocated to their Drilling Rigs Account . . . .
In addition, the GCE policy provides:
All loss settlements by the Re-assured including compromised settlements and the establishment of funds and the settlement of losses shall be binding upon the Re-insurers, providing such settlements are within the terms and conditions of the original policies and/or contracts ... and within the terms and conditions of this Reassurance ... (emphasis added)
In their answer, the NRG defendants stated:
It is admitted that by a Settlement Agreement and Release dated 15th March 1996 ("The Settlement Agreement") insurers under the GCE Policy agreed to pay to Exxon a sum of US$300 million. Paragraph 5 of the Points of Claim is otherwise denied. It is specifically denied that the Plaintiffs were under any liability in law to pay a proportion of the said sum or any sum to Exxon pursuant to the terms and conditions of Section 1 of the GCE Policy.
The question in this case, therefore, was whether the plaintiffs had established that they were liable under the GCE policies. NRG argued that the plaintiffs were under no liability to Exxon Corporation under Section 1 of the GCE policy. In support of their defense, NRG's counsel submitted that the policy was: 1) governed by English law under which the plaintiffs had a good defense to Exxon Corporation's claim; or in the alternative 2) the policy was governed by New York law, but because it is presumed that the law of New York and England are the same, the result is the same, i.e., the plaintiffs had a good defense to Exxon Corporation's claims so that NRG was not liable under the reinsurance treaties.
In response, plaintiffs' counsel submitted to the lower court that the plaintiffs had established liability in a court of competent jurisdiction, i.e., Texas state court, and argued: (1) In Texas the plaintiffs took all the points which NRG now takes.
(2) Those points would not have availed them in Texas because they would have been held liable to Exxon Corporation.
(3) In Texas they would have been held liable for the limit under section 1 of the GCE policy, namely US$600 million.
(4) Their total liability in Texas inclusive of interest (ignoring a risk of liability for punitive damages) was or would have been on the order of US$900,000,000 or even $1,000,000,000.
(5) It follows that the settlement of US$300,000,000 was reasonable and represented less than the amount for which they would have been liable by the court in Texas, which was a court of competent jurisdiction.
THE TRIAL COURT'S OPINION PLAINTIFFS' LIABILITY TO EXXON
In response to the question of whether the plaintiffs were liable to Exxon under Section 1 of the GCE policy, the lower court first analyzed the question of which law governed the GCE policy. The Court first assumed that the GCE policy was governed by English law. Plaintiffs' counsel argued that as long as the plaintiffs were or would have been held liable under the GCE policy by a court of competent jurisdiction, they had established the necessary liability under the original policy in order to satisfy the principle that the reinsured could only recover in respect of payments which they were liable in law to make under that policy. The court accepted counsel's argument and found that it would or ought to have been within the contemplation of the plaintiffs when they entered into the GCE policy that it would be open to the insured to proceed against the insurers in one of a number of jurisdictions and that the result of such an action might be different depending upon which jurisdiction was chosen. Naturally, the same would be true of NRG and any other reinsurers.
Because there was no exclusive jurisdiction clause in the policy, Exxon was free to proceed in any court of competent jurisdiction where it could issue and serve proceedings. The trial court held that if the insured was entitled to proceed in Texas against the insurers, any liability established in Texas would be liability under the policy and (subject to any relevant terms of the reinsurance) the reinsurers would be liable in respect of it, provided only that all proper defenses were advanced in Texas. On this subject, the court said:
Under the reinsurances the reinsured insurers must prove the loss in the same manner as the original insured must prove it against the insurers. The reinsurers can raise all the defenses which were open to the insurer against the original insured because it would be inequitable for the insurers to renounce any such defenses to the prejudice of the reinsurers. The reinsured insurers are not entitled ... to rewrite the outward contract. [Plaintiffs' counsel] submitted that the insurer can prove the loss by proving the extent of its liability to the insured in Texas, since that is where the loss was foreseeable crystallized. I accept that submission. A liability established in Texas is the liability of the insured under the GCE policy. When the insurers assert that liability against the reinsurers they are not rewriting the outward contract but seeking to recover in respect of their loss as ascertained under that contract.
In answer to the question of what was the liability of the insurers under the GCE policy, the trial court found that it depends upon where that liability is established:
If it is established in Texas, as a court of competent jurisdiction, the answer is that the liability of the insurer is whatever liability is established in the Texan court. The fact that an English court applying English law as the proper law of the contract might have reached a different conclusion is irrelevant, just as is the fact that a New York court applying New York law as the proper law of the contract might also have arrived at a different conclusion from either a court in Texas or a court in England.
In these circumstances, since for the reasons already given the court in Texas was a court of competent jurisdiction, it follows that any liability established in Texas would be the liability of the insured under the policy, subject of course to any appeal and to the insurer having taken all the points open to it. As I see it, in those circumstances it would not be open to a reinsurer to say that the liability of the insured was different because of some aspect of the facts or some provision of the policy.
The trial court also commented that the liability of the insurer, which is what is in effect being reinsured, cannot be assessed in a vacuum. The court found that any different conclusion would be unjust because:
...[i]f insurers are sued in a court in which the insured is entitled to proceed under the terms of the policy and if the insurers take every point open to them, but are still held liable and (say) all appeals fail, if those insurers cannot recover under their contracts of reinsurance, they will not in truth be covered in respect of their liability under the policy, which is the whole point of the reinsurance. On the other hand, if the insurers are entitled to recover in such circumstances they will not be imposing upon the reinsurers responsibilities beyond those expressed in the policies ... On the contrary they will be imposing upon the reinsurers a risk which they have taken, namely the risk of the insurers being held liable to the insured in a competent forum. Put another way, in the context of the reinsuring words in those reinsurances, the discharge of such a liability is a loss howsoever or wheresoever arising out of the relevant business.3
EXXON'S SETTLEMENT
In the underlying action, Exxon did not obtain judgment in Texas because its claim under Section 1 of the policy was settled before the summary judgment motion was argued. In support of that settlement, counsel for the direct insurers submitted an affidavit to the Texas state court. The evidence set forth in that affidavit was that Exxon submitted its claim under Section 1 as a claim for "expenses incurred in the removal or attempted removal of debris or wreck of property even if incurred solely as a result of governmental or other authoritative order..." Exxon argued that the costs and expenses of removing the spilled cargo from the waters and beaches of Alaska fell within the Section 1 coverage for removal of debris and property. Further, Exxon argued that the term "property" included the crude oil, that the term "debris" encompassed the remains of the broken-down crude oil that Exxon Corporation had removed from the waters and shores of Prince William Sound in Alaska, and that it was clear from the language of the policy that the parties intended to provide coverage for removal of oil and its debris.
In contrast, the insurers argued that the language of the policy must be construed in the context of the policy as a whole and that the nature of the expenses claimed was not first-party property loss but third-party liability, which was covered elsewhere. In addition, the insurers disputed liability on the ground that coverage for removal of debris or property did not apply to the clean-up of tank or oil spills, which were covered and denominated as pollution risks.
The lower court found that there was no evidence to contradict the evidence of the insurers' counsel that if the action against the insurers had continued it would have succeeded. Nor was there any evidence to contradict counsel's view that in those circumstances Exxon could readily have established expenses of more than the policy limit of $600,000,000 in excess of the deductible of $400,000,000.
Therefore, the lower court concluded that there was uncontradicted evidence of the liability of the insurers to the insured in Texas, namely liability for at least $600,000,000. Under those circumstances, the court held that the plaintiffs had proved the loss in the same way as the original assured must have proved it against them, i.e., they proved the amount of the insurers' liability in a court of competent jurisdiction, where they were properly sued.
THE COURT OF APPEALS OPINION
The only true issue on appeal was whether NRG demonstrated an arguable defense that the plaintiffs were not liable to Exxon in respect of the claim under Section 1 of the GCE policies. The Court of Appeals described the lower court's decision as follows:
... the judge's reasoning involved two essential steps. First, he dealt with the question of whether, if the Texas court (as a court of competent jurisdiction) had given judgment for Exxon despite the insurers' having advanced all reasonable defenses ... the plaintiffs would have established their liability under the original policy for the purposes of indemnity by NRG under the reinsurance policy. He answered that question in the affirmative. Second, having done so, he treated the prediction ... (uncontradicted as it was by evidence to the contrary) as conclusive of the outcome of the Texas proceedings and thus held that liability was similarly established by virtue of the settlement agreement.
The Court of Appeals then went on to describe NRG's attack on the lower court's reasoning. First, NRG claimed that the judge misunderstood the nature of reinsurance and that he dealt with the matter essentially as a reinsurance of the insurers' liability, not of reinsurance of the original risk, i.e., "losses in respect of which it was necessary for the plaintiffs to prove that they were in law losses for which they were liable under the terms of the original policy, as opposed to simply being losses sustained by the plaintiffs in respect of business allocated to the plaintiffs' Drilling Rig Account."
Second, NRG claimed that the judge was wrong to approach the question of liability under the reinsurance policy from the starting point of a "notional decision of the Texas court in favor of Exxon" for two reasons: (a) whether the loss was recoverable under the terms of the policy depended on the view of the English court as to the proper construction of the policy, and not the uncertain outcome of a Texas jury trial; and (b) because no trial had in fact taken place, the settlement and the question of whether or not it was a settlement in respect of a loss for which the insurers were liable was not considered by the court that was responsible for deciding the question of liability under the reinsurance contract, i.e., the English court.
The Court of Appeals summarily dismissed those contentions. The Court found, however, that it was not enough for the plaintiffs to establish that the settlement was businesslike and sensible. They were required to demonstrate actual liability to Exxon, and could only be entitled to recover if they could show some kind of "following" clause binding the reinsurers to the plaintiffs' settlements. Because eleven of the sixteen contracts contained "following" clauses (five contained no "following" clause) the reinsurers were not bound to reasonable or business-like settlements regardless of the scope of the direct insurance. All the "following" clauses provided that settlement should be binding upon the reinsurers only "providing such settlements are within the terms and conditions of the original policies and/or contracts."
CONCLUSION
No matter how much the NRG defendants criticized the Texas court's determination of the underlying claim, the point was correctly taken by the English trial court that under the GCE policy Exxon had the choice to sue its insurers in any court of competent jurisdiction. The fact that Exxon chose Texas, a state known to be something less than hospitable to insurers, should have come as no surprise to the insurers or to the reinsurers. Indeed, the only way to protect against this result would have been to insert an exclusive jurisdiction and/or an exclusive choice of law provision in the GCE policy. Absent those provisions, NRG was bound to follow the settlements of its reinsureds in respect of liability against them determined by a court of competent jurisdiction.
As the Court of Appeals made clear, however, the follow the settlements clause in the GCE policy provided that the insurer must be found liable by a court of competent jurisdiction. This would preclude recovery, as it did in this case, to the underlying insurers for settlements with their insured for purely business reasons. Clearly, a follow the settlements clause that would bind the reinsurer to reasonable or "business-like" settlements, regardless of the scope of the direct insurance, could create a serious danger for reinsurers by forcing them to pay for almost any settlement the direct insurer entered into with its insured, whether the insurer is legally liable or not.
It is interesting to note, however, that in its closing remarks the trial court stated:
...I have tried not to allow the approach of the reinsurers other than NRG to influence any consideration of the submissions made on either side. However, the fact that, as I understand it, all the other solvent reinsurers have paid or agreed to pay the claim does perhaps provide some measure of reinsurance that my conclusion may be correct, or at least have some commercial (if not legal) attraction.
It appears, therefore, that the other reinsurers who settled with the direct insurers in this case may have been too quick to pay in the name of a "reasonable" and "business-like" settlement without the direct insurers' legal liability to Exxon having been established.
1 The Commercial Union action seeks $1,000,000.
2 The Skandia action seeks $417,000.
3 The lower court, however, did cite three caveats to this conclusion. First, there might be a case in which the insured obtains judgment against the insurers in a court that is a court of competent jurisdiction in the eyes of that court but might not be so regarded in England. Second, there might be a case in which such a judgment is obtained in the courts of state A in circumstances in which under the policy the insured had promised to sue in the courts of state B. Third, the judgment might be in some way perverse. In any of these cases, the reasoning set forth above might not apply, but the court found that it was not necessary to consider whether that was so in this case. Although NRG's counsel criticized the experience and approach of the judge in the Texas state court action, and the jury in Texas, the English court found that if the Texas court had held the insurers liable such a decision would not have been perverse.