Only 3 years of exposure - not 53. Wasa and AGF win.

The UK's House of Lords gave judgment in a historic case affecting the reinsurance industry.

In Wasa and AGF v Lexington, the issue was whether reinsurers Wasa and AGF had to follow the reinsured’s (Lexington’s) settlement of $103m with Alcoa for insurance of environmental liabilities.

Overturning an earlier Court of Appeals judgment that had been in favour of Lexington, the House of Lords (Lords Phillips, Walker, Brown, Mance and Collins) found in favour of Wasa and AGF.

Delivering the leading Judgment, Lord Collins said that “In complete contrast to Vesta v Butcher and Groupama v Catatumbo, in the present case there was in 1977, when the insurance contract and the reinsurance contract were concluded, no identifiable system of law applicable to the insurance contract which could have provided a basis for construing the contract of reinsurance in a manner different from its ordinary meaning in the London market.”

Lord Collins continued by making clear that: “This is not a case where the reinsurers are relying on a technicality to avoid payment. At the beginning and end of these appeals remains the question of whether the provision for the policy period in the reinsurance is to be given the effect it has under English law, or whether the parties must be taken to have meant that the reinsurance was to respond to all claims irrespective of when the damage occurred and irrespective of the period to which the losses related. There is, in my judgment, no principled basis for a conclusion in the latter sense.”

Lord Collins emphasised that “... there is no principled basis for treating the scope of the 3 year reinsurance as the same as the insurance, which has been interpreted ... not to contain any ‘limitation as to time of the physical loss or damage to property. ... [Lexington’s argument] ... seems ... to be wholly uncommercial and outside any reasonable commercial expectation of either party”.

Lord Mance, agreeing with Lord Collins, held that: “It may not ... be so easy to assimilate an original insurance and reinsurance when one is concerned with as fundamental an aspect of a reinsurance as its definition of the risks and period insured and the period for which they are insured.”

He added that: “Absent a common governing law, reinsurers may still sometimes be entitled to respond, with reference to the clear meaning that their contract has under the law governing it: what more could we as reinsurers have done to make clear the basis of reinsurance? A sensible principle of construction, establish in Vesta and Catatumbo, cannot be made into an inflexible rule of law, which would impose upon reinsurers a liability for which, under the law applicable to the reinsurance, they did not bargain. The consideration that Lexington probably did not reckon on the liability which it was held to have in America is not by itself a conclusive reason for passing that liability to reinsurers who were, on the face of it, also entitled to be confident that no such liability could arise under the clear and basis terms of the English law contract into which they entered.”

Lord Mance concluded that he found it: “impossible to adopt [the Court of Appeal’s views] in circumstances where Lexington’s liability has been held to arise under a system of law which was applied to the insurance not by reason of the terms of the insurance or their operation but in the context of a choice of law on a blanket basis to cover a large number of other independent insurances and claims”.

Lord Brown held that “ ’Physical loss or damage’ under a policy providing cover for three years simply cannot be construed under English law to include pre-existing damage ... However powerful and far reaching the presumption that reinsurance is intended to respond to claims payable under the primary policy, it could not avail Lexington here unless English law were to regard it in effect as tantamount to a rule of law. English law does not ... go so far. Vesta v Butcher and Groupama v Catatumbo ... do not warrant its application in the all the circumstances, certainly not so as to override so clear a temporal limitation as the reinsurance contracts stipulated here with regard to the risks covered”.

The other Law Lords concurred with Lord Collins.

Bill Perry of Carter Perry Bailey LLP said “English reinsurers must still be careful to ensure that they do not accidentally import into an English law reinsurance contract foreign law terms that they do not want, particularly if there is an express choice of foreign law in the original insurance and the reinsurance is as original. But this decision draws a line. It makes clear that the Vesta principle cannot overrule the clear terms of the reinsurance policy, especially in something as fundamental as the time limits.

“If the House of Lords had not done this, it would have been tantamount (as Lord Mance pointed out) to saying that reinsurers must have incurred liability (in practice probably up to the reinsurance limits) as soon as they wrote the reinsurance. That would have been monstrously unjust and plainly not the intention of the contract."