A case just decided by a New York intermediate appellate court highlights the confusion a casual (or even a seasoned) observer often faces when trying to determine if a provision in a reinsurance contract is a follow-the-fortunes provision, a follow-the-settlements provision or a following form provision. This is a complex topic that requires more than a blog post to explore, but it is worth highlighting based on the helpful discussion by the court on the subject.

In New Hampshire Ins. Co. v. Clearwater Ins. Co., No. 653547/11, 2015 N.Y. App. Div. LEXIS 2452 (1st Dep’t Mar. 24, 2015), the court was asked to construe various provisions of a certificate of facultative reinsurance in a dispute over the cession of an asbestos settlement. Part of the issue was whether the reinsurer was bound as a matter of law to follow the settlement allocation of the ceding insurer. The court found that there were issues of fact, affirmed the denial of summary judgment and reinstated certain counterclaims, but that’s not what I want to talk about.

The certificate had a provision that provided that the reinsurer’s “liability . . . shall follow [the cedent’s] liability in accordance with the terms and conditions of the policy reinsured hereunder except with respect to those terms and/or conditions as may be inconsistent with the terms of this Certificate.” So, is this a follow-the-fortunes clause, a follow-the-settlements clause or a following form clause? Many observers see the word “follow” and automatically assume that the clause is a follow-the-fortunes/settlements clause. But is that the end of the analysis? Certainly not.

As the court points out in a useful footnote (footnote 5), there is often confusion between the follow-the-fortunes doctrine (or clause) and the follow-the-settlements doctrine (or clause). Many conflate the two. But as courts have become more sophisticated about reinsurance, they now recognize that these are two different propositions. The follow-the-fortunes doctrine refers to the underwriting fortunes of the ceding company and the reinsurer’s obligation to stick with its cedent when the cedent’s underwriting produces poor or unexpected results (the court here seems to have limited it to treaty reinsurance, but that is too narrow). The follow-the-settlements doctrine refers to the reinsurer’s obligation to indemnify the ceding company for judgments or settlements paid in good faith in a reasonable and businesslike manner that are arguably consistent with the terms of the underlying policies and the reinsurance contract. Under follow-the-settlements, the reinsurer cannot second-guess the good faith claims decisions of the cedent. As the court points out, when dealing with whether a reinsurer has to pay a claim, the issue is follow-the-settlements.

Although the follow-the-fortunes/follow-the-settlements battle is interesting, the court moves on to construe the clause in dispute as a following form clause (and does so by disagreeing with a Massachusetts Superior Court decision in 2011 construing the same language). Essentially, the court found that the reinsurer’s liability followed the cedent’s liability under the terms and conditions of the underlying policy. The court noted, and the court is correct, that the clause says nothing about the reinsurer’s obligation to pay claims settled by the ceding company: “The provision contains no reference to the cedent’s voluntary handling of claims–absent are the words ‘settlement,’ compromise,’ payment,’ allowance,’ and “adjustment,’ as well as any permutations of the foregoing and any words to similar effect.” Thus, said the court, rather than a follow-the-settlements clause, this provision is a following form clause.

The court then goes on to describe, with citation, the purpose of a following form clause, which is to achieve concurrency between the underlying policy and the reinsurance contract. The point of this is to make sure that the same risk covered by the reinsured policy is covered by the reinsurance contract (subject to the reinsurance contract’s terms and conditions). This holding by the court brings it to highlight but then defer a ruling on whether the reinsurance contact must contain an express follow-the-settlements clause or whether it can be implied. Because of the factual issues it finds, the court does not reach this issue. The court leaves that determination for another day (after factual development) and so will we.