Whether reinsurer entitled to avoid treaty because of alleged misrepresentation/non-disclosure by reinsured
The reinsurer claimed to be entitled to avoid two reinsurance treaties entered into with the defendant reinsured on the basis that the reinsured had failed to disclose loss statistics relating to the reinsured's book of inwards marine energy construction risks, and had also failed to disclose three incidents likely to result in claims under one of the treaties. The reinsured accepted that the past loss statistics were material but argued that they would not have influenced the judgment of a prudent underwriter because (a) energy construction risks are all unique (so that little or nothing is to be gained from considering past results achieved by the reinsured on the insurance of such risks), and (b) there had been a change of underwriter at the reinsured, who had a "much more rigorous" approach to the selection of risks. Much of the case turns on the particular factual evidence but one point from the case is of more general interest (especially in light of the upcoming changes being introduced by the Insurance Act, which will require an insurer to prove what he would have done had he known about the breach of the duty of fair presentation in order to ascertain which remedy will apply).
Males J noted that there was a need for caution regarding the witness evidence in this case, given that most of the relevant events had taken place almost 20 years ago and: "the need for caution applies with even greater force to hypothetical evidence as to what a witness would have done if circumstances had been different". He also approved the comment by Colman J in North Star Shipping v Sphere Drake (see Weekly Update 06/06) that "hypothetical evidence by its very nature lends itself to exaggeration and embellishment…it is very easy for an underwriter to convince himself that he would have declined a risk or imposed special terms if given certain information". He concluded that: "As usual, however, where documents are available they represent much the best evidence not only of what the parties did, but also of what they were thinking at the time".
Males J also noted that first loss reinsurance is like quota share reinsurance, in that the reinsurer's fortunes are closely tied to the original book of risks written by the reinsured. However, since the first loss reinsuer is also liable for 100% of the losses up to a specified limit, the reinsurer will be liable for each and every minor loss for which the reinsured is liable. Accordingly, the first loss reinsurer "is heavily dependent on the success of the reinsured's underwriting and is in particular vulnerable to a large number of low level claims". As to the particular facts of the case, he held that:
- The statement that "This is a new Treaty for the Reassured and as such does not have a corresponding loss record" clearly referred to losses under the new reinsurance treaty and not the reinsured's past losses from energy construction risks.
- Past loss records of a prospective reinsured would influence the judgment of a prudent reinsurer even if the risks were energy construction risks or there had been a change of underwriter. Further explanations could be given to the reinsurer but material information should be disclosed in the first place.
- The reinsurer had not known that the reinsured was writing energy construction risks (a hazardous type of risk) and so no issue of waiver arose just because the reinsurer had failed to ask for the past loss records. Nor did it matter that the change of underwriter had diminished the risk – the records ought still to have been disclosed.
- On the facts, it was the head of treaty business who had to be shown to have been influenced by the non-disclosure, and not his assistant, even though the assistant had dealt with matters in his absence. The final decision had been taken by the head.
(e) In general, disclosure of figures going back 5 years should be sufficient to constitute a fair presentation of the risk. However, in this case, earlier losses should have been disclosed because there had been massive losses in years 6 and 7, whereas loss ratios had been only marginally negative in year 5 and positive in year 4.
(f) However, the judge concluded that the underwriter in this case had not been induced. He had written the treaty despite the absence of key information and on the facts it was evident that he was not averse to writing hazardous risks.
(g) It was not correct to suggest that the reinsured needn't disclose incidents for which no reserve had been made or where a loss adjuster had positively advised against a reserve: "There would be occasions when an incident not recorded as a reserve would be material for disclosure, and it is necessary to consider substance rather than form". On the facts, though, the three incidents not disclosed to the reinsurer would not have influenced the particular underwriter.