We previously blogged about the District of Connecticut’s decision in Arrowood Surplus Lines Ins. Co. v. Westport Ins. Corp., No. 08-cv-1393 (D. Conn. 2010), in which the court held that a reinsurer had no duty to honor the portion of a cedent’s loss that was outside the scope of the reinsurance agreement at issue. In that case, Equity Residential argued that a policy issued to it by Arrowood Surplus Lines Insurance Company had a three-year period and sought coverage for losses that occurred from December 15, 1999 to December 15, 2002. Arrowood, on the other hand, contended that the Equity policy only covered the first year of that period. Arrowood ultimately settled with Equity and sought reimbursement under a Reinsurance Agreement issued by Westport Insurance Company.

Westport agreed to indemnify Arrowood for losses occurring during the first year of the policy, but asserted it had no liability for losses occurring thereafter on the grounds that such losses were not covered by the Reinsurance Agreement. Arrowood, however, claimed that its settlement payment and expenses were based, in part, on the risk that Equity might prevail in the litigation on its argument that the Policy had a three-year period. Thus, Arrowood contended that Westport was obligated to pay Arrowood in full under the follow the fortunes clause in the Reinsurance Agreement.

The District Court granted Westport’s motion to dismiss on the pleadings, noting that the Reinsurance Agreement contained language limiting its coverage to a year at a time, regardless of the length of the underlying insurance policy. Because Westport terminated the Reinsurance Agreement on August 18, 2000, the court found that all losses incurred after the anniversary date the Policy (December 15, 2000) were not covered. For this reason, the court held that Westport was only obligated to indemnify Arrowood for any liability incurred before that date.

Arrowood appealed, but the U.S. Court of Appeals for the Second Circuit affirmed the District Court’s decision. The Second Circuit held that the post-December 15, 2000 period of insurance provided by Arrowood to Equity was outside the scope of the Reinsurance Agreement’s coverage/time limitations, and thus not subject to the follow the fortunes doctrine. Further, the court held that Arrowood could not pursue indemnification for claim expenses incurred in litigating the scope of the Equity policy. The court noted that under the Reinsurance Agreement, Westport’s duty to indemnify for claim expenses was limited to “risks for which reinsurance is afforded.” Because the “risk” litigated with respect to the Equity policy involved periods not covered by the Reinsurance Agreement, Arrowood was not entitled to indemnification for the claim expenses at issue.

Click here to review a copy of the Second Circuit’s decision.