Multi-billion dollar exposure from numerous asbestos and silica exposure lawsuits ultimately forced Dresser Industries into bankruptcy. In the course of the bankruptcy proceeding, Dresser commenced a declaratory judgment action against its liability insurers, seeking to establish their respective coverage obligations. The several insurers ultimately participated in a global settlement of the coverage case, at a figure determined by an outside consultant hired by the group of settling insurers.

One of the settling insurers, Lexington Insurance Company, which had issued a coverage “tower” to Dresser consisting of multiple policies (each covering different layers of the risk), used a “bathtub” method of allocation to determine which of its policies would contribute to its share of the settlement, and in what amounts. By this method, its exposed policies were layered (as though in a bathtub) according to their layers of coverage, and those that were “underwater” given the settlement structure were tendered to their limits. Based on this analysis, Lexington paid out the limits under two separate $10,000,000 policies.  

Lexington then looked to its reinsurer, Skandia America Reinsurance Company (later known as Clearwater Insurance Company), for coverage under a facultative certificate issued to Lexington reinsuring the two policies at issue. Clearwater denied Lexington’s claim on the basis that Lexington’s “bathtub” methodology was contrary to the recommendations of the outside consultant that determined the ultimate global settlement, and that if the recommended method were used, the exposures on the two Lexington policies reinsured by Clearwater would have been greatly reduced. In Lexington Insurance Co. v. Clearwater Insurance Co. (July 26, 2011), the court found in Lexington’s favor, concluding that under the “follow the fortunes” doctrine, which requires a reinsurer to cover settlements made by the reinsured “so long as they are not fraudulent, collusive, or made in bad faith,” there was nothing inherently unreasonable about Lexington’s chosen allocation method, and that there was no evidence of bad faith or the like.