The recent case of Tokio Marine Europe Insurance Ltd v Novae Corporate Underwriting Ltd  EWHC 3362 (Comm) arose out of claims under a retrocession contract resulting from property damage and business interruption losses generated out of the Thai floods in 2011. Mr Justice Hamblen considered five preliminary issues on the proper construction of that retrocession contract. The case is particularly notable for the Judge's comments on the "follow the settlements" clause in the retrocession.
Tesco was insured against property damage and business interruption losses under a Master Policy issued by ACE Europe. Tesco's properties in Thailand were also insured under a local policy issued by ACE INA. The Master Policy responded on a Difference in Conditions ("DIC") / Difference in Limits ("DIL") basis. In Autumn 2011, 165 of Tesco's properties in Thailand were damaged as a result of flooding. Tesco claimed under the Master Policy and local policy for property damage and business interruption losses suffered. The claims were eventually settled on 20 February 2012 for £82.4m, split £57.96m to the local policy and £24.45m to the Master Policy.
ACE was reinsured under a facultative reinsurance (the "Reinsurance") covering a 55% share of Tesco's losses excess of the retention up to a limit of £100m. The Claimant, Tokio Marine Europe Insurance Ltd ("Tokio Marine"), had a 12.5% share of the Reinsurance. Tokio Marine agreed to pay ACE's claim in full under the Reinsurance in respect of the Tesco settlement.
Tokio Marine had purchased retrocession cover (the "Retrocession") with the Defendant, Novae Corporate Underwriting Ltd ("Novae"). Under the Retrocession, Novae had agreed to reinsure Tokio Marine for 12.5% of Tesco's losses in excess of £53m each and every "Loss Occurrence" subject to a limit of £25m each and every "Loss Occurrence". The Retrocession included the following "Reinsurance Condition":
"Following Original Policy Wording Reference Number: UKFRIC38309.10
The Contract is subject in all respects (excluding the rate and/or premium hereon and subject always to the Limits Reinsured hereon and except as otherwise provided herein) to the same terms, clauses and conditions as original and without prejudice to the generality of the foregoing, Reinsurers agree to follow all settlements (excluding without prejudice and ex-gratia payments) made by original Insurers arising out of and in connection with the original insurance and to bear their proportion of any expenses incurred whether legal or otherwise in the investigations and defence of any claim hereunder in addition to limits hereunder."
Novae resisted liability and Tokio Marine therefore commenced proceedings. Hamblen J was asked to consider five preliminary issues of construction, each of which is considered in turn below.
- Does the Retrocession reinsure Tokio Marine for its liability to ACE INA in respect of the local policy as well as ACE Europe in respect of the Master Policy?
Novae argued that cover under the Retrocession was restricted to claims within the Master Policy; claims under the local policy fell outside its scope. In support of this argument, Novae referred to the reference to the "Original Policy Wording" in the Reinsurance Condition above.
Hamblen J disagreed. On a proper construction of the Retrocession, he considered that losses under both the local policy and Master Policy were covered. The reference to the "Original Policy Wording" was merely intended to incorporate the definitions from the Master Policy; it did not restrict cover. The "Perils" clause was widely drafted, covering exposure for "all risks of Direct Physical Loss, Destruction or Damage" and was not limited to losses covered by the Master Policy.
He found support for Tokio Marine's broader interpretation in the factual background (in particular, the list of values at risk referred to in the Retrocession which did not distinguish between the local policy and Master Policy). He also considered that the broader interpretation reflected commercial and business sense. Novae's construction would lead to a radical mismatch between the cover under the Reinsurance and cover under the Retrocession – there was no obvious reason why the parties should have intended this. Moreover, on Novae's interpretation, it was difficult to conceive of a claim under the Master Policy which would not have also generated a significant loss to a local policy. If this is what the parties had intended, they would have spelt it out clearly.
- Should "Loss Occurrence" be construed in the same manner as "Occurrence" in the Master Policy?
"Occurrence" was defined in the Master Policy and Reinsurance as "any one Occurrence or any series of Occurrences consequent upon or attributable to one source or original cause". Tokio Marine argued that, because the Retrocession is expressly subject to "the same terms, clauses and conditions as original", the phrase "Loss Occurrence" in the Retrocession should be given the same meaning.
Novae, by contrast, argued that by using a different phrase in the Retrocession, the parties intended "Loss Occurrence" to be construed differently, in accordance with the usual insurance definition of "occurrence" (i.e. "something which happens at a particular time, at a particular place, in a particular way" per Countrywide Assured Group Plc v Marshall  1 Lloyd's Rep IR 195).
Hamblen J concluded that Novae's interpretation would result in a major mismatch in cover. If this is what they intended, they would have spelt it out clearly. It made far more commercial sense for the parties to have intended a consistent approach to aggregation under the Retrocession and underlying policies. He therefore preferred Tokio Marine's interpretation.
- Did Novae agree to follow the settlements of ACE under the Master Policy and/or local policy, or Tokio Marine under the Reinsurance?
Tokio Marine noted that the Reinsurance Condition referred to "original Insurers" and "original insurance" and argued that this required Novae to follow the settlements of ACE under the direct insurance policies. Hamblen J agreed, finding that the words were clear and unambiguous. There were good commercial reasons for referring to the settlement between ACE and Tesco – this was the "coalface" the level at which the substance of the claim will have been determined. It should be noted that absent this particular wording, the authorities indicate that it is the settlement of the immediate contract that should be considered.
- Must Tokio Marine show that the claim falls within the terms of the Retrocession on the balance of probabilities, or is it sufficient to show that the claim arguably does so?
The "follow the settlements" clause in the Retrocession was an unqualified follow clause in similar terms to the clause considered in Insurance Company of Africa v Scor Reinsurance  1 Lloyd's Rep 312. In that case, Lord Justice Robert Goff held that a settlement would be binding on reinsurers provided that:
"the claim so recognised by [the reinsured] falls within the risks covered by the policy of reinsurance as a matter of law ["the proviso"], and provided also that in settling the claim the insurers have acted honestly and have taken all proper and business-like steps in making the settlement."
Hamblen J referred to subsequent cases which discussed the operation of the proviso where the inward and outward reinsurance contracts are back-to-back. In Hiscox v Outhwaite(No. 3)  2 Lloyd's Rep 524 Mr Justice Evans had stated that the effect of the proviso was that:
"The reinsurer may well be bound to follow the insurer's settlement of a claim which arguably, as a matter of law, is within the scope of the original insurance, regardless of whether the Court might hold, if the issue was fully argued before it, that as a matter of law the claim would have failed."
The first instance deputy Judge in Assicurazioni Generali SpA v CGU International Insurance plc (Gavin Kealey QC) had agreed with Evans J's conclusions. However, in the Court of Appeal judgment in Generali  2 All ER (Comm), Tuckey LJ (whilst agreeing with Evans J and the first instance Judge) appeared to go further, stating that the effect of the proviso was that:
"The insurers do not have to show that the claim they have settled in fact fell within the risks covered by the reinsurance, but that the claim which they recognised did or arguably did".
Based on Evans J's dicta, Tokio Marine argued that it was only obliged to demonstrate that the underlying settlement "arguably" falls within the terms of the outward reinsurance contract. Novae, by contrast, contended that in using the word "arguably" Evans J was referring to the standard of proof for claims falling within the inward (re)insurance contract.
Hamblen J did not agree with Tuckey LJ's analysis. It was difficult to see why a lesser standard of proof than the balance of probabilities should apply to the reinsurance. However, he considered that he was bound by Tuckey LJ's decision and therefore found in favour of Tokio Marine.
- Is Novae bound by a determination by ACE as to the construction of the aggregation provisions in the Master Policy?
In the underlying claim by Tesco under the local policy and Master Policy, there was an issue as to the proper construction of the aggregation provisions. Tokio Marine contended that Tesco's claim was settled on the basis of a construction which was at the very least "arguable". It therefore met the threshold under the "follow the settlements" clause for proving that the claim recognised by ACE falls within the coverage provided by the Retrocession. Novae could not re-open this issue of construction.
Novae disagreed. It sought to distinguish the Retrocession from the reinsurance contract in Generali, pointing out that the Retrocession was non-proportional, not back-to-back and a retrocession (rather than reinsurance) contract. The reinsurer would not entrust determination of its liabilities under the Retrocession to Tokio Marine or ACE.
Hamblen J found that the facts of this case were not sufficiently different from those of Generali to displace the interpretation of the same follow clause given in Generali.
It is well established that regardless of which type of follow clause is contained in a reinsurance, the loss as settled must still fall within the terms of the reinsurance. Thus, the sanctity of the reinsurance bargain is preserved.
For many years, a debate existed as to the position under a follow clause where the insurance and reinsurance were written on a back to back basis, with terms incorporated from the former into the latter. Could a reinsurer which was unable to challenge an arguable issue settled (in a business-like way) under the insurance, nevertheless decline liability based on the same issue under the incorporated term in the reinsurance? It would be odd if it could do so as it would remove the intended effect of the follow clause.
The answer to the above question was provided in the lengthy and helpful judgment of Gavin Kealey QC and in the much shorter judgment of Tuckey LJ in the Court of Appeal in Generali. It is not open to the reinsurer to re-open the disputed issue; rather, one looks at the position as settled under the underlying insurance for the purposes of the reinsurance.
The reference by Tuckey LJ in Generali to the reinsurer being "arguably" liable under the reinsurance has previously caused confusion, and often commentators have preferred to refer to the clearer first instance decision as a result. What Tuckey LJ appeared to be saying is that where the contracts are back to back incorporating the same terms, it is sufficient for the reinsured to demonstrate that a claim is arguably covered under the reinsurance, rather than having to prove that it is covered on a balance of probabilities basis. He was not suggesting that it is only necessary for a reinsured to demonstrate a claim was arguably covered under the reinsurance more generally under a follow clause.
It follows from the above that Hamblen J may have misconstrued Tuckey LJ's views but even if not, we doubt that such views will be supported in due course by the Court of Appeal (Novae being reported as seeking to appeal the decision).