In a recent decision of the New York Supreme Court, United States Fid. & Guar. Co. v. American Re-insurance Co., Index No. 604517/02 (N.Y. Sup. Ct. Aug. 20, 2010), the court granted summary judgment to a ceding company against the defendant reinsurers on causes of action for breach of contract and breach of the implied covenant of good faith and fair dealing arising out of the cedent’s $987.4 million payment to settle certain asbestos injury claims.

Between 1948 and 1960, United States Fidelity & Guaranty Company (“USF&G”) issued a number of liability policies to Western Asbestos Company (“Western Asbestos”), a California company that allegedly sold and distributed insulation products containing asbestos manufactured by John-Manville Company. In 1967, the MacArthur Company took over the business of Western Asbestos and formed Western MacArthur Company (“Western MacArthur”). In 1993, Western MacArthur initiated a coverage action against USF&G concerning the asbestos claims and, in 2002, the parties reached a settlement. As contemplated by the settlement, Western Asbestos, Western MacArthur and MacArthur Company filed for bankruptcy protection and sought relief under Section 524(g) of the U.S. Bankruptcy Code. USF&G settled on the basis that coverage could be sought under only a single policy year, and thus the agreement was structured so that all losses were deemed to have occurred in 1959.

USF&G, the St. Paul Fire & Marine Insurance Company and the St. Paul Companies, Inc. (collectively with USF&G, the “USF&G Parties”) then sought to recover a portion of the settlement under reinsurance treaties issued by American Re-insurance Company (“American Re”) and the Excess Casualty Reinsurance Association and its pool members who had not previously settled with the USF&G Parties (collectively, “ECRA”). One of the American Re treaties required it to pay 50% of USF&G’s claims excess $100,000 for any one loss. ECRA reinsured the other 50% of USF&G’s losses in excess of $100,000. Both treaties contained a follow the fortunes clause. After a lawsuit was commenced by the USF&G Parties against American Re and ECRA, each of the parties moved for summary judgment.

In its motion for summary judgment, American Re argued that USF&G had paid claims for individuals who were exposed to asbestos not sold or distributed by Western MacArthur, and that USF&G bore the burden to prove that each claimant for whom it sought reimbursement was exposed to the asbestos of its insured. American Re did not contend that the underlying settlement was made in bad faith or that it constituted an ex gratia payment. Rather, it argued that the court should examine the actual distribution made to each claimant and whether the amounts actually received by them implicated a policy reinsured by American Re. The court found that American Re failed to present any evidence that USF&G’s settlement was attributable to non covered claims, and, held that American Re was bound to follow USF&G’s payments.

American Re further opposed USF&G’s motion for summary judgment on the grounds that to recover from its reinsurers, USF&G was required to establish that its payments were covered by the relevant treaty and that it acted in good faith in its post-settlement allocation. The court rejected American Re’s argument that USF&G could not support its burden of proving good faith by relying on extrinsic evidence of what the parties agreed on during settlement negotiations, since American Re was granted discovery of documents relating to settlement negotiations. In granting USF&G’s motion for summary judgment, the court stated that American Re (and ECRA) could not make a sufficient showing of bad faith to require a trial.

ECRA argued in its motion for summary judgment that USF&G’s reinsurance billing was premised upon an “occurrence” trigger, even though it had adopted an “accident” trigger in the underlying action. The court found, however, that USF&G ultimately compromised on this issue as part of the settlement. The compromise avoided the payment of greater amounts under California’s so-called “all sums method,” which obligates the insurer to pay “all sums” up to the policy limit once a policy is triggered, even damages which occur outside of the policy period. As such, the court reasoned that “while USF&G could have settled the underlying coverage action in a manner that would have had a lesser impact upon its reinsurers – such as allocating future claimants’ predicted recoveries over several policy periods, it was not required to choose the method that would have had the least impact upon reinsurers.” The court stated that a reinsurer may not second-guess a reasonable method of allocation that is made in good faith. The court further held that USF&G’s reinsurance allocation was not at odds with its settlement, and that aggregation of all asbestos-related injuries into one event (which ECRA argued was appropriate under the accident definition in the relevant treaty) would be contrary to both the manner in which the coverage litigation was settled and governing case law.

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