Reinsurance arrangements in the Middle East often involve cross-border transactions, with the cedant based locally, and the reinsurer located in one of the traditional reinsurance centres of London, Munich, Zurich or Paris.
This can give rise to challenges when interpreting wordings and handling difficult coverage issues and claims. Although historically, English law has offered a relatively clear and stable basis for determining coverage issues and interpreting wordings, a number of recent English cases have created concerns for both cedants and reinsurers. In the first part of a three-part series of article, we review the basis for the concerns, and specific issues regarding incorporating warranties into reinsurance contracts that are intended to operate on a back to back basis.
Local law challenges
The Middle East presents a number of challenges when dealing with the inter-relationship between, on the one hand, underlying insurance wordings and how those are interpreted in the local courts and, on the other hand, how reinsurance wordings with international reinsurers are viewed and applied. There is a general lack of jurisprudence at any level in the local courts in most Middle East jurisdictions. There are also very few laws or regulations specifically relating to reinsurance in these jurisdictions. As a result, although any local litigation between underlying insured and cedant will be subject to local law and local courts, resolving any issues that arise in relation to the reinsurance coverage is rarely likely to be dealt with in a competent and understandable manner by the local courts. Most reinsurance practitioners (at both cedant and reinsurer level) will shy away from having to litigate in the local courts.
Historically, English law and the English courts have developed a useful body of jurisprudence that has sought to interpret and give effect to the commercial intention of the relationship between local cedant and reinsurer. There is a long line of English cases (beginning with Vesta v. Butcher in 1973) which takes into account the difference in interpretation of clauses such as warranties in local insurance contracts, and how those are to be interpreted in a reinsurance context, to give effect to the back-to-back intention in the re/insurance contracts. For this reason, the inclusion of English law and jurisdiction clauses in reinsurance contracts has been seen as a good choice to assist with any disputes that arise in a reinsurance context. It has generally been regarded that the English courts will look to respect and to give effect to the commercial relationship between cedant and reinsurer.
However, a recent decision by the English court has challenged this traditional belief, and will require cedants and their brokers to make sure that the wordings used at the underlying and reinsurance contracts take into account the realities of the local law position, and are clear as to the intentions of the parties, in order to achieve their commercial intention.
"Princess of the Stars"
In the most recent “Princess of the Stars” appeal (August 2014)1 , the Court of Appeal upheld the underlying decision of Mr Justice Field handed down in 20122 , that allowed reinsurers to obtain a declaratory order that they were not liable to claims arising from their reinsurance of Oriental’s exposure to a Philippines ferry disaster that took place in June 2008. The ‘Princess of the Stars’ ferry had set sail from Manila on a short scheduled trip to a nearby island, but sailed into the eye of Typhoon Frank, capsized and sank. Only 32 of the 851 people on board survived. Both the insurance and reinsurance contracts contained a ‘typhoon warranty’ in very similar terms, which provided that ‘violation of this warranty shall render this policy void’.
The pre-emptive action by reinsurers before the English courts took place before there had been any determination of the cover for the loss in the Philippines. The underlying policy wording incorporated wording that was said to be subject to English law, and the reinsurance contract contained a ‘follow settlements’ clause. Oriental argued that any interpretation of the warranty in the reinsurance policy would need to take into account the manner in which the underlying policy, and specifically the typhoon warranty, was interpreted before the Philippine courts. On that basis, Oriental argued at first instance that reinsurers’ action was premature, and should be stayed pending determination of the coverage position in the Philippines. It would only be in the light of that position having been determined that the interpretation of the warranty in the reinsurance policy could be determined. The English court disagreed, which decision was upheld by an earlier Appeal Court decision3, although the Court of Appeal, recognizing the position this put Oriental in, did so "with little enthusiasm".
The most recent Court of Appeal decision concerned a review of the judge's decision as to whether the court was entitled to interpret the terms of the warranty in the reinsurance policy independently. This decision was upheld. The Court also held that it was capable of construing the warranty in the reinsurance policy in accordance with English law, and that there was no material difference between English law and Philippine law with respect to policy interpretation or the effect of a breach of warranty. In the English court's view, the two clauses should be construed identically. It is not clear exactly what evidence as to Philippine law and procedure was produced to the court.
In the light of the above, the Court of Appeal upheld the decision of Mr Justice Field that reinsurers were entitled to bring the action for declaratory relief prior to any determination by the Philippine courts, and were entitled to an order that reinsurers were not obliged to indemnify Oriental for the losses that fell to be covered as a result of the ferry disaster.
Implications for local cedants
The decision has resulted in Oriental, as the 100% local insurer in the Philippines, being left to fight its corner on the warranty issue, without reinsurance support. Should the Philippine court take a different view on the warranty issue, and hold that Oriental's policy does respond, it will be left to Oriental to foot the bill without any reinsurance cover. An invidious position for Oriental, indeed!
The problems that arose in this case could potentially have been addressed by:
- More care being taken when incorporating an express warranty as a standalone provision in a reinsurance contract that was clearly intended to operate on a back-to-back basis.
- Clear evidence of exactly how the underlying warranty was likely to be interpreted under Philippines law before a Philippines court.
The issues highlighted above are likely to apply in a Middle east setting as well. It appears, on the basis of this judgment, that absent careful attention being paid to reinsurance wordings and without properly highlighting the local jurisdiction issues, local cedants will be vulnerable to pre-emptive actions by reinsurers being taken seeking to avoid liability for claims that might well prove to be payable in the local jurisdiction.