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Recyclers Insurance Group, Ltd. v. Insurance Company of North America

Issue Discussed: Security

Submitted by Rachel P. Raphael, Michael T. Carolan*

Date Promulgated: June 15, 1992


Recyclers Insurance Group, Ltd. v. Insurance Company of North America
, 1992 WL 150662 (E.D.Pa. 1992)

Court: U.S. District Court for the Eastern District of Pennsylvania

Issues Decided: Whether an arbitration panel exceeded its authority by issuing an interim order requiring the reinsurer to post pre-hearing security as a condition precedent to obtaining a hearing before the panel on its claims for breach of a reinsurance agreement.

 

In Recyclers Insurance Group, Ltd. v. Insurance Company of North America, the U.S. District Court for the Eastern District of Pennsylvania vacated an arbitration panel’s order requiring reinsurer, Recyclers Insurance Group (“Recyclers”), to deposit $1 million in an escrow before it could pursue its claims against the ceding company, Insurance Company of North America (“INA”).  The court held that the panel exceeded its authority in ordering Recyclers to post pre-hearing security because the award was not “rationally derived” from the terms of the parties’ reinsurance agreement.

The Arbitration

After a limited audit of INA’s files, Recyclers determined that INA had overstated the amount of actual losses and charges to Recyclers under the parties’ reinsurance agreement.  Recyclers served INA with a demand for arbitration and in its statement of claim Recyclers argued that INA had breached the reinsurance agreement by (1) failing to provide timely loss and claims information, (2) submitting erroneous, misleading and overstated loss runs, and (3) demanding that Recyclers post excessive and unreasonable additional collateral, among other things.

INA asserted a counterclaim in which it alleged that Recyclers owed over $2 million for paid losses, outstanding reserves and losses incurred but not reported (“IBNR”).  INA also requested that the panel require Recyclers to deposit the full amount outstanding in an escrow account to secure INA’s counterclaim.  Recyclers opposed INA’s request.  Recyclers argued that it did not have assets to post the requested security and if required to do so, it would not be able to pursue its claims against INA.

The panel initially denied INA’s request.  But when INA renewed its request, the panel reversed itself, holding that Recyclers had to establish an escrow account “in an amount sufficient to cover INA’s present unreimbursed paid losses, outstanding losses and IBNR.”  It ordered Recyclers to deposit $1 million in an escrow account and confirmed that compliance with the interim order was a “condition to the arbitration going forward on the merits.”

The District Court Opinion

Recyclers sought to vacate the panel’s interim award before the U.S. District Court for the Eastern District of Pennsylvania.  It argued that (1) the panel exceeded its authority because the reinsurance agreement did not empower the panel to require a party to post security before asserting a claim or defending a counterclaim in arbitration, (2) the panel knew that Recyclers did not have the capacity to put $1 million in escrow, and therefore the panel’s award effectively terminated the arbitration without a hearing, (3) the award lacked “fundamental rationality” because it was not based on any factual demonstration by INA, and (4) the award violated the federal policy promoting arbitration.

The court concluded that the Third Circuit case of Swift Industries v. Botany Industries, Inc., 466 F. 2d 1125 (3d Cir. 1972) was controlling.   Although it agreed with INA that the agreement in Swift contained no mention of security, whereas the reinsurance agreement between Recyclers and INA addressed an obligation by Recyclers to post collateral, the court held that the panel’s award could not be “rationally derived” from the terms of the reinsurance agreement.  According to the court, even though the reinsurance agreement required Recyclers to post collateral to secure its obligations to INA, “nowhere in the Agreement . . . is it stated that the arbitration panel has the authority to require a party to post security as a condition to having its claims resolved by the panel or while the claims are being arbitrated.”  The court further explained that the reinsurance agreement provided that Recyclers might have to post additional collateral, but whether Recyclers must do so “is one of the ultimate issues to be decided by the arbitrators” and that “the panel may not make such an award without first conducting a hearing on the merits of the dispute.”

Thus, the court granted Recyclers’ motion to vacate the panel’s interim award because the award did not “draw its essence” from the parties’ reinsurance contract.

 

* Rachel Raphael and Michael T. Carolan are associate and partner, respectively, in the Insurance & Reinsurance group of Crowell & Moring LLP. They each represent cedents and reinsurers in disputes involving a broad spectrum of issues.