Reliance Ins. Co. v. Certain Member Companies
Issue Discussed: Retention Requirements/Retention Warranties
Submitted by Michael R. Kuehn
Date Promulgated: June 1, 1995
Court: Southern District of NY
Issues Decided: Whether a ceding company is under an affirmative obligation to disclose the fact that it is not retaining any portion of the underlying risk ceded in a marine reinsurance contract.
In a published opinion, dated June 2, 1995, the Southern District of New York held that two reinsurers were entitled to rescind a reinsurance binder issued to a ceding company because the ceding company, through its brokers, failed to disclose that it was ceding 100% of its interest in the underlying risk. The Court found that the reinsurers reasonably expected that the ceding company had retained an interest in the underlying risk based on incomplete and misleading information provided by the cedent’s broker. The Court also held that a ceding company’s lack of retention in an underlying risk was a material fact that should have been affirmatively disclosed.
Certain Member Companies of the Institute of London Underwriters (“London Underwriters”) insured shipments of plywood in transit from Indonesia to London / Europe. The shipment was owned by Apkindo, a consortium of Indonesian plywood and lumber products producers.
Apkindo’s direct insurance had been placed with the London Underwriters through Energex International Insurance Brokers (“Energex”). An Indonesian insurer, Tugu, reinsured 40% of the London Underwriter’s interest in the shipments.
Apkindo’s insurance with the London Underwriters had been renewed on April 1, 2013. Because the London Underwriters had paid for significant losses during the prior policy period, Energex explored the possibility reinsuring its Apkindo exposure. Energex approach Tugu in March about the reinsurance proposal in March. Energex had not received a definitive answer from Tugu by March 31, 2013, and in mid-April was informed that Tugu was declining the reinsurance.
In early March, Energex also prepared a reinsurance proposal which was sent to the U.S. brokerage firm Nausch, Hogan, & Murray, (“NH&M”) inviting them to market the proposal in the U.S. The Energex proposal listed the “reassured” as “Tugu Pratam Indonesia and/or Tugu Hong Kong and/or London Underwriters. The “hereto” clause read: “Order to be advised, but provisionally – U.K. (60%) Europe (60%) China (51%) Japan (25%).
NH&M met with Reliance Insurance Company (“Reliance”) regarding the proposal. The proposal was discussed, although there was no discussion of the reassureds or whether the reassureds were retaining any portion of the risk. The Reliance underwriter later testified that he understood the proposal to mean that Tugu was ceding 60% of the total risk on shipments to the UK and Europe (or 51% or 25% on shipments to China and Japan, respectively, and would be retaining 40% on shipments to the U.K. and Europe (or 49% or 75% on shipments to China and Japan, respectively). Reliance signed the binder on or around March 31, 1993, but asked NH&M to find another company to share the risk.
NH&M subsequently marketed the proposal to other underwriters, including New York Marine & General Insurance Company (“NYMGIC”). The NYMGIC underwriter testified that he understood the proposal to be for “proportional reinsurance of the [cargo] perils varying up to 60%. He also testified that it was his understanding that the portions “that weren’t being bound” by Reliance and NYMGIC were retained by the reassured. A revised binder, dated April 8, 1993, was signed by Reliance and NYMGIC with reliance taking 60% and NYMGIC taking 40% of the interest being reinsured.
In May of 1993, an Apkindo cargo ship full of plywood bound for the U.K. caught fire completely destroying both ship and cargo. The Reinsurers commenced a declaratory judgment action seeking an action that the reinsurance binder is void ab initio based on the London Underwriters breached the duty of utmost good faith by failing to retain a portion of the underlying risk.
NYMGIC and Reliance (collectively the “Reinsurers”) learned that the London Underwriters were the sole reinsured and had ceded 100% of their 60% Apkindo exposure while the remaining 40% had been kept by Tugu. The Reinsurers then gave notice that they were cancelling the reinsurance agreement. The Reinsurers testified (credibly the Court found) that they would not have been the risk had they known the London Underwriters were not retaining any portion of the cargo risk. The Court also found that the London Underwriters refusal to retain a portion of the risk was “not customary” and “shows a lack of confidence in the risk.”
The Court also found that the Reinsurers were misled by the brokers into believing that the London Underwriters were retaining a portion of Apkindo’s cargo risk. The Court also found that the Reinsurers were induced into accepting the reinsurance proposal despite the facts that the issue of retention and the specific identify of the “reassured” were not discussed during negotiations. The Court described the references to Tugu in the reinsurance proposal as misleading because it suggested that Energex was acting on behalf of Tugu and wrongly suggested that the proposal pertained to both the London Underwriters and Tugu’s interest in the underlying risk. The Court found that the brokers “could – and should – have made the proposal clearer.”
The Court held that the London Underwriters’ failure, through their brokers, to disclose that they were ceding 100% of the Apkindo risk violated the duty of utmost good faith owed to the Reinsurers. The Court explained that the London Underwriters had an obligation to disclose all facts material to the original risk. The lack of any retention by the London Underwriters was unquestionably material because the Reinsurers would not have bound coverage had they been aware. The Court also rejected the London Underwriter’s argument that in the absence of an affirmative statement about the retention the Reinsurers had an obligation to make an inquiry. The Court found that the London Underwriters had an affirmative duty to provide that information because the Reinsurers could have fairly and reasonably assumed that there was a retention. Accordingly, the Court held that the Reinsurers were permitted to rescind the reinsurance agreements.