It has taken thirty years, but the Second Circuit Court of Appeals and the New York Court of Appeals have each finally disavowed their respective decisions in Bellefonte Reinsurance Co. v. Aetna Casualty & Surety Co. (1) ("Bellefonte"), Unigard Security Insurance Co. v. North River Insurance Co. (2) ("Unigard"), and Excess Insurance Co. v. Factory Mutual Insurance Co. (3) ("Excess") that had threatened "disastrous economic consequences" (4) for insurers who paid tens of millions of dollars in defense costs incurred by their policyholders in environmental, asbestos, and other product liability mass tort litigation, only to find their facultative reinsurance had "a gaping hole" created by a court-made unexpected cap on the coverage they thought they had purchased. (5)
This article will first present a brief overview of reinsurance, then discuss the earlier decisions that were "roundly criticized in the insurance industry" (6) and ignored by many arbitrators (7) confronted with "insurance-in-addition-to-limits" facultative reinsurance claims, and finally the New York Court of Appeals and Second Circuit's decisions in Global Reinsurance Corp. of America v. Century Indemnity Co. ("Global Re") (8) that brought the current state of the law in line with what has been the generally accepted reinsurance industry practice.
I. REINSURANCE GENERALLY
Reinsurance is a contractual arrangement that enables the reinsured (also called the "cedent") to transfer some or all of the risk of loss on policies it has underwritten to one or more reinsurers. (9) Simply put, reinsurance is "insurance for insurance companies." (10) Reinsurance permits the cedent insurer to '"minimize its exposure to catastrophic loss,' 'reduce the amount of the legally required reserves held for the protection of policyholders,' and [to] 'increase [its] ability to underwrite other policies or make other investments.'" (11)
There are two basic forms of reinsurance contracts: treaty reinsurance and facultative reinsurance treaties. (12) Treaty reinsurance "involves an ongoing agreement between two insurance companies binding one in advance to cede and the other to accept certain reinsurance business pursuant to its provisions." (13) Facultative reinsurance--so called because the cedent retains the "faculty," or option, to accept or decline the proffered risk, and the type involved in Bellefonte, Unigard, Excess and Global Re--"involves the offer of a portion of a particular risk to one or more potential reinsurers, who are then free to accept or reject the risk in whole or part." (14) The reinsurer agrees to indemnify the ceding insurer in exchange for an agreed portion of the premium for the risk transferred. (15)
Facultative certificates "are usually 'standard forms', 'short and concise, using terms of art rather than lengthy, legalistic explications to define the obligations of the parties.'" (16) They commonly contain provisions defining the reinsurer's obligations to the ceding insurer, including a "follow-the-form" or "following form" clause that is intended to bring about concurrence between the reinsured policy and the certificate. (17) "[C]oncurrency between the insurance and reinsurance policies is a what makes reinsurance work; if the insurance policy is triggered, it should follow that the reinsurance policy is similarly triggered." (18)
They also contain "follow the settlements" clauses binding reinsurers to "the settlement or compromise agreed to by the cedent unless they can show impropriety in arriving at the settlement," (19) or that the settlement was not "settled reasonably and in good faith." (20) And they will include provisions setting forth the type and amount of insurance provided by the underlying policy reinsured and the amount of "Reinsurance Accepted" by the reinsurer. (21)
"Aetna issued primary and excess insurance policies [insuring A.H.] Robins against liability for personal injuries arising from use of Robins' products," including the Dalkon Shield, an intrauterine device. (22) Bellefonte and five other reinsurers facultatively reinsured certain of the excess policies issued by Aetna to Robins. (23) Those certificates contained the following provisions:
[Provision 1] [Reinsurer]... does hereby reinsure Aetna... (herein called the Company) in respect of the Company's contract hereinafter described, in consideration of the payment of the premium and subject to the terms, conditions and amount of liability set forth herein, as follows.... [Provision 2] Reinsurance Accepted $500,000 part of $5,000,000 excess of $10,000,000 excess of underlying limits... [Provision 3] The Company warrants to retain for its own account... the amount of liability specified... above, and the liability of the Reinsurer specified... above [i.e., amount of reinsurance accepted] shall follow that of the Company.... [Provision 4] All claims involving this reinsurance, when settled by the Company, shall be binding on the Reinsurer, which shall be bound to pay its proportion of such settlements, and in addition thereto, in the ratio that the Reinsurer's loss payment bears to the Company's gross loss payment, its proportion of expenses... incurred by the Company in the investigation and settlement of claims or suits..., (24) After a number of products liability actions were brought against Robins, Aetna and Robins had a dispute over the extent of Aetna's liability as insurer for expenses incurred in defending the actions. Robins commenced a declaratory judgment action against Aetna... [seeking] a decision that defense costs were to be paid by Aetna, regardless of whether those defense costs exceeded the limitations of liability stated in the excess insurance policies. (25) The parties settled their dispute with "Aetna agree[ing] to pay an amount [far] in excess of the cap stated in its policies." (26) "The reinsurers did not participate in these settlement negotiations" and "did not sign the agreement." (27)
When Aetna turned to its reinsurers seeking more than $5 million as a portion of the excess amount it had paid, "[t]he reinsurers conceded that they were liable up to the amount of the limitation of liability provisions (Provisions 1 and 2) of each of the reinsurance certificates, but refused to pay any share of the excess amount." (28) The reinsurers then commenced a declaratory judgment action seeking to "limit their liability to the amount stated in the reinsurance certificates. Aetna answered and counterclaimed for a declaratory judgment that the reinsurance certificates obligated the reinsurers to 'follow the fortunes' of Aetna and indemnify Aetna for the excess defense costs owed to Robins." (29)
On cross-motions for summary judgment, "the district court held that the [$500,000] typed in the column entitled 'Reinsurance Accepted' was an overall limitation, and that the reinsurance certificates were cost-inclusive and capped by that amount." (30) The reinsurers appealed and "[t]he sole issue presented [was] whether the reinsurers [were] obligated" to pay more than the amount stated in their certificates as "Reinsurance Accepted." (31)
The Second Circuit affirmed. (32) It first found that "the district court correctly read the first two provisions of the reinsurance certificates to cap the reinsurers' liability, and that the 'follow the fortunes' doctrine does not allow Aetna to recover defense costs beyond the express cap stated in the certificates." (33) Rather, the Second Circuit noted that "follow the fortunes" clauses "are structured so that they coexist with, rather than supplant, the liability cap. To construe the certificates otherwise would effectively eliminate the limitation on the reinsurers' liability to the stated amounts." (34) When there is "genuine ambiguity over what a settlement covers, a 'follow the fortunes' clause may oblige a reinsurer to contribute to a settlement even though it might encompass excluded claims." (35) But, the Second Circuit did not think this was such a case. (36)
The Second Circuit also rejected Aetna's contention that the phrase "in addition thereto" in the fourth provision of the reinsurance certificate "indicates that the monetary limitation on liability set forth in the first two provisions of the certificates caps only the reinsurers' liability for the underlying losses, not the reinsurers' liability for defense expenses and costs," (37) stating,
Here, the limitation on liability provision capped the reinsurers' liability under the certificates. All other contractual language must be construed in light of that cap. .... Whatever the demand, the reinsurers' entire obligation is quantitatively limited by the dollar amount the reinsurers agreed to reinsure. Once the reinsurers have paid up to the certificate limits, they have no additional liability to Aetna for defense expenses or settlement contributions.... The reinsurers are liable only to the extent of the risk they agreed to reinsured. (38) The Bellefonte decision does not examine what risk the reinsurers "agreed to reinsure." Such an analysis must await Global Re.
Unigard, as reinsurer, appealed from a decision after a bench trial that held, in pertinent part, that cedent North River's...