Nationwide General Insurance Company & Nationwide Mutual Insurance Company & Anor v North Atlantic Insurance Company Ltd & Ors

Once again the “Rutty Pool” is the subject of extensive litigation in the Commercial Court and now the Court of Appeal. M E Rutty Underwriting Agency Limited (the Rutty Agency) wrote business on behalf of certain companies (the pool) during the period 1962 to 1967. The agency was authorised by written agreements to underwrite “any risk whatever” for an amount not exceeding a fixed percentage of the limits set out in schedules to agreements, each company binding itself to accept liability for its share. The First Agency ran from 1^st August 1962 to 31^st December 1966. It commenced with agreements with individual members of the pool dated on or about 1^st August 1962. They were amended from time to time by addenda and all terms were consolidated ultimately into one document dated 18th February 1965. The Second Agency covered the period 1^st January 1967 to 31^st December 1967. Again the Rutty Agency had written contracts with individual members of the pool. The agreements for 1967 contained some additional terms, but no one has suggested before us that it is likely that those differences would lead to a different result in relation to the points in issue. Indeed the second appellants (Wurttembergische) who were represented below, and who were parties to the Second Agency agreement, which the first appellants (Nationwide) were not, have not appeared before us, content to rely on the arguments of Mr Mildon QC for Nationwide. I append to the judgment the chart, exhibit CW10, showing the different percentages which different members of the pool had from time to time. I shall refer to parties by the names by which they became known, and in the nomenclature adopted during the hearing of the appeal.

The Rutty Agency ceased underwriting in 1967. It was thereafter concerned with the run-off. The business written by the pool was long tail in nature and although there must have been an expectation that some ten years after ceasing underwriting all would have been finalised, as a result of the massive asbestosis and pollution claims in the United States of America large volumes of claims continued to be received. The problems that arise so far as this piece of litigation is concerned relate to the fact that certain of the pool members have become insolvent. In particular disputes have arisen as to the effect of the insolvency of one or more of the pool members in the context of the reinsurance protections obtained by the Rutty Agency for the protection of the pool.

By a judgment dated 13^th March 2003 Cooke J ([2003] EWHC449 (Comm)]; answered 26 questions to assist in the resolution of the disputes. Some of the answers to the questions had been agreed between the parties and were confirmed by the judge. Others he resolved but not all to the satisfaction of Nationwide (or Wurttembergische). They also appeal, but I can deal with the points by reference to Nationwide’s appeal alone.

As I will explain in more detail below, Nationwide were used as a front during the period of the First Agency, and they remain solvent. NAIC were used as a front but to a much more limited extent, and they are insolvent. AFG were only rarely used as a front and are insolvent. Nationwide argue that because as the front they are 100% liable to the insured on the risks underwritten by the Rutty Agency, they are entitled to claim directly the proceeds of the reinsurances taken out by the Rutty Agency to protect the pool. NAIC and AFG argue that the position in law is that they have a liability to take their share as pool members and indemnify Nationwide and other fronters to that extent, and that although it is true the liquidator will only be able to pay a dividend in respect of that liability, they have the claim to the reinsurance monies.

Cooke J held that NAIC and AFG were correct in their assertion. Nationwide describes the result in emotive terms. They suggest that the effect of the judge’s decision is that they suffer a “double whammy”. They say “Having picked up 100% of inwards liabilities in accordance with their obligation to the original insureds, not only do they find that their claim to pool contributions from the insolvent member is worthless, but the liquidator of the insolvent pool member is entitled to “make off” with part of the reinsurance which was intended to protect the self-same inwards risk.”

Those acting for NAIC and AFG say that such use of emotive language is not helpful. They say that insolvency can produce, what may seem to those who suffer as a result, unfairness. They point out that if it was Nationwide, which had become insolvent, Nationwide’s solution would possibly produce “unfairness” of a different kind. Where insolvency intervenes, (and this was ultimately realistically accepted by Mr Mildon), the solution is unlikely to be found by looking at what is fair or unfair to one party. The court is simply concerned to identify what assets form part of the estate of the bankrupt or the company in liquidation at the material time.

I would make another general point. Mr Mildon sought to suggest that the answer that the judge gave in this case would have an unexpected impact over many aspects of the insurance and reinsurance market. For example Mr Mildon submitted that if the judge was right in this case, then where any contract of reinsurance taken out for “common account” refers to the reinsured “and /or their quota share insurers”, and where the quota share insurer becomes insolvent, the effect will be that the liquidator of the insolvent quota share insurer will have a claim on the reinsurance but only pay a dividend on his obligation as quota share insurer.

I do not necessarily accept that wide reaching proposition. It is fair to Mr Mildon, to say that the judge rather assumed that the above would be the position [see paragraph 40 of the judgment], and it would seem that this did influence him in the conclusion he reached – treating the pool arrangement as, in effect, a quota share arrangement. I would simply say that as was accepted by Mr Crane QC for NAIC, an insurer may seek to protect himself by reinsurance or share the risk in a variety of different ways. He could make a bargain or bargains under which he has a direct claim and the only claim on the reinsurance, and share the net result with his quota share insurers; (what I shall call for short “the direct method”); or he could make a bargain or bargains under which he is authorised to make the quota share insurers the reinsured to the extent of their share, leaving himself and the quota share insurers with claims on the reinsurance each to the extent of their share (what I shall call for short “the indirect method”). Which bargain has been made will simply depend on the proper construction of the contracts made. In many cases it may not actually matter whether the direct or indirect method has been used because while all are solvent, the result will be the same. Where insolvency is involved it clearly does matter, and what the court is concerned to identify is not what in the light of an insolvency a party might wish he had achieved, but in the interests of the creditors of the insolvent company or companies, whether that company or those companies have an asset i.e. in this case a claim on a particular policy.

One further general point which is important in considering the points that arise, is the rule of public policy confirmed by the House of Lords in British Eagle v Air France [1975] 1 WLR 780. That rule is expressed in the words of Lord Cross who gave the speech on behalf of the majority in the following words:

Mr Zacaroli, who appeared for AFG and made submissions on this aspect which Mr Crane adopted, suggested that so far as the rule was concerned there was actually no difference between the majority and the minority citing from the leading speech of the minority given by Lord Morris at page 764 where he said this:

I am not sure Mr Zacaroli was quite right, and it may not matter. But if there is a difference it is because Lord Cross’ formulation encompasses any agreement that has the effect of overriding the pari passu rule rather than as Lord Morris would it seems have preferred, an agreement under which it was intended at the time the agreement was formed to avoid the pari passu rule. It is of course the majority view as expressed by Lord Cross by which we are bound.

Mr Mildon suggested (and Mr Crane and Mr Zacaroli did not really dissent), that there were three issues or groups of issues; first which entity - front (direct method) or contributing pool member (indirect method) - had the claim on the reinsurance? Second, if the answer was the contributing member, then what was the impact of the accounting arrangements agreed inter se between pool members? Was some form of trust agreed? What is the effect of the termination of the Rutty Agency’s authority in 1996? Third, what is the impact of the rule of public policy as explained in British Eagle. It is common ground that if the first question is answered in favour of Nationwide (the direct method), the second group of questions is irrelevant; and so far as the third question is concerned, the public policy identified by British Eagle has no application. The reinsurance proceeds would be those of the fronting company, and that would be the end of the matter.

In my view the reality is that if the answer to the first question is that the contributing company has the claim (the indirect method), then Nationwide could only succeed if they could obtain a positive answer to the question whether some form of trust applied to the proceeds, and I do not at present see how that argument can succeed. Indeed Mr Mildon only dealt with it very shortly in his oral argument recognising the difficulties. I will deal with these arguments after dealing with what in my view is the key point, and confine myself at this stage to saying that if the reinsurance proceeds are assets of the contributing companies, no agreement to deprive the liquidator of those assets could be valid under the British Eagle principle, and the Agency Agreements by their express words set up trusts where they intended trusts, and did not do so in respect of the proceeds of the reinsurance claims.

I turn to the key question. Where risks were fronted, was it the fronter who had the claim on the reinsurance (the direct method), or each member to the extent of their contribution (the indirect method)? The answer turns as I see it on the answer to one question – who were the parties to the reinsurance contracts? One will be helped in providing that answer by a consideration of what the Rutty Agency’s authority was – but if the answer is that the contributing members were parties to the reinsurance contracts, and if they were protected by the reinsurances to the extent of their contribution, there is only one answer to this question.

The starting point, in my view, is this. When the Rutty Agency began to underwrite, it did so without any authorisation to front. The first agreements made in August 1962 envisaged that each of the companies for whom the Rutty Agency was authorised to underwrite would be accepting the risk up to the extent of their share. It is in that context that one must read Clause 4 of the original agency contracts as at 1962 which, at this stage, contained no reference to fronting:

Although the authorisation to front was soon to follow, the Rutty Agency would have taken out reinsurances to protect the pool. I would assume that it would have done so in much the same terms as the examples supplied to the court albeit some are 1963, some 1965 and some 1967. The parties to the reinsurance contracts are variously described as:

“The Insurance Company and/or Companies in the Group as underwritten for by M.E. Rutty Underwriting Agency Ltd” (Tab 11);

Mr Mildon accepted that clause 4 of the agency contract gave the Rutty Agency authority to make each pool member a party to the reinsurance contract, and agreed that the nomenclature used on the reinsurance contracts (save, possibly, the renewal in 1964 naming “Nationwide”) would have had the result that each was a party to the reinsurance contracts. On reinsurances before any fronting had been authorised, Mr Mildon does not contest the analysis of Hirst J in Pan Atlantic v Pine Top [1988] 2 Ll Rep 409 at 510. That analysis shows that the reinsurance evidenced a series of bilateral contracts made between each of the pool members for the time being and the reinsurer, with each contract protecting the pool member’s individual interest.

By an addendum completed in September 1962, clause 4 had a further sentence added. The original wording of clause 4 was not altered, but added to it was the authority granted to the Rutty Agency to front, at this stage by the use of two member companies. The authority was later altered to allow the use of one company as a front and it is in that form that clause 4 appeared in the composite agreement of 18^th February 1965. Clause 4 must of course be construed in its context, and I accordingly set out clauses 2 to 5 of the composite agreement.

THE Agency may at its absolute discretion reinsure the whole or part of any Risk and/or Insurances where it is deemed to be in the best interests of the Participating Companies, such reinsurances being effected for the common account of the Participating Companies, and the Company shall bear its proportionate part of the premium paid and expenses incurred in respect of such reinsurances and shall be credited with any recoveries resulting therefrom. It is understood and agreed that the Agency may at its absolute discretion underwrite Risks and/or Insurances in the names of any one of the Participating Companies where it is deemed to be in the best interests of the Participating Companies so to do, provided always that the Agency shall effect the necessary apportionment of premium in respect of such Risks and/or Insurances over all Companies in accordance with the proportions listed in the First Schedule and that each Company shall bear its proportion in accordance with the First Schedule of any loss or losses arising on such Risks and/or Insurances.

THE Agency shall enter in a Register details of each Risk and/or Insurance effected under this Agreement and the amount of the Company’s participation. The books and documents of the Agency so far as they relate to matters falling under this Agreement shall be open at all reasonable times to the inspection of the Company by its duly authorised representative and the Company shall be entitled to take extracts therefrom of matters concerning the Company for its own private use.”

It is common ground first that the effect of there being four agency agreements on similar terms, each entered into on the basis that the others would be entered into, is to introduce by implication terms agreed as between the different members of the pool – referred to in argument as the Satanita contract following the authority which establishes the existence of such a contract in similar circumstances Clarke v The Earl of Dunraven (The Satanita) [1895] P248. It was thus also common ground that the effect, of each member authorising fronting in this pool arrangement, was to imply a term under which each member indemnified the fronter so as to bring about a situation in which each actually carried his percentage share of the risk, and I would add (though I am not sure Mr Mildon would necessarily accept this) as if each had been on the risk for their agreed percentage as envisaged when the agency agreements were originally signed.

Mr Mildon argued that applying the words of clause 4, first sentence strictly, what the Rutty Agency had the authority to reinsure was “the whole or part of any risk and/or insurance”; those words he submitted refer to the inward risk being written by the Rutty Agency. If members of the pool are actually on the inward risk as named parties to it, then the authority was to reinsure their share of that risk. Where a company wrote 100% as a front, it was that 100% on behalf of the fronting company which the Rutty Agency was authorised to reinsure. So far as the description of the reinsured on the various reinsurances were concerned, Mr Mildon argued that it was necessary to have all members as reinsured because any one of the members could be placed on inwards risks as a front or any two companies could be so placed. Naming as reinsured simply allowed whichever was on the risk as written by the Rutty Agency, to claim on the reinsurance in respect of and to the extent they were on that risk. Mr Mildon pointed to the one case in which the Facultative reinsurance actually named Nationwide as the party (see Tab 15 referred to 15 (iii) above); that he submitted supported his argument as to the intention of the parties.

His further argument was that the above construction did protect the pool. It meant that the direct method had to be used, but he submitted that the effect was that the pool were protected because before looking to the other members of the pool for their share, the fronting company took into account the reinsurance proceeds.

He furthermore relied on certain factors to support his argument. First, he relied on the fact that the Rutty Agency for many years, even after the run-off commenced, accounted net i.e. accounted on the basis that the reinsurance proceeds had been received even though they had not. This was so even after 1979 when NAIC took over the Rutty Agency, and continued up until 1987. Second, he pointed to the Register kept by the Rutty Agency pursuant to Clause 5; this register showed the extent of the risk taken by the fronting companies rather than the risks shared on the basis of the agreed participation.

But the factors referred to in paragraph 22 above, cannot help as to the proper construction. In the first place the way matters were accounted for by the agency is not a sure guide as to precisely what was being agreed as a matter of legal liability with the reinsurers. The reinsurers were not parties to any accounting arrangements. The internal register was also unlikely to be definitive whatever it said; what it does say is in fact neutral. In the second place if what happened as a matter of accounting has any relevance it is two edged, because from 1987 the Rutty Agency insisted on the members paying their share, the reinsurance proceeds being credited only once they were received [see paragraph 24 of the judge’s judgment]. It might be thought unlikely to have been contemplated that if members could be forced to pay their share they would not have the protection of the reinsurance taken out for their account.

In my view, as valiantly as Mr Mildon argued the point, there is only one answer on this aspect of the case. By clause 1 what each of the members of the pool authorised was for the Rutty Agency to underwrite for an amount not exceeding a fixed percentage of the risk; and each member accepted its share of liability. The fronting arrangement was not intended to change that arrangement in any fundamental way. It was simply intended to allow one company to be put up as a front, but the liabilities as between the members was intended to be the same. It was the risk of each member of the pool, which the Rutty Agency was authorised to reinsure. It was not intended that should be altered by the fronting arrangement. Each member was liable for its share of the premium for the reinsurance; each member was to be entitled to the benefit of the reinsurance arrangement for which it had paid.

There are further points which can be made by reference to the reinsurance contracts themselves. They are put well in paragraph 24 of the skeleton of Mr Crane:

The naming of Nationwide as a reinsured in one facultative cover (Tab 15) (a straw to which Mr Mildon clutched), does not change the whole picture or indeed any part of the picture. That contract was, as indicated, a renewal, and the wording of the year before was consistent with each of the members of the pool being the reinsured. It would make no sense for some different arrangement to have been made for one year on a facultative reinsurance. The reality was that the Rutty Agency was placing reinsurance to protect the pool, each member of the pool was paying its share of the premium in order to have its share protected, and the reinsurers knew as the evidence showed that that was what the Rutty Agency was doing whatever form of words were used to describe the pool.

I should just add that Mr Mildon sought, perhaps prompted by questions from the court, to suggest what was termed a “third way”. In response to Mr Crane’s submission that the reinsurance proceeds must belong to someone and that that must either be the fronting company or the individual members of the pool, Mr Mildon sought to argue a possible alternative, a joint entitlement which did not in some way allow for release to any member prior to the debiting of claims. This confuses such contract as existed between the reinsurers and the party or parties to the reinsurance contracts, and the contracts that existed between Rutty and the pool members, what was described as the Satanita contract. On any view the reinsurers were not parties to any contract under which they could not pay reinsurance proceeds gross to someone.

If the pool had been a partnership, that might have been different, but that is one thing it was not. There is therefore no third way, and under the reinsurance contracts the moneys were payable to the members of the Rutty pool by reference to their individual shares.

What then of the second and third issues? What could prevent the liquidator of NAIC or AFG collecting the reinsurance proceeds? Mr Mildon suggests if he fails on the first issue the accounting arrangements provide the answer. Those arrangements are set out in Clauses 8 and 9 of the First Agency agreement:

First Mr Mildon would suggest that as a matter of contract between the Agency and the individual pool members, the agreement was that the Rutty Agency would collect the reinsurance and then share the proceeds out but only after making relevant deductions for claims. Second he suggests that that arrangement had the effect of imposing some trust on the proceeds, a trust for the purpose of paying the claims on the inwards business.

I mean no disrespect in saying I can deal with these arguments quite shortly. First much reliance was placed in the court below and before us on the basis that following the demise of the Rutty Agency, the arrangements for accounting came to an end, and so this point is no longer available to Nationwide as a contract point. That may well be right although I do not myself find it very satisfactory to hold that if there was a contractual arrangement as between the members which could have affected the question whether each individual member had the right to collect the proceeds, that contractual right has ceased simply because the agent empowered to produce the accounts has had his agency terminated. It seems to me that the answer is much more straightforward. An arrangement between the members as to how the proceeds of the reinsurance was to be dealt with once collected by the agent on behalf of the member, cannot affect the right of the liquidator to collect the asset for the benefit of the general creditors. In British Eagle Lord Cross was prepared to assume that the debt was as a result of the clearing arrangement no longer the debt of Air France (see page 778), and even on that assumption held that the clearinghouse arrangement could not survive the liquidation.

In the instant case such arrangement as there was did not bind the reinsurers, and thus the debt due from the reinsurers is in fact a debt owed to each member. An arrangement between the members alone cannot, unless a trust is established, affect the right of the liquidator to collect the asset of the member. Even if the reinsurers had been a party to the accounting arrangements in a way which had spawned a contract under which no debt was due to the member from the reinsurer but only a debt from the Rutty Agency, that arrangement would have fallen foul of the principle in British Eagle.

Do the accounting arrangements produce a trust over the reinsurance proceeds? Clause 8 of the agency contract establishes a trust over the Premium Reserve Fund. It would have been possible to establish a trust over the reinsurance proceeds. This is indeed a term of the Lloyd’s Premiums Trust Deed Schedule 2 [see Tab 21]. Clause 15 of the Rutty agreement also foresees insolvency and makes express provision for what is to happen in that event:

That clause is clearly invalid as contrary to the principle in British Eagle. But in considering whether it might be possible to imply a term so as to give rise to a trust, already very difficult in the light of clause 8, it becomes impossible in the light of clause 15.

I have I appreciate not dealt at length with all the arguments presented to us. They were dealt with in detail by the judge. In my view the position is clear and can be put shortly for the reasons that I have endeavoured to give. The debts due from the reinsurers are debts which the liquidators of the insolvent members of the pool are entitled to collect in accordance with their percentage share and l would dismiss this appeal.

I agree that this appeal should be dismissed for the reasons given by Waller LJ.

I also agree.