Practice and Procedure


PUBLISHED July 10, 2003

The writing of reinsurance contracts under a binding authority granted by the claimants involved dishonest breach of fiduciary duty and fraudulent misrepresentation by the defendants who held the binding authority and dishonest assistance by the placing brokers.Action by the claimant reinsurers ('SD') against the defendants who held a binding authority ('the binding authority') from SD, brokers ('SCB') and the sixth and seventh defendants (who were actively involved in SCB), alleging that the writing of reinsurance contracts under the binding authority involved dishonesty, conspiracy and fraudulent misrepresentation by the defendants. In 1997 SD granted the binding authority to the second defendant ('W'). The binding authority, which was granted through brokers ('HHI'), was subsequently transferred to the first defendant ('EIU'), a company formed by W, and the business accepted under it was written by the third defendant ('H'). During the 18 or so months when the binding authority operated H accepted a total of 119 contracts of reinsurance of which 112 were placed by SCB. SCB was the leading broker in part of the reinsurance market that traded in the losses generated by US Workers' Compensation ('WC') insurance. The business was liability insurance and not personal accident insurance properly so called. Certain reinsurers provided reinsurance of WC risks at a premium which was far less than what they knew they would have to pay out by way of claims on the basis that they had outward reinsurance by way of retrocession and were making a profit "on the turn". The brokers also earned brokerage on each trade. Between the reinsurers and the retrocessionaires in this part of the market there arose a spiral which entailed the losses being passed round between participants. In mid-1998 SD inquired into the business being written under the binding authority and imposed a moratorium on the acceptance of further business under it. In 1999 SD terminated the binding authority and in 2000 issued proceedings claiming against EIU for breach of fiduciary duty and fraudulent misrepresentation, against SCB and the sixth and seventh defendants for dishonest assistance in breach of fiduciary duty, and in conspiracy. Alleged losses were in the order of $250 million.HELD: (1) It was plain that this market in WC risks was unsustainable since certain participants were deliberately accepting business known to produce losses in excess of the premium charged on the basis of availability of retrocession. The business could not be written rationally or prudently on the assumptions that had to be made in the market in 1997 and 1998.(2) There was obviously a duty to disclose to any reinsurer the fact that the business to be reinsured was being written deliberately on the basis that it would make a gross loss with a loss ratio in some cases of many hundreds of per cent. There also had to be specific disclosure of any business of this type that had a spiral content. Where someone was being offered business which appeared on its face to be conventional business but which in truth was business that was being written deliberately in order to generate gross losses, particularly if it was spiral business, then on ordinary principles there was clearly a duty of the fullest disclosure. Only if the broker knew that the person to whom he was offering the reinsurance knew the true nature of the business being offered, would he be absolved from explaining it to that person.(3) The business was a type of business which no prudent person would touch if it was properly described. The position of reinsurers on the higher layers was that there was innocent capacity in the sense of persons who might have prudently entered into contracts of reinsurance at a high layer on the basis of the information provided without realising that they were taking on inevitable working layer losses from this type of business.(4) The prime movers in the market were prepared to write the business because they knew that there were others to whom the losses could be passed who did not understand the business and would therefore accept the losses from those that did for little premium. But it was not inherently dishonest to place or cede such business if there was full disclosure.(5) The terms of the binding authority as set out in the slip were very wide; they did not preclude the writing of treaty business including "London market excess of loss" ('LMX'), retrocessional and international "excess of loss" ('XL') business. SD was never told and never understood that gross loss making business was to be written and never authorised the writing of an account of gross loss-making business to be written on the backs of reinsurers. Although the terms of the slip permitted it, SD did not intend to authorise the writing of treaty business. When SD granted the binding authority to EIU the nature of the business to be written was fraudulently misrepresented. The fact that the business was loss making was deliberately concealed.(6) H accepted business which he knew would make gross losses in the expectation that he would recover most of the losses from reinsurance and that the premium he received would be greater than the sum of the retained losses he would have to pay and the premium on the outwards reinsurance.(7) EIU and SCB acted dishonestly in inducing SD to become involved in the business. The grant of the binding authority was induced by fraudulent misrepresentation. The business plan contained misrepresentations which W and H knew to be untrue and which were intended to conceal the true nature of the account to be underwritten by H, namely that it was to comprise a significant amount of gross-loss making WC business that was to be written on the backs of reinsurers. It was not a document innocently prepared in a way that could have been better expressed, but a carefully crafted document intended to deceive any reader and to disguise the true nature of what was to be done. SD's claim for fraudulent misrepresentation succeeded against W and H.(8) The effect of the agreements made was to funnel the losses to SD. H knew that what he was doing was dishonest in all the circumstances. SCB dishonestly assisted EIU in the writing of all the business that was written by EIU for SCB and its clients, and that was done from no later than 3 February 1997; that dishonest assistance therefore extended to all the contracts.(9) W, EIU and H owed fiduciary duties to SD despite the interposition of brokers HHI as a matter of contract.(10) SD did not know that H was writing gross loss making business on the back of reinsurance. SD was not told that LMX business, which was not covered by SD's internal reinsurance programme, was being written by EIU. EIU could only obtain reinsurance from SCB. That reinsurance created a spiral.(11) EIU acted extensively in dishonest breach of its duties under the binding authority. H acted dishonestly in accepting most of the reinsurance contracts. SD's claims for dishonest breach of fiduciary duty succeeded against W, H and EIU.(12) SCB dishonestly assisted EIU in its dishonest breaches of fiduciary duty to SD. SD's claim for dishonest assistance succeeded against EIU, H, SCB and the sixth and seventh defendants.(13) All the defendants acted in collusion.(14) However SD itself was grossly negligent and incompetent in failing to investigate and detect the dishonesty of EIU and SCB long before it did. SD should have discovered in the course of the operation of the binder that gross loss-making business was being written.Judgment accordingly.

[2003] EWHC 1636 (Comm)