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Risky Business A U.S. and Bermuda Under 40s (Re)Insurance Collaboration Inaugural Edition |
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Reinsurers Succeed in Prompting a Captive to Challenge Coverage By Timothy G. Church, Esq.
There is an inherent conflict between a captive insurer and its reinsurers when a coverage issue arises. This inherent conflict should prompt reinsurers to take an active role in a claim’s adjustment. Such was the case in the recently-reported decision of Compagnie des Bauxites de Guinee v. Three Rivers Insurance Co.1, discussed here. Property insurers typically cover the lesser of the cost to repair or replace. But what happens when the policy does not specify that it covers “the lesser of,” and an insured chooses the more expensive replacement option? Does the cost of repair act as a limitation on the cost to replace? The Western District of Pennsylvania recently addressed this question in Three Rivers. There, the insured CBG suffered a loss during 2003 when a 30-year-old piece of production equipment, known as a Stacker/Reclaimer, collapsed. A dispute then ensued as to whether the old equipment could be repaired. Underlying this dispute were two key facts. First, the old Stacker was at the end of its useful life and any repair would be of limited use. Second, the cost to replace the Stacker approximated $28,000,000 with a 30-month interruption period. However, the cost to repair only approximated $3,000,000 with a 10-month interruption period. CBG’s insurer, Three Rivers, was a captive that provided cover for both property damage and business interruption2. And, the policy contained three clauses concerning the PD loss measurement. Two clauses provided only replacement cost coverage. However, the third clause, which specifically referenced production machinery, valued a loss at the cost to “repair or replace new.” CBG alleged that the loss measurement clause was ambiguous and such allowed CBG to take 30 months to replace the Stacker at substantial cost. In response, Three Rivers (with the concurrence of their reinsurers) contended that the production equipment could be repaired and returned to service in 10 months. In view of the competing policy interpretations, the Court first considered whether the policy was ambiguous. But the Court quickly dismissed this argument because the damage occurred to production equipment, which the policy clearly valued at the cost to “repair or replace new.” The Court then noted that the words “repair” and “replace” have “settled meanings.” The word “repair” meant “restoring the object’s function and purpose.” And, the word “replace” meant the actual value of the property at the time of the loss––without deduction for deterioration/obsolescence. Then, in analyzing how the parties intended to value the loss, the Court considered the settled meanings together with the policy’s structure and language. During this analysis, the Court noted four concepts. First, the structure of the loss measurement clause evidenced an intent to give the repair/replacement alternatives “separate and distinct spheres of operation.” Second, the policy’s loss measurement concerning lost stock was “at the insured’s option.” But no option was stated concerning production equipment. Third, buildings were valued at replacement cost (i.e. no repair cost option). Fourth, allowing CBG to choose a longer replacement option would render the BI time limitation for due diligence and dispatch “superfluous or illusory.” The above considerations led the Court to conclude that the cost of repair acted as a limitation. But determining whether the Stacker could be repaired was a jury question that depended on the degree of destruction and the resulting circumstances. Following the above decision, the case proceeded to trial. The jury determined that the Stacker was repairable and awarded damages of approximately $3,500,000, which was in accord with Three Rivers’ loss measurement. CBG subsequently abandoned its appeal, and the decision is now final. This case illustrates the importance of careful policy draftsmanship. And, while the captive and its reinsurers prevailed, such required years of expensive litigation. This time and expense would have been much less if the policy had used the phrase “the lesser of.” But if this phrase cannot be inserted in the future, then this decision at least provides guidance as to how such policies should be interpreted. Additionally, this case illustrates that a reinsurers’ attentive claim management can overcome the conflict between a captive insurer’s desire to pay a claim, and its obligations to reinsurers to analyze the claim objectively.
About the author: Timothy G. Church is a partner at Bruckmann & Victory, LLP in New York, where he conducts coverage analysis and litigation of first-party property and environmental liability claims for commercial insurers and reinsurers. If you have any questions, you can contact Mr. Church at church@bvlaw.net.
© Copyright 2008 1 2007 WL 1656253 (W.D. Pa). 2 Bruckmann & Victory, LLP represented Three Rivers’ reinsurers. |
