One of the most important provisions in any D&O policy is the commitment by insurers to advance defense costs pending the resolution of the claim. That’s because many large and complex claims, including U.S. securities claims, take many years to resolve and can cost millions of dollars to defend. Without this commitment the directors could find themselves bankrupt long before they have their day in court.
The position becomes even more vexed when there are outstanding coverage issues to be resolved. For example, it’s not untypical for insurers to reserve their position on coverage. What happens then? Also what’s the position when an employer similarly wishes to reserve its position to any contractual commitment to indemnify the director? This is a subject about which I have blogged about before.
A recent case in the English courts sheds fresh light on the nature and meaning of insurers’ commitment to advance costs in this situation, albeit in a case involving an accountant’s professional indemnity policy. What lessons does the case have for directors?
The new authority
In Oldham v QBE Insurance (Europe) Ltd, the insured was an insolvency practitioner who acted as an administrator of an international freight airline. He faced a judgment in excess of £1,000,000 by the airline’s subsequent liquidators. His professional indemnity insurers disputed that they were liable to indemnify him, since the claim had been made or notified to him prior to inception of the policy, but they agreed to fund defense costs while the coverage issue was resolved.
The dispute was referred to arbitration. In his award, the arbitrator agreed with insurers that the claim wasn’t covered because it wasn’t first made during the period of insurance. The accountant didn’t take issue with this, but did dispute, among other things, whether insurers were entitled to the reimbursement of defense costs advanced prior to the arbitration award.
The relevant provision in the insurance policy stated:
In the event of any dispute concerning liability to indemnify the Insured, …… the Insured and the Insurers agree that Insurers will advance Defense Costs and indemnify the Insured in accordance with clauses A1 – A3 and clause C5 above pending resolution of any such dispute.
The insured’s argument was that the phrase “pending resolution of the dispute” meant “until the dispute was resolved.” In other words, insurers were entitled to withhold payment from the point at which it was established in their favor, that they had no liability, but until that point they had to advance defense costs. He relied on the fact that there was nothing in the policy that required that advanced costs be clawed back in the event of a finding in insurers’ favor.
In this particular case, the Court wasn’t impressed with this argument. The judge started from the proposition that the liability of insurers for defense costs arises only, if and to the extent that, there’s coverage under the policy and went on in quite forthright terms:
Clause C10.2 provides that pending resolution of the dispute over coverage the insurer is to “indemnify the Insured in accordance with clauses A1-A3.”Clause A1 is concerned with the core liability to indemnify in respect of the assured’s civil liability. …. In other words in cases where the assured’s civil liability for a claim is established or admitted, clause C10.2C requires the insurer to provide the indemnity “pending resolution of the dispute.” It is absurd to suppose that in that context the expression meant simply “until” resolution of the dispute, with no right of reimbursement to insurers if coverage were held not to exist. It would allow an assured to establish liability on the part of the insurers where it did not exist in relation to the core purpose of the policy merely by asserting it without any foundation for doing so. The expression “pending resolution of the dispute” must mean the same when applied to a required advance of defence costs as it does to a required indemnity for liability. The natural conclusion is that in each case the payment is to be provisional and subject to repayment in the event that the dispute is resolved in favour of there being no coverage.
Lessons to be learned
It was always going to be an uphill struggle for the insolvency practitioner in this case to establish an irrevocable commitment by insurers to pay, not least because the finding of the arbitrator was that the main insuring clauses weren’t engaged because the claim wasn’t made during the relevant period of insurance.
What would the position have been if the facts had been more nuanced? Say for example, (as often occurs in practice) insurers had reserved their position on the potential applicability of one of the exclusions and the case, instead of proceeding to arbitral award, had been settled. Would insurers have been able to claim reimbursement of sums advanced or a proportion of them on the basis that the liability to indemnify hadn’t been established?
These are dangerous waters under English law. I blogged some time ago about the risks associated with the need to establish legal liability to trigger an obligation to pay defense costs under certain types of policies following the Court of Appeal judgment in the Astra Zeneca case.
Although it should be possible to craft indemnity policies that meet reasonable expectations that defense costs will be advanced pending resolution of disputes (including those as to coverage) while avoiding the absurd results against, which the judge warned of in this case, it shouldn’t be assumed that such a desirable outcome will always be achieved.