Dornoch Ltd. & Ors v Royal and Sun Alliance Insurance Plc

A condition precedent requiring a reinsured, upon knowledge of a loss which may give rise to a claim, to notify reinsurers within 72 hours is triggered by knowledge of an actual loss. It is not triggered merely by knowledge that a loss has been alleged or claimed.

Objective, contextual construction does not permit the court to rewrite an unsuitable standard clause to produce a more commercially convenient result, particularly where the proposed construction would enlarge a provision excluding liability. Such an exclusion must be stated clearly on a fair construction.

A person cannot know that a contentious loss exists while its existence remains undetermined. Whether notification is triggered before judgment or settlement therefore depends upon whether the underlying facts already establish an actual loss.

The appellants were reinsurers of the respondent insurer’s participation in directors’ and officers’ liability cover for a company facing two United States securities class actions. The reinsurance incorporated a claims control clause. As a condition precedent to liability, it required the respondent to advise the reinsurers within 72 hours after gaining knowledge of a loss which might give rise to a claim.

The respondent knew of the complaints in December 2000 but notified the appellants on 19 January 2001. Aikens J held in the Commercial Court, [2004] EWHC 803 (Comm), that the relevant loss was the investors’ loss and that the respondent had not known of an actual loss before giving notice. He granted a declaration in the respondent’s favour.

The appeal principally concerned whether “loss” meant an actual loss or an alleged or claimed loss, whether the respondent had knowledge of such a loss, and, if material, whose loss the clause contemplated.

1. Appeal dismissed unanimously. Longmore LJ delivered the judgment, with which Mance and Brooke LJJ agreed. The claims control clause required knowledge of an actual loss. Knowledge that a claimant had alleged a loss did not suffice.

2. The court accepted that contractual language must be construed objectively and in context. Nevertheless, the court could not rewrite an ill-chosen standard clause merely because its literal operation was commercially inconvenient. The clause appeared better suited to property damage insurance than liability reinsurance. Giving “loss” the meaning “alleged loss” would alter the selected language and enable the reinsurers to invoke the clause’s draconian consequence: complete exemption from liability following a failure to notify within 72 hours.

3. A reinsurer of liability is prima facie liable to the extent of its subscription once the reinsured’s liability to the third party is ascertained. A condition precedent excluding that liability must therefore use clear words on a fair construction. The clause did not state sufficiently clearly that notification was required upon knowledge merely of an allegation or claim.

4. The respondent lacked knowledge of any actual loss. The investors’ contention that they had bought shares at artificially inflated prices remained disputed and unproved. A person cannot know that a contentious fact exists while that fact remains undetermined. A fall in the share price did not itself establish a loss caused by artificial inflation.

5. The court did not hold that an actual loss can never be known before judgment or settlement. In another case, the facts may clearly establish a third party’s loss at an earlier stage, permitting reinsurers to receive notice and exercise claims-control rights before the underlying proceedings conclude.

6. It was unnecessary to decide whose loss the clause contemplated. Longmore LJ nevertheless agreed with Aikens J that it would be the third party claimant’s loss. If it meant the insured company’s loss, that loss could not arise before the company’s liability was established by judgment or settlement, making the clause’s claims-control machinery practically otiose.

1. Court of Appeal (Civil Division): The appeal was dismissed unanimously. The declaration in favour of the respondent was left undisturbed. Permission to appeal to the House of Lords was refused.
2. High Court, Commercial Court: Aikens J, [2004] EWHC 803 (Comm), held that the clause contemplated the third party claimants’ losses and that the respondent did not know of an actual loss before notifying the reinsurers. A declaration was granted in the respondent’s favour.