SEDGWICK SUMMARY OCTOBER 2009
Follow the Settlements — Under English and Bermuda Law
Any reinsurance claim involves a certain tension: the cedents want their money without having to prove their losses again; the
reinsurers want to ensure that the underlying claim is one to which both insurance and reinsurance contracts respond.
Importantly, English law generally considers reinsurance
not as a form of liability cover for the
cedents (i.e. to pay them in respect of any liability
they may have in respect of the original risk),
but as a reinsurance of the same subject matter
as the original policy. Accordingly, absent specific
contractual provisions, under English law
the cedent must establish, as a matter of fact
and law, that the loss is covered by the insurance
contract and the reinsurance contract.
In order to ease the tension between the cedent
and reinsurer, and for reasons of commercial
efficacy, it has become usual for the parties to
adopt some form (and there are many) of ‘follow
the settlements’ wording.
Types of Clause
The starting point is the so-called ‘Full Reinsurance’
or ‘Full R/I’ clause which typically
provides that the reinsurance operates as ‘…a
reinsurance of and warranted same gross rate
terms and conditions as and to follow the settlements
of [the reinsured]’. The leading case, ICA
v SCOR  1 Lloyd’s Rep 312, involved
a facultative arrangement and established that
if (a) the claim falls as a matter of law within
the scope of the reinsurance contract, and (b)
if the cedent acts in good faith and (c) in a
proper and business-like manner, then reinsurers
are bound by the settlement. The clause
also reverses the common law burden of proof,
such that, in case of dispute, it is for the reinsurer
to prove that the cedent has not acted in
good faith or in a proper and business-like way
(Charman v GRE  2 Lloyd’s Rep 607).
In treaty reinsurance, the formulation is subtly
but significantly altered, a standard clause providing
that: ‘All loss settlements by the reinsured
shall be binding upon reinsurers provided that such
settlements are within the terms and conditions of
the original policies and within the terms and conditions
of this policy’…’. In other words, unlike
with the SCOR-type clause, any settlement by
the cedent must be valid under both the insurance
and reinsurance contracts in order to bind
the reinsurer (see the House of Lords decision in
Hill v M&G Re  1WLR 1239).
The ‘Back-to-Back’ Presumption
Following the decisions in Vesta v Butcher 
AC 852 and Groupama v Seguros Catatumbo
 2 Lloyd’s Rep 350, a presumption has
grown up that where there is a ‘follow’ provision
in the reinsurance contract the insurance and
reinsurance must necessarily be ‘back-to-back’.
The recent decision of the House of Lords in
Wasa v Lexington  UKHL 40, while not
on ‘follow the settlements’ per se, deals a blow to
that concept. Wasa makes it plain that ‘follow’
clauses do not operate to bring within the scope
of a reinsurance risk that, on a true interpretation
of the policy, would not otherwise be covered.
In the circumstances, it seems probable
that the somewhat doctrinaire ‘back-to-back’
presumption will revert to its original conception
as a ‘sensible principle of construction’ (see
Mance LJ at paragraph 52 of Wasa).
What if the insurer enters into a ‘commercial’
settlement and then seeks recovery from his reinsurer?
Since it would be unacceptable to litigate
every claim to final award, many—indeed
most—loss settlements involve some element of
compromise. In general, a ‘loss settlement’ that
includes compromises of liability will be recoverable
provided that those compromises are bona
fide and made in a proper and business-like way.
However, there are exceptions to that general
proposition and close attention should be paid
to the words used and the facts involved.
In Faraday v Copenhagen Re  EWHC
1474, the reinsurance contract contained a Full
R/I clause which expressly excluded liability for
‘without prejudice’ and ‘ex gratia’ settlements.
The cedent disputed certain of the underlying
claims but not others, finally effecting a global
settlement on an expressly ‘without prejudice’
basis. The court found that this meant that
there was no admission of liability at all under
the original policy, and therefore nothing to
which the reinsurance could respond.
Lumbermans v Bovis Lend Lease 
EWHC 2197 involved a lump-sum payment
on the underlying claim to settle both
disputed and non-disputed sums, with no
apportionment between the two. Reinsurers
declined cover and the Court held that the
cedent was unable to adduce extrinsic evidence
to prove its loss. On the other hand,
in Enterprise Oil v Strand  EWHC 58
the cedent was allowed to rely on extrinsic
evidence to show which parts of the unapportioned
settlement agreement related to risks
for which reinsurance cover existed. Happily,
English law seems to prefer the more sensible
Enterprise decision, and Lumbermans may be
seen as something of a dead end.
In Commercial Union v NRG  2 Lloyd’s
Rep 600, Commercial Union (CU) sought
summary judgment against its reinsurers,
NRG, over a claim in respect of the Exxon
Valdez tanker. NRG argued that CU had not
been legally liable to pay Exxon because they
had settled purely on advice from their Texan
lawyer that, although CU had an arguable defence
in law, had the case gone to trial, they
would nevertheless have been unsuccessful.
The Court of Appeal agreed with reinsurers.
It was not enough for CU to establish that
the settlement was businesslike and sensible.
Under the ‘follow the settlements’ clause the
settlement was binding only if it was within
the terms and conditions of both the original
policy and of the reinsurance, and for that purpose
it was not sufficient to rely on the mere
advice of a lawyer. The question of whether it
was arguable that reinsurers might not be liable
to the cedents was rather one for the judge
to decide, based on the proper construction of
the policies according to the applicable law.
The above cited cases are all decisions of the
English courts. There are no reported Bermuda
authorities dealing with a reinsurer’s
obligation to follow a cedent’s settlement. In
large part this is due to the fact that almost all
Bermuda reinsurance contracts contain arbitration
clauses and, unlike the English Arbitration
Act, the Bermuda arbitration statute
does not permit appeals (and thus court review)
on issues of law. It is the general practice
of the Bermuda courts to follow English
case precedent and decisions of the House of
Lords are regarded as de facto binding.
SEDGWICK SUMMARY OCTOBER 2009
Follow the Settlements — Under US Law
In the US, where a cedent has made a reasonable settlement in good faith, its reinsurers are often obligated to follow the
settlement and pay their contractual share. This obligation is inherently tied to a reinsurance contract’s loss settlements clause.
It was held long ago that where a reinsurance contract does not contain a loss settlement clause, the cedent must establish coverage
under the reinsurance policy as if the cedent were the original insured. N.Y. State Marine Insurance Company v Protection
Insurance Company. [C.C.D. Mass. 1841] 18 F.Cas. 160. However, where there is a clear settlement clause, the reinsurer is bound to
follow the settlement decisions of its cedent on disputes that arose between the insured and reinsured unless it can demonstrate
that the decisions were fraudulent, collusive, made in bad faith, or resulted in an ex gratia payment. Aetna Casualty and Surety
Company v The Home Insurance Company [S.D.N.Y. 1995] 882 F.Supp 1328.
Where a cedent has litigated coverage, the reinsurer
generally must follow the result. The issue
is when must the reinsurer follow its cedent’s
The leading American case on the follow the
settlements doctrine is Aetna Casualty and
Surety Company v The Home Insurance Company
[S.D.N.Y. 1995] 882 F.Supp 1328. There,
Aetna’s insured was subject to numerous lawsuits
regarding the design of an intrauterine
device. Aetna entered into a settlement that, it
argued, proceeded from its own good faith interpretation
of its obligations under its policies.
Aetna argued that because the scope of coverage
afforded by the Home’s reinsurance policies
was identical to that of its policies, Home was
obligated to indemnify Aetna for its settlement.
The court agreed, and described the purpose for
(and necessity of) the doctrine as follows:
Absent [the follow the settlements doctrine],
an insurance company would be
obliged to litigate coverage disputes with
its insured before paying any claims, lest
it first settle and pay a claim, only to risk
losing the benefit of reinsurance coverage
when the reinsurer raises in court the same
policy defenses that the original insurer
might have raised against its insured.
While the follow the settlements doctrine typically
obligates a reinsurer to follow the coverage
decisions of its cedent, the doctrine is not
without limits. For example, reinsurers are not
bound by ex gratia payments, or payments outside
the scope of the insurance contract. However,
proving the rule inapplicable is typically
difficult, as illustrated by Christiania General
Insurance Corporation v Great American Insurance
Company [2nd Cir. 1992] 979 F.2d 268.
There, Great American insured Honda Motor
Co. which faced a series of lawsuits related to
the safety of their all-terrain vehicles (ATVs).
Great American settled its claims with Honda
and sought reimbursement from its reinsurer,
Christiania. Christiania disputed that it had an
obligation, arguing, inter alia, that Great American’s
payments to Honda were ex gratia, because
Honda failed to advise the materiality of the
risk of insuring ATVs, entitling Great American
to rescind its insurance policies to Honda.
The court disagreed, stating that the reinsurer
was ‘required to indemnify for payments reasonably
within the terms of the original policy,
even if technically not covered by it.’ The court
elaborated: ‘a reinsurer cannot second guess the
good faith liability determinations made by its
reinsured, or the reinsured’s good faith decision
to waive defenses to which it may be entitled.’
The follow the settlements doctrine is now being
invoked regarding a cedent’s chosen method
of allocating underlying settlements to its reinsurers.
Reinsurers have resisted this, particularly
where the method of allocation was never an
issue between the insured and the reinsured.
However, several decisions support the view
that a cedent is entitled to reasonably allocate
its loss as it sees fit. One of these cases is Travelers
Casualty & Surety Company v Gerling Global
Reinsurance Corporation of America [2d Cir.
2005] 419 F.3d 181, where Travelers sought to
allocate an asbestos loss settlement as though
the loss constituted a single occurrence. A reinsurer
disputed this allocation, arguing that each
site where asbestos contamination was alleged
constituted a separate occurrence. While the
District Court agreed with the reinsurer’s position
on the basis that the question of allocation
was not part of Travelers’ underlying settlement,
the Second Circuit reversed, stating that the follow
the fortunes doctrine extends to a cedent’s
post-settlement allocation decisions as long as
they are made in good faith. (Citing North River
Insurance Company v ACE American Reinsurance
Company [2d. Cir. 2004] 361 F.3d. 134.)
A subsequent decision, Allstate Insurance Company
v American Home Assurance Company
[N.Y.A.D. 2007] 837 N.Y.S.2d 138, came to a
different conclusion. There, the cedent allocated
loss to its reinsurer on a different basis than
it paid the loss to its insured. The court found
such a practice untenable, stating, ‘The follow
the fortunes doctrine was intended to foster
consistency in the treatment of loss at both levels,
insured and reinsured, not allow an insurer
to use a different set of rules at each level.’ The
court refused to apply the follow-the-fortunes
doctrine to the reinsured’s attempt to maximize
the amount of collectible reinsurance.
The follow the settlements doctrine shields cedents
from their reinsurers second-guessing their
good faith claims decisions on matters at issue
between the cedent and the insured. However,
American courts will not countenance its use
by cedents who did not conduct a business-like
investigation or otherwise act in good faith.
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© 2009 Sedgwick, Detert, Moran & Arnold LLP. This communications is published as an information service for clients and friends of the firm and does not constitute the rendering of legal advice or other professional service.
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