UK: PI Insurance: Mitigation Costs And Dominant Purpose

Standard Life Assurance Ltd v Ace European Ltd & Ors [2012]¹
Commercial Court 1 February 2012

This dispute arose under a professional indemnity policy issued by the Defendant insurers to the Claimant, Standard Life ("SLAL"). The claim concerned the operation of one of SLAL's pension funds, which had been marketed as a temporary home for short term investment, and described as being invested in cash, though by 2007 the fund's assets included a substantial proportion of asset backed securities. Following the failure of Lehman Brothers in September 2008, trades in the underlying securities came to a halt, rendering the fund illiquid and increasingly difficult to value.

In January 2009, SLAL took the decision to switch to a different valuation model, resulting in a one-off one-day fall in value of units in the fund of around 4.8%. This generated a mass of complaints and claims from customers, and severe pressure from the Financial Services Authority.

Standard Life's research suggested that some 64%, by value, of customers invested in the fund would have valid claims for mis-selling, equating to an exposure of £124 million, on the assumption that 100% of those entitled to claim would in fact do so. The company considered setting up a claims process and inviting claims to be met on a case by case basis. However, it subsequently decided that a better option was to restore the one-day 4.8% fall in the fund by means of a cash injection into the fund of just under £82 million. It also made payments totalling nearly £25 million to customers who had left the fund since the price reduction to compensate them for the 4.8% fall. Arguably, this solution produced a "windfall" for those investors who it was felt, at least by some, did not have a valid claim.

Having made these payments, SLAL sought an indemnity under the PI policy, on the grounds that the payments constituted "Mitigation Costs", defined under the policy as follows:

Insurers denied liability. Their main arguments were as follows:

• that the payments were not incurred for the purposes of avoiding or reducing claims. Rather, their dominant purpose was to avoid or reduce damage to SLAL's brand. This was partly evidenced by the fact that the beneficiaries of the injection included customers who it was felt had no mis-selling claim to begin with;
• though the payments made by SLAL may have been entirely "reasonable" in pursuit of SLAL's desire to "do the right thing", they were (in whole or in part) not "necessarily" incurred for the purpose of avoiding or reducing third party claims;
• in so far as SLAL's motive for the payments was other than the avoidance or reduction of claims, any corresponding right to a policy indemnity as Mitigation Costs must be reduced accordingly, by way of apportionment. Citing marine insurance authority,² insurers gave the example of under-insurance, where sue and labour expenditure is treated as incurred partly for the benefit of the insurers and partly for the insureds as to their uninsured interest, each to their due proportion.

The Commercial Court found for the insured, SLAL, holding that the payments qualified as a recoverable cost falling within the definition of Mitigation Costs. It was not necessary to show that avoiding or reducing claims was the dominant purpose or motive for the payments. Indeed, the court held that SLAL's motive in making the payment was irrelevant, not least because it would often be difficult to determine the motive of a large organisation such as SLAL. It was enough that the payment was made in taking action to avoid or reduce a third party claim or claims, of a type that would have been covered under the policy.

As to the meaning of "necessarily", the court accepted that this presented the insured with a "high threshold"³, but added that the precise meaning must depend upon the context. It could not be said that Option A was not "necessarily" undertaken merely because it would have been possible to pursue an alternative Option B. By way of example, the court noted that it was "possible" or "open" for a passenger not to wear a seatbelt but it did not follow that it is not "necessary" to wear a seatbelt to avoid or to reduce the risk of injury in a car accident.

As to apportionment, the judge considered this a novel concept outside of marine insurance, and more particularly in the context of liability insurance. While there was less objection, in principle, to apportionment applying in the specific context of costs incurred by way of mitigation, the court said that it was a matter of policy construction – rather than legal principle – that would determine whether apportionment should in fact occur in the relevant circumstances. In this case, the wording of the policy did not support a case for apportionment. Provided it could be said that the relevant costs were reasonably and necessarily incurred in taking action to avoid or to reduce third party claims of the stipulated type, then under the terms of the policy such expenditure fell within the definition of Mitigation Costs and was recoverable in full. There was nothing in the language of the clause overlaying a requirement to apportion those costs simply because some further or additional benefit was derived by the insured in incurring them. The judge noted that the words "solely" or "exclusively" did not appear in the clause, and there was no justification for importing them into the wording.

Result: Judgment for the insured.

Footnotes

^{1.[2012] EWCA Civ 27}

^{2 Royal Boskalis Westminster NV v Mountain [1997] LRLR 523}

^{3 Applying Pabari v Secretary of State for Work and Pensions [2004] EWCA Civ 1480}

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