Global Insurance Programmes: the interplay between local and master policies

A recent decision of the Commercial Court has highlighted some key issues and dangers for insureds seeking to manage their risk through global insurance programmes. Often a global insurance programme is structured by way of various local policies issued in specific jurisdictions where the insured operates, with a master or umbrella policy covering all the insured’s foreign entities, in excess of these local policies, subject to an annual aggregate across all jurisdictions. Structuring a global programme in this way not only ensures compliance with local laws (which may require a policy underwritten by an insurer domiciled in the jurisdiction) but also ensures the programme reflects the different requirements of the insured across various jurisdictions both at the underwriting and claims handling stage.

The claimant was insured under a global insurance programme, the cover provided by the Master Policy being narrower than that provided under the local policy. The claimant was party to proceedings in California and incurred substantial defence costs. The local insurer indemnified the insured $1 million in respect of these defence costs, thus exhausting the $1 million limit of indemnity (each and every claim and in the aggregate) under the local policy. The insured sought to recover the remainder of its defence costs under the Master Policy which had a limit of indemnity of US$25 million any one event and in the aggregate. The claim was not covered by the Master Policy. The insured argued that in accordance with a ‘drop down’ clause in the Master Policy, the claim was recoverable as the further cover provided under the Master Policy should be subject to the terms of the local policy, except for the specific and aggregate limits which would be in accordance with the Master Policy.

The court held:

• The ‘difference in limits’ clause of the Master Policy provided that the Master Policy would only pay for that part of the loss in excess of the limit of indemnity under the local policy. If the aggregate limit under the local policy had already been partially or fully exhausted by other claims, this would leave the insured with a gap in cover such that they would have to pay that part of the claim which they were unable to collect from their local insurers before being able to collect under the Master Policy.
• The ‘drop down’ clause deals with this potential problem. If the local policy’s aggregate limit of indemnity has been partially or totally exhausted by prior claims, the Master Policy will kick in once (a) the remainder of the aggregate limit on the local policy has been paid; or (b) immediately, if prior claims have totally exhausted the aggregate limit under the local policy. Where the aggregate limit on the local policy has been totally exhausted by prior claims, the Master Policy will pay the first US$1 million of any claim subject to the terms and conditions of the local policy. The claim in excess of US$1 million will be subject to the terms and conditions of the Master Policy (including any deductible).
• The court recognised that this interpretation does produce an anomaly in circumstances where the local policy covers the claim but not the Master Policy: an insured whose local policy has been fully exhausted by prior claims will be entitled to recover $1 million from the Master Policy (subject to the terms and conditions of the local policy) but an insured whose local policy has only been partially exhausted will recover less than $1 million (ie. the remainder of the aggregate under the local policy) with nothing available from the Master Policy.
• On the facts of the case, the local policy had not had any prior claims and was exhausted by one claim which was now the subject of a claim on the Master Policy - as such, the drop down clause did not come into effect at all. The insured had no cover under the Master Policy in respect of this particular claim, as it was clearly excluded under the Master Policy terms.
• The court found that the insured’s construction of the clause brought about too many surprising results to be credible. It would mean (a) the Master Policy responding to a claim which was specifically excluded by its own terms and conditions; (b) the Master Policy responding on terms more favourable than the local policy (as the aggregate limit under the Master Policy was US$25 million as opposed to US$1 million under the local policy); and (c) the insured achieving ‘duty to defend’ cover under a Master Policy which refered to no such duty and specifically provided that there was only cover for defence costs incurred with the insurer’s consent.

Comment

This case highlights the obvious point that parties should be sure of the clear legal effect of global insurance programmes at the outset, so expectations of the programme response are managed, and amendment can if necessary be explored before the wording is signed off.

Further reading: Flexsys America LP v XL Insurance Company Ltd [2009] EWHC 1115 (Comm)