Opinion
89 Civ. 2999 (JSM)
November 1, 2002
John P. McConnell, Hargraves McConnell Costigan, P.C. New York, N.Y., for Plaintiff.
Barry T. Bassis, Shaub, Ahmuty, Citrin Spratt, LLP, New York, N.Y. for Defendant.
OPINION and ORDER
This opinion will hopefully mark the end of this complex litigation arising from the liquidation of Delta American Re Insurance Company ("Delta") which has been pending in this Court since 1989. The factual background of this dispute is set forth in detail in the opinion of the Second Circuit in the related case of Delta Holdings, Inc. v. Nat'l Distillers Chem. Corp., 945 F.2d 1226 (2d Cir. 1991) and in several opinions of this Court, see, e.g., Nichols III v. Am. Risk Mgmt., Inc., No. 89 Civ. 2999, 1998 WL 655526, at *1 (S.D.N.Y. 1998); Stephens v. Am. Risk Mgmt., Inc., No. 89 Civ. 2999, 1993 WL 43494, at *1 (S.D.N.Y. 1993); Stephens v. Am. Home Assur. Co., 811 F. Supp. 937 (S.D.N.Y. 1993). Familiarity with the factual background of this case is assumed.
All that remains before the Court is a claim by the Liquidator of Delta against Sperry Insurance Company ("Sperry"), seeking to obtain payment from Sperry of amounts due under reinsurance agreements relating to the years 1984 and 1985. While Sperry does not dispute the calculation of the amount due, it claims it is entitled to rescind the contracts at issue because Delta failed to disclose the fact that it was insolvent at the time it solicited Sperry's participation in the reinsurance program. The parties agreed to a non-jury trial on a stipulated record. The following constitute the Court's Findings of Fact and Conclusions of Law.
As is explained in exquisite detail in the opinion of Judge Winter inDelta Holdings, in order to properly account for the financial condition of a casualty insurance company, it is necessary to establish reserves for amounts the company will have to pay out in the future on the insurance policies it has issued. This involves assessing the potential liability of the company not only with respect to claims that have been asserted, but also for claims that will be made in the future, commonly referred to as IBNR — incurred but not reported.
The parties do not dispute that, if Delta's IBNR had been properly calculated, it would have been insolvent as early as 1980. However, throughout this litigation, there has been substantial dispute as to when Delta's management first realized that its IBNR reserves had been so substantially understated that the company was insolvent. Sperry claims that Delta's management was aware of its insolvency prior to the time it entered into the reinsurance agreements for the years 1984 and 1985. While the Liquidator now contends that Delta's management was not aware that the company was insolvent until sometime after the reinsurance contract for the year 1985 was executed, at earlier stages of this litigation, when he was asserting claims against those who had managed Delta, the Liquidator argued that Delta's management "knew or should have known that [Delta] was insolvent as of year end 1980 . . . ."
There can be no question that, if Delta's management knew of its insolvency at the time it entered into the reinsurance contracts with Sperry, Sperry would be entitled to rescission. As Judge Bellacosa explained in Michigan Nat'l Bank-Oakland v. Am. Centennial Ins. Co., 89 N.Y.2d 94, 651 N.Y.S.2d 383 (1996), in which the New York Court of Appeals held that a failure of a reinsurer to disclose its insolvency justified rescission of the reinsurance contract:
The phrase uberrimae fidei and its translation, "of the utmost good faith," has long been used to characterize the core duty accompanying reinsurance contracts (see, Kramer, op cit., at 9; Reinsurance at 665 [Strain ed 1980]; Sun Mut. Ins. Co. v. Ocean Ins. Co., 107 U.S. 485, 510; Christiania Gen. Ins. Corp. v. Great Am. Ins. Co., 979 F.2d 268, 278). Encompassed within this duty is a basic obligation of a reinsured to disclose to potential reinsurers all "material facts" regarding the original risk of loss, and failure to do so renders a reinsurance agreement voidable or rescindable (Sumitomo Mar. Fire Ins. Co. v. Cologne Reins. Co., 75 N.Y.2d 295, 303, supra, citing Royal Indem. Co. v. Preferred Acc. Ins. Co., 243 A.D. 297, 301, aff'd 268 N.Y. 566; see, Sun Mut. Ins. Co. v. Ocean Ins. Co., supra, 107 US at 510; Christiania Gen. Ins. Corp. v. Great Am. Ins. Co., supra, 979 F.2d, at 278; see also, Kramer, The Nature of Reinsurance, reprinted in Reinsurance, at 9 [Strain ed. 1980]; Ostrager and Newman, Insurance Coverage Disputes § 16.03[a], at 710 (8th ed 1995). Material facts are those likely to influence the decisions of underwriters; facts which, had they been revealed by the reinsured, would have either prevented a reinsurer from issuing a policy or prompted a reinsurer to issue it at a higher premium (Christiania Gen. Ins. Corp. v. Great Am. Ins. Co., supra, 979 F.2d at 278, citing Merchants Shippers Ins. Co. v. St. Paul Fire Mar. Ins. Co., 219 A.D. 636, 639; see, Sun Mut. Ins. Co. v. Ocean Ins. Co., supra, 107 US at 510). A reinsured need not possess a specific intent to conceal information from a reinsurer to make a contract voidable, rather "an innocent failure to disclose a material fact is sufficient" (Ostrager and Newman, Insurance Coverage Disputes § 16.03[a], at 710 (8th ed 1995), citing Sun Mut. Ins. Co. v. Ocean Ins. Co., supra, 107 US, at 510). Additionally, "`[t]here is no principle of imputed knowledge of facts material to the risk that the reinsurer is asked to assume'" (Ostrager and Newman, Insurance Coverage Disputes § 16.03[a], at 711 (8th ed 1995), quoting A/S Ivarans Rederei v. Puerto Rico Ports Auth., 617 F.2d 903, 905 (1st Cir 1980). Rather, when a ceding insurer has knowledge of circumstances that would influence a reinsurer's underwriting decision, in compliance with and in preservation of principles of utmost good faith, a ceding insurer is required to disclose all such circumstances (Ostrager and Newman, op. cit., § 16.03[a], at 711).
If one were to take literally Judge Bellacosa's statement, that a reinsured need not possess a specific intent to conceal information from a reinsurer to make a contract voidable, that "`an innocent failure to disclose a material fact is sufficient,'" then it would not matter whether Delta's management was aware of the insolvency at the time it entered into the contracts at issue. However, Judge Bellacosa may have meant only that, if one was aware of a material fact, the failure to disclose it would justify rescission even if the party who failed to make a disclosure did not realize its significance or failed to disclose it for some innocent reason.
Here, the Court does not have to reach the question whether an innocent failure to make disclosure of Delta's insolvency would justify rescission, since there is abundant evidence that Delta's management had sufficient notice of the problems with the company's IBNR reserves that they were obligated to disclose these problems to Sperry before entering into the reinsurance agreements. Indeed, that is precisely what the Liquidator has been asserting for years in this litigation. The record of this litigation is replete with statements by the Liquidator, through his counsel, that Delta knew of and was required to advise others of its insolvency well before the date of the reinsurance agreements at issue here. The effect of such admissions was also addressed by the New York Court of Appeals in Michigan National:
To be sure, they are not conclusive, though they are `evidence' of the fact or facts admitted (Richardson, op. cit., at 530). Furthermore, "[a]n admission in a pleading in one action is admissible against the pleader in another suit, provided it is shown `by the signature of the party, or otherwise, that the facts were inserted with his knowledge, or under his direction, and with his sanction' (Richardson, op. cit., at 530, quoting Cook v. Barr, 44 N.Y. 156, 158). Additionally, as Justice Gammerman correctly noted, it is irrelevant that the admissions were made in part by counsel on behalf of the Liquidator and that they were contained in affidavits or briefs ( see , Matter of Home of Histadruth Ivrith v. State of N.Y. Facilities Dev. Corp., 114 A.D.2d 200; Yannon v. RCA Corp., 100 A.D.2d 966; Bellino v. Bellino Constr. Co., 75 A.D.2d 630).
While these judicial admissions are not conclusive and might not provide a basis for granting summary judgment, they are persuasive evidence in this case, where the Liquidator has investigated the operations of Delta Re for years and has repeatedly asserted that those who operated Delta Re were well aware that it had not properly accounted for its IBNR reserves and should have disclosed that fact. To again quote from Michigan National: "It would be unseemly, to say the least, to permit the Liquidator to renege on its court-submitted evidence and, in effect, to use quasi-official assertions as both a sword and a shield by simultaneously documenting Union's fraud and failure to disclose its insolvency and yet later trying to deny the relevance and applicability of the same admissions and data in an action involving the reinsurers." 89 N.Y.2d at 104-105.
The specific factual assertions of the Liquidator are substantially different from Sperry's general adoption of the Management Defendants' case on damages at an earlier stage in this litigation.
The court is not unsympathetic to the fact that in exercising his responsibilities, the Liquidator was required to pursue all possible claims and, therefore, some inconsistency in pleading might be required. However, when assertions of fact are made after extensive discovery, there is no injustice in holding the Liquidator bound by them.
While the Liquidator now attempts to dispute Sperry's contention that those who operated Delta Re were aware of its insolvency at the time the 1984 and 1985 Reinsurance Treaties were executed, as noted above, the Liquidator alleged in the Third Amended Complaint that Delta's management "knew or should have know that [Delta] was insolvent as of year end 1980 . . . ." Similarly, in opposing the motion for summary judgment made by American Risk Management ("ARM"), the company that managed Delta, and Robert Norton, its President until he resigned in late 1984, the Liquidator asserted "The ARM Defendants Have Admitted Knowledge of the Insolvency As of October 1, 1983." R.000346. To the same effect, the Liquidator asserted "the ARM Defendants' knowledge of Delta Re's deteriorating financial condition is well documented from the time their agents first looked at Delta Re. Of course, Norton knew about the company's financial problems long before the sale." R.000351.
In any event, the record before the court amply supports the conclusions contained in the Liquidator's admissions. While the Liquidator makes a token effort to argue that those who operated Delta were unaware of its insolvency prior to the execution of the 1985 Treaty, the evidence to the contrary is overwhelming. An examiner from the Kentucky Insurance Department testified that during an audit at Delta, in the summer of 1984, he concluded that the company was insolvent and, when he told this to Norton, Norton put his head down and then got up and left the office and never returned. Within days, the investigator repeated what he had said to Norton to Ryan, who replaced Norton as President. None of this was disclosed to Sperry prior to the execution of the 1985 agreement.
The record with respect to 1984, though lacking such dramatic proof of knowledge of insolvency, is more than sufficient to support Sperry's claim that Delta concealed from its retrocessionaires, material information concerning its perilous financial condition. As is fully detailed in Judge Winter's opinion in Delta Holdings, as early as 1982, Norton had been advised by an actuary with Tillinghast, Nelson Warren ("Tillinghast"), that the company's formula for calculating its reserves was deficient. As a result, Norton received two reports from Tillinghast in 1982 which indicated that the reserves were understated by between 10 and 20 million dollars. The company then entered into an agreement with Firemen's Insurance Company of Newark that for a current payment of $5 million, Fireman's would pay $10 million of the losses over 10 years. While the record indicates that Norton did not disclose the Tillinghast reports at the time Delta was acquired from National Distillers, there is ample evidence that in doing its due diligence, the new managers of Delta became aware that its method of calculating its IBNR reserves was seriously deficient.
In October 1983, Sperry received a letter from Norton, soliciting its participation in the 1984 Treaty which stated, inter alia, that Delta wrote a "conservative" line of business characterized by "modest limits normally exposed," and, as a result, Delta had won acceptance as an A+ rated security. In a Response to Sperry's Local Rule 56.1 Statement, the Liquidator admitted that these representations were false. R.000606. Norton's letter also stated that Delta's retrocessionaires had enjoyed excellent results and have had "an average combined loss expanse ratio of 92.7%. While the 92.7% loss ratio would normally indicate a profitable reinsurance agreement, Norton's letter omitted the fact that this ratio was calculated without an IBNR reserve. In a letter sent to prospective retrocessionaires in November, 1983, Delta's Senior Vice-President, Hugh Brewer, included a chart of the experience of one of its retrocessionaires which had a footnote indicating that IBNR was not included in the loss ratio but with no indication of what the IBNR calculation might be.
At the same time that Delta was painting a bright financial picture for its prospective retrocessionaires, Delta officials had determined that its combined loss and expense ratio, including IBNR, was 130%, i.e., Delta was sustaining losses in the amount of 130% of earned premiums.
The Liquidator's expert testified that Norton's October letter violated the duty of utmost good faith which Delta owed to the prospective retrocessionaires. R.001159. He also testified that the fact that Delta had a combined loss ratio of 130% was inconsistent with the assertion in Norton's solicitation letter that Delta's retrocessionaires had excellent results. R.001162. Charles Scott, who was hired by the Liquidator as director of operations of Delta, testified that the retrocessionaires should have been given the 130% loss ratio information. R.002524-25.
In sum, whether one looks at the Liquidator's judicial admissions or the evidence in the record, it is clear that Sperry was not given material information concerning Delta's financial condition that should have been provided to it when it was solicited to provide reinsurance to Delta for the years 1984 and 1985.
There is no merit to the defenses the Liquidator asserts to Sperry's claim for rescission. The first defense, that Sperry is bound by the Second Circuit's decision in Delta Holdings, is without legal or factual support. Sperry's role as a shareholder of DHI and as a member of its Litigation Steering Committee does not constitute a sufficient "privity of interest" to preclude it from contesting the factual finding in Delta Holdings. In any event, the issue in Delta Holdings was whether adequate disclosure had been made to a purchaser who employed its own independent auditors and actuaries to examine Delta's financial condition and that case did not involve a breach of the duty of utmost good faith. Here, there was such a duty and crucial facts disclosed prior to the sale were never disclosed to Sperry.
There is also no merit to the Liquidator's argument that Sperry cannot claim that it was ignorant of Delta's financial condition because the ARM Group was Sperry's agent and, therefore, its knowledge should be imputed to Sperry. There is no evidence that anyone associated with the Arm Group was involved in Sperry's decision to become a retrocessionaire or any other basis to conclude that Sperry obtained the non-disclosed information concerning Delta's perilous financial condition as a result of its association with the ARM Group.
Although the Liquidator makes a passing argument that Sperry failed "promptly to preserve the asserted right to rescission" (Liquidator Trial Mem. at 29), he points to no benefit that accrued to Sperry or any detriment to the Liquidator that resulted from the alleged delay.Compare Sumitomo Marine Fire Ins. Co., Ltd. v. Cologne Reinsurance Co., 75 N.Y.2d 295, 552 N.Y.S.2d 891 (1990).
For the foregoing reasons, Sperry is entitled to rescind the reinsurance contracts at issue. However, the Court agrees with the Liquidator that Sperry is not entitled to retain the premiums it received and is obligated to pay interest on those premiums. Curiale v. AIG Multi-Line Syndicate, Inc., 204 A.D.2d 237, 613 N.Y.S.2d 360 (1st Dep't. 1994); Curiale v. AIG Multi-Line Syndicate, Inc., 225 A.D.2d 409, 640 N.Y.S.2d 18 (1st Dep't. 1996).
Within two weeks from the date of this opinion, Sperry shall submit a proposed judgment. If the Liquidator disputes the form of judgment submitted, he shall submit a proposed judgment within one week thereafter.