article
To litigate or not?
13 January 2009
It’s official, the UK economy is now in a recession. And
inevitably, the insurance sector will see a rise in fraud, an
increase in the level of defaulters and a squeeze on profits. It
will also see a hike in the number of litigation cases, according
to Nichola Evans, partner at law firm Browne Jacobson.
“To badly paraphrase Jane Austen, it is a truth universally
acknowledged that commercial litigation increases during a period
of recession. With commentators now suggesting that we are entering
the worse recession for 50 years what is likely to be the legal
fallout?
“Statistics show that litigation is rising. Whilst the number of
cases being issued in the Commercial Court fell between 1999 and
2005, they rose again significantly in 2006. The Ministry of
Justice Judicial Statistics show that in 2005 49,442 cases
were issued whereas in 2006 this figure jumped to 61,691 cases.
There was a further increase in 2007 and most commentators expect
that trend to continue for the foreseeable future.
“As companies face more and more financial pressure, they are
forced to look at their bottom line. This leads to debts being
chased more effectively, but one further consequence is that
companies will look to their advisers and analyse the quality of
the advice which has been given.
“The recent financial crisis – which has hit global markets and
banks alike - has led to what one newspaper called a “tsunami of
lawsuits”. There has also been judicial comment upon the likely
rise in litigation most notably in the case brought by RAB Capital
against PricewaterhouseCoopers, the administrators of Lehman
Brothers.
“So far the bulk of the litigation has been brought in the
United States, much of it by way of class action – where many
individuals group together to bring a case against a third party
such as a company. Part of this is due to the fact that in the US
one has the ability to claim punitive damages and also the Claimant
is not responsible for the Defendant’s costs.
“There have been various forms of claim and inter alia:
- Investors v banks – this can relate to allegations of negligent
misstatement, the purchase of asset-backed securities based on bad
loans or for improper accounting.
- Businesses v banks – in particular pension funds companies who
have assessed how much money has been lost on the back of sub prime
investments.
- Banks v banks – for instance Barclays Bank who sued Bear
Stearns over its management of a hedge fund.
- Businesses v lawyers and accountants and these types of claim
have taken various forms.
- The common theme here is that in due course – some taking
months, some years - these claims will all arrive on the desks of
the insurers of the defendant companies.
“Over the coming years it is anticipated that the legal fallout
will dwarf that of any other crisis of any other time, including
Enron. An examination of a couple of cases in this particular area
- which have been decided in the last twelve months - are of
interest as they may provide us with valuable lessons for the
future.
HLB Kidsons v Lloyds Underwriters & Others [2008]
“This is a Court of Appeal decision and results from an appeal
made by Kidsons – the accountancy firm - against a High Court
ruling that they had failed to notify their professional indemnity
insurers in relation to a number of claims relating to tax
advice.
“Under the terms of their professional indemnity policy of
insurance, Kidsons was obliged to notify a claim “as soon as
practicable of any circumstance of which they … shall become aware
during the [policy period] which may give rise to a loss or claim
against them”. The policy was a “claims made” policy.
“Kidsons sold tax avoidance products through a partner company,
where one of its employees raised concerned about the
implementation and design of a number of the products it was
marketing. Subsequently, the firm wrote to its brokers on a number
of occasions about various concerns that it had about the
products.
“It was simply a matter of time before a claim was filed against
the firm, citing a number of allegations, specifically, that the
products were flawed; that the products were mis-sold and that
there were failures in the implementation of the scheme.
“This case turned on whether there had been an adequate
notification of the claims from the firm to its insurers and if so
when. Not all of the letters written were held to constitute
adequate notice.
“So what constitutes notification? Lord Justice Rix held that it
had to be “reasonably clear” on an objective basis to the insurer
that what was being notified was intended as a trigger to cover
being granted.
“It is also clear that the insured has to be aware of the
circumstances which may give rise to the claim on an objective
basis. The Court of Appeal did not give an opinion as to what
constitutes a “circumstance” but if one looks to the lower court it
was suggested that this needs to be a “fact, event, happening or
state of affairs”.
“In some respects this sounds rather woolly and does not provide
the clearest of guidance for insured. So what should an insured
party look out for? It is submitted that the concerns of others can
amount to a “circumstance” even if the insured believes that the
concern of others are unjustified. However, it is important for the
insured to provide sufficient detail to allow the insurer to make a
decision on those facts. Lord Justice Toulson suggested that if a
report was not sufficiently detailed then it may not give rise to a
claim. This does not give insurers carte blanche to reject a claim
if it is imprecise though! It is a case of fact and degree in each
and every matter.
“This obviously creates something of a minefield for brokers
though and will probably result in brokers having to be a little
more pro-active, particularly if there appears to be a shade of
grey to what the insured is actually doing. Brokers will need to
understand what the insured is trying to notify and if that is not
immediately clear make appropriate enquiries of the insured. Once
the broker has made such enquiries then the broker will also need
to make sure that each and every underwriter has received adequate
notice of the claim.
J P Morgan Bank (formerly Chase Manhattan Bank) v Springwell
Navigation Corp [2008]
“This case related to a claim made against the bank alleging a
failure to advise in relation to emerging market investments.
Springwell was investing heavily in a particular type of derivative
instrument reference to bonds. When the issuer of the bond
defaulted, the portfolio collapsed in value. Springwell claimed
damages alleging that J P Morgan should have advised that this was
not an appropriate investment.
“The claim was dismissed. The court found that no advisory
relationship existed and that the obligations of an investment
manager or asset manager were not imposed. In reaching this
decision the court took account of how the business between the
parties was conducted. In addition the court reviewed the
contractual documentation which existed between the parties and
this showed that the parties contracted on the basis of a trading
and banking relationship and this also meant that no advisory duty
came into existence.
“Although this case does not form new law, it is a useful
reminder of what hoops a claimant needs to jump through in order to
bring a claim. The case is a timely reminder that one needs to
carefully analyse the scope of the retainer and therefore the
nature and extent of the duty owed by the professional before
looking at the issue of whether or not the professional exercised
the requisite degree of skill and care that one would expect of a
professional in that position.
Trends for the future
“Claimants tend to underestimate how much time and effort they
need to put into the preparation of the case, from instructing a
solicitor to locating documents and dealing with the burden of
disclosure through to the preparation of witness statements and
attendance at trial itself. This may in part explain why although
there are more claims being issued, these have not made their way
to trial. In a soft market, Defendants are more likely to look to
settle claims and use alternative dispute resolution (ADR)
procedures to achieve the same even if there are reasonable
prospects of success. With the hardening of the market insurers are
more likely to vigorously defend claims and only settle those that
are entirely meritorious. Expect to see more contested claims in
the first instance.
“Furthermore, one has to bear in mind that litigation is an
expensive process and given the economic climate, businesses are
going to have to weigh up whether they wish to commit to a legal
spend or whether the monies that would be involved could be better
invested in the business. A lot of publicity has been given to the
“no win, no fee” basis upon which cases can be fought. However for
complicated cases of this sort, it may be difficult to find a
solicitor to take the case on this basis. In addition, when a case
is adopted on this basis one would normally take out and insurance
product so that in the event that the case is lost, one’s
opponent’s costs are met. Again, this is not a cheap process and a
proposed Claimant would need to take a good commercial look to see
if this could be justified.
“Looking ahead, we are most likely to see litigation from some
of the larger commercial organisations and certainly one of the
most fertile areas for such action will surely be mortgage fraud.
More specifically, we are also likely to see a rise in litigation
among firms that have pushed the envelope of prudence when
developing the newer investment vehicles.”
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