United States Court of Appeals
For the First Circuit
No. 04-1709
COMMERCIAL UNION INSURANCE COMPANY and
AMERICAN EMPLOYERS’ INSURANCE COMPANY,
Plaintiffs, Appellants,
v.
SWISS REINSURANCE AMERICA CORPORATION,
Defendant, Appellee.
APPEAL FROM THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF MASSACHUSETTS
[Hon. Douglas P. Woodlock, U.S. District Judge]
Before
Boudin, Chief Judge,
Torruella, Circuit Judge,
and DiClerico,* District Judge.
Carter G. Phillips with whom William M. Sneed, Stephen C.
Carlson, Sidley Austin Brown & Wood L.L.P., Richard A. Johnston and
Wilmer Cutler Pickering Hale and Dorr LLP were on brief for
appellants.
Edward P. Krugman, Cahill Gordon & Reindel LLP, Eric S.
Kobrick, Associate General Counsel, American International Group,
Inc., on brief for The Member and Affiliated Companies of American
International Group, Inc., Amici Curiae.
David A. Attisani with whom John A. Nadas, Robert A. Kole and
Choate, Hall & Stewart were on brief for appellee.
June 27, 2005
*
Of the District of New Hampshire, sitting by designation.
BOUDIN, Chief Judge. This is a dispute between an
insurance company--Commercial Union Insurance Company ("Commercial
Union")--and one of its reinsurers, Swiss Reinsurance America
Corporation ("Swiss Re"). The principal issue is whether, under
several three-year reinsurance policies, Swiss Re was protected by
a single per-occurrence limit on its liability for the three-year
policy period or whether the limit applies separately for each
policy year, thereby enlarging Swiss Re's total exposure.
The background events involve three different tiers of
insurance, coverage periods that do not precisely overlap between
tiers, and pertinent clauses that are not even identical from one
policy to its successor. Accordingly, in setting the stage, some
oversimplification as to the policies and some postponement of
detail are both necessary. We begin at the ground floor with the
insured, W.R. Grace & Co. ("Grace"), a well-known company with many
different facilities at different locations, and then work up
through the tiers.
As to the sites at issue in this case, Grace's primary
insurer during the period in question (roughly 1962 to 1974) was
Maryland Casualty Co. (“Maryland”). With a one-year exception that
is not important to our case, that company provided coverage to
Grace under five successive one-year policies between June 30,
1962, and June 30, 1967, and two three-year policies from June 30,
1967, to June 30, 1973. The policies covered personal injury and
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property damage up to $1 million per occurrence but with much lower
limits ($25,000, later $100,000) for losses from "gradual
pollution."
Between October 20, 1962, and June 30, 1974, Commercial
Union's predecessors in interest provided excess liability coverage
to Grace--that is, coverage starting at the point that the Maryland
policies left off--in the form of four successive multi-year
umbrella policies. (The first, second and fourth policies each ran
for three years; the third ran for about two years and eight
months.) The policies provided coverage in the amount of $5
million for each "occurrence," defining "occurrence" to include “an
event, or continuous or repeated exposure to conditions, which
unexpectedly results in personal injury [or] property damage”
during the policy period, and continued:
[A]ll personal injury and property damage . .
. arising out of one event or continuous or
repeated exposure to substantially the same
general conditions existing at or emanating
from one premises location shall be deemed to
be one occurrence.
The Commercial Union policies also included clauses,
known as "follow-the-form" clauses, that are designed to make
coverage under a higher-tier policy (here, Commercial Union's)
conform--subject to certain qualifications--to the coverage
provided by the underlying policy (here, Maryland’s policies). See
2 Ostrager & Newman, Handbook on Insurance Coverage Disputes §
13.01[a], at 868 (12th ed. 2004). Thus, in the first two policies,
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the follow-the-form language provided that "the terms, conditions
and limitations of this policy will not be construed any more
restrictive [sic] than the terms, conditions and limitations of
Underlying Insurance.” The latter two provided:
[s]uch coverage as is afforded by this policy
shall apply to occurrences covered by the
terms and conditions of [the underlying
policy] or by the terms of conditions of this
policy except that the definition of Property
Damage as contained in this policy shall
apply.
The top tier of coverage in this case was provided by
Swiss Re, which offered not insurance for Grace but "reinsurance"
to Commercial Union. Swiss Re agreed, under specified conditions,
to indemnify Commercial Union for specified losses it might suffer
under its excess insurance policies. The form of reinsurance used,
called "facultative," covers risks that the "cedent" (here,
Commercial Union) bears under a specific policy or policies. 2
Ostrager & Newman, supra, § 15.03[a], at 996-97.
Swiss Re issued three multi-year "certificates" to
Commercial Union, corresponding to each of the last three (out of
a total of four) multi-year excess liability policies that
Commercial Union had written for Grace, i.e., roughly for the
period 1965 to 1974. Each Swiss Re certificate was skeletal,
identifying the Commercial Union excess liability policy in
question and agreeing to share a specified portion of Commercial
Union's liability to Grace. Specifically, under the first
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certificate Swiss Re agreed to share 50 percent of Commercial
Union's first $1 million in loss for "each occurrence"; under the
second, 50 percent of the first $500,000; under the third, 37.5
percent of the first $500,000.
Each certificate contained on the back side several
standard conditions. These included variously phrased follow-the-
form clauses saying that--except as “otherwise specifically
provided” in the certificate--Swiss Re’s liability would “follow”
or “be subject” to the “terms and conditions” of Commercial Union’s
policies. Thus, through follow-the-form clauses, Swiss Re's
policies looked back to Commercial Union's, and the latter's
policies looked back to Maryland's policies with Grace.
In addition, the Swiss Re certificates contained "follow-
the-fortunes" provisions, which--where the case involves
settlements--are sometimes called “follow-the-settlements” clauses.
Such provisions are designed to give the cedent reasonable latitude
to settle claims against it by the primary insured and to bind the
reinsurer (in some measure) from contesting the extent of the
cedent's liability to the primary insured. See Ostrager &
Vyskocil, Modern Reinsurance Law & Practice §§ 9.01-.02 (1996);
Travelers Cas. & Sur. Co. v. Certain Underwriters at Lloyd's of
London, 760 N.E.2d 319, 328 (N.Y. 2001). Here, the follow-the-
fortunes clause in each certificate reads as follows:
All claims involving this reinsurance, when
settled by [Commercial Union], shall be
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binding on [Swiss Re], which shall be bound to
pay its proportion of such settlements
promptly following receipt of proof of loss.
In the 1980s, Grace began to notify Commercial Union of
potential property damage losses due to hazardous waste pollution
at various Grace sites. In 1988, Maryland filed a declaratory
judgment action in federal district court in New York against Grace
seeking to clarify Maryland's obligations under its primary
policies. See Md. Cas. Co. v. Cont’l Cas. Co., 332 F.3d 145, 148-
49 (2d Cir. 2003). Commercial Union and other insurers were added
to the suit, and eventually the case expanded to involve over 200
waste sites.
In October 1998, Commercial Union settled with Grace
based on information about nine “focus” waste sites (out of the
forty for which Grace claimed Commercial Union was liable), for a
single immediate payment of $57.6 million. The settlement was
premised on estimates of projected liability over a substantial
period due to damage at each site and on certain assumptions. Two
such assumptions were (1) that the hazardous waste liability at
each site should be allocated pro rata across the years of relevant
insurance coverage at each site and (2) that the $5 million per-
occurrence limit in each policy should be viewed as applying
separately to each policy year, i.e., $15 million for a three-year
policy.
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When Commercial Union then sought indemnity from Swiss Re
for $13.7 million (out of the $57.6 million paid to Grace), Swiss
Re paid less than half that amount. It withheld part of the
balance (about $6 million) on the ground that its reinsurance
certificates protected it from any calculation of Commercial
Union's liability to Grace, or Swiss Re's to Commercial Union,
premised on the notion that the per-occurrence limit applied
separately to each policy year (as opposed to the entire multi-year
policy period). Swiss Re also disputed another aspect of the
demand but that issue was apparently settled.
On cross-motions for summary judgment, the district court
concluded that Swiss Re was correct on the "annualization" issue.
The court held that Swiss Re's liability should be based on the
premise that the per-occurrence limit applied once to a continuing
leakage at a site over the multi-year policy period and not once
for each year of the period. The court deemed this to be an
explicit limit in each certificate, overriding any follow-the-form
or follow-the-fortunes provision. This appeal by Commercial Union
followed.
We review a grant of summary judgment de novo.
Commercial Union Ins. Co. v. Walbrook Ins. Co., 7 F.3d 1047, 1050
(1st Cir. 1993). The present contract-interpretation dispute is
governed either by the substantive law of New York or
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Massachusetts.1 Further, interpretation of an insurance contract
is--at least absent extrinsic evidence--a question of law for the
court. See Fishman v. LaSalle Nat’l Bank, 247 F.3d 300, 303 n.2
(1st Cir. 2001). Accord Lumbermens Mut. Cas. Co. v. Offices
Unlimited, Inc., 645 N.E.2d 1165, 1168 (Mass. 1995); Sutton v. E.
River Sav. Bank, 435 N.E.2d 1075, 1077-78 (N.Y. 1982).
In a dispute between insurers and reinsurers, certain
canons of construction that protect purchasers of direct insurance
policies do not apply. Unigard Sec. Ins. Co. v. N. River Ins. Co.,
4 F.3d 1049, 1065 (2d Cir. 1993); Boston Ins. Co. v. Fawcett, 258
N.E.2d 771, 776 (Mass. 1970). Both New York and Massachusetts
authorities recognize the operation of follow-the-form and follow-
the-fortunes clauses. See Commercial Union Ins. Co. v. Seven
Provinces Ins. Co., 217 F.3d 33, 42 (1st Cir. 2000), cert. denied
531 U.S. 1146 (2001); Aetna Cas. & Sur. Co. v. Home Ins. Co., 882
F. Supp. 1328, 1337, 1345-46 (S.D.N.Y. 1995); Metro. Leasing, Inc.,
v. Pac. Employers Ins. Co., 633 N.E.2d 434, 439 & n.6 (Mass. App.
Ct. 1994). Against this background we turn to the merits of the
dispute.
1
The district court determined that the substantive law of
either Massachusetts or New York governed the dispute, and that the
two did not differ in any pertinent respect. The parties do not
dispute this assessment and, the approach being colorable, we
follow suit. See Royal Bus. Group, Inc. v. Realist, Inc., 933 F.2d
1056, 1064 (1st Cir. 1991); see also Lexington Ins. Co. v. Gen.
Accident Ins. Co. of Am., 338 F.3d 42, 46 (1st Cir. 2003).
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A good deal about this case, in addition to the ill-
worded policies and certificates themselves, remains obscure.
Ordinarily, courts construe policy language in relation to specific
facts, the policy language drawing meaning in part through
interaction with a given fact pattern. Here, by contrast, the
briefs tell us very little about what went wrong at any site,
although the record modestly describes the actual conditions that
gave rise to liability.2 Seemingly the conditions varied.
On Swiss Re's view of the matter, the leakage at any one
site during the three-year period covered by its certificate
comprised a single "occurrence." The term "occurrence" is not
defined in the Swiss Re certificates but one plausible reading of
the term would treat the entire continuous leakage as a single,
albeit drawn out, occurrence; and, for such a reading Swiss Re can
point to the definition of "occurrence" in the Commercial Union
policies quoted above--namely, that continuous exposure to the same
condition "shall be deemed to be one occurrence."
If the leakage during the three-year period comprised one
occurrence, then Commercial Union's liability to Grace for a three-
year leak would be capped at $5 million and Swiss Re's liability to
2
These included landfills, leaking chemical drums,
contaminated lagoons and asbestos-contaminated soil, abandoned
drums of industrial waste and leaking storage tanks, plant
operations that involved ammonia wastewater being disposed of in
unlined pits or injected directly into the ground, improper
disposal of pesticide residue, inadvertent spreading of dry waste
particles, and buried radioactive rubble.
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Commercial Union would be $500,000 (50 percent of the first $1
million). By contrast, if leakage during each year in the three-
year period were treated as a separate occurrence, or (put
differently) the cap applied year by year, Swiss Re could be liable
for $1.5 million ($500,000 times three). The settlement with Grace
assumed the latter view of the matter.
If the question were considered as a mechanical exercise
in language--without the aid of “follow” clauses or policy
arguments--Swiss Re might well have the stronger argument, just as
the district court found. The policy period is three years, the
continuous release of the one pollutant at one site can easily be
described as one occurrence. So Swiss Re could be seen as merely
insisting--in reliance on its own certificate's "per occurrence"
language--on a cap of $500,000 in reinsurance for a single
occurrence.
A number of cases construing multi-year policies, and
applying varying language to different factual scenarios, have
construed caps in the fashion urged by Swiss Re and have rejected
"annualization" glosses of the kind pressed by Commercial Union.3
Only New Jersey has suggested an annualization approach may
3
See, e.g., Soc'y of Roman Catholic Church of Diocese of
Lafayette & Lake Charles, Inc. v. Interstate Fire & Cas. Co., 26
F.3d 1359, 1366 (5th Cir. 1994); Bd. of Trs. of Univ. of Ill. v.
Ins. Corp. of Ire., Ltd., 750 F. Supp. 1375, 1376, 1380-81 (N.D.
Ill. 1990); Hercules, Inc. v. AIU Ins. Co., 784 A.2d 481, 495-96
(Del. 2001).
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normally apply. See, e.g., Benjamin Moore & Co. v. Aetna Cas. &
Sur. Co., 843 A.2d 1094, 1103 (N.J. 2004); Owens-Illinois, Inc. v.
United Ins. Co., 650 A.2d 974, 995 (N.J. 1994). But for the most
part the “majority view” cases did not implicate follow-the-form
and follow-the-settlement clauses, and those clauses make a
difference in our case.
Let us start with Commercial Union’s liability to Grace.
Commercial Union’s own policies contained language in their
definition of occurrence quoted above, hostile to annualization.
Yet the multi-year Maryland policies explicitly provided for their
per occurrence limits to apply on an annual basis, as did the
earlier one-year policies. So Grace could argue in any litigation
with Commercial Union that the latter's obligations were governed
by the former's policy given that Commercial Union's excess
insurance policies contained a strong follow-the-form clause of its
own.
Specifically, the follow-the-form provisions in
Commercial Union’s excess liability policies state (in one form)
that the excess policy is no more restrictive than the Maryland
policy and (in the other) that Commercial Union would cover any
occurrences covered by the Maryland policy. Thus in Hatco Corp. v.
W.R. Grace & Co., 801 F. Supp. 1334, 1354-55 (D.N.J. 1992), the
court held that a particular exclusion in Commercial Union’s policy
was overridden by the follow-form provision as construed in favor
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the insured. So, although New Jersey law has no application here,
arguably Commercial Union’s policy language should be read to
dovetail with Maryland’s policy, i.e., by applying the caps on the
same annualized basis.4
Commercial Union’s outside coverage counsel conducted a
study of its excess liability policies and pertinent case law,
reaching various tentative conclusions (at times concluding that
annualization was unlikely, and at other times concluding that
variations in language made annualization likely under some of
Commercial Union’s policies but not under others). In the end,
counsel concluded in a settlement analysis and recommendation that
annualization was a likely outcome in the then-ongoing New York law
suit between the parties.
Whether this view of Commercial Union’s liability to
Grace is correct or not, it is binding upon Swiss Re under its
follow-the-fortunes clause so long as the settlement was reasonable
and made in good faith. The follow-the-fortunes doctrine, designed
in part to encourage settlement, see N. River Ins. Co. v. CIGNA
4
See, e.g., Associated Int’l Ins. Co. v. Blythe, 286 F.3d 780,
782 (5th Cir. 2002) (“The Associated Policy, as a ‘following form’
policy, adopted the coverage provisions and definitions of the
underlying Progressive Policy.”); Coleman Co. v. Cal. Union Ins.
Co., 960 F.2d 1529, 1533-34 (10th Cir. 1992) (noting that follow-
the-form clause “manifests an intent to consider the underlying
policy in determining the coverage under the umbrella policy,” and
concluding that the amount of loss in the excess policy should be
computed according to the method in the primary policy).
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Reinsurance Co., 52 F.3d 1194, 1206 (3d Cir. 1995), encompasses
settlements that are arguably beyond the strict limits of the
underlying cedent's policy (i.e., the Commercial Union policies).
The reinsurer must abide by cedent’s “good-faith payment” so long
as it is “arguably within the scope of the insurance coverage”.
Mentor Ins. Co. (U.K.) v. Brannkasse, 996 F.2d 506, 517 (2d Cir.
1993).5
The premise that the settlement was based on annualized
per-occurrence limits for Commercial Union, which could in theory
be debated, cf. Employers Reinsurance Corp. v. NewCap Ins. Co., 209
F. Supp. 2d 1184, 1190-91 (D. Kan. 2002), is supported by several
factors: testimony that some components in Grace's settlement
demands could not have been achieved without annualization,
testimony that Grace's representatives said during settlement that
their valuation used a "pro rata annualized" approach, and the use
of annualization as a premise in the ultimate settlement analysis
and recommendation by Commercial Union's coverage counsel. Swiss
Re apparently pursued the issue during discovery but has not
developed any objection on appeal.
5
N. River Ins. Co. v. ACE Am. Reinsurance Co., 361 F.3d 134,
139-40 (2d Cir. 2004); Christiania Gen. Ins. Corp. of N.Y. v. Great
Am. Ins. Co., 979 F.2d 268, 280 (2d Cir. 1992); Aetna, 882 F. Supp.
at 1346-47; Int’l Surplus Lines Ins. Co. v. Certain Underwriters &
Underwriting Syndicates at Lloyd’s of London, 868 F. Supp. 917,
920-21 (S.D. Ohio 1994).
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Of course, if the settlement were flatly inconsistent
with the excess liability policy, Swiss Re would not be bound to
respect it by a follow-the-settlements clause in its own
certificate. N. River Ins. Co., 52 F.3d at 1212 (“Was the paid
risk clearly outside the scope of the original policy’s
coverage?”); Aetna, 882 F. Supp. at 1347 (“manifestly outside” the
cedent’s policy). But each Commercial Union policy as a whole
includes not only its own anti-annualization language but its own
follow-the-form clause, seemingly invoking the pro-annualization
language of the underlying Maryland policy. Further, the insured
would benefit from the usual canons of interpretation favoring the
policy holder.
This brings us to Swiss Re’s liability to Commercial
Union under the terms of the reinsurance certificates. Even if
Commercial Union were deemed liable to Grace, Commercial Union's
right to the indemnity from Swiss Re is only for a specified share
of Commercial Union's liability (e.g., 50 percent of the first $1
million) for "each occurrence." The "occurrence" language delimits
Swiss Re's liability; the question is what the "each occurrence"
language means.
The district court read the phrase as if it meant, for a
multi-year leak, that the leak was a single occurrence for the
entire policy period so that the $500,000 cap applied once for the
policy period. This is a defensible reading, as the cases cited
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above show, but one could also call the continuing leak a new
occurrence every day or every drop. Or one could, as New Jersey
seemingly does, adopt a prudential compromise reading that treated
it as an occurrence for each year regardless of policy period.
The Swiss Re certificates could have contained a
definition of "occurrence" in relation to continuing leaks,
expressly negating annualization, but Swiss Re chose to provide no
definition at all for this malleable word. Of course, one could
read the Swiss Re policy as adopting the Commercial Union
definition of the term via Swiss Re’s follow-the-form clauses--but
which Commercial Union’s definition? The explicit anti-
annualization reading based on the occurrence definition or the
pro-annualization follow-the-form version drawing on the Maryland
policies' annualization provisions?
Here, Commercial Union’s liability to Grace has been
established by a seemingly reasonable settlement made (so far as we
know) in good faith. Under Swiss Re’s follow-the-settlements
clause it is bound to accept this pro-annualization reading of the
Commercial Union policy for purposes of establishing Commercial
Union’s liability to Grace. In our view, Swiss Re’s follow-the-
form clause should be deemed to extend this reading into the
parallel language in Swiss Re's own certificates subject only to
any clear limitation to the contrary in the Swiss Re documents.
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This view of the matter accords with the basic
presumption of concurrence that we think exists where there is a
skeleton reinsurance contract coupled with follow-the-form and
follow-the-settlements clauses. According to a New York case,
consistent with other authorities,
[w]here a following form clause is found in
the reinsurance contract, concurrency between
the policy of reinsurance and the reinsured
policy is presumed, such that a policy of
reinsurance will be construed as offering the
same terms, conditions and scope of coverage
as exist in the reinsured policy, i.e., in the
absence of explicit language in the policy of
reinsurance to the contrary.
Aetna, 882 F. Supp. at 1337. Accord Ostrager & Vyskocil, supra, §
2.03[a], at 2-9. Indeed, concurrence advances one of the basic
purposes of reinsurance, which is “[s]preading” risk to prevent “a
catastrophic loss from falling upon one insurer.” Unigard, 4 F.3d
at 1053.
Of course, if sufficiently clear, specific limits in the
certificate control over the general aim of concurrence and
ordinary "follow" clauses.6 Unfortunately for Swiss Re, the key
"reinsurance accepted" provision in the certificate--which reads
6
See, e.g., Unigard, 4 F.3d at 1070-71 (follow-the-form);
Bellefonte Reinsurance Co. v. Aetna Cas. & Sur. Co., 903 F.2d 910,
914 (2d Cir. 1990) (follow-the-fortunes); Travelers, 760 N.E.2d at
328 n.9 (“[A] ‘follow-the-fortunes’ clause does not supersede
specific language in a reinsurance contract . . . .”); see also
Ostrager & Vyskocil, supra, § 2.03[a], at 2-9 (following-form
reinsurance contract incorporates terms of the reinsured policy “to
the extent they are not inconsistent with the express terms of the
reinsurance contract”).
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"50% Quota Share part of first $1,000,000 each occurrence"--is
simply cryptic as applied to continuing leaks over a multi-year
period under a multi-year policy. In such a situation, the balance
is tipped in favor of making Swiss Re share liability on a basis
that conforms its liability to that of the cedent where the cedent
has settled reasonably and in good faith.
Neither side has pointed to extrinsic evidence--such as
premium comparisons, expert testimony, or pertinent negotiations--
that could illuminate this dispute. Nothing we have said in this
decision should be taken to control a case in which a similar
dispute is better illuminated by extrinsic evidence of any kind.
See, e.g., Nat’l Tax Inst., Inc. v. Topnotch at Stowe Resort & Spa,
388 F.3d 15, 20-21 (1st Cir. 2004).
It is unclear from the briefs and the record what
consequence our conclusions entail beyond a remand. For example,
we do not know if the question whether the settlement was made in
good faith is at issue, Aetna, 882 F. Supp. at 1351-52. Such
matters are for the parties and the district court to sort out on
remand.
The judgment of the district court is vacated and the
matter remanded for further proceedings consistent with this
decision.
It is so ordered.
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Commercial Union Insurance v. Swiss Reinsurance America Corp.
Court: Court of Appeals for the First Circuit
Date filed: 2005-06-27
Citations: 413 F.3d 121
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