369 F.Supp.2d 217 (2005) | Cited 0 times | D. Rhode Island | May 12, 2005


I. Introduction

This case is an asbestos-related insurance dispute between anexcess insurer and its reinsurer over how much, if any, of thepayments made by the excess insurer to its direct insuredconstitute covered loss under the reinsurance contract. Beforethis Court are the parties' respective objections to the Reportand Recommendation of Magistrate Judge Martin concerning theparties' cross-motions for summary judgment. The Court generallyadopts the recommendations of Judge Martin, but writes separatelyto address the issues raised by the parties in their objectionsand to clarify the focus of further proceedings. II. Background

Affiliated F.M. Insurance Company ("Plaintiff" or"Affiliated"), a Rhode Island corporation, issued a $5,000,000umbrella excess liability insurance policy (the "Policy") to Elt,Incorporated, and Baltimore Paint & Chemical Co. (collectively,the "Direct Insured") in 1975. (See DeRita Aff. Ex.1.)1 The Policy covered the period from December 31,1975, to December 31, 1976. However, on October 7, 1976,Affiliated increased the Policy's limits to $10,000,000 at therequest of the Direct Insured. In connection with this increasein coverage, Affiliated took out a "Facultative ReinsuranceCertificate"2 (the "Reinsurance Certificate") withEmployers Reinsurance Corporation ("ERC" or "Defendant"), aMissouri corporation, to cover the newly acquired $5,000,000 in liability. (See id. Ex. 2.) The ReinsuranceCertificate provided coverage from October 7, 1976, to December31, 1976, and called for ERC to indemnify Affiliated for "Nil% of$5,000,000 and 100% of 5,000,000 excess of $5,000,000."3(Id. Ex. 2 at 1.)

A wave of asbestos-related lawsuits began to be filed againstthe Direct Insured beginning in the late 1970s. By the late1980s, "the Direct Insured was flooded with claims arising out ofthe alleged exposure of individuals to ? asbestos-containingproducts." (Id. at ¶ 10.) "The Direct Insured was eventuallynamed as defendant in tens of thousands of lawsuits injurisdictions throughout the United States." (Id. at ¶ 10.) Byletter dated September 10, 1998, the Direct Insured informed itsexcess liability insurance carriers (including Affiliated) thatits primary insurance coverage had been exhausted by theseasbestos suits, and demanded that the excess liability insurancecarriers agree to indemnify and defend the Direct Insured for andagainst pending and future claims. (See id. Ex. 4.)Affiliated thereupon entered into an "Interim Indemnity and Defense Cost SharingAgreement" (the "Interim Agreement") with the other excessliability insurance carriers (see id. Ex. 6), in which thecarriers agreed to share costs on a "continuous trigger" and"time on the risk" basis.4 Pursuant to the InterimAgreement, Affiliated paid out $2,210,028.40 in indemnity, aswell as $865,582.74 in defense costs, over a period ofapproximately four years. (See id. ¶ 26.) In July of 1999, aconsultant advised that Affiliated's Policy limit of $10,000,000would be exhausted by the year 2012. (See id. Ex. 8.) Thisprojection was revised in March of 2001, to show exhaustion ofAffiliated's Policy limits by 2004. (See id. Ex. 9.)Subsequently, on July 3, 2001, Affiliated entered into a"Settlement Agreement and Release" (see id. Ex. 11) with theDirect Insured, whereby the Direct Insured agreed to releaseAffiliated from all future liability in exchange for a payment of$6,000,000 (the "Settlement Amount").

Having paid out a total of $9,179,611.14 under thePolicy,5 Affiliated turned to ERC for reimbursement underthe Reinsurance Certificate. Subtracting the $5,000,000retention, Affiliated submitted a bill to ERC in the amount of $4,179,611.14. (SeeDeRita aff. Ex. 17 (noting total payable by ERC to be$3,314,028.40 and stating that "we will be allocating anadditional $[865,582.74] in loss to this claim in the near futurerepresenting prior reimbursement of the insured's defensecosts").) ERC, however, in a letter dated July 18, 2002, deniedpayment on the ground that, among other things, "Affiliated FMhas allocated $4,179,611.14, the entire amount of [its] paymentsexcess of $5,000,000, to the ERC Certificate, although ERC onlyreinsured Affiliated FM for a period of less than 3 months (85days), whereas the Affiliated FM policy was in effect for theentire year." (Id. Ex. 20.) ERC also reserved its "right toassert any other applicable defenses to this claim." (Id.)Affiliated responded to this denial of payment by filing suit onSeptember 24, 2002. After a period of discovery, Affiliated fileda Motion for Partial Summary Judgment. ERC filed its own Motionfor Summary Judgment. (Upset at some of the statements made byERC, Affiliated also filed a Motion to Strike ERC's Local Rule12.1 Statement of Material Undisputed Facts.) The motions werereferred to Magistrate Judge Martin, who held a hearing onOctober 17, 2003.

In his Report and Recommendation ("R&R") of September 3, 2004,Judge Martin first recommended that Plaintiff's Motion forPartial Summary Judgment as to defense costs incurred in theamount of $865,582.74 be denied because "it is patent that thesecosts do not constitute `loss' under the Certificate." Affiliated FM Ins. Co.v. Employers Reins. Corp., No. CA 02-419S, slip op. at 18(D.R.I. Sep. 3, 2004) (Report and Recommendation of M.J. Martin)(hereinafter "Affiliated FM R&R"); (see DeRita Aff. Ex. 2 at2 (setting forth Reinsurance Certificate, which states that ERC"hereby agrees to indemnify [Affiliated] against loss")). "TheCertificate's definition of `loss' specifically excludes `claimexpenses,' and `claim? expenses' are defined as `court costs,interest upon judgment and allocated investigation, adjustment,and legal expenses.'" Affiliated FM R&R, No. CA 02-419S, slipop. at 18 (emphasis in R&R). "Thus, under the terms of theCertificate, the $865,582.74 in defense costs cannot be countedeither as part of the reinsured's $5,000,000 retention or theexcess of $5,000,000 `loss'. . . . Accordingly, Defendant is notrequired to indemnify Plaintiff for these costs as `loss' underthe Reinsurance Certificate." Id.6

Next, Judge Martin recommended that Plaintiff's Motion forPartial Summary Judgment as to its claim for $3,314,028.40(excess of the $5,000,000 retention) be denied because thereremain questions of fact precluding summary judgment, both as toAffiliated's satisfaction of the $5,000,000 loss retention andthe proper allocation of its loss under the Reinsurance Certificate.Judge Martin noted that Affiliated cannot meet its $5,000,000retention without the Settlement Amount, but that there isevidence that the Settlement Amount included defense costs notcovered by the Reinsurance Certificate. Id. at 21. Nor did thedoctrines of "follow the fortunes" and "follow thesettlements"7 provide Plaintiff any relief on this point,see N. River Ins. Co. v. ACE Am. Reins. Co., 361 F.3d 134,139 (2d Cir. 2004) ("the doctrine of follow-the-settlements . . .requires a reinsurer to indemnify a cedent for a settlement aslong as that settlement is reasonable and made in good faith"),because reinsurers "cannot be held accountable for any loss notcovered by the reinsurance policy," id. at 141. In addition,Judge Martin concluded that "Plaintiff also has not adequatelyexplained the basis for its decision to allocate the entire . . .loss to the [Reinsurance] Certificate's 85 day policy period andnone to the additional 280 days encompassed by the UmbrellaPolicy period." Affiliated FM R&R, No. CA 02-419S, slip op. at29.

Judge Martin did recommend granting Plaintiff's Motion toStrike a portion of ERC's Statement of Material Undisputed Facts("SMUF"), concluding "that paragraphs 20, 22, 23, 25, and 26 ofDefendant's SMUF should be stricken as argumentative andimproper." Id. at 32; see also id. ("It is also plain from the wordingof [Local Rule 12.1(a)(1)] that the [SMUF] is to be a statementof facts and not argument in support of the motion.").

As to ERC's motion, Judge Martin first recommended that it begranted to the extent it "seeks a declaration that the[Reinsurance] Certificate requires Plaintiff to distinguishbetween loss and defense payments in applying the $5 million lossretention and in calculating any obligation of Defendant toreimburse for defense costs pursuant to the pro rata expenseclause."8 Id. at 35. Judge Martin left open, however,what formula should be used to make that calculation. ERC hadproposed two possible ways of calculating the proportion ofAffiliated's costs that could be attributed to claim expenses.First, relying on a letter from Plaintiff wherein it was statedthat "our settlement . . . will include defense costs, we haveestimated future defense cost at approximately $3 million,"(DeRita Aff. Ex. 16), ERC argued Affiliated was only entitled toapply $3,000,000 of the Settlement Amount to the calculation ofcovered loss under the Reinsurance Certificate. But Judge Martinconcluded that the statement regarding the $3,000,000 in defensecosts was "ambiguous" because "[i]t is not clear if one half of the Settlement Amount is fordefense costs or if $3 million is the estimated amount of defensecosts which Plaintiff will incur in the future if the Policy isnot bought out." Affiliated FM R&R, No. CA 02-419S, slip op. at36. Second, ERC pointed to a statement by Affiliated that,"defense costs are currently 40% of paid indemnity," (Def.'s SMUFEx. 11), to argue that only 71.5% of the Settlement Amount shouldbe allocated to covered loss, see Affiliated FM R&R, No. CA02-419S, slip op. at 37 ("further defense payments would be 40%of further indemnity payments (which equates to further defensebeing 28.5% of the total of further defense and indemnitypayments)") (quoting Def.'s Mem. S.J.). As to this argument,Judge Martin concluded that "the court is not convinced that thevaluations which Defendant assigns to the Settlement Amount forindemnity payments and defense costs have been established as amatter of undisputed facts," and thus "how much of the SettlementAmount should be attributed to defense cost is a disputed issueof material fact." Id. at 38. Therefore, he recommended thatERC's motion should be denied to the extent it moved the Court toaccept either of ERC's calculations. Judge Martin did recommend,however, that ERC's motion be granted to the extent it requestedERC be allowed to conduct further discovery on the amounts ofAffiliated's defense and indemnity expenses. In addition to arguing for an allocation between defense costsand loss, ERC argued that Affiliated should have prorated thelosses it assigned to the Reinsurance Certificate so as toaccount for the fact that the Reinsurance Certificate was only onthe risk for 85 of the 365 days the Policy was on the risk. Giventhat 23% (85 days = 23% of 365 days) of all the payments made byAffiliated under the Policy would fail to reach the $5,000,000Reinsurance Certificate retention, ERC argued that it followedthat Plaintiff's Complaint should be dismissed. Judge Martindisagreed, noting that "[w]hile Defendant's argument forproration has a certain surface appeal, it is flawed. Plaintiffonly provided $10 million in coverage to the Direct Insured forthe same 85 days covered by Defendant's Certificate." Id. at40. "Defendant's argument for proration would make perfectsense," continued Judge Martin, "if Plaintiff had provided theDirect Insured with $10 million in coverage for 365 days, butonly obtained reinsurance from Defendant for 85 of those days."Id. Nonetheless, "Plaintiff's decision to allocate its entire$9.1 million loss to the 85 days during which the Certificate wasin effect and none to the other 280 days of the Umbrella Policyperiod appears to be inconsistent with [the requirement thatallocations be made in good faith]." Id. at 40-41 (citing N.River Ins. Co., 361 F.3d at 141 ("Cedants must make good-faithallocations. . . .")); see also id. at 41 ("A good faithallocation should reflect both time on the risk and the degree of risk assumed.") (citing cases). Thus, Judge Martinrecommended that summary judgment in favor of ERC on the groundof improper allocation be denied, while noting that the properallocation formula remained in dispute.

Both parties filed objections to the R&R with this Court.(See Pl.'s Consol. Mem.; Def.'s Consol. Mem.) Following ahearing and de novo review, see Rhode Island Laborers'Health & Welfare Fund v. Philip Morris, Inc.,99 F. Supp. 2d 174, 176 (D.R.I. 2000), this Court will now set forth its rulingson the various objections.

III. Standard of Review

Summary judgment is warranted when "the pleadings, depositions,answers to interrogatories, and admissions on file, together withthe affidavits, if any, show that there is no genuine issue as toany material fact and that the moving party is entitled to ajudgment as a matter of law." Fed.R.Civ.P. 56(c). When amotion for summary judgment is directed against a party thatbears the burden of proof, the movant bears the "initialresponsibility of informing the district court of the basis forits motion, and identifying those portions of [the record] whichit believes demonstrate the absence of a genuine issue ofmaterial fact." Celotex Corp. v. Catrett, 477 U.S. 317, 323(1986). If that showing is made, the nonmovant then bears theburden of producing definite, competent evidence to rebut themotion. See Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 247-48 (1986). In otherwords, the nonmovant is required to establish that there issufficient evidence to enable a jury to find in its favor.DeNovellis v. Shalala, 124 F.3d 298, 306 (1st Cir. 1997).

IV. Preliminary Matters

A. Affiliated's Motion to Strike ERC's Statement of MaterialUndisputed Facts

The Court is in complete agreement with Judge Martin'srecommendation as to this issue, sees no need to expound furtherupon it, and adopts the recommendations of the R&R as to thisissue.

B. Exclusion of $865,582.74 in Defense Cost

Affiliated no longer contests that the $865,582.74 in defensecost is outside the Reinsurance Certificate's definition ofcovered loss. (Pl.'s Consol. Mem. at 3.) Accordingly, this Courtadopts the recommendation of Judge Martin on this issue, providedthat, to the extent Plaintiff has a viable claim forreimbursement from ERC, it shall be entitled to the proratedportion of defense costs it is entitled to under the ReinsuranceCertificate.9

C. The $104,000 Non-Asbestos Claims

Judge Martin did not address the proper characterization ofAffiliated's $104,000 indemnity payment on a non-asbestos productliability claim. Affiliated FM R&R, No. CA 02-419S, slip op. at20 ("assuming that the $104,000 payment should be included with theAsbestos Claims"). The nature of this claim is not otherwiseclear from the record. There is no suggestion that this claim, asopposed to the asbestos claims, operates on a continuous trigger.Thus, given that this Court concludes below that Affiliated isnot entitled simply to aggregate all claims it accumulated duringits 12-month period on the risk, the most obvious question is:When did this claim arise? This is a question of fact best leftfor trial.

V. Allocation of Loss and Defense Costs

Affiliated objects to Judge Martin's recommendation that theremaining $8,314,028.40 in claims needs to be allocated by thefactfinder between loss and defense costs. Affiliated makes twoarguments. First, it disputes Judge Martin's conclusion thatcovered "loss" is defined differently under the Policy and theReinsurance Certificate. In other words, Affiliated argues thereis concurrence between the respective definitions, and thus nobasis for allocating Affiliated's reimbursement request intocovered and non-covered loss. Second, Affiliated argues that ERCis bound to accept Affiliated's good faith settlement with theDirect Insured under the doctrines of "follow the fortunes" and"follow the settlements." According to Affiliated, thesedoctrines (discussed in detail below) essentially preventreinsurers from second-guessing claim handling decisions andnitpicking their way out of their obligations. Affiliated's arguments are a gameeffort, but they fall short of the mark.

A. Lack of Concurrence

Affiliated argues that Judge Martin erred because he based hisconclusion on a finding of lack of concurrence between the Policyand the Reinsurance Certificate as to what constitutes coveredloss. See Affiliated FM R&R, No. CA 02-419S, slip op. at19.10 Plaintiff argues there is in fact concurrencebetween the relevant definitions of loss when one looks toParagraph V of the Policy. (Pl.'s Consol. Mem. at 11.)

Paragraph V of the Policy states, among other things, that:

In the event of the reduction or exhaustion of the aggregate limit(s) of liability of the underlying Policy(ies) . . . by reason of losses paid thereunder during the term of this Policy, this Policy (1) in the event of reduction, shall pay the excess of the reduced underlying limit; or (2) in the event of exhaustion, shall continue in force as underlying insurance. (DeRita Aff. Ex. 1 at 4.) This provision basically provides thedefinition of excess liability insurance: when an underlyingpolicy (i.e., a policy between the Direct Insured and its directinsurer, for which Affiliated provided excess coverage) isexhausted, Affiliated's excess coverage kicks in. It does not, atleast on its face, call for any change to the terms of the Policyupon the excess coverage being activated. In fact, Paragraph V isentitled "Limit of Liability — Retained Limit," and it tiesdirectly back to Paragraph I of the Policy, which states thatAffiliated generally "agrees to pay on behalf of the insured forultimate net loss in excess of the retained limit hereinafterstated." (Id.) Affiliated, however, argues that the language ofParagraph V, which states the Policy "shall continue in force asunderlying insurance" means that Affiliated steps into the shoesof the underlying insurer and assumes the obligations in thosepolicies. Since the relevant underlying policies here do notpermit inclusion of expenses in determining liability limits,Affiliated is obligated to do likewise; and thus under both thePolicy and the Reinsurance Certificate "expenses are not loss andare payable in excess of the express limits of liability" (Pl.'sConsol. Mem. at 12). There is therefore no lack of concurrence.

The only evidence Affiliated cites in support of thiscontention is an intra-company correspondence wherein DeRitastates that "[d]efense costs under the applicable Affiliated FMpolicy are paid outside of limits." (Pl.'s Consol. Mem. Ex. 4.)11The argument seems to stretch the limits of logic because itsuggests that Affiliated contractually obligated itself to adhereto the various terms of each of the underlying policies itcovered. But even giving Affiliated the benefit of the doubt onthis point, the real issue surrounding the lack of concurrencewould remain. That is, there is significant evidence supportingthe conclusion that Affiliated relied on defense costs in meetingits retention and filing its claim under the ReinsuranceCertificate,12 while the Reinsurance Certificate does notrecognize defense costs as covered loss. The fact that Affiliated may have done this incontravention of some interpretation of its own Policy has littleultimate impact on the issue before this Court. See N. RiverIns. Co. v. ACE Am. Reins. Co., 361 F.3d at 141 ("[R]einsurers . . .cannot be held accountable for any loss not covered by thereinsurance policy.") (emphasis added). In other words, even ifthis Court agrees with Affiliated that it (contrary to theexpress terms of its Policy) is liable for defense costs outsidelimits — and thus there is concurrence between the Policy and theReinsurance Certificate — there is still this basic problem: thebill Affiliated submitted to ERC apparently included paymentsmade to cover defense costs in contravention of the ReinsuranceCertificate. Affiliated does not argue that it has not, in fact,included defense cost exposure in its calculations of bothretention and indemnity under the Reinsurance Certificate.Rather, while it holds up Paragraph V of the Policy in one handto prevent ERC from looking behind the settlement on the basis ofwhat the Policy and the Reinsurance Certificate say on theirface, it holds up the doctrine of follow-the-settlements in theother to prevent ERC from looking behind the settlement on thebasis of what Affiliated actually did. It is to this latterargument that the Court now turns. B. Follow the Settlements/Follow the Fortunes

Affiliated next argues that Judge Martin erred by ordering anallocation of loss and defense costs because to do so wouldentail looking behind the settlement, which is prohibited by thedoctrines of follow-the-settlements andfollow-the-fortunes.13 Affiliated makes three assertions.First, it argues that ERC is bound by the follow-the-settlementsdoctrine to accept Affiliated's settlement decisions in theabsence of clear evidence of bad faith. Second, even if ERC candemand an allocation of the Settlement Amount between actualdefense costs incurred and covered loss, that is not what theyare seeking. Rather, ERC is asking for an allocation based uponan assessment of risk of loss (and future exposure to defensecost expenditures) and such determinations are not a propersubject for second-guessing. Third, Affiliated argues that to allow ERC to go behind the settlement would undermine theimportant policies that underlie the doctrines. The Court willaddress these arguments in turn.

1. Is ERC Required to "Follow the Settlement" Absent a Showingof Bad Faith?

As to Affiliated's argument that ERC is bound to accept thesettlement under the follow-the-settlements doctrine absent ashowing of bad faith,14 it is first important to notethat the Reinsurance Certificate does not include an expressfollow-the-settlements clause. Affiliated argues that such aclause is implied, citing Am. Employers' Ins. Co. v. SwissReins. Am. Corp., 275 F. Supp. 2d 29. In Am. Employers Ins.,the District Court of Massachusetts stated that: Whether the "follow the fortunes" and "follow the settlements" doctrines apply in the absence of express contractual language remains an open question. Although not universally accepted, the favored view is that "follow the fortunes" and "follow the settlements" are an industry custom, and apply even in the absence of express language to that effect.Id. at 35 n. 32. The only case cited by the court in support ofthis conclusion was Aetna Cas. & Sur. Co. v. Home Ins. Co.,882 F. Supp. 1328 (S.D.N.Y. 1995). Aetna was also cited by anothercourt, N. River Ins. Co. v. Employers Reins. Corp.,197 F. Supp. 2d 972 (S.D. Ohio 2002), but in the course of reaching avery different conclusion.

Plaintiff has cited only three cases where the courts have held that the "follow the settlements" doctrine is inherent in every reinsurance contract, those cases being Aetna, International Surplus Lines [Ins. Co. v. Certain Underwriters at Lloyd's London, 868 F. Supp. 917 (S.D. Ohio 1994)], and the district court's opinion in National American Insurance Co.[of Cal. v. Certain Underwriters at Lloyd's London, 93 F.3d 529 (9th Cir. 1996)] later reversed by the Ninth Circuit. Most cases which discuss the "follow the settlements" or "follow the fortunes" doctrine were faced with reinsurance certificates which contained express "follow the settlement" clauses. In fact, defendant notes that specific "follow the settlement" clauses are often included in reinsurance certificates, and that the Brokers and Reinsurance Markets Association's Contract Wording and Reference Manual promulgated under the direction of William Gilmartin, plaintiff's expert, includes forms for such clauses. It seems logical that if the "follow the settlements" doctrine was so widely accepted as an inherent part of every reinsurance contract that the doctrine may be read into every certificate as a matter of law, there would be no need to include such clauses in reinsurance contracts.N. River Ins. Co. v. Employers Reins. Corp.,197 F. Supp. 2d at 986. This Court is hesitant to read terms into a contract givensuch divergent precedent. But the issue need not be resolvedhere, because Affiliated's argument fails even if the Court wereto assume that a follow-the-settlements clause is implicit in theReinsurance Certificate.

"The courts have repeatedly held that the follow the fortunesdoctrine does not create reinsurance coverage where none exists under the specific terms of the contract." Edward J. Ozog, etal., The Unresolved Conflict Between Traditional Principles ofReinsurance and Enforcement of the Terms of the ContractualUndertaking, 35 Tort & Ins. L.J. 91, 92 (1999). Here, theReinsurance Certificate explicitly excluded defense costs fromthe definition of "loss" and Affiliated cannot, and does not,contest this assertion because it agrees it is not entitled toindemnity for the $865,582.74 paid in defense cost precedingsettlement (and further acquiesces on this point in contendingthat there is concurrence between the Policy and the ReinsuranceCertificate). What Affiliated is in effect arguing is that underthe doctrine of follow-the-settlements it may be reimbursed forpayments made to extinguish future liability for defense costseven if it would be precluded from seeking reimbursement for suchcosts if they were actually incurred, so long as the settlementwas entered into in good faith. While there is some appeal tothis argument because it encourages settlements by ensuring thatdecisions will not be nitpicked by reinsurers with the 20/20vision of hindsight, Affiliated takes it too far. As the court inN. River Ins. Co. v. CIGNA Reins. Co., 52 F.3d 1194, explained,follow-the-fortunes does not give reinsureds carte blanche toimpose whatever settlement decisions they make on theirreinsurers.

"Follow the fortunes" clauses prevent reinsurers from second guessing good-faith settlements and obtaining de novo review of judgments of the reinsured's liability to its insured. But while a "follow the fortunes" clause limits a reinsurer's defenses, it does not make a reinsurer liable for risks beyond what was agreed upon in the reinsurance certificate. In that regard, the reinsurer retains the right to question whether the reinsured's liability stems from an unreinsured loss. A loss would be unreinsured if it was not contemplated by the original insurance policy or if it was expressly excluded by terms of the certificate of reinsurance.Id., 52 F.3d at 1199-1200 (emphasis added and internalcitations omitted).

Evidence derived from Affiliated's own documents suggests thata significant portion of the settlement was for the payment ofdefense costs. Such evidence certainly calls into questionwhether all of the settlement payment was covered loss under theReinsurance Certificate, which excludes defense costs from itsdefinition of covered loss. See Am. Ins. Co. v. N. Am. Co. forProp. and Cas. Ins., 697 F.2d 79 (2d Cir. 1982) (holding thatinsurer could not seek indemnity from reinsurer for settlementamounts paid to cover punitive damages where reinsurance coverageexcluded punitive damages). ERC has a right to explore thisquestion further and, if possible, get an answer.

2. Allocation of Risk of Loss

Affiliated's argument that ERC may not go behind the settlementto seek an allocation of risk of loss is generally correct. Butthis is not what ERC is seeking to do. The type of risk of lossassessments that Affiliated is permitted to make in regards to asettlement without risking second-guessing is not at issue here.In N. River Ins. Co. v. ACE Am. Reins. Co., 361 F.3d 134, the Second Circuit held that a reinsurer could not point toa discrepancy between an insurer's pre-settlement risk analysisand its post-settlement claim allocation as justification forlooking behind the settlement. See id. at 141 ("the courtholds that the follow-the-settlements doctrine extends to acedent's post-settlement allocation decisions, regardless ofwhether an inquiry would reveal an inconsistency between thatallocation and the cedent's pre-settlement assessments of risk");see also id. at 142 ("ACE did not contract to pay `risk ofloss,' nor is it clear that North River could require its upperlayer reinsurers to pay a `risk of loss.' The reinsurancecontract is `essentially a contract of indemnity' which does notarise until the reinsured has paid a claim.") (quotingChristiania Gen. Ins. Corp. v. Great Am. Ins. Co.,979 F.2d 268, 271 (2d Cir. 1992)). Affiliated argues that this is what isgoing on here, because ERC is pointing to Affiliated'spre-settlement analysis of defense costs to argue thepost-settlement allocation to covered loss is void. But thischaracterization is off base. The Second Circuit, in ACE,specifically distinguished looking behind the settlement todetermine whether the loss claimed is covered by the reinsurancecontract (which is permissible) and questioning allocation ofcovered loss (which is not). See id. at 140. In fact, thecourt points out that "North River's reinsurance billingallocated one percent of the settlement to the value of NorthRiver's policy buy-back, which extinguished its liability for non-asbestos related claimsthat might be brought by Owens-Corning." Id. at 143 n. 7. TheACE court noted that while North River "distributed this onepercent among all its policies based on policy limits and billedits reinsurers accordingly," the fact was that "this payment wasnot on account of any `loss,' but rather to extinguish contractliability." Id. While the issue was not before the court, theimplication is that this allocation of non-covered loss would notbe defensible on the basis of a risk-of-loss argument. Here,there is evidence that Affiliated is trying to improperly submitamounts it paid to extinguish its own liability for defense costsas covered loss under the Reinsurance Certificate. ERC's attemptto gain clarity on this point is not akin to challenging anallowable allocation of risk of loss.

3. Policy Considerations

Finally, Affiliated argues ERC should not be allowed to lookbehind the settlement for policy reasons. It is true that "[t]hefollow the fortunes doctrine serves to ensure that the costs ofthe reinsurance transaction do not become economicallyprohibitive," by ensuring that "[t]he reinsurer need notduplicate or monitor the adjustment efforts of the reinsured" andthat the reinsured will not be denied indemnification "because oferrors in an adjustment that was carried out in a sound,businesslike manner." Ozog, et al., supra, at 91-92. However,it was not "developed as a means by which one party to a reinsurance contract could deny the otherthe benefit of its bargain through the imposition of its ownwill." Id. at 92.

"The rationale for invoking the doctrine and binding thereinsurer applies where not doing so would discourage the cedentfrom good faith settlement with its insured." Travelers Cas. &Sur. Co. v. Gerling Global Reins. Corp. of Am.,285 F. Supp. 2d 200, 211 (D. Conn. 2003). Here, the defense to payment assertedby ERC implicates no legitimate incentive on the part ofAffiliated to settle with the Direct Insured. Affiliated assessedits own future liability to the Direct Insured under the InterimAgreement and concluded that settlement made economic sense.Specifically, it figured that by settling for the SettlementAmount it would be "saving almost $1.7 million in indemnity [and]its liability for claims expenses in excess of the Policylimits." (Pl.'s Consol. Mem. at 8.) ERC's challenge here wouldonly implicate Affiliated's incentive to settle on such facts ifAffiliated was entering into the settlement on the assumptionthat it would thereafter seek (improperly) to include in itsbillings to ERC payments made to extinguish its liability fordefense costs, which are explicitly excluded from the definitionof covered loss under the Reinsurance Certificate.

In light of all of the above, this Court concludes that anallocation of the Settlement Amount is required as to defensecosts versus losses covered by the Reinsurance Certificate.Furthermore, the Court agrees with Judge Martin's conclusion thatthe proper allocation remains a question of fact. Therefore, ERCis entitled to further discovery on this point, and its request(see Def.'s Consol. Mem. at 6) to have the Initial Conferencereconvened, so as to address such further discovery, is granted.

VI. Proration Based on Time on the Risk

Affiliated objects to Judge Martin's recommendation that itsclaim for reinsurance must take into account ERC's shorter timeon the risk. Affiliated bases its objection on the fact that the"Direct Insured took the position that each of its insurancepolicies was subject to a `continuous trigger'15 ofcoverage for the Asbestos Claims," and the asbestos claims weresubsequently allocated among the various insurers under theInterim Agreement on that basis. (Pl.'s Consol. Mem. at 17.)Thus, argues Affiliated, based upon a continuous trigger of coverage, each of the 95,000 potential Asbestos Claims against the Direct Insured that triggered coverage on December 31, 1975-day one of the Affiliated FM Policy — would also trigger coverage on each and every day of the 365-day Policy period, including the 85-day ERC Certificate period. The sheer volume and potential value of the Asbestos Claims, pending and projected, would fully exhaust the Policy's $10,000,000 loss limits available during the 85-day period they were in effect.(Id. at 18.)16

The problem with this argument is that Affiliated has not putforth any evidence to the effect that it would have beenallocated $10,000,000 under the Interim Agreement if it had onlybeen on the risk for 85 days. While there is evidence suggestiveof such a conclusion, no calculation or expert testimony wasoffered to that effect. Rather, the evidence before this Court isthat Affiliated was in fact allocated its liability under theInterim Agreement on the basis of its time on the risk. (Pl.'sConsol. Mem. at 26 n. 7 ("The Interim Agreement among the DirectInsured, Affiliated FM and the other excess insurers had amechanism, based on `time on the risk', whereby the excessinsurers shared their defense and indemnity obligations for theAsbestos Claims.").) Further, Affiliated's decision to settle wasbased upon its assessment of its risk under the Interim Agreement — in other words, based uponits risk as a function of providing $5,000,000 in coverage for365 days and another $5,000,000 for 85 days. (Pl.'s Consol. 17 ("The Asbestos Claims were administered under the InterimAgreement and were evaluated and settled by Affiliated FM on thisbasis.").)17 And finally, Affiliated has been absolutelyclear about the fact that the $5,000,000 it paid, which it nowseeks to allocate to the 85-day period for purposes of fulfillingthe retention requirement, is allocable to it over 365 days.(See Pl.'s Consol. Mem. at 29 ("the first $5 million in losswas spread across all 365 days of the Affiliated FM Policy . . .as required by the terms of both the Affiliated FM Policy and theERC Certificate").)

Meanwhile, there is no dispute about the fact that ERC was onlyon the risk for 85 days. The premium it received —$1,986.3218 (DeRita Aff. Ex. 2) — reflects thisrelatively short time on the risk when compared with the premiumAffiliated received — $24,900 (DeRita Aff. Ex. 1) — for taking onthe same amount of risk ($5,000,000) over 365 days. Thetime-limited nature of the parties' bargain is further reflectedin the fact that the Reinsurance Certificate requires that the occurrence for whichreimbursement is claimed must take place during the ReinsuranceCertificate period, both as to retention and indemnity. Thus,claims incurred by Affiliated that are allocable to periodsoutside the Reinsurance Certificate's window cannot be used tosatisfy the Reinsurance Certificate's retention requirementwithout twisting the parties' agreement beyond recognition. It isfor this reason that Affiliated cannot simply rely on thesettlement agreement alone to demand reimbursement from ERC underthe Reinsurance Certificate — to do so would make ERC potentiallyliable for claims outside the window of coverage it agreed toprovide.

Nonetheless, Affiliated's continuous trigger argument is notfrivolous. It reflects the devastating impact of asbestosliability, where it seems no insurer with any connection to theunderlying claims escapes unscathed. Affiliated's argument isthat ERC should not be allowed to avoid the responsibilities ofits bargain simply because ERC was only on the risk for the85-day Reinsurance Certificate period, while Affiliated was onthe risk for the same 85 days and another 280 days. Affiliatedcontends in effect that the extent of liability of the DirectInsured was so massive that policy limits for all policies weremet and exceeded — and ERC should be no exception. As statedabove, the problem with Affiliated's argument here is its lack ofproof. Affiliated points to: (1) the Interim Agreement to showthe relevant claims were handled on a continuous trigger; (2) the reports it receivedfrom consultants indicating that all policies under the InterimAgreement would eventually be exhausted; and (3) its ownsettlement with the Direct Insured to show its good faith effortto limit its losses. But in seeking to add all this up to equalERC being liable under the Reinsurance Certificate, Affiliatedstill lacks one missing link in its chain of proof — a linkbetween the $5,000,000 in liability allocated to it on the basisof 365 days on the risk and the $5,000,000 in retention it mustsatisfy under the Reinsurance Certificate on the basis of only85-days of coverage.

In light of all of this, the Court concludes that it is onlyappropriate to allow Affiliated to prove its entitlement toreimbursement under the Reinsurance Certificate by showing thatit would still have been allocated its full $10,000,000 incoverage liability under the Interim Agreement even if it hadbeen on the risk for only the same 85-day period as ERC. As setout earlier in this opinion, Affiliated would still have toallocate its retention/reimbursement claim between covered lossand defense costs. Should Affiliated thus satisfy its retention,separate reimbursement for defense costs on a pro rata basisunder the Reinsurance Certificate would be available. Seesupra note 8.

If Affiliated is not able to prove its entitlement toreimbursement under the Reinsurance Certificate as justdescribed, the question becomes: What is the proper method ofallocation? VII. Method of Allocation

ERC objects to Judge Martin's recommendation that the properformula to be used to calculate the correct allocation forpurposes of time on the risk remains a question of fact. TheCourt has already set forth above the suggested calculations ofERC. Judge Martin, in his R&R, suggested a double-weightingmethod of calculation. Affiliated FM R&R, No. CA 02-419S, slipop. at 42 ("Because Plaintiff had twice the risk during the 85days of the [Reinsurance] Certificate period, those 85 daysshould be doubly weighted in allocating the payments Plaintiffmade to resolve its liability under the ? Policy.").

The dilemma for Affiliated is that while ERC and Judge Martinhave offered differing formulas to resolve the time-on-the-riskallocation issue, all of these formulas leave Affiliated short ofbringing a compensable claim for reinsurance coverage. See,e.g., Affiliated FM R&R, No. CA 02-419S, slip op. at 42("[D]ouble weighting would result in 37.78% of the 9.1 million(or $3,437,980) in payments being allocated to the 85 days duringwhich Plaintiff provided $10 million in coverage. As $3,437,980does not exhaust Plaintiff's $5 million retention, Plaintiffwould not be entitled to any indemnification fromDefendant.").19 Meanwhile, Affiliated has offered no alternative formula. Rather, it has simplycontinued to insist allocation on the basis of time on the riskis improper. (The congruent results of the different formulasdescribed may well explain why.) An argument can certainly bemade (and ERC has made it) that such bald denial is notsufficient to withstand summary judgment. This Court disagrees,however, and will follow the recommendation of Judge Martin onthis issue and decline to find that, as a matter of law, thereexists no formula accounting for time on the risk pursuant towhich Affiliated could make out a viable claim for reimbursement.

VII. Conclusion

For the foregoing reasons, the Court hereby ORDERS as follows: 1. Plaintiff's Motion to Strike Defendant's Statement of Material Undisputed Facts is GRANTED to the extent that paragraphs 20, 22, 23, 25, and 26 should be stricken; 2. Plaintiff's request for imposition of attorneys' fees and costs associated with the filing of its Motion to Strike is DENIED; 3. Plaintiff's Motion for Partial Summary Judgment on its breach of contract claim is DENIED; 4. Defendant's Motion for Summary Judgment on the ground of improper allocation is DENIED; 5. Defendant's Motion for Summary Judgment is GRANTED to the extent it seeks to exclude Plaintiff's defense costs of $865,582.74 from forming a basis of Plaintiff's loss retention or loss indemnity entitlement under the Reinsurance Certificate; 6. Defendant's Motion for Partial Summary Judgment is GRANTED to the extent it seeks an Order declaring that: (a) claim expenses are excluded from the definition of "loss" under the Reinsurance Certificate, and (b) Defendant is entitled to pursue discovery on the amounts of Plaintiff's defense and indemnity payments (the Initial Conference will be reconvened for the purposes of coordinating this further discovery); and 7. Defendant's Motion for Summary Judgment is GRANTED to the extent it seeks an Order that Defendant's liability for losses incurred by Plaintiff needs to be prorated to take into account Defendant's time on the risk. Plaintiff may satisfy this time on the risk proration requirement by demonstrating it would have been allocated $10,000,000 in indemnity under the Indemnity Agreement even if it had only been on the risk for the same 85 days as Defendant. IT IS SO ORDERED.

1. Mr. Bill DeRita is a Senior Claims Examiner working as partof the "FM Global" group of companies, which includes Plaintiff.(DeRita Aff. at 1.)

2. "The two basic types of reinsurance policies are`facultative' and `treaty.' Facultative reinsurance policiesreinsure all or part of a single insurance policy. Treatyreinsurance policies, on the other hand, cover a specified classof policies (for example, property damage policies or earthquakeinsurance) underwritten by the ceding insurer or insurers." Am.Employers' Ins. Co. v. Swiss Reins. Am. Corp.,275 F. Supp. 2d 29, 31 n. 4 (D. Mass. 2003). "Facultative reinsurance entails theceding of a particular risk or policy. Unlike a treaty reinsurerwho must accept all covered business, the facultative reinsurerassesses the unique characteristics of each policy to determinewhether to reinsure the risk, and at what price. Thus, afacultative reinsurer `retains the faculty, or option, to acceptor reject any risk.'" N. River Ins. Co. v. CIGNA Reins. Co.,52 F.3d 1194, 1199 (3d Cir. 1995) (quoting William G. Clark,Facultative Reinsurance: Reinsuring Individual Policies, inReinsurance, 117, 121 (R.W. Strain ed., 1980)).

3. The layers of insurance in this case are as follows: (1)the Direct Insured has policies with its direct insurersconstituting the Direct Insured's first layer of insurancecoverage — these policies are referred to herein as the"underlying policies"; (2) the Direct Insured has umbrella excessliability insurance policies with various insurers (including thePolicy with Affiliated) to provide a second layer of protectionfor situations where the underlying policies are exhausted; and,(3) Affiliated reinsured a portion of its risk on the Policy,with what in effect is a third layer of insurance, by enteringinto the Reinsurance Certificate with ERC.

4. The phrases "continuous trigger" and "time on the risk"will be explained and discussed in more detail below.

5. As already noted, Affiliated paid $2,210,028.40 inpre-settlement indemnity payments for asbestos claims, as well as$865,582.74 in defense costs. Affiliated also paid $104,000 innon-asbestos claim indemnity. (See Pl.'s Rule 12.1 Statement ofUndisputed Facts ¶ 34.) Add to this the Settlement Amount($6,000,000) and one arrives at the total of $9,179,611.14.

6. Under the Reinsurance Certificate, ERC may be liable fordefense costs on a prorated basis (as opposed to covered loss,for which ERC is liable in full up to its liability limit andbeyond Affiliated's retention). See infra note 8.

7. For purposes of this opinion, the terms "follow thesettlements" and "follow the fortunes" are essentiallysynonymous, and will be used interchangeably.

8. While the Reinsurance Certificate explicitly excludes claimexpenses from the definition of loss, it contains a separatesection providing that ERC will indemnify Affiliated for "thatproportion of claim expenses paid by [Affiliated] that the amountof the loss ultimately borne by [ERC] bears to the total amountof the loss." (DeRita Aff. Ex. 2 at 2.)

9. See supra note 8.

10. Plaintiff's problem is that under the ? Policy defense costs are part of "ultimate net loss" and may constitute part of the $10 million for which Plaintiff is liable under the Policy. In contrast, under the Reinsurance Certificate, such defense costs may not constitute part of either the $5 million retention by Plaintiff or the $5 million "loss" in excess of $5 million for which Defendant is liable. Thus, as to what constitutes "loss," there is a lack of concurrence between the Umbrella Policy and the Reinsurance Certificate.Affiliated FM R&R, No. CA 02-419S, slip op. at 19 (internalcitations omitted).

11. The relevant portion of the correspondence reads: [P]aid indemnity to date as to asbestos bodily injury claims is now at $2,210,029 and paid defense costs are at $864,265 for a total of $3,074,294. The remaining indemnity limits under the policy are currently at $7,685,972 ($104,000 was previously paid for an unrelated products claim). Defense costs under the applicable Affiliated FM policy are paid outside of limits.(Def.'s Consol. Mem. Ex. 4.)

12. The evidence includes the following: (1) the settlementagreement itself, which provides that the Direct Insured "willuse the Settlement Amount for defense and indemnity payments"(DeRita Aff. Ex. 11); (2) a letter wherein DeRita states that"our tentative settlement will be in the area of an additional $6million . . . this figure will include defense costs" (DeRitaAff. Ex. 16); (3) a Reinsurance Proof of Loss sent to ERC byAffiliated on August 16, 2001, which states that "defense costsare included within the limits of our policy per the settlementagreement," (DeRita Aff. Ex. 19); and (4) an Affiliatedintra-company correspondence dated July 5, 2001, wherein DeRitastates that "since our settlement with the insured includesdefense costs within limits we will have to add all the defensecosts paid to date to our paid indemnity figure and then cedethose amounts to the appropriate reinsurance covers" (Def.'s SMUFEx. 16).

13. Affiliated also argues ERC may not look behind thesettlement because the Reinsurance Certificate explicitlyincludes settlement amounts in the definition of loss. This is astrained reading of the Reinsurance Certificate. The ReinsuranceCertificate provides that "loss" shall mean "only such amounts asare actually paid by [Affiliated] in settlement of claims or insatisfaction of awards or judgments; but the word `loss' shallnot include claim expenses." (DeRita Aff. Ex. 2 at 2.) Theprovision equates "loss" with, among other things, "settlement ofclaims." One need only replace the former with the latter in theexclusionary clause to see that expenses are excluded fromsettlement amounts submitted for reimbursement (i.e.,"[settlement of claims] shall not include claim expenses").Affiliated argues further that to exclude claim expenses fromsettlement amounts would equate to excluding court costs fromjudgments submitted for reimbursement. (Hr'g of 11/19/2004, 25.) While this may be so, that question is not before theCourt and the possibility of such an implication is not soonerous as to dissuade the Court from reading the provision inquestion as it is plainly written.

14. ERC argues this Court should infer bad faith on the partof Affiliated from the fact that: (1) it submitted claims forreimbursement of defense costs as loss when the ReinsuranceCertificate explicitly excluded such claims; and (2) it allocated365 days worth of loss to the 85 days ERC was on the risk so asto improperly maximize its reimbursement from ERC. This Court,however, declines to find that Affiliated acted in bad faith as amatter of law on the record as currently comprised.

15. Arguments can be made that a policy should be triggered bythe fact that it was in place at the time: (1) a claimant wasexposed to asbestos; (2) a claimant was incubating asbestos; or(3) a claimant manifests symptoms of asbestosis. Under a"continuous trigger" approach, policies in effect at the time ofany of the foregoing are implicated. See Keene Corp. v. Ins.Co. of N. Am., 667 F.2d 1034, 1047 (D.C. Cir. 1981) ("Weconclude, therefore, that inhalation exposure, exposure inresidence, and manifestation all trigger coverage under thepolicies.").

16. Affiliated also argues it is justified in using expensesallocated to it on the basis of its 365 days on the risk to meetits retention requirement under the Reinsurance Certificatebecause the "the unambiguous language of the ERC Certificate"allows Affiliated to aggregate product hazard (i.e.,asbestos-related) losses "on account of all occurrences happeningduring each consecutive twelve (12) months of the Policy period."(Pl.'s Consol. Mem. at 32.) However, the "12 month" languageAffiliated cites, while certainly unambiguous, is not "languageof the ERC Certificate." Rather, it is language from Affiliated'sown Policy — its contract with the Direct Insured. (DeRita Aff.Ex. 1.) Affiliated has not pointed to anything in the ReinsuranceCertificate that grants such aggregation privileges to Affiliatedfor purposes of meeting the retention requirement.

17. The March 12, 2001, letter from consultants regardingexpected exhaustion of Affiliated's Policy by 2004 states that"[a]vailable limits were calculated at $5M for the nine monthperiod and an additional $5M for the three month period." (DeRitaAff. Ex. 9.)

18. The premium for the reinsurance coverage was $2,563.Subtracting from that a ceding commission paid to Affiliated of$576.68 (22.5%), equals $1,986.32. (See DeRita Aff. Ex. 2.)

19. Affiliated suggests that such a result would be absurd.(See Pl.'s Consol. Mem. at 33.) However, it is worth notingthat in the context of a direct insured and its primary insurer,allocations have been approved that leave the direct insuredbearing the cost for periods during which no insurer was on therisk. See Ins. Co. of N. Am. v. Forty-Eight Insulations,Inc., 451 F. Supp. 1230, 1243 (E.D. Mich. 1978), aff'd,633 F.2d 1212 (6th Cir. 1980) ("Forty-Eight must bear judgmentliability for injuries apportioned to the period when it had/hasno coverage.").

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