All professionals understand the need to have an indemnity insurance policy in place, both in order to comply with their regulatory obligations (as to which see PJ Kirby QC’s article) and to protect themselves financially from any claim. However, such protection is only afforded if the policy in fact responds to the claim, which depends in large part upon the nature of any exclusions within the policy.
The Supreme Court considered the correct approach to an exclusion in a solicitors’ professional liability insurance policy recently in Impact Funding Solutions Ltd v Barrington Support Services Ltd  UKSC 67;  AC 73. Towards the end of last year, the reasoning in that case was applied by the Commercial Court in Crowden v QBE Insurance (Europe) Ltd  EWHC 2597 (Comm);  PNLR 9 in the context of an exclusion in a financial adviser’s professional indemnity policy. Crowden provides further guidance for practitioners as to the proper method of construing such clauses.
The facts of Crowden can be summarised as follows:
- The Claimants were the trustees and sole beneficiaries of a self-administered pension scheme who engaged the services of a financial adviser, Target Financial Management Ltd (“Target”) to provide them with investment advice.
- Target provided investment advice and arranged two financial instruments for the Claimants, a Keydata Secure Income Bond issued by Keydata Investment Ltd and the Meteor Prime Growth Plan 5 operated by Meteor Assets Management Ltd.
- The Claimants invested £200,000 in the Keydata Bond which gave the Claimants an interest in an underlying bond issued by SLS Capital SA. Unfortunately, Keydata defaulted and stopped paying the returns due and entered into administration. Shortly afterwards SLS also went into liquidation. The Claimants claimed they suffered losses associated with this investment.
- The Claimants invested £150,000 in the Meteor Plan pursuant to which they acquired securities issued by Lehman Brothers Inc. As is well known, Lehman then entered into Chapter 11 protection in the United States. This resulted in the Claimant’s interests being converted into unsecured participation in any distribution under that process. The Claimants claimed they suffered losses associated with this investment.
- The Claimants commenced proceedings against Target for negligent investment advice. By this stage Target was also in liquidation and the liquidators did not defend the claim so judgment was entered in the Claimants’ favour in the sum of £197,698.05 plus interest.
- Target had the benefit of a professional indemnity insurance policy dated 19 February 2009 underwritten by the Defendant (“the Insurer”).
- Target commenced proceedings against the Insurer for an indemnity under the Policy in respect of its liability to the Claimants for the negligent investment advice. Target entered into liquidation so the Claimants pursued that claim pursuant to the Third Parties (Rights against Insurers) Act 1930.
- The proceedings came before the court on the Insurer’s application for summary judgment and/or strike out. It was common ground that the Claimants’ claim against Target fell within the scope of the insuring provision in the Policy; however, the Insurer maintained that it was not liable to indemnify Target because of (1) the operation of a policy exclusion and (2) the fact that at the relevant times the Claimants had no right of action against Target because those rights had been assigned to the Financial Services Compensation Scheme.
There are a number of interesting issues dealt with in the judgment in relation to the 1930 Act and as to the effect of the intervention of the FSCS. However, this article is concerned with what the court had to say in respect of the exclusion clause.
The Exclusion Clause
The clause in question (“the Insolvency Exclusion”) provided that:
“This Insured section excludes and does not cover any claims, liability, loss, costs or expenses:…arising out of or relating directly or indirectly to the insolvency or bankruptcy of the Insured or of any insurance company, building society, bank, investment manager, stockbroker, investment intermediary, or any other business, firm or company with whom the Insured has arranged directly or indirectly any insurances, investments or deposits…”
The Judge’s Analysis
The Judge, Mr Peter MacDonald Eggers QC, set out the parties’ respective submissions as to the applicability of the Insolvency Exclusion at paragraphs 54 and 55 of his judgment. He summarised the two competing constructions of the Insolvency Exclusion they advanced at paragraph 66 as follows:
“(1) QBE contends that the Insolvency Exclusion applies if the insolvency of Keydata or SLS (in respect of the Keydata Bond) or Lehman (in respect of the Meteor Plan) is a cause, even if not a proximate cause, of the relevant claim, liability or loss.
(2) The Claimants contend that the Insolvency Exclusion applies only if (a) there has been a non-negligent act, error or omission giving rise to Target’s liability, and/or (b) Target arranged an insurance, investment or deposit with the insolvent business, firm or company on its behalf and not on behalf of its customers, and/or (c) the relevant insolvency is a formal insolvency process, rather than an inability to pay one’s debts as they fall due.”
Notwithstanding the Supreme Court’s decision in Impact Funding Solutions Ltd the parties disagreed as to the correct approach to construing insurance exclusions. The Claimants submitted that the court should adopt the court’s approach to the construction of exemption clauses as set out in the line of authority stemming from Canada Steamship Lines ltd v The King  AC 192. It is well established that in respect of clauses seeking to exclude liability for negligence:
- If the clause contains language which expressly exempts a party in whose favour it is made, from the consequences of his negligence, effect must be given to that provision.
- However, if there is no express reference to negligence, the court must consider whether the words used are wide enough, in their ordinary meaning, to cover negligence on the part of that party. If there is any doubt that doubt must be resolved against that party.
- If the words used are wide enough for that purpose, the court must then consider whether the head of damage may be based on some ground other than that of negligence.
Counsel for the Claimants in Crowden therefore argued that applying this method of construction, the Insolvency Exclusion needed to expressly refer to negligence to exclude it from cover and as it did not do so, liability for such negligence was not excluded by the clause. The Judge was unimpressed with this argument noting that there was no authority where the Canada Steamship line of authority had been applied to an insurance contract, which the Judge suspected to be for good reason:
“because these authorities are concerned with contractual attempts to exclude, restrict or limit primary liability which a party in breach of contract or guilty of tortuous conduct would otherwise bear. The position in respect of insurance contracts is wholly distinguishable in that an exclusion clause in an insurance policy is not designed to exclude, restrict or limit a primary liability on the part of the insurer; instead, it is intended to define the risk which the insurer is prepared to accept by way of the insurance contract. Further, the exclusion clause in an insurance policy does not ordinarily operate to deprive the insured of rights which existed prior to or but for the cover afforded by the Policy.” 
This is in keeping with the Supreme Court’s judgment in Impact Funding Solutions Ltd where Lord Hodge JSC (with whom the majority agreed) stated in clear terms that the doctrine relating to exemption clauses had no application to the construction of policy terms, including exclusions in that policy. Applying the reasoning in Impact Funding Solutions Ltd the Judge also concluded that it would be wrong automatically to apply a contra proferentem approach to construction of such exclusion clauses. The Judge therefore set out his conclusion as to the question of construction at paragraph 65 in the following terms:
“…the Court must adopt an approach to the interpretation of insurance exclusions which is sensitive to their purpose and place in the contract. The Court should not adopt principles of construction which are appropriate to exemption clauses….To this end, the Court should not automatically apply a contra proferentem approach to construction. That said, there may be occasions, where there is a genuine ambiguity in the meaning of the provision, and the effect of one of those constructions is to exclude all or most of the insurance cover which was intended to be provided. In that event, the Court would be entitled to opt for the narrower construction. This result may be achieved not only by the applicable [sic] of the contra proferentem approach, but also the approach adopted by Lord Clarke, JSC in Rainy Sky SA v Kookmin Bank  UKSC 50;  1 WLR 2900, that in the case of ambiguity, the Court may opt for the more commercially sensible construction, at paragraph 21: “If there are two possible constructions, the court is entitled to prefer the construction which is consistent with business common sense and to reject the other”. That said, as Lord Clarke, JSC also said, at paragraph 23 of his judgment: “Where the parties have used unambiguous language, the court must apply it”. This would, however, be subject to considerations of absurdity or where something plainly has gone wrong with the language of the contract.”
Having set out the approach to construction to be adopted the Judge then turned to construe the Insolvency Exclusion specifically and its application to the facts. In summary, the Judge concluded:
- The language of the Insolvency Exclusion was relatively clear in excluding from cover any claim liability or loss “arising out of or relating directly or indirectly to the insolvency or bankruptcy” of Target or any business, firm or company with whom Target had arranged, directly or indirectly, any insurance, investment or deposit.
- The relevant insolvency did not need to be a proximate cause of the claim, liability or loss because “arising out of” and “relating…to” used together did not import such a requirement and this was supported buy the use of the words “directly or indirectly”.
- Whilst it did not need to be a proximate cause, the insolvency did have to be a significant cause of the claim, liability or loss in the sense that it had to stand out as a contributing factor to it.
- Although the Insolvency Exclusion was potentially of wide effect there was no genuine ambiguity. Its language did not limit its application to only non-negligent acts, errors or omissions. Moreover, it was highly unlikely that the parties had intended it to be limited in that way.
- The Insolvency Exclusion was not limited to the insolvency of a business, firm or company with whom the Insured had arranged insurances, investments or deposits on its behalf rather than applying where they had been arranged by Target on behalf of its customers. There was no express or implicit indication in the wording to that effect and the opening words of the clause made it clear that it was applicable to claims and liabilities, as well as losses, which could be relevant only in the context of the liability cover (rather than just the extension for first party fidelity losses).
- The court’s interpretation was therefore that the Insolvency Exclusion applied so that there would be no cover under the Policy in respect of liability relating to investments which Target had arranged for its customers by reason of the insolvency of the relevant institution. Further, it did not accept that the wording of the clause meant that that insolvency had to be a formal insolvency process rather than an inability to pay one’s debts because specific technical wording had not been used and the it was the inability to pay debts which was the mischief to which the clause was directed.
- The only cause of the loss associated with the Keydata Bond and Meteor Plan and therefore the only cause of the resulting claim or liability, identified by the parties was the insolvency of Keydata, SLS and Lehman and therefore those claims, liabilities or losses fell within the meaning of the Insolvency Exclusion and the Claimants had no real prospect of contending otherwise.
Practitioners and insurers could have been forgiven for thinking after the Supreme Court handed down its decision in Impact Funding Solutions Ltd that the question of whether insurance exclusion clauses should be construed in the same way as exemption or limitation of liability clauses had been conclusively answered in the negative. That did not, however, prevent the Claimants in Crowden from arguing the point. In rejecting the argument and endorsing the Supreme Court’s decision the matter now appears beyond doubt. An insured will have to establish that there is a genuine ambiguity in the exclusion clause for the contra proferentem rule to be of any benefit and in the context of carefully and well-drafted exclusion clauses that may prove to be rare.
As to the required causal connection, the court’s analysis of the phrase “arising out of or relating directly or indirectly” builds on previously decided cases and will be welcome news to insurers who may adopt this wording to give their exclusion the widest possible meaning. However, Crowden potentially leaves open for further debate where the line should be drawn in any given case as to what level of causal connection is required lower than proximate cause. It is easy to see how in certain cases determining whether an event or factor is a “significant cause” of the claim, liability or loss in the sense of standing out as a contributing factor may be open to argument.