Court of Appeal decision on meaning of insuring clause in professional indemnity policy

United Kingdom

In 1991, the Plaintiff computer company contracted with Silkolene to supply computer software and hardware.

Silkolene became dissatisfied with the performance of the software and hardware and in 1995 commenced proceedings against the Plaintiff. The Statement of Claim alleged that the Plaintiff had misrepresented the compatibility of the software and that both the software and the hardware were inadequate.

In 1997, Silkolene’s claim was settled by the Plaintiff paying approximately GBP863,000 plus costs.

In these proceedings, the Plaintiff sought an indemnity in respect of the settlement from its professional indemnity insurers, who had previously declined to provide cover in respect of the claim.

The policy wording provided that the Defendant insurers would indemnify the Plaintiff, “against any claim for which the Assured may become legally liable, first made against the Assured and notified to the Underwriters during the period of the Certificate arising out of the professional conduct of the Assured’s business as stated in the Schedule alleging:

(a) Neglect, Error or Omission
any neglect or omission including breach of contract occasioned by same.

(b) Dishonesty of Employees
any dishonest, fraudulent, criminal or malicious act(s) or omission(s) of any person employed at any time by the Assured.

The Assured will not be indemnified against any claim or loss, resulting from the dishonest, fraudulent, criminal or malicious act(s) or omission(s) perpetrated after the Assured could reasonably have discovered or suspected the improper conduct of the Employee(s)”.

The Defendant insurers declined an indemnity on the basis that Silkolene’s claim against the Plaintiff, in reality, resulted from dishonest acts committed by the Plaintiff’s employees perpetrated after the Plaintiff could reasonably have discovered or suspected their improper conduct. By way of example, the Defendant insurers contended that the Plaintiff, during the pre-contract negotiations, had fraudulently represented to Silkolene that it had started work on the software when, in fact, its development depended upon Silkolene entering into the 1991 contract.

Although the Plaintiff acknowledged that its employees had told lies to Silkolene, it argued that this was irrelevant because Silkolene had not at any stage made any claim in respect of fraud in the pleadings, in correspondence or at all. Accordingly, the Plaintiff maintained that Silkolene’s claim fell within the scope of the insuring clause, in that it was a claim “alleging...neglect, error or omission”.

The Defendant insurers maintained that, in interpreting the policy, it was necessary to look at the proximate cause of the insured’s loss; how the third party presented its claim was irrelevant.

At first instance, the Judge found in favour of the Defendant insurers. The Plaintiff appealed.

Held:

The appeal was dismissed. The Court of Appeal confirmed that the Plaintiff could not recover any indemnity from the Defendant insurers.

The Plaintiff’s interpretation placed undue weight on the word “alleging” in the insuring clause. The policy was a contract of indemnity and insurers were liable where the proximate cause of a loss, ascertained by judgment or settlement, was one of the insured perils set out in the insuring clause. Accordingly, insurers’ liability depended upon the true facts and not simply upon the way in which Silkolene chose to put its case.

Furthermore, the policy also stated that, as a condition precedent, the insured had to provide full information to insurers following notification. Such information could demonstrate to insurers that, in truth, the loss arose from dishonesty or fraud. There would be little point in such a provision if insurers could not then rely upon that information to decline an indemnity.

Note:

The Court of Appeal’s approach follows that of the Privy Council in Haydon v Lo & Lo [1997] (IRG Bulletin No 31), in which it was held (when determining the number of claims under a professional indemnity policy) that, whilst the way in which a third party formulates its claim may be a useful starting point, the Court will look at the underlying facts.

It is not uncommon for claimants to confine pleadings to allegations of negligence owing to the difficulty of proving fraud and also concerns that allegations of dishonesty might invalidate a Defendant’s professional indemnity cover. This decision makes it clear that - unless an insuring clause is very clearly worded to the contrary - insurers will be able to look at the substance of the claim against the insured and if, in reality, it involves fraud or dishonesty, construe the policy on that basis (MDIS LTD v Swinbank & Others, CA: Judgment 19th July 1999).

For more informaiton, please contact Peter Maguire in London at pm@cms-cmck.com or on 0171 367 2893 or Jonathan Wright in Singapore at jw@cms-cmck.com on 0065 534 1711.