ACE INSURANCE LTD v. METROPOLITAN ELECTRICAL APPLIANCE MANUFACTURING CO LTD

   HCA328/2008

   IN THE HIGH COURT OF THE

   HONG KONG SPECIAL ADMINISTRATIVE REGION

   COURT OF FIRST INSTANCE

   ACTION NO. 328 OF 2008

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BETWEEN

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REASONS FOR JUDGMENT

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Background

1.  This is an appeal by the defendant against the Order of Master de Souza made on 23 September 2009. Summary judgment was entered against the defendant for the sum of US$127,024.51 with costs.

2.  The plaintiff respondent is the insurer of the defendant appellant. The plaintiff settled some claims by third party claimants against the defendant under its obligation founded on the insurance policy. The current action concerns only five of the claims. The plaintiff insurer now sues for summary judgment for the recovery of “Self-Insured Retention”, which is commonly known as deductibles in other insurance contracts. The “Self-Insured Retention” clause requires the defendant to pay US$25,000 per claim. The defendant relied on four grounds to resist the claim :

(1)  the plaintiff had not discharged its duty to defend the claims or properly investigated the claims before it settled the same;

(2)  the plaintiff had unreasonably prejudiced the interest of the defendant in settling the subrogated claim;

(3)  the plaintiff was required to obtain the consent of the defendant before settling the claims; and

(4)  the plaintiff acted unreasonably in not providing information to the defendant and thus deprived the defendant an opportunity to defend the claims itself.

3.  The defendant also counterclaimed for damages caused by the settlement of the claims. The defendant alleged that by unreasonably settling the claims, the plaintiff had caused the defendant to lose the outstanding invoice amount owed by its supplier and future business. The counterclaim amount is well over US$1 million.

Insurer’s rights and duty to settle claims

4.  The insurance policy expressly provides that the insurer has the right and duty to defend the insured against any suit that falls under the ambit of the policy. It also authorises the insurer to investigate and settle any claim or suit that is covered by the policy at its discretion.

5.  Mr Thomas Lee, counsel for the plaintiff submitted that the plaintiff only had to show good faith in exercising its discretions above. He cited two cases (Groom v Crocker [1938] 1 KB 194 and Beacon Insurance Co. Ltd v Langdale [1939] 4 All ER 204) for this proposition.

6.  The word “good faith” has little meaning on its own. Thus it is most important to ascertain what “good faith” requires. The “duty of good faith” may rest on an implied term of the contract or on a fiduciary duty of utmost good faith. The learned editors of Colinvau & Merkin’s Insurance Contract Law (Sweet & Maxwell, 2008) described the position in England on the foundation of the “duty of good faith” as “uncertain”. No Hong Kong case concerning this matter was cited to me but I am able to find two Canadian authorities which support the proposition that the duty of good faith is founded on the fiduciary duty of utmost good faith.

7.  In Plaza Fiberglass Manufacturing Ltd v Cardinal Insurance Co. et al., 68 DLR (4^th) 586 (1990), McKeown J said at p.598B : “An insurance contract is one of the utmost of good faith” and at p.599A : “Both insurers had a real fiduciary duty to act in good faith”. Therefore it appears that McKeown J was satisfied that the duty is founded on a fiduciary relationship.

8.  Esson CJSC in Fredrikson et al. v Insurance Corp. of British Columbia, 69 DLR (4^th) 399 (1990) expressed a slightly different view from that of McKeown J above. After reviewing the cases in North America, his Lordship said at p.431F :

“… although the insurer is not subject to the strict duty of a fiduciary, it must nevertheless exercise its power having regard to the interests of its insured, and in a manner entailing, in some sense, an obligation of good faith.  That obligation does not arise from a general doctrine that every contract includes a term of good faith and fair dealing, but rather from the particular circumstances of the class of transactions.”

His Lordship refrained from defining the nature of the duty at p.432A.

9.  In Langdale, Slesser LJ (Luxmoore and Atkinson LJJ concurring) did not explain the foundation of the duty of good faith. In fact, the word “good faith” was not mentioned in his Lordship’s judgment. His Lordship was content that the insurer in Langdale did what they considered to be “bona fide…common interest of themselves and their assured” and dismissed the appeal.

10.  Is the duty of good faith fiduciary in nature? The answer must be yes. In all of the cases considered above, the courts had all recognised that the insured was in a very vulnerable position because his liability may be affected by the sole discretion of the insurer in handling the claim against the insured. I also find support in Crocker, where Sir Wilfred Greene MR said at p.203 that the insurer may decide upon the proper tactics in dealing with the claims provided that :

“… they do so in what they bona fide consider to be the common interest of themselves and their assured.  But the insurers are in my opinion clearly not entitled to allow their judgment as to the best tactics to pursue to be influenced by the desire to obtain for themselves some advantage altogether outside the litigation in question with which the assured has no concern.”

The last sentence is consistent with the duty expected of a fiduciary nowadays.

11.  If the duty is indeed fiduciary in nature, then the insurer cannot say that he is not liable because the position of the insured would still be the same regardless of his breach of fiduciary duty. In Plaza Fiberglass, McKeown J said at p.600A : “the courts have not accepted the inevitability of loss as relevant to the question of a fiduciary’s liability”. The “inevitability of loss” mentioned above came from the defendant’s counsel who submitted that the plaintiff did not suffer any loss as its position would be the same whether or not the defendant had breached its duty. McKeown J rejected this proposition, and said at p.599G :

“…it does not lie at a defaulting trustee to say to the beneficiary that it is in default because the beneficiary never had any opportunity to deal with the matter due to a breach of fiduciary duty by the defaulting trustee”.

His Lordship also said that the plaintiff might have followed a different course had the defendant not breached its duty (at p.601H).

The plaintiff’s settlement of the claims

12.  Did the plaintiff breach its fiduciary duty of utmost good faith? Mr Kelvin Leung, counsel for the defendant did not submit on this issue. However he pointed out that the plaintiff had taken into account the legal costs associated with defending the claims against the insured in the United States. The legal costs do not concern the insured since page 2 of the policy, heading “Supplementary Payments” expressly provided to that effect. The plaintiff insurer was aware of the fact that the legal costs would be borne by it and the fact that even if it succeeded in those claims it could not recover the legal costs from the third party claimants.

13.  Is the consideration of legal costs fatal to the plaintiff’s case? The basic proposition is that a fiduciary is not entitled to put his interest before the principal when exercising his fiduciary duty. However, in ascertaining the fiduciary duty owed by the plaintiff insurer, one must look at the insurance contract itself. In Fredrikson, Esson CJSC warned of the danger of applying the law of fiduciary relationship into a contract where the conflict between the fiduciary and his principal is necessarily incidental to the contract (“the Conflict”).

14.  What weight should the fiduciary give to the Conflict? In my view, the Conflict is just one of the factors that the fiduciary should consider. The fiduciary is required to take into account all other factors before determining how best to discharge his fiduciary duty to the principal. I do not think that Esson CJSC intended to give a “trump card” to the fiduciary to allow them to escape from their fiduciary duties whenever a conflict necessarily incidental to the contract arose. I find support of this proposition from the great amount of reference in his Lordship’s judgment to the reasonableness of the insurer in refusing to settle. Such reference was only necessary if and only if his Lordship considered it necessary to assess the conduct of the fiduciary even when the Conflict had arisen.

15.  Can the consideration of legal costs affect the decision of the plaintiff in this case? To my mind this question must be answered in the affirmative. A hypothetical situation is useful to illustrate how the plaintiff could be influenced by the legal costs consideration.

16.  The situation is this : There is a claim against the insured and the offered settlement amount is US$40,000. The insurer knows that if he vigorously defends the claim with irrecoverable legal costs of US$20,000, the worst judgment award would only be US$20,000. For settlement the insurer is liable for US$15,000 while the insured is liable for US$25,000. For defence the insurer is liable for US$20,000 while the insured is liable for US$20,000 at max. The insurer will certainly choose settlement, which costs him US$15,000 and not defending the claim, which costs him US$20,000.

17.  What if the insured in the hypothetical situation had not taken the policy in the first place? If he chooses settlement, he is 100% certain to pay US$40,000. If he chooses defence, his liability ranges from US$20,000 (irrecoverable legal cost and no judgment award) to US$40,000 (irrecoverable legal cost and maximum judgment award). His strategy would be to defend.

18.  The hypothetical situation serves to show how the fiduciary can exercise his rights to defend/settle to his own advantage. The court is faced with the very difficult situation where the fiduciary is allowed to put his own interest into consideration, which is not normally acceptable. The insurer in the hypothetical situation did not automatically become liable for breach of fiduciary duty merely by taking into account of his own liability (US$20,000 vs. US$15,000) because this was a conflict necessarily incidental to the contract. The fact that the principal suffers from the fiduciary’s self interest is not fatal to the fiduciary per se. This is because if the court allows the fiduciary to take into account of his own interest, there must be situations where the fiduciary is permitted to obtain advantage at the expenses of the principal. The court must take a boarder view of whether the fiduciary had taken all relevant factors, and not just its own interests, in obtaining the advantage.

19.  It necessarily follows that if a fiduciary had taken into account of his own interests, even if permitted by law, his exercise of discretion would attract a much greater scrutiny. This is because a fiduciary is required to use utmost good faith towards his principal, and the nature of this relationship does not change merely because the fiduciary is permitted to add his own interest into consideration.

The present case

20.  It is provided in the Policy that the plaintiff’s right to settle claims made in respect of the fans is entirely at the plaintiff’s discretion. Here, there was a Summary of Investigations which was made into the five claims. Such evidence is unanswered by the defendant.

21.  Further, each of the five claims was reviewed by external investigators and loss adjusters. Each was defended, and/or negotiated and/or mediated. Eventually they were settled without admission of liability.

22.  The most material feature in this case is that the defendant does not assert that the plaintiff failed to exercise good faith in exercising its discretion to settle claims. In fact, counsel for the defendant conceded before Master de Souza that the defendant could not say the plaintiff failed to act in good faith.

Conclusion

23.  Accordingly, the defendant’s appeal was dismissed with costs to the plaintiff, assessed summarily at $75,000.