In Royal & Sun Alliance and Ors v Textainer Group Holdings and Ors [2024] EWCA Civ 547, the UK Court of Appeal clarified and affirmed longstanding subrogation principles which determine what happens when insurers make payments to an insured who subsequently makes a recovery in respect of the same loss.
While the fundamental principles of subrogation rights are well established, their application is not necessarily straightforward where there are multiple excess layer insurers and the insured’s total loss exceeds the level of indemnity – as was the case in Textainer.
A refresher on subrogation
Subrogation is the principle which allows an insurer which has indemnified its insured for a loss to step into the insured’s shoes, and seek recovery from the third party who caused the loss.
The primary justification for the rule is that an insured should never recover more than an indemnity for their loss. In the absence of the insurer’s right of subrogation, an insured could receive full payment of its loss under an insurance policy and then make a further recovery for the same loss by suing a liable third party. Under the principle of subrogation, any funds recovered from liable third parties are held in equity for the insurer.
Although parties to a contract of insurance are free to agree a different approach to the allocation of recoveries from third parties, the default position is the “top down” approach adopted by the House of Lords in Lord Napier and Ettrick v Hunter [1993] AC 713. Following this approach, also referred to as the “Napier” principles, recoveries from liable third parties are allocated:
- first, to any uninsured losses (excluding any excess) meaning that the insured benefits;
- secondly, to any insured losses, meaning that the insurer benefits; and
- lastly, to reimburse any excess paid by the insured, meaning that once again, the insured benefits.
Allocating recoveries can become complex where an insured loss is covered by multiple insurers who provide layers or tiers of cover. By way of example: isurer A insures the first $100,000 of any loss; insurer B insures the next $100,000 (i.e. the $100,000 in excess of $100,000); and insurer C insures a third $100,000 ($100,000 in excess of $200,000), so that total cover is $300,000. According to the Napier principles, recoveries are allocated top down, starting with insurer C. This is because C has agreed to pay only if A’s and B’s policies are insufficient to cover the loss. Similarly, B has agreed to pay only if A’s policy is insufficient to cover the loss.
The application of the Napier principles in Textainer
The Napier principles were challenged, but ultimately affirmed, in an appeal brought by several insurers in the UK Court of Appeal against companies in the Textainer Group.
The Textainer Group is one of the largest container lessors in the world. In 2016, one of Textainer’s lessees, Hanjin Shipping Co, entered into receivership while in possession of approximately 113,000 of Textainer’s containers. This caused Textainer to suffer an agreed USD101,856,624 in losses, being the cost of retrieving and repairing its containers, along with the value of unrecovered containers and lease payments which remained unpaid.
Textainer had in place a container lessee default insurance programme with the following structure:
- A USD5 million excess to be borne by Textainer.
- A primary insurance policy of USD5 million above the excess.
- Five excess layer insurance policies which together with the primary policy provided cover totalling USD80 million above the excess, comprising;
- a first excess layer policy of USD5 million for losses above USD10 million;
- a second excess layer policy of USD5 million for losses above USD15 million;
- a third excess layer policy of USD25 million for losses above USD20 million;
- a fourth excess layer policy of USD10 million for losses above USD45 million; and
- a fifth excess layer policy of USD30 million for losses above USD55 million.
Of the USD101,856,624 in losses, Textainer’s insurers paid a total of USD75.1 million. The limits of the primary policy and the first to fourth excess layer policies were exhausted, and a discounted settlement was agreed in respect of the fifth excess layer policy, which comprised USD25.1 million, below the USD30 million fifth excess policy cap.
Accordingly, Textainer’s uninsured losses were approximately USD21 million (excluding the USD5 million excess). However, to complicate matters, as part of the insurance settlement, Textainer was assigned the subrogation rights of the fourth and fifth excess layer insurers under the relevant settlement agreements.
Textainer subsequently recovered USD25,886,647.60 from Hanjin in partial settlement of Textainer’s claims against it. The insurers of the primary and first to third excess layer policies then argued that they were entitled to a share of the Hanjin settlement proceeds. Textainer disagreed.
On appeal, the key question was whether the Hanjin settlement proceeds were to be applied in accordance with the top down approach, as Textainer argued, or whether the excess layer insurers who had not settled with Textainer were entitled to pro rata shares of the recovery.
Attempting to circumvent the Napier principles, the insurers argued that there is a distinction between a single or “unitary” loss, where recoveries should be allocated top down, and the circumstances of the Textainer case, which involved multiple losses of different items of property at different times. The insurers argued that recoveries in respect of each individual item must be allocated to the insurer that indemnified that loss.
The Court rejected this, commenting that it was an “overly formalistic and largely theoretical approach” which did not conform with the underlying rationale of subrogation and was not supported by the terms of the policies or the manner in which the claims were dealt with. In dismissing the insurers’ claim, the Court made two key observations:
- On the insurers’ case, an insured’s position would be worse if recoveries were made following insurance payouts than if the recoveries occurred first.
- If the Hanjin settlement proceeds were not applied top down, Textainer would not be fully indemnified to the extent of the policy limits.
As Textainer had been assigned the subrogation rights of the fifth excess layer insurer, applying the top down approach, it was entitled to retain the entirety of the Hanjin settlement sum.
Conclusion
While the facts of this case were somewhat unusual, it is a helpful confirmation that the principles of subrogation where there are multiple insurers are straightforward and should not be overcomplicated. The case is also a cautionary tale for insurers and their lawyers who may be tempted to settle with insureds on terms in which they waive rights of subrogation, particularly where other insurers may not be doing the same.
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