A New Allocation Landscape Under In re Viking Pump, Inc.

The fourth session of the Education Day was entitled “A New Allocation Landscape Under In re Viking Pump, Inc.”  Bruce Engel, Partner at Freeborn & Peters LLP, moderated the panel consisting of Amy Kallal, Partner at Mound Cotton Wollan & Greengrass LLP, and Robin Dusek, Partner at Freeborn & Peters.  Amy Kallal addressed the Viking Pump decision, stating that “it turns out” that New York is not really a pro rata state, but that “sometimes” it is.  In 2002, the New York Court of Appeals applied pro rata allocation in an environment coverage case called Consolidated Edison Co. v. Allstate Insurance Company.  The policies at issue in Con Ed contained “all sums”  language in the insuring clause, but the occurrence language contained a limitation to losses “during the policy period.”  Although the Con Ed court stated the policy language did not mandate pro rata allocation, pro rata was more consistent with the policy language.  However, the court recognized that differing policy language might compel an all sums allocation.

In In re Viking Pump, Inc., the Delaware Chancery Court, applying New York law, held that an all sums allocation was required because of the presence of non-cumulation and prior insurance/continuing coverage language in the relevant policies.  The case was transferred to the Delaware Superior Court, which held that horizontal exhaustion was required by New York law.  The Delaware Supreme Court certified two questions to the New York Court of Appeals: First, whether pro rata or all sums allocation was appropriate in the presence in the non-cumulation and prior insurance provisions and second, if all sums applied, whether horizontal or vertical exhaustion was appropriate.

The New York Court of Appeals held that all sums was required, citing the contractual language, policy reasons, and New York principles of contract interpretation.  The court determined that the policy language was unambiguous and actually mandated all sums.  The court noted that the provisions were intended to prevent stacking and that such language had been previously enforced in New York.  Citing other states’ case law, the court stated that a pro rata allocation could not be reconciled with such anti-stacking provisions.  Because contracts are read to avoid surplusage, the presence of the anti-stacking provisions compelled an all sums result.  On the second certified issue, the court held that vertical exhaustion must be used when an all sums allocation is utilized, as vertical exhaustion is conceptually consistent with all sums.

In one notable post-Viking Pump decision, the Second Circuit applied all sums and vertical exhaustion in Olin Corp. v. One Beason Ins. Co. (“Olin IV”).  Olin IV featured two differences from the Viking Pump fact pattern:  (1) The “prior insurance” had been issued by a different carrier; and (2) the primary insurance had yet to exhaust.  One Beacon argued for a “hybrid” exhaustion approach, in which there would be horizontal exhaustion until its excess policies were attached.  The court rejected this approach, holding that Viking Pump required that vertical exhaustion be used.  The court did agree that One Beacon should be able, by virtue of the prior-insurance clause, to reduce its liability by settlement amounts made by Olin’s other insurers.  Neither Olin IV nor Viking Pump provides guidance concerning what allocation method should be used when a coverage chart includes policies both with and without non-cumulation/prior insurance language, and neither decision establishes that New York is an all sums jurisdiction for all purposes.

Robin Dusek discussed another New York Court of Appeals case involving allocation at the reinsurance level, the 2013 decision in USF&G v. American Re.  Ms. Dusek noted that the concept of “Follow the Fortunes”  does not necessarily mean “Follow the Allocation,” especially when the interests of the cedent and reinsurer are not aligned.  Prior case law has held that allocations must be made in good faith.  The USF&G case adopted an “objectively reasonable” standard.  This means that the allocation must be objectively reasonable in the absence of reinsurance.   However, there is no obligation for the cedent to minimize its reinsurance recoveries.  If there are ten objectively reasonable allocations, the cedent can pick any one of them.  Recitations are of no importance under this standard.  Likewise, subjective intent should be of no importance, so that a “smoking gun email” should not be relevant.  By the same token, a reinsurer need not show subjective bad faith.  That said, Ms. Dusek did not think that USF&G eliminated good faith from the test and noted that it likely would still be important if a reinsurer could show that allocation was inconsistent with the settlement.

There have been a number of post-USF&G decisions, but they have not really changed the landscape.  These include the 2016 Utica v. Clearwater decision by the Northern District of New York currently on appeal to the Second Circuit.  The district court held that the reinsurer had not come forward with any facts showing an objectively unreasonable settlement and thus granted summary judgement for the cedent.  It is unclear how the court determined there was a “Follow Settlements” obligation from the follow the forms language in the reinsurance agreement.  Two other decisions, Granite State v. Clearwater and New Hampshire v. Clearwater, held that the language was follow the forms, but not follow the settlements.  It is not clear that either Viking Pump or Olin IV will impact reinsurance allocation issues.  The analysis may be more complex, but it still will be very fact-specific.