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Arbitrator-Imposed Claims Protocols, Honorable Engagement and Access-to-Records: First State Ins. Co. v. National Cas. Co.

April 10th, 2015 Access to Records, Arbitration Practice and Procedure, Arbitrator-Imposed Claims Protocols, Authority of Arbitrators, Claims Handling, Follow-the-Settlements/Follow-the Fortunes, Grounds for Vacatur, Honorable Engagement, Judicial Review of Arbitration Awards, Practice and Procedure, Reinsurance Arbitration, Reinsurance Claims, United States Court of Appeals for the First Circuit Comments Off on Arbitrator-Imposed Claims Protocols, Honorable Engagement and Access-to-Records: First State Ins. Co. v. National Cas. Co. By Philip J. Loree Jr.


yay-10424184---CopyAt first glance the U.S. Court of Appeals for the First Circuit’s opinion in First State Ins. Co. v. National Cas. Co., No. 14-1644, slip op. (1st Cir. Mar. 20, 2015) appears to be an honorable engagement clause case, but it is really an arbitrator-imposed-claims-payment-protocol case.  First State concerned a claims protocol (the “Claims Protocol”) which said claims payments “may be made subject to an appropriate reservation of rights by [the reinsurer] in instances where it has or does identify specific facts  which  create a reasonable question regarding coverage under the subject reinsurance agreement(s).” It also explained that “[p]ayment obligations on the part of [the reinsurer] are not conditioned upon the exercise of its right to audit or the production of additional information or documents, other than those provided by [the cedent] as described . . .[in the portion of the protocol specifying the cedent’s proof-of-loss requirements].” Slip op. at 3.


The reinsurer contended the protocol’s reservation-of-rights procedure impaired its contractual rights to access of records, including its right to recoup claim payments in circumstances where, as of the time the Claims Protocol required the reinsurer to pay a  claim, the reinsurer had not yet been given the opportunity to inspect the cedent’s records concerning the claim and thus would not have the opportunity to determine whether there were “specific facts which create a reasonable question regarding coverage.  .  . ”  That, argued the reinsurer, denied or effectively impaired its contractual rights in a least two ways: (a) once it paid a claim as required by the Protocol without reserving its rights based on “specific facts” creating a reasonable question about coverage, then the Cedent could refuse to provide it access to its records of the claim; and (b) even if the cedent provided post-payment access-to-records, and even if the reinsurer’s post-payment audit uncovered for the first time specific facts demonstrating the claim was invalid, the Protocol’s reservation of rights feature would foreclose the reinsurer from obtaining recoupment of the claim unless the reinsurer somehow had knowledge of those specific facts, and asserted them at the time it was required to pay the claim.

Had the reinsurer’s interpretation of the Claims Protocol’s reservation of rights procedure been the only one to which it was susceptible, then the reinsurer’s Section 10(a)(4) challenge might have succeeded. As it turned out, there was at least one other interpretation of the Protocol, and under that interpretation, the reinsurer’s access-to-records and recoupment rights were not foreclosed by the reinsurer not making a Claims-Protocol-compliant reservation of rights.

So the Court quite correctly affirmed the district court’s decision to confirm the award. But National Casualty did not walk away empty handed. As we’ll see, the Court’s opinion confers upon National Casualty a deserved benefit that is arguably as valuable as would have been a decision reversing the district court’s judgment with instructions to vacate the arbitration award.

Let’s first briefly review what transpired in First State, and what the Court, in Senior Circuit Court Judge Bruce M. Selya’s sometimes arcane and colorful—but always clear, concise and well-organized— prose, had to say about it.

First State v. National Cas.: Background

yay-16730582-digital_edited-1First State (as cedent)  and National Casualty (as reinsurer) were parties to several reinsurance contracts, each of which contained an arbitration agreement; a reinsurance-claims payment dispute arose concerning the claims and access-to-records provisions in the contracts; First State demanded arbitration; and the parties agreed to consolidated arbitration.

Cyay-16616464-digitalFirst State persuaded the Panel—over National Casualty’s objection—to bifurcate the proceeding, the first phase of which would be to determine by a partial final award the two contract interpretation issues on which First State requested declaratory relief. As described by the Court, these were: (a) “the minimum quantum of information required to be furnished in order to trigger National[] [Casualty’s] payment obligations[;]” and (b) “whether National could condition payment on its exercise of its contractual right to inspect First State’s files” under the treaties’ access to records provisions. See Slip op. at 3.

yay-9369788-digitalOn December 13, 2012 the arbitrators made their contract intepretation award, which imposed a claims protocol on National Casualty. Under the protocol (the “Claims Protocol”) National Casualty’s obligation to pay a claim was deemed to arise “upon its receipt of a billing supported by a Proof of Loss and Reinsurance Report(s) prepared by First State in a form and content generally as those introduced with the briefings on this motion.” Slip op. at 3. The Claims Protocol also provided that “[s]aid payments may be made subject to an appropriate reservation of rights by [National Casualty] in instances where it has or does identify specific facts which create a reasonable question regarding coverage under the subject reinsurance agreement(s)” but “[p]ayment obligations on the part of [National Casualty]] are not conditioned upon the exercise of its right to audit or the production of additional information or documents, other than those provided by First State as described . . . above.” Slip op. at 3-4.

First State applied to the United States District Court for Southern District of New York to confirm the partial final award under Federal Arbitration Act Section 9. National Casualty moved to dismiss First State’s application, or alternatively, for a transfer to the United States District Court for the District of Massachussets.   Eight months after First State filed the Petition, the district court transferred the case to the U.S. District Court for the District of Massachussets. National Casualty then cross-petitioned to vacate the award under Section 10(a)(4) of the Federal Arbitration Act, contending that the Panel’s award exceeded its powers. But by then nearly 10 months had elapsed since the  Panel issued its award.

 The Court’s Analysis

Judge Selya’s opinion was joined by Associate Justice (Ret.) David Hackett Souter, who, having retired from the U.S. Supreme Court, frequently sits on the First Circuit; and Senior Circuit Judge Kermit V. Lipez.  The first issue addressed was whether National Casualty’s cross-petition to vacate was made within Federal Arbitration Act Section 12’s service-within-three-months deadline. See 9 U.S.C. § 12 (2013).

yay-774794-digitalPointing out that National Casualty’s cross-petition to vacate was filed more than 300 days after the award was made and delivered, The Court said that “[i]t is clear beyond hope of contradiction that National did not meet the 90-day statutory deadline.”  Slip op. at 5. But National Casualty, said the Court, had spun “an intricate web of arguments,” comprised of: (a) its assertion that its motion to dismiss First State’s application to confirm “could serve as a surrogate for a petition to vacate or, at least, had the effect of tolling the deadline[]”; and (b) a “series of arguments based on First State’s infelicitous choice of forum,” and National Casualty’s claim that asserting a motion to vacate in the Southern District of New York would have “undermin[ed] its venue-based objections and unnecessarily tax[ed] the resources of the two district courts.” Slip op. at 5.

The Court concluded that it “need not unravel this tangled skein[]” because the “case [was] easily resolved on the merits.”  Slip op. at 6. Relying on a First Circuit line of cases that,  in appropriate circumstances, allow federal courts to avoid difficult statutory and prudential subject-matter jurisdiction questions in cases where resolution on the merits is straightforward—and would lead to the same result as a finding that the court lacked subject matter jurisdiction—the Court by passed the timing question and addressed National Casualty’s cross-petition on its merits. See Slip op. at 6.

Dyay-15933308National Casualty’s challenge to the Claims Protocol award was based on the Oxford/Stolt-Nielsen manifest disregard  of the agreement or contract-based outcome review standard. Slip op. at 6-7. The First Circuit quite accurately described the very narrow standard of review applicable to such a challenge, pointing out that it boiled down to “whether the arbitrators ‘even arguably’ construed the underlying agreements and, thus, acted within the scope of their contractually delineated powers.” Slip op. at 7 (quoting Oxford Health Plans LLC v. Sutter, 133 S. Ct. 2064, 2098 (2013)).

yay-1245515-digitalAccording to the Court, National Casualty asserted that the Claims Protocol effectively rewrote the reinsurance contracts in two ways. First, argued National Casualty, the Claims Protocol allegedly “obligate[d] National to pay billings that may not fall within the terms and conditions of any applicable agreement.” Slip op. at 7. Second, National Casualty argued the Claims Protocol “effectively foreclose[d] or at least significantly impair[ed] its broad access rights under the inspection and audit provisions of the agreements by conditioning those rights on the transmittal of an appropriate time-of-payment reservation of rights.” Slip op. at 7-8. The “reservation of rights” requirement was allegedly “plucked out of thin air and not derived from any contract term.” Slip op. at 8.

The Court rejected both arguments. The award explained that the terms of the protocol were “in part, ‘based upon the terms of the subject reinsurance agreements,’ and confined its inquiry into National’s payment obligations existing ‘under the subject reinsurance agreements.'” Slip op. at 8 (quoting Claims Protocol). Accordingly, “the arbitrators understood the nature of their task.”  Id. And, “[t]o cinch the matter, the payment protocol limned in the award tracks the plain language of the relevant provisions in the parties’ reinsurance agreements.” Slip op. at 8.

As respects the Claims Protocol tracking the contract language, the Court explained, “[b]y way of illustration,” that the contracts’ loss settlement provisions required National Casualty “to pay either ‘within 15 days’ or ‘at the same time . . . as the reinsured may elect to pay’ or ‘immediate[ly]’ upon the production of ‘reasonable’ or ‘satisfactory’  evidence of the amount ‘due’ or ‘to be paid.'”  The Court found that these provisions “are generally consistent with the payment protocol in the arbitration award, which obligates National to pay ‘upon its receipt of a billing’ supported by a proof of loss and reinsurance report containing, inter alia, the amount paid or due by First State to its insured.'” Slip op. at 9.

yay-13298284The Court found it “noteworthy that none of the loss settlement provisions in the underlying agreements expressly cross-references the separate inspection, audit, or access to records provisions.” Slip op. at 9. “The contract interpretation award[,]” said the Court, “mirrors this separation; it provides that National’s payment obligations are independent of and not conditioned upon the exercise of National’s right to inspect and audit First State’s records.” Slip op. at 9. That “structural similarity” “fortified” the Court’s “conclusion that the arbitrators were doing nothing beyond construing the underlying agreements.” Id.

The Court thus concluded that the Claims Protocol, “when compared to the text of the underlying agreements,” left “no doubt that the arbitrators were arguably construing those agreements.” Slip op. at 9-10. The Court then explained how the honorable engagement clauses further undermined National Casualty’s assertion that the Panel allegedly exceeded its authority by allegedly conditioning of access-to-records-clause rights on payment made under a Claims-Protocol-Compliant reservation of rights.

yay-4068489-digitalThe honorable engagement clauses in the reinsurance contracts, like so many others, instructed the arbitrators to consider the contract to be “an honorable engagement rather than merely a legal obligation” and provided that “the arbitrators are ‘relieved of all judicial formalities and may abstain from following the strict rules of law.'” See Slip op. at 10. The Court held that the honorable engagment clause authorized the panel to grant equitable remedies, and that the reservation of rights procedure was such a remedy. See Slip op. at 11.  

While that finding was all well and good, it was probably unnecessary. As a general rule, arbitrators acting under a broad arbitration agreement are considered at least to have the equitable powers of a court and sometimes may have powers that courts might not. While an honorable engagement clause provides a more specific contractual basis for the exercise of that authority, it is not a sine qua non for it.

yay-9143642-digitalThe Court concluded its opinion, with a point it characterized as a “coda,” a characterization that is particularly apt if Judge Selya meant the kind of coda that, for all practical purposes, makes the song—e.g., those in “Space Oddity (David Bowie, 1969) (or Bowie’s 1980 Space Oddity redux, “Ashes to Ashes”); “White Room” (Cream, 1968); and “All You Need is Love” (The Beatles, 1967). For without the Court’s self-described extended finale, the question whether the Claims Protocol’s reservation of rights feature foreclosed—or at least materially impaired—National Casualty’s bargained for right to inspect First State’s records would not have been meaningfully answered. And it is from that finale that National Casualty obtained something quite valuable, though that is not necessarily readily apparent from the opinion.


Between a Rock and a Hard Place? A modern day container ship navigates between Scylla and Charybdis (Charybdis is seen in the background). Presumably these waters and adjacent land masses were less hospitable back when Odysseus sailed through and between them. 

As National Casualty interpreted it, the reservation of rights procedure placed the reinsurer between a proverbial rock and a hard place by conditioning the reinsurer’s inspection rights on having knowledge of, and promptly asserting, facts providing a basis for contesting a claim. National Casualty’s interpretation was not unreasonable, and it may well have been what the Panel intended. But a long-settled tenet of arbitration law derived from the U.S. Supreme Court’s Steelworkers Trilogy of labor arbitration cases informs us that an arbitration award will not exceed the arbitrators’ power simply because it might reasonably be interpreted as doing so. See United Steelworkers of America v. Enterprise Wheel & Car Corp., 363 U.S. 593, 598 (1960) (“A mere ambiguity in the opinion accompanying an award, which permits the inference that the arbitrator may have exceeded his authority, is not a reason for refusing to enforce the award.”). If an award can reasonably be interpreted as not exceeding the arbitrators’ power, then that’s what courts (and arbitrators) are supposed to do. And that makes sense from a prudential standpoint, since there is no reason to presume that arbitrators intend to exceed their powers, and, in any event, arbitration awards are ordinarily considered  presumptively valid under the Federal Arbitration Act.

While the Claims Protocol unambiguously provides that National Casualty’s obligation to pay claims is not conditioned on National Casualty having an opportunity to exercise its audit rights, or on First State’s production of additional documents beyond those required by the Claims Protocol, it does not clearly condition on a Claims-Protocol-compliant reservation of rights National Casualty’s right to audit or seek recoupment of claim payments. If it did it would have raised serious questions about whether the arbitrators exceeded their powers.

But that doesn’t mean that National Casualty should not have challenged the Claims Protocol. Even if the Claims Protocol did not place National Casualty between a proverbial rock and a hard place, Federal Arbitration Act practice and procedure did. Ambiguity about the legal effect of the Claims Protocol in a situation where National Casualty had no basis on which to challenge a claim until after it had unreservedly paid it, would be a question for the arbitrators.

It is tempting to conclude that National Casualty should not have challenged the award, but instead should have waited until the issue arose, and in the event an arbitration panel interpreted the Claims Protocol as causing that kind of forfeiture National Casualty claimed it would cause, then National Casualty could have then moved to vacate the award interpreting the Claims Protocol.

But had National Casualty not moved to vacate, and waited until an arbitration panel ruled on the interpretation issue, then First State would likely have argued that National Casualty should have asserted it arguments in response to First State’s motion to confirm the Claims Protocol. Given the sometimes rather extraordinary lengths to which courts sometimes go to confirm awards, we think that National Casualty’s failure to move to vacate the Claims Protocol would likely have doomed a later attempt to vacate a future award interpreting the Claims Protocol.

yay-16595162-digitalThat’s the “rock.” The “hard place” is that National Casualty had to mount its challenge and deal with the ambiguity, all along knowing that its chances of success were not very high, but that it was important to build a record. The key risk associated with the “hard place” would be that the Court would conclude that the Claims Protocol was valid even if it worked the way National Casualty argued it would work.

Things turned out quite well for National Casualty. Apparently while the appeal was pending, the Panel issued a ruling striking out one of National Casualty’s reservation of rights letters on the ground that it did not comply with the Claims Protocol’s reservation of rights procedure. National Casualty brought that to the Court’s attention, and the Court dealt with it in a way that was clever and effective.

First State presumably recognized that National Casualty’s vacatur arguments could succeed if National Casualty could demonstrate that the Claims Protocol conditioned on an adequate reservation of rights National Casualty’s inspection rights, and its concomitant right to seek recoupment of a paid claim in the event a post-payment inspection brought into question the validity of the claim. Thus, as the Court pointed out, “First State acknowledged both in its brief and at oral argument in this court that the contract interpretation award does not condition National’s inspection, audit or recoupment rights on its submission of an appropriate reservation of rights.” Slip op. at 11-12.

yay-15185866-digitalThe Court apparently made sure that it elicited a clear concession from First State on that score, and then made a point of memorializing it in the opinion. The Court said that, “[a]s First State concedes, the contract interpretation award leaves National, upon receipt of a billing from First State, with three options: it may (i) reject the billing, (ii) pay the billing without comment, or (iii) pay the billing with a reservation of rights.” If “National employs the second or third option when paying a particular billing, it retains the right thereafter to inspect First State’s records, audit the claim, and seek recoupment through a subsequent arbitration should it conclude that payment was improperly made.” Slip op. at 12.

yay-4864926-digitalThe thing of exceptional value that National Casualty obtained a declaration by the Court that should effectively foreclose any future arbitral interpretation of the Claims Protocol that might convert it into an award conditioning its inspection, audit or recoupment rights on National Casualty’s submission of an “appropriate reservation of rights.” The Court declared that “First State has endorsed this reading [quoted in the paragraph immediately above]  of the contract interpretation award and, therefore, it cannot assert either the absence or inadequacy of a reservation of rights as a defense to future recoupment efforts by National.” Slip op. at 12 (emphasis added). That’s a pretty valuable judicial declaration for a company to walk away with after ostensibly losing an appeal!

We think the Court handled this case quite well. It was able to avoid vacating an award but at the same time it corrected the problem that led National Casualty to challenge the award in the first place. National Casualty was the loser in the sense that it lost the appeal and had its arguments treated somewhat flippantly by the Court. But it was a winner in the sense that the Court’s decision solved the problem that prompted National Casualty to vacate the award.

Many thanks to our friend Rachel Ehrlich, an Oakland, California-based mediator, attorney and former insurance company claims executive, who was kind enough to send us a copy of the Court’s decision.


Photographic Acknowledgements:

The images used in this post were licensed from Yay Images:

Photo Number (from top down) Photographer (Using Yay Image Abbreviations) Text Added? (Y or N)
1-5, 7, 9 Wavebreakmedia Y
6 Kentoh Y
8 Timscottrom Y
10 Mycola Y
11 Lifeinapixel N
12 Nata_Rass Y (caption)
13 Divine Films Y
14 Fotoscool N
15 Stuartmiles N


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