Australian Insurance Market 2003

Transcription

1 Australian Insurance Market 2003 Paper prepared for the IBA Conference September 2003 in San Francisco 1 Introduction The insurance market in Australia entered the twenty-first century characterised by well accepted policies, competitive pricing and wording, prolonged investment, low premiums and entrenched loss underwriting. However, subsequent international factors coupled with a series of local corporate collapses have perpetuated significants changes in the dynamics of the insurance market in Australia, culminating in, what the business sector view as, exorbitant insurance premiums or even an inability for some businesses to obtain insurance at any cost. International Factors The global nature of the insurance and reinsurance market has meant that the effects of natural disasters around the world, the events of the World Trade Centre terrorism attacks, and the collapse of foreign corporations, such as Enron have been felt in Australia, as they have around the world. Collapse of Enron Enron collapsed in December 2001 after disclosing its misstatements and losing USD$68 billion in market value from its share-price in August Enron's failure has been broadly attributed to its dubious accounting practices. Practices that, although apparently permissible under the governing accounting standards, proved to be very bad business practice and contributed to the subsequent collapse of the company's auditors, Arthur Anderson. The collapse of what was the seventh -largest US company by sales revealed massive corporate governance failures and significantly destabilised the world market and lead to an overhaul of corporate governance regulation with the enactment of the Sarbanes-Oxley law 12 months ago. World Trade Centre terrorist attacks The events of September 11, 2001 resulted in what was possibly the largest single event insurance claim in history. Insured losses were estimated at around USD$70 billion, impacting a number of insurance lines 2 1 C T Coyne, Partner, Clayton Utz, Australia The assistance of Georgina Johnson in the research and preparation of this paper is gratefully acknowledged commercial buildings were destroyed and 10 were materially damaged, 10,000 apartments were affected, financial centres and numerous businesses were interpreted, 5000 motor vehicles were destroyed, 4 jet aircrafts were destroyed, 3000 life insurance policies were claimed on and an unidentified number of claims relating to personal injury, sickness, work related illness, psychological illness and personal property. Trowbridge Consulting Presentation "taking Stock of Global Developments in the Post-September 11 Era" BNEWORKDOCS\13593\

2 and leading to a reduction of reinsurer's capacity, a decline in equities markets, increased emphasis on underwriting profitability, short term increases in reinsurance rates and an industry wide retreat from risk. Local Factors Locally, Australia has experienced the collapse of some of our major corporations, including Ansett, our second largest airline, Harris Scafe, a department store and OneTel, a major telecommunications provider. The insurance industry, specifically, has been rocked by the collapse of the HIH Group, our largest insurance provider and United Medical Protection, the largest provider of medical Professional Indemnity ("PI") insurance in Australia. Ansett Australia In September 2001, after a 65 year corporate history Australia's second largest airline resolved to enter voluntary administration leaving approximately 3.6 million creditors owed A$2 billion. Administrators Arthur Anderson, commenced the administration with a commitment to have Ansett back in the air as a viable and competitive operation and achieve the best possible results for stakeholders. However, after the unsuccessful resumption of flights on limited routes and failed sale negotiations, all flights ceased on 4 May The airline is currently still under administration. Due to a A$10 per ticket levy imposed on all airline ticket sales in Australia, imposed by the Federal Government, Ansett employee were paid their entitlements. However, only 70% of the airline's former employees have found work and for those who have found employment, it is in a position of reduced status and less pay. OneTel Backed by two of the most successful and affluent corporate families in Australia, the Murdochs and the Packers, OneTel was placed into administration and later liquidation owing shareholders and creditors A$2 billion. Liquidator of the failed telecommunications company Steve Sherman of Ferrier Hodgson, uncovered what have become the usual traits of a large scale corporate collapse, including a misled board of directors and major stakeholders, overly optimistic business forecasts, exorbitant director's bonuses and questionable reporting practices. However in the case of OneTel, consequent litigation and a government inquiry into the collapse have revealed that the company's board of directors were actively misle d as to the solvency of the company. Consequently, criminal charges have been laid against the company's former directors. Effect on Corporate Sector Corporate Governance regulation These collapses, coupled with the collapse of Enron, have resulted in an increased focus on corporate governance practices in Australia. In April this year the Australian Stock Exchange Corporate Governance Council published its 10 "Principles of Good Corporate Governance and Best Practice Recommendations." BNEWORKDOCS\13593\

3 Together the principles and recommendations form a matrix of aspirational value statements and practical suggestions for companies and their boards. The Council also provided a large number of suggested steps in implementation of the principles and recommendations. While implementation of all the principles and recommendations is not compulsory for all Australian companies, all listed companies will have to report on whether they have followed the guidelines during the financial year, and if not, why not. The increased role of Australia's corporate regulator, the Australian Securities and Investment Commission ("ASIC"), is most evident in a trend to personally pursue directors as a means of enforcing corporate legislation. In the case of OneTel, ASIC is still pursuing former directors of the company Jodee Rich, John Greaves and former finance director Mark Silbermann for breaches of the insolvent trading provisions in the Corporations Act 2001 (Cth). Auditing Practices The exposition of questionable auditing practices following the collapse of Enron, HIH and OneTel has prompted the Australian government to consider the issue of auditor's independence 3. Currently, Australian law does not require independence of auditors from their clients. However, given the potential consequence of close ties between a company's board of directors and the auditors, as appears to have been the case with HIH, an advisory panel looking into the collapse of HIH has recommended reforms that would forbid current and former auditors from becoming a member of a clients' board of directors. Furthermore, a compulsory element of the Australian Stock Exchange Corporate Governance Council's "Principles of Good Corporate Governance and Best Practice Recommendations" is that all companies that are in the ASX All Ordinaries Index (the 'Top 500' companies) are required to have an audit committee in place from the beginning of each financial year. Effect on the insurance industry The collapse of insurers HIH/FAI and UMP have had major consequences for the insurance market in Australia. The HIH Group Months prior to the collapse of Enron, Australia experienced its second largest insurer, the HIH Group collapse into a negative net worth of approximately A$2.8 billion, revealing massive failures in corporate governance, regulation and significantly, the auditing reports prepared by Arthur Anderson. In retrospect a plethora of contributing factors were identified including significant misjudgement of risks, displayed in under-reserving of approximately A$5 billion, poor management decisions to underwrite workers 3 A former partner of the firm has revealed that at some times, Arthur Anderson's Sydney office relied on HIH for more than 10% of its gross revenue. Furthermore, the board of director's of HIH consisted of three former partners of the firm's auditor, two of whom were members of the board of director's auditing committee. BNEWORKDOCS\13593\

4 compensation and PI policies, and the 1998 purchase of FAI for A$300 million without a thorough analysis 4. A report by David Lombe, of Deloitte Touche Tohmatsu commissioned by Australian Securities Investment Commission ('ASIC') found that 6 months prior to the collapse of HIH, Arthur Anderson audited the company's 2000 accounts which showed A$468 million in net assets. Mr Lombe found that the auditor's did not follow generally accepted auditing standards stating that "Anderson identified material misstatements of assets that... where not included in their assessment of the truth and fairness of the financial statements of HIH" 5 he further found that the auditors "may have knowingly involved themselves in verifying accounts which they knew to be false, and to that extent, have acted in conjunction with the company and lent their aid to a quite deliberate deception 6. United Medical Protection - Australasian Medical Insurance Limited In May 2002 the PI insurer of more than 60% of Australian doctors collapsed into provisional liquidation. Providing discretionary cover and therefore operating outside the Australian Prudential Regulation Authority's regulations, UMP showed net liabilities of A$418.5 million, comprising mainly of A$368 million in incurred-but-not-received claims for which UMP had set aside insufficient funds. Provisional liquidator, Mr David Lombe of Deloitte Touché Tohmatsu cited the company's rapid expansion just prior to the failure of the HIH Group, falling share markets, higher reinsurance costs after September 11, regulatory changes in NSW, and increasing medical malpractice claims as factors contributing to the collapse of Australia's largest medical insurer. In the mists of the crisis in the PI insurance market and aware of the further destabilising effect another corporate collapse would have on the insurance market, the Australian government agreed to assume liability for claims incurred-but-not-reported losses until December 2002, which was later extended until December The government intends to recoup the costs of the scheme from a levy to be imposed on doctors. The levy will be paid by doctors 7 insured with UMP as at 30 June 2000 and in most cases will cost less that A$1500. The payments are tax-deductible and the levy is expected to continue for 10 years. Doctors practising in high risk/ high claim areas such a obstetrics, gynaecology and neurosurgery will be charged a substantially higher levy. 4 Later that year without notifying HIH, Goldman Sachs, FAI's adviser, revised downwards the company's valuation, from A $200 million to A$20 million. 5 Becky, Gayland, New York Times, For Months, Australia Has an Enron of its Own, p1, 22/02/02 6 Becky, Gayland, New York Times, For Months, Australia Has an Enron of its Own, p1, 22/02/02 7 Some exemptions apply (eg) doctors over 65 years old who earn less than A$5000 per year. BNEWORKDOCS\13593\

5 In November 2000 UMP demanded 2700 client doctors pay their insurance premiums again. A group of doctors lead by Sydney anaesthetist Michael Levitt, challenged the demand in the Federal Court on the basis that it was illegal under the Trade Practices legislation. In March this year the matter was settled on the terms that UMP would withdraw the demand for extra contributions in return for the doctors dropping the class action. The settlement released doctors who had taken out alternative cover from the demand. Doctor who had not arranged alternative cover will have to pay the contribution but in return will be given "tail cover" for any incident that occurred prior to January Although, technically insolvent, UMP's provisional liquidators believed that the implementation of the government's assumption of liability scheme and the court settlement would allow the company to trade out its current difficulties because member's subscriptions would provide sufficient income for the insurer to meet current claims and cover other operating and overhead expenses, as UMP would not be incurring any further claims. In light of this, the court deterred a winding up order for the company and extended the company's provisional liquidation until 31 December In November 2002, UMP's members and creditor unanimously resolved to continued the provisional liquidation of the company for a further 12 months to take advantage of the Federal Government's offer to extend the government's assumption of liability scheme for a further 12 months. Effect on the Insurance Market Professional Indemnity and Public Liability Insurance HIH/FAI held up to 50% of the PI market in Australia and UMP insured 60% of Australian doctors. It is therefore not surprising that in the context of other major corporate collapses in Australia, the financial demise of these insurers has had a significant impact upon the insurance market in Australia. Australia has experienced a sharp decrease in the number of underwriters in the market leading to a reduced capacity to underwrite risks and an increased focus on claims history, risk profile and the existence of demonstrated risk management strategies covering corporate governance and statutory compliance. Increased claim costs 8, higher premiums 9 and deductibles and a contraction of the scope of cover available have also resulted. Businesses are being refused cover or subjected to increasingly tight restrictions and exclusions and are being introduced to withdraw high-risk services to consumers. Consequently, consumers access to services is diminishing and their risk of exposure to uninsured and unaccredited providers is increasing. 8 Between 1997 and 2002 the number of claim remained steady, however the average cost of claims rose by 195%, from A$6,399 to A$18,885 [ACCC Public liability and Professional Indemnity Insurance monitoring report, July 2003]. 9 Between 1997 and 1999 the average premium dropped by 21% only to then rise by 125% between 1999 and It estimated that in 2003 professionals are paying as much as 200% more for their non-compulsory. [ACCC Public liability and Professional Indemnity Insurance monitoring report, July 2003] BNEWORKDOCS\13593\

6 The legal profession should escape some of the rise in PI insurance premiums because of the compulsory PI schemes 10 operated by each state's professional body 11. However, medium and small law firms will be effected significantly when seeking to secure additional layers of non-compulsory PI insurance. The Law Council of Australia ('LCA') has warned that such firms can expect up to a tenfold increase in their top-up PI insurance for due to a significant decline in the number of insurers willing to offer top-up PI cover falling from 35 local and offshore providers to a total of 5 providers willing to service the market 13. Alternatively, it is estimated that top tier firms will be subject to more modest increases of approximately 10-20% 14. Partly due to the fact that large firms have the benefit of established relationships with overseas insurance providers. Director & Officers Insurance Given the strong emphasis on corporate governance and increased responsibilities of directors and officers of companies, D&O insurance is critically important. Unable to find a comprehensive survey of the D&O insurance market, Clayton Utz retained Strategic Insurance & Risk Solutions (SIRS) 15 to conduct a survey of underwriters' and brokers servicing the Australian D&O insurance market 16. The survey explored the accuracy of the information that has been disseminated in the media, and underwriters and brokers' views on the market and its future. The result painted a slightly brighter picture than the mainly sensationalised media coverage of the issue. Results suggested that the world's insurance markets will continue their current "hard" cycle for at least the next few years which will impact on D&O insurance. Premium Increases During 2002 the extent of premium increases has varied. Some insureds came through relatively unscathed, while others may have experienced increases in excess of 300%. According to the underwriters 10 In Australia it is compulsory for all lawyers in private practice to carry PI Insurance; Queensland Law Society Indemnity Rule 1987, R According to Robert Benjamin, the President of the Law Society of NSW, the NSW compulsory scheme administered by LawCover Pty Ltd would be able to contain a rise to less than 10%; Kate Marshall, Australian Financial Review "market "too small and too much trouble" p57, 28/03/03 12 Law Council of Australia 13 QBE, Liberty Mutual, Zurich Australia, Employers Reinsurance Corp, AmRe 14 Kate Marshall, Australian Financial Review "Small Firms face 10 fold increase Professional Indemnity Insurance rise - p57 28/03/03 15 Strategic Insurance & Risk Solutions is an independent corporate and risk advisory practice. 16 The survey involved discussions with underwriters from nine leading Australian-based insurers and seven brokers from the most prominent Australian-based broking houses. SIRS also spoke with one broker from a London-based broking house. BNEWORKDOCS\13593\

7 surveyed, increases on average ranged from 10% to 30%. By contrast, average increases ranged from 20% to 50% for London-based insurers. Those paying the min imum premium experienced significantly greater increases. Brokers and underwriters surveyed believe that one of the factors driving significant premium increases is exposure to the jurisdiction of the USA. Organisations listed in the USA or Canada, or with operations and assets within the USA and Canada, have generally been the most severely affected. Poor underwriting of some risks during the previous period of strong competition was also cited as a contributing factor. While increased reinsurance costs may lead to some future increases, the general consensus among brokers and underwriters is that severe increases in D&O insurance premiums are likely to be less frequent as the majority of correction has occurred during the past year. Continuing increases of between 10% and 30% are expected. Capacity As reported by the media, significant capital has left the D&O insurance market following the collapse of HIH Casualty and General Insurance Ltd, the withdrawal from the D&O market in Australia of St Paul Insurance Company, Gerling Insurance and GIO, and the rationalisation of other market participants. However, brokers were confident that there is still sufficient competition with Australian-based insurers writing D&O insurance, who represent capacity in excess of $200 million.. However, brokers did concede that in the case of larger and complex clients the competition is reduced to around 6 insurers. Although there is significant capacity available, competition for access to that capacity is stiff not only because of a shrinking market but also increased regulatory requirements placed upon insurers. The Australian Prudential Regulatory Authority ("APRA") recently increased insurer capital adequacy requirements, which means that insurers either require more capital to support the insurance risks that they assume, or use what capital they have available more selectively. Consequently, there has been a move to more scientific underwriting practices as insurers seek to ensure that their capital is being appropriately utilised. Underwriters will no longer accept a risk unless they are completely satisfied with the information provided to them. Nor are extensions to cover and endorsements provided without careful underwriting. The majority of underwriters surveyed also suggested that providing Excess Layer Capacity was no longer simply a function of premium. Excess layers will be underwritten as if they were primary. Some Australian brokers thought that regardless of the quality of an organisation some industries are viewed by underwriters as automatic decline risks such as biotech, infotech, mining etc or with claims history or poor financials or with USA exposures. However, a more optimistic view was also tabled. That is, if the risk is not a poor quality risk and is presented correctly, obtaining insurance, whilst more difficult, BNEWORKDOCS\13593\

8 is not impossible given that underwriting guidelines enable brokers to consider every risk on a case by case basis. Australian brokers and their clients must now ensure that the submission of information to underwriters is planned carefully. Underwriters may require additional information as to business activities, annual reports and financial statements. Some underwriters make their own investigations in the press as to past and anticipated restatements of results, disputes with shareholders or disputes with regulators or the ASX. Coverage is available but securing it will require significant and proactive participation by the insured together with their broker. Organisations should; take control of the process and ensure that the broker performs; be proactive and explain where the organisation is headed, its philosophies and strategy; brokers and clients should no longer rely upon underwriters seeking information, but take a proactive approach to dispel any concerns that may cause an underwriter to prematurely form a view of a risk be aware of potential questions from insurers and provide information before being asked; be prepared to meet with insurers and commence the process early to ensure timely completion. Furthermore, underwriters have indicated that they will be influenced by a demonstration of good governance. Publicly listed companies now provide a Governance Statement within their annual report. Many companies also maintain membership of industry associations in order to stay in touch with governance principle s. However, underwriters have stated that mere membership of an association would not be adequate confirmation that an organisation actually practised sound corporate governance. Rather, there must be evidence that the company's corporate governance statement is supported by policies and practices that will ensure the sustainability of the organisation, such as an independent report on an organisation's governance policies and practices. Underwriters also viewed meetings with clients of organisations as a beneficial way of developing a clearer appreciation of the organisation, its activities and controls. Fundamental change Further, the survey has displayed a significant change in the structuring of layered cover in Australia. Many clients require capacity from a number of insurers in order to achieve the level of cover that they require. The maximum now available from any one of the insurers surveyed is $50 million for any one risk. An insurer however would rarely choose to offer its total at a primary la yer level. In some cases skilful structuring on the back of a strong primary layer is required to access all that the market has to offer. Insurers often refuse to participate on a layered program if they are not comfortable with the strength or underwriting practices of the underlying layer insurers. Insurers that have significant capacity and are BNEWORKDOCS\13593\

9 comfortable with a particular risk may offer their capacity, but may try to protect themselves from significant loss by "buffers". State and Federal Government response to the crisis In response to the significant problems in the insurance market, the federal government has held a series of summits attended by Commonwealth, State and Territory ministers to discuss what will be the most appropriate and effective method of reforming the insurance market in Australia. Ministerial summit - May 2002 The first ministerial summit in May 2002 particularly focused on the broad community issue of the cost and availability of Public Liability ('PL') insurance. The ministers concluded that the current crisis in the PL insurance market can be attributed in large part to the operation of a legal system in which the law of negligence, as applied by the courts, is unclear and unpredictable, has become too easy for plaintiffs in personal injury cases to establish liability for negligence on the part of defendants, and the fact that damages awards in personal injuries cases are frequently too high 17. Response to the findings of the first Ministerial summit The Commonwealth, State and Territory Governments jointly established the Negligence Review Panel, chaired by the Honorable Justice David Ipp, to enquiry into the law of negligence and to develop a series of proposals to provide a principled approach to reforming the law of negligence. The Panel was specifically asked to report on matters relating to professional negligence, options for limiting the liability of not-forprofit organisations, the interaction of the Trade Practices Act 1974 with common law principles and the statute of limitations, among other matters. So established, the Panel saw its task as being to recommend changes to the law that impose a reasonable burden of responsibility on individuals to take care of others and to take care of themselves. In doing so, the Panel sought to strike a balance between the interests of injured people and those of insurers that seems to be fair and likely to be widely accepted in the community at large. The Panel proposed 61 recommendations that should apply (unless expressly provided to the contrary) to every claim for damages for personal injury or death resulting from negligence regardless of whether the cause is brought in tort, contract, equity, under statute (such as the Trade Practices Act 1974, or State and Territory Fair Trading Acts) or any other cause of action 18. Implementation of the recommendations of the Negligence Review Panel 17 Review of the Law of Negligence Report 18 The Panel has particularly focused for the purposes of this report on the liability of medical practitioners, however the principles developed by the panel could be applied more widely to all professional groups. BNEWORKDOCS\13593\

10 Although, the establishment of the Negligence Review Panel, displayed that the crisis in the PI insurance industry is recognised as a significant national issue effecting all Australian individuals and businesses, instead of the implementation of a consistent national approach to reform, initial inconsistent state reforms created an ineffective patchwork solution to the crisis that would operate to compound the industry's problems further. Effect of Inconsistent State Reforms The inconsistent state based reforms had potential to create further problems by, increasing compliance costs, encouraging forum shopping among jurisdictions and making claims practically unworkable when they involve differing heads of damage to which different statutory provisions apply. 1. Increased compliance costs The insurance industry has argued that uniformity of reform is vital, otherwise compliance costs will soak up any savings. 2. Forum shopping among jurisdictions (a) Proportionate Liability Under the common law principle of joint and several liability, a claimant may recover the full measure of damages against any individual wrongdoer in whom causative liability is formed. Alternatively, under proportionate liability each defendant bears responsibility only for its own share of the plaintiff s damage. Proportionate liability means defendants are not forced to bear the burden of other defendant s liability and then recoup contributions in separate proceedings, or bear the risk of insolvency of one of the other defendant'\s. The liability of a defendant who was a concurrent wrongdoer is limited to the amount reflecting the proportion of the damage the Court considers just having regard to the defendant's responsibility. Australian states, Western Australia ('WA') and New South Wales ('NSW') have already introduced proportionate liability. Recently, in the Civil Liability Bill 2003 Queensland ('Qld') broadly followed the template enacted late last year by NSW. While the NSW and WA equivalents of the Qld's CLA, have also replaced joint and several liability of the defendant with proportionate liability in the case of claims of property damage and economic loss, the state acts are inconsistent in the detail of the remedial features of the legislation. For example, in all states proportionate liability does not apply to personal injuries claims, only those regarding claims of property damage and economic loss. However, Queensland s additional remedial features include; BNEWORKDOCS\13593\

11 (a) joint and several liability is retained when it can be shown that the defendants formed a common intention to commit an intentional tort and actively took part in the commission of the tort; (b) the claimant suffers loss by reason of the wrongful conduct of an insolvent defendant in circumstances where the claimant had also engaged a solvent (or insured) defendant to provide professional advice to prevent the loss and the claimant relied on the advice; and (c) a A$500,000 threshold applies before proportionate liability applies to ensure that the 'consumer' litigant who lacks the financial strength to bear the burden of the insolvency of an apportioned wrongdoer is protected. Qld is the only state to impose a threshold of A$500,000 damages before proportionate liability will apply. Prior to the enactment of Civil Liability Bill 2003 the Law Council of Australia made a submission to the state of Qld on the issue of proportionate liability which explicitly recognised that the NSW model would have a more significant impact when it came to stabilising the market for PI Insurance. However, despite this the Council argued that the A$500,000 threshold test would be fairer to unsophisticated plaintiffs so that proportionate liability would only apply in cases worth more than A$500,000 in which plaintiffs could be expected to be "bigger and uglier and better able to shoulder the burden of proportionate liability 19. (b) Limitations Period The Panel recommended that the limitation period be three years from the date of discoverability 20, applicable in all jurisdictions 21. As noted by the Panel, the array of different limitation regimes in Australia leads to confusion, litigious disputes and materially influence the nature of the cause of 19 It is interesting to note these submissions by the Law Council given that the majority of PI litigation against lawyers is for damages of less than A$500,000. The Council has effectively argued that its members should be held more accountable to consumer litigants i.e. their clients. 20 The date of discoverability is the date when the plaintiff knew or ought to have known that personal injury or death, has occurred; and was attributable to negligent conduct of the defendant; and in the case of personal injury, was sufficiently significant to warrant bringing proceedings. 21 In most jurisdictions claims become statute barred in most cases on the expiry of the earlier of: the limitation period; or a long-stop period of 12 years after the events on which the claim is based ( the long-stop period ). The court has discretion at any time to extend the long-stop period to the expiry of a period of three years from the date of discoverability. In exercising its discretion, the court mu st have regard to the justice of the case, and in particular whether the passage of time has prejudiced a fair trial of the claim, the nature and extent of the plaintiffs loss and the nature of the defendant s conduct. A workable limitation system needs to provide fairness to both plaintiffs and defendants. The system must be sufficiently flexible to cope fairly with both damage suffered immediately or shortly after the occurrence of a wrongful act and with latent damage that can only be detected years afterward. BNEWORKDOCS\13593\

12 action relied upon, occasionally leading to forum shopping 22. The Panel also recommended that, except in very limited cases 23, the standard limitation period would apply. 3. Make claims practically unworkable When claims involve differing heads of damage to which different statutory provisions apply the claim would be administratively unworkable. For example, in state based legislation proportionate liability only applies to claims resulting in property damage or economic loss but expressly excludes personal injury claims. Need for consistent national reforms Following the spate of state reforms the Insurance Council of Australia together with professional groups and as recommended by the Negligence Review Panel, have urged the Federal Government to show leadership on the issue of reform and stem the wave of inconsistent reforms by the state governments in favour of a consistent national approach. They advocated that a nationally consistent reform package combining; 1. professional standards legislation; 2. a consistent application of proportionate liability; and 3. appropriate amendment of the Trade Practices Act 1974 (Cth) ('TPA'); would effectively restore the PI and PL insurance markets in Australia. Professional standards legislation has already been adopted by WA and NSW along with proportionate liability. However, national bodies representing most professions have expressed the view that only when both reforms, proportionate liability and national standards legislation, are consistently implemented by all states and the Commonwealth will there be any significant impact of the PI and PL Insurance markets 24. Furthermore, a national approach to proportionate liability and limitations of action periods would remove inconsistencies and remove any incentive for parties to the litigation to forum shop on the basis of A$500,000 threshold or other variations between the state legislative schemes. Concurrently, it will be essential that the Commonwealth amends the TPA as not to allow its current drafting to frustrate the operation of professional standard and proportionate liability legislation. 22 Review of the Law of Negligence Report 23 An example of such a case would be when a minor is not under the care of a parent or guardian or in the case of a person under a disability, where an administrator has not been appointed. 24 In letters to all state Premiers leading up to the summit of insurance ministers on 4 April 2003 BNEWORKDOCS\13593\

13 There appeared to be a consensus that, collectively, these reforms would greatly reduce the volatility of professional risk in the insurance market. Furthermore, with a view to ensuring compliance with the scheme and efficient operation, there has been significant pressure from state governments and professional groups to extend the Australian Competition and Consumer Commission s ('ACCC') powers from a supervisory role to include clear investigative and enforcement powers in relation to insurance companies. Ministerial Summit - 6 August 2003 Commonwealth, State and Territory ministers at a further summit on insurance issues held in Adelaide on 6 August, 2003 endorsed a nationally consistent reform package incorporating the national implementation of 1. professional standards legislation; 2. a national model for proportionate liability, which will be complemented by 3. legislative amendments to the Trade Practices Act 1974 and section 54 of the Insurance Contracts Act Professional Standards Legislation Professional standards legislation caps the potential liability of participating professions in return for mandatory levels of PI insurance cover and improved standards of service. Professionals are required to comply with transparent and publicly reported risk management programs, continuing legal education requirements, discipline and complaints procedures, which impose greater accountability of professionals to their clients 25. The scheme ensures professionals are adequately insured, so those successful plaintiffs are compensated for economic loss 26. Limits on liability payouts are set at levels, which cover all consumer claims and more than 95% of corporate claims 27 for economic loss 28. Ministers agreed that the scheme would be implemented on a nationally consistent basis with some flexibility in individual state and territory schemes. If structured similarly to the NSW legislation, the capping scheme will only be granted to associations and not individuals. Forcing solic itors, for example to join their state law society. Once nationally consistent professional standards legislation is in place Professions Australia, a national coalition of professional associations supporting indemnity 25 Senator the Hon Helen Coonan, Minister for Revenue and Assistant Treasurer, "The New Insurance Paradigm, Speech to the 2003 ICA Canberra Conference, 14 August Ibid 27 Ibid 28 Professions Australia, a national coalition of professional associations supporting indemnity insurance reform, "Protection at a premium", Lawyers Weekly, Is 156, 15/08/03, p9. BNEWORKDOCS\13593\

14 insurance reform, believes the scheme will quickly affect the affordability and availability of PI insurance. Actuaries, Trowbridge Deloitte have estimated that a professional standards cap, and the consequent removal of a need for catastrophe cover, could cut premiums by up to 40 per cent. 2. Nationally consistent proportionate liability Under the national model, as is the case under WA and NSW legislation, defendant's would be required to notify a plaintiff in writing of the identity and alleged role of any other potential defendants of whom they are aware. Defendants who refuse or fail to do so would risk costs sanctions. Queensland has indicated a preference to quarantine 'consumer' transactions from the application of the proportionate liability scheme, however no other jurisdiction has supported this proposal, satisfied that the requirement that all potential defendant's be identified provides sufficient procedural protection. Structuring defendant s liability in this way should decrease the incentive for plaintiffs to seek out the defendants with the deepest pockets and ultimately encourage insurers back into PI insurance, as professionals will no longer carry liability rightfully resting with others who have caused economic loss. 3. Legislative Amendment 3.1 Amendment to the TPA In its current state the TPA has the potential to undermine and frustrate any reforms that attempt to cap potential damages in PI litigation. As recognised by the Negligence Review Panel, as it becomes more difficult for plaintiffs to succeed in claims based on negligence, lawyers will inevitably search for an alternative cause of action. The TPA and equivalent provisions in state and territory laws provide potential sources for claims for personal injury and death. The TPA is already being argued in the alternative as a 'catch all' provision in litigation against professionals because its provisions give plaintiffs several procedural advantages, including the ability to bypass the state caps on professional liability and seek unlimited damages. Furthermore, damages could not be reduced by using the doctrine of contributory negligence and under the TPA lia bility may be more strict, therefore making it easier to recover the full amount of any loss. For example, a plaintiff can succeed in an action under section 52 merely by proving that a statement was misleading or deceptive. Unlike at common law, there is no need to prove that the statement was made negligently or dishonestly. As a result of the use of the TPA in litigation, professionals are still purchasing excessive amounts of insurance because of the uncertainty created by the TPA Warwick Wilkinson Chairman of Professional Standards Council BNEWORKDOCS\13593\

15 The Commonwealth specifically committed to harmonise the TPA and the Corporations Act 2001 with the professional standards legislation that has already been implemented in NSW and WA, so that proportionate liability applies to damages for economic loss under the Commonwealth acts. However, The Negligence Review Panel also recommends that the TPA be amended to prevent individuals bringing claims for personal injury or death under Part V, Div 1 - misleading and deceptive conduct (particularly sections 52 and 53); and prevent the ACCC from bringing representative actions for personal injury and death resulting from contraventions of Part V, Div 1. Furthermore, to the extent that legislative changes are made to limit the potential use of the TPA, similar changes will be required to State and Territory legislation containing similar provisions. 3.2 Amendment of section 54 of the Insurance Contracts Act A unique feature of the Australian PI insurance market is the operation of s54 of the Insurance Contracts Act In FAI v Australian Hospital Care 30, the High Court of Australia has held that a "claims made" policy will be subject to the remedial application of the Australian legislature. To this extent, the Australian law is "out of step" with international law governing claims made policies. The case concerned a "claims made and notified" policy held by Australian Hospital Care ('AHC') with FAI over a 12 month period. International practice requires such policyholders to notify their insurers of claims or circumstances that may give rise to a claim, within the policy period, failing which the policy will not respond. The section 54 of the Insurance Contracts Act provides that: Subject to the section, where the effect of a contract of insurance would, but for this section, be that the insurer may refuse to pay a claim... by reason of some omission of the insured or of some other person, being an omission that occurred after the contract was entered into... the insurer may not refuse to pay the claim by reason only of that omission but the insurer's liability in respect of the claim is reduced by the amount that fairly represents the extent to which the insurer's interests were prejudices as a result of that omission. Based on the wording of the section and the intention of the legislature, the court interpreted the section to practically operate to the effect that if an insured holding a "claims made and notified" policy is aware of a claim against them or circumstances which may lead to a claim during the term of the policy and fails to notify the insurer, section 54 will relieve the insured from loss of entitlement to indemnity. But for section 54, an insurer under a "claims made and 30 [2001] HCA 38 BNEWORKDOCS\13593\

16 notified policy" would be entitled to refuse a claim for indemnity made after expiry of the policy. As recognised by the court, claims made type policies were designed to permit the more accurate forecast of the insurer's risk exposure, the more certain placement of reinsurance, and the more assured closure of files after the period of insurance. The benefits to the insured of such policies was the provision of a lower premium due to the deletion of the insurer's liability to "long-tail" risks, as well as a decrease in associated administration costs of the policy. Necessarily, for the lower premiums, the insured assumed responsibility for the consequences of any negligent acts or omissions occurring during the period of cover but not coming to light until afterwards 31. The broad interpretation of the section adopted by the majority in this case essentially diminished the basic foundation upon which "claims made and notified" policies are based. However, despite the court's recognition of the undesirable effect of a wide interpretation of section 54, the court stressed that it must interpret the law as it is expressed by the legislature and give effect to the clear intention of the remedial statute. In the decision the court appeared to be suggesting that an undesirable result has been reached and it is up to the legislature to amend the legislation accordingly. The Australian media contends that this decision has effected the willingness of international insurance companies to underwrite Australian PI policies as it has made the operative intent of policy wording and the estimate of future claims extremely uncertain. Further, State ministers are adamant that the federal government must promptly address the decision as not to permanently tarnish international insurer's perceptions of the Australian PI insurance market. However, in the context of D&O insurance, the practical affect of the decision appears minimal. The London broker participating in the SIRS survey indicated that between five and seven London-based D&O insurers are actively writing D&O insurance for Australian based organisations. These insurers inject an additional capacity of approximately $150 million into the Australian market. Of the underwriters surveyed, less than half indicated that alterations had been made to their policy wordings in response to the High Court decision. Insurers that did alter policies generally removed the "deeming" clause relating to circumstances that might give rise to a claim and altered their definition of a "claim". By removing the "deeming" clause from 31 Ibid per Kirby J at 65 BNEWORKDOCS\13593\

17 their insurance policies insurers believe that they avoid the impact of the s54 of the Act. This has been held to be the case in two recent decisions. 32 Effect of government reforms Ministers have also agreed that the ACCC would monitor costs and premiums in PL and PI insurance to assess the impact on premiums of measures taken by governments to reduce and contain legal and claims costs. The ACCC is to specifically look at whether insurers are passing on the benefits of reforms to consumers. In August 2003 the ACCC delivered the first of four reports commissioned over the next 2 years 33 The July 2003 report noted that few of the reforms announced by state and federal governments had taken effect in the period covered by the report, so the actual impact of those reforms on premiums was not yet apparent. Furthermore, personal injury - which only constitutes a small proportion of most insurers claims - has so far been the focus of legislative reforms. The ACCC did tentatively accuse some insurance companies of not factoring cost savings that have resulted from law reforms into PI and PL insurance premiums for 2003, but recognised that this may be due to the uncertainty of the long-term impact of the reforms on claim costs. However, overall the ACCC found that it is too early to say in this report the extent to which reforms have lowered insurers costs and if these cost savings have been passed on to consumers. This will be assessed in future reports when data on actual outcomes becomes available. Insurance companies estimate that it will take 2-3 years before legislative reforms facilitate premium decreases due to the 'long tail' nature of claims and the fact that new state laws and commonwealth amendments will inevitably be tested through the court 34. The report indicated that most insurers expected premiums to increase by between 11% and 20% in 2003, with current and proposed government reforms not expected to have any impact on premium levels. In regards to personal injury claims Finance Policy Officer, Catherine Wolthuizen believes that at best tort reforms will slow the growth of premium increases rather that deliver substantially lower price levels for policyholders 35. Surprisingly insurance companies did not perceive the collapse of HIH or September 11 to be major drivers of the most recent premium rises, suggesting that these events may have already been absorbed by the industry. Alternatively, insurance companies cited larger payouts, poor underwriting returns, and stricter 32 Gosford City Council -v- GIO General Ltd [2003] NSWCA 34; McInally -v- HTW [2001] ANZ Ins Cases The findings in the report are based on empirical insurance data from the six months to December 2002 and the opinions and predictions of insurance companies. 34 ACCC Public liability and Professional Indemnity Insurance monitoring report, July Australian Financial Review, Tuesday 5 August 2003 "Reforms fail to curb cost of insurance" p.4 BNEWORKDOCS\13593\

18 risk assessment of policyholders as forces driving premiums upwards. However, these factors are in essence a direct result of terrorism and large scale corporate collapses. Although not yet reflected in premium reductions, the profitability of the insurance industry is looking slightly more positive due to an increase in premium revenue in most lines of insurance coupled with insurance rationalisation. The ACCC report cited PI and PL insurance as areas becoming more profitable with companies expected to report a profit in both these classes for However, looking to the future, the APRA has reiterated that PI insurers will be forced to further raise their premiums even higher to prevent more insurance company failures of the magnitude of HIH's collapses. Conclusion Therefore, although Federal, State and Territory governments have reached in-principle agreements as to the course of action that will most effectively and efficiently reform the insurance market in Australia, their effect will not be evident in decreased premiums for a number of years. Hence, the government's next challenge is to convince the public to support the reforms now but not expect any direct benefit for some years to come. C T Coyne Partner - Clayton Utz Insurance and Reinsurance Group Brisbane - Queensland - Australia BNEWORKDOCS\13593\