Only a handful of personal injury claims will come to the High Court each year. Fewer than 100 claims each year will reach appeal.

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1 18 / FEATURE FEATURE THE FROG IN HOT WATER? AUSTRALIAN TORT TEMPERATURE It is ten years since Tort Law Reform swept across Australia and the post reform honeymoon is definitely over. There is indeed some concern that liability claim costs are increasing while prices remain flat and that the profitability of liability products is being tested. The long-tail nature and diversity of risks for this class leads to difficulty in understanding what the experience is telling us and acts as a deterrent to taking definitive action. On the flip side, if we instead wait for more experience so that we can be more confident about the analysis, then we are at risk of acting too late and only after the problem has become a large one. In this article we look at the Tort Temperature the legal environment which impacts liability personal injury claims and describe a process which can be used to assist in making strategic decisions regarding liability business: the Tort Temperature Scorecard.

2 19 / FEATURE Stephen Lee, Actuary and Senior Consultant at Finity Consulting. Geoff Atkins and Francis Beens, Co-authors What is Tort Temperature for personal injuries litigation? We use the term Tort Temperature to describe the current social and judicial environment, and the influences this has on the cost of claims. In the context of liability business, we look at the Tort Temperature affecting personal injury claims. It is helpful to begin by considering the environment in which personal injury cases operate. We can think of these claims as operating in a market as illustrated in figure 1. When a claim is made by the plaintiff to the defendant, each participant has an expectation of the market price of the claim. For the majority of claims, lawyers have a good idea of what level of compensation to expect based on similar recent cases. These claims will generally settle through negotiation out of court as minor differences in expectations are not worth the expense and risk of litigating the claim. Decisions at this level are rarely public, but the same lawyers in this area work across many claims and will know what is generally happening with settlement costs. Over time the expectations of these lawyers (or the market) can shift. Insurers will see the impact of any shift in the market in their claims costs over time. There are situations in which the expectations of each party differ dramatically. In these cases, the difference is large enough to be irreconcilable and also justify the cost of legal fees needed to initiate court action. Most of these claims will settle before or during the case, while the remainder will be decided by court judgement. The outcomes of any individual case may not raise eyebrows, but over time, will change the expectations in the civil liability claims market. A small proportion of civil liability claims will ultimately end up at the Courts of Appeal, and a handful at the High Court. At this stage, arguments are usually around very specific points of law which may only affect other cases in a limited manner. However, the outcomes have an important influence on the litigation climate. If decisions are consistently pro-plaintiff, then this may mean plaintiffs are more willing to wear the cost of appealing court decisions, and vice-versa. In the context of defining tort temperature, we would say that a hot climate would be one that favoured the plaintiff, either by awarding larger settlements or compensating frivolous claims. A cooler climate would favour the defendants, with settlements amounts under control (or reducing) and fewer claims being successful. Recent High Court decisions do not indicate an increase in the Tort Temperature Over the last three years, we identified seven non-asbestos civil liability cases relating to personal injury that have reached the High Court. The outcomes of these cases are summarised in figure 2. Of the seven liability cases, four favoured the defendant and three favoured the plaintiffs prior to the appeal being lodged. After the appeals, the balance is reversed with three favouring the defendant and four favouring the plantiffs. These outcomes do not imply any particular trend in High Court decisions, i.e. the decisions do not appear to favour plaintiff over defendant, and vice versa. This is in contrast to the 199s when both the circumstances in which negligence would be found to have occurred and the scope of damages recoverable in the event of such a finding were more consistently pro-plaintiff (a long term trend noted by then Chief Justice Spigelman of the NSW Supreme Court in his 22 speech Negligence: The last Outpost of the Welfare State in which he also referenced the recent reversal of that trend. FIG 1. THE TORT MARKET Only a handful of personal injury claims will come to the High Court each year. Fewer than claims each year will reach appeal. a few hundred claims will be finalised by court judgment. The rest will settle before this. High Court Court of Appeals Cases Finalised by Court around 3, personal injury claims are filed in court each year. around 3, liability claims per year enter this market. We estimate around, of these are personal injury claims. Cases Going to Court Civil Liability Claims "Market" Plaintiffs Defendants

3 2 / FEATURE FIG 2. SUMMARY OF HIGH COURT JUDGEMENTS Case Successful Party Circumstances Strong v Woolworths Plaintiff The plaintiff was seriously injured after slipping on a chip near a Woolworths store. Woolworths owed the plaintiff a duty of care, and had failed to clean the area for four hours. Reasonable care would have required Woolworths to clean the area every 15 minutes. The NSW Civil Liability Act supposes the question if Woolworths had cleaned every 15 minutes, would the plaintiff have still suffered the injury? If so, the plaintiff cannot recover. The High Court held the evidence presented could not determine the specific time the chip fell, except that it had fallen sometime in the four hours since the area was last cleaned. Given the four hour window, it had probably been there for at least 15 minutes, so Woolworths failure to clean was a direct cause of the plaintiff s injuries, and the plaintiff could recover. This case demonstrates the importance for defendants, in order to take advantage of the Civil Liability Act, of bringing adequate evidence if an attempt is made to claim the plaintiff would have still been injured even had the defendant not been negligent. Kuhl v Zurich Financial Services Australia Insight Vacations Pty Ltd v Young Plaintiff Plaintiff This case involved the plaintiff using an industrial vacuum hose to clean up concrete. The plaintiff suffered injury while placing his arm into the hose to clear a blockage. The High Court held that the duty of care should encompass the possibility that a worker would be inadvertent at times, and that the manufacturer should have put warnings and an emergency break box on the vacuum hose. This case appears to extend the duty of care that product suppliers owe to employees, to include situations of carelessness on the part of the user. The plaintiff was injured while standing up on a coach during an overseas tour when the coach braked hard. The plaintiff sued Insight, who had organised the tour, for breach of a statutory warranty implied by the then Trade Practices Act. Under section 5N of the NSW Civil Liability Act, a recreational service provider can exclude statutory warranties via a contract. The High Court found that section 5N can only apply for recreational services that are provided in NSW, and not for services provided outside of NSW. The High Court also found that an exclusion clause requiring passengers to wear a seatbelt when occupying a seat did not apply when a passenger had left their seat to retrieve something from their luggage. Tabet v Gett Defendant The plaintiff was a six-year-old girl who suffered from a brain tumour. She was admitted to hospital. A nurse noticed she was suffering particular symptoms and told a doctor. The doctor should have ordered an immediate CT scan, but delayed. Expert evidence suggested there was a forty per cent chance that the delay led to a worse medical outcome, and therefore increased the level of injuries eventually suffered by the plaintiff. The High Court found that while it was possible (with a forty per cent chance) that this delay led to the brain injuries, it was not probable (i.e. more likely than not, or a greater than fifty per cent chance). As such, this case confirms that the law of negligence will not permit an action for recovery when damage can only be characterised as loss of a chance of a better outcome. Wicks v State Rail Authority of New South Wales Adeels Palace Pty Ltd v Moubarak CAL No. 14 Pty Ltd v Motor Accidents Insurance Board Plaintiff Defendant Defendant The plaintiffs were police officers who assisted passengers to escape the wreckage of the Waterfall Train Disaster. Wicks sued the State Rail Authority of NSW for psychological damage as a result of this encounter. The NSW Civil Liability Act requires that, in order to recover for pure psychological injury, a plaintiff must witness, at the scene, victim(s) being killed, injured or put in peril. The High Court held that during the rescue passengers were put in peril, so the police officers could recover for their psychological damage. A shooting occurred following an argument on the dance floor of a hotel. The plaintiff argued that the venue was negligent by failing to provide adequate security to prevent the shooting. The NSW Civil Liability Act requires the plaintiff to prove that the failure of the hotel to engage sufficient security personnel was a necessary cause of the shooting. The High Court held the evidence established that additional security might have prevented the shooting, but was not sufficient to prove that additional security would, on the balance of probabilities, have prevented the shooting. This case demonstrates that the Civil Liability Act will operate to require plaintiffs to bring enough evidence to prove that the defendant s negligence was, on the balance of probabilities, the cause of the injury. A fatal motorbike accident occurred after a patron rode home drunk after drinking at a hotel. The patron had initially left his motorbike keys with the hotelier, but demanded their return at the end of the evening. The plaintiff argued that it was the duty of the hotel to contact the patron s wife so that she could arrange for the patron to get home. The High Court held that there was no duty on the hotelier. Leaving the motorbike keys with the hotelier could not create such a duty, and any such duty would have been incompatible with other legal duties, such as Liquor Licensing Act provisions, that bound the hotelier. This case confirms the duty of hoteliers does not extend to ensuring patrons return home safely.

4 21 / FEATURE Litigation has been more prevalent The number of cases filed in court is another indication of whether or not plaintiff and defendant expectations are consistent or if they are becoming out of kilter. As discussed earlier, most claims settle before litigation commences, because the parties agree on what the market value for a certain level of injury is. Where the parties have an irreconcilable gap between what each considers fair and reasonable, the plaintiff is likely to commence litigation. The figure below shows the number of personal injury matters filed each year in the Victorian County Court. Unfortunately, data such as this is neither timely nor comprehensive; for example, we are not aware of commencement data of this type being publicly available for NSW or Queensland. Before tort reform there were more than seven hundred personal injury claims commencing through the Victorian County Court each year. More than 1, were filed in in anticipation of the tort reforms that took effect in October of that year. Immediately after tort reform, the number of cases being filed dropped dramatically to around two hundred but has been steadily increasing each year reaching over 55 in 29. If filings have continued to increase at the same level then we estimate that in 211 they would have been back to the pre-tort reform levels. We use the term Tort Temperature to describe the current social and judicial environment, and the influences this has on the cost of claims. FIG 3. VICTORIAN COUNTRY COURT Personal Injury Matters Filed 1,2 1, , YOUR A & H SPECIALIST YOU KNOW WE STILL CARE CALL US ON

5 22 / FEATURE Industry statistics show that claim costs are increasing In figures 4 and 5 below, we show the projected frequency, average claim size, and ultimate loss ratio by accident year of public liability policies from the National Claims and Policy Database reports produced by APRA. At the time of writing this article, information to the end of December 2 was available, with the updated reports to the end of December 211 expected to be made available during September 212. The NCPD reports combine personal injury and property damage claims, which is a limitation when we are using them to try to look at the Tort Temperature. However, taking this limitation into account, the NCPD reports (like many individual portfolios) show a flat claim frequency since tort reform but an average claim size which has been increasing by five to ten per cent per annum over the past six years (compared with wage inflation of roughly four per cent per annum over the same period). At the same time, premium rates have been falling or flat. As a result, while in the few years following tort reform loss ratios were under forty per cent, since 26 they have been increasing and are estimated to be in the range of sixty to seventy per cent for the most recent years available. Observations from experts are consistent with the numbers Numbers can only ever go so far in telling the story, and the views and expectations of those involved in the system are also an important part of the picture. The table in figure 6 summarises the key views of a range of experts. FIG 6. Who said it? Claims Managers Lawyers Actuaries Insurers What did they say? Injuries attracting higher benefits Claims managers have reported that even common injuries are attracting much higher settlements. However, each of these claims remains quite small individually and it is not worthwhile for the insurer to appeal. Increased litigation Previously, letters of demand would be received around 18 months following first being notified of the claim, with the aim to settle the claim. This is no longer true and claim managers are now receiving letters of demand much earlier as plaintiffs become increasingly litigious, increasing the costs to the insurer. Differences between states NSW is seen as the problem state, while Victoria has been relatively benign. However, there are inklings that Victoria is starting to be more litigious with personal injury claims. Psychiatric element Damages for psychiatric injury are usually overlaid on top of other settlement costs. The level of damages paid for these injuries has increased notably. Impact of judgements There were claims being settled at higher than expected levels in first instance decisions up to around 29. These higher settlements have led to plaintiffs being more willing to roll the dice by taking matters to court. More recent judgements have come down from these levels as the courts self-correct in line with community expectations of appropriate amounts. Differences between states Generally echo the opinions of claims managers. In addition, the lawyers expressed to us that there is an element of forum shopping due to differences in state legislation on torts, with the differences diverging further over time. Different legislation by state also increases insurer costs, as specialised claims teams are required for each jurisdiction. High Court decisions High Court decisions have been viewed as fair and have brought back decisions by lower courts which expand the scope of torts Superimposed inflation nervousness Actuaries 14 have been concerned with superimposed inflation since around 28. Before this, 35 the feeling was that it was under control. The view is that superimposed inflation will continue at around 12 two to four per cent per annum (adding expected wages inflation gives total claims 3 cost inflation of between six and eight per cent per annum), but it is difficult for actuaries 25 to be comfortable with forecasting at this level. Profitability 8 of the liability class 2 Profits continued to be made on liability classes, and of the actuaries we spoke to, none 6 15 consider this class loss making yet. However, the general view is that the days of super profits are 4 gone and this class is either making target returns or less. SME vs. Corporates 2 5 SMEs have been performing well, and the poorer performance is coming from the bigger corporate end of the market. In addition, SME claims are coming in quicker and there is less uncertainty with costs. Pockets of good performance There remain pockets of good performance. Some insurers we spoke to have loss Claims Frequency Average Claim Size ($ ) ratios well below those we see from the NCPD. Claims Per Thousands Risks Average Claim Size ($ ) FIG 4. FIG 5. Claims Per Thousands Risks Average Claim Size ($ ) Loss Ratio 8% 7% 6% 5% 4% 3% 2% % % Ultimate Loss Ratio 29 2 Claims Frequency Average Claim Size ($ ) Accident Year Sources: APRA NCPD; Finity Analysis Journal 8% Vol / Issue No.5 ss Ratio 7%

6 23 / FEATURE Understanding the likely environment for future claim costs is the focus of every insurer s management and Board. It has implications for many aspects of the insurer s business including strategy, risk management, premium rates and capital. USE OUR EXPERIENCE TO YOUR ADVANTAGE Understanding the Tort Temperature is important for every liability insurer Understanding the likely environment for future claim costs is the focus of every insurer s management and Board. It has implications for many aspects of the insurer s business including strategy, risk management, premium rates and capita as shown in figure 7. For liability claims, this is a major challenge because the business being written today in 212 will produce claims that will not be settled until 216 or 217. The implications of a deteriorating environment are compounded by this delay. The susceptibility of property classes to large catastrophic events is generally well understood by insurance executives, with portfolios and reinsurance arrangements structured to manage the exposures to natural disasters. Concentration risks also exist for liability policies, but are somewhat less transparent than understanding the location of insured properties. For example, while the Tort Temperature remains hot, all liability claims may settle above expectations during this period leading to elevated claim costs for the insurer, analogous to a catastrophe event in property classes. However unlike property classes, after such a catastrophe event a higher watermark is set and will lead to elevated claim costs in future even if the Tort Temperature returns to neutral levels. Property insurers look carefully at their property locations and undertake detailed modelling to understand the susceptibility of their portfolio to weather events. This may impact underwriting strategies as well as pricing decisions. Liability insurers would ideally do something similar, but this is somewhat more difficult. Instead of understanding the weather the focus would shift to gauging the Tort Temperature and estimating its impact on groups of liability claims. While less of a science than modelling property claims, we can still try to measure the temperature across the liability claims market and use this to inform the strategy for liability products. Exceptional consultant service standards together with in-depth knowledge of the insurance industry are what candidates and clients have come to expect from Jo Limbourn at The Brooklyn Group. Specifically within the General Insurance Division, Jo Limbourn has extensive experience (12 years in broking and underwriting and 14 years in GI recruitment) and her deeply ingrained ethical standards underpin her well-earned reputation for: FIG 7. IMPORTANCE OF UNDERSTANDING THE TORT TEMPERATURE Excellence in delivering results Extensive industry knowledge and networks Rapid response without compromising quality Exceptional standards of integrity Dependable, honest and impartial Long-term advice you can always trust No indications from the High Court Ligitation is more prevalent Evidence of claim cost pressures Expert opinions are consistent with experience What we know right now Claims Management Risk Management Insurer Strategy ICAAP Director Duties Premium Rates Reserve Adequacy The Brooklyn Group also specialises in: Life Insurance Banking & Finance Executive Search Commerce Sales and Marketing Accounting & Finance Construction / Engineering Human Resources Information Communication Technology Supply Chain & Procurement The Tort Temperature has implications across many aspects of a liability insurer s operations. Take advantage of our experience today by contacting Jo Limbourn on (2) or or you can jolimbourn@brooklyngroup.com.au SYDNEY MELBOURNE BRISBANE PERTH

7 24 / FEATURE Use a Tort Temperature Scorecard process As demonstrated in this article, there are disparate sources of information on the Tort Temperature and no single conclusive measure of the current environment, let alone the environment that will exist in the future which is what is relevant for business decisions being taken today. Numerical analysis by actuaries estimating Superimposed Inflation (one indication of the level of the Tort Temperature) is often inconclusive and inevitably backward looking. It does not aid in understanding what is driving the costs to increase and the extent that this might continue or gain pace in future. It is difficult for companies to take decisions based on this analysis and there are likely to be competing views within a company. What is needed is an approach to consolidate the information and range of views. Once an agreed view is settled upon, a process for consistent decision making across the organisation can be established to reflect this view. We propose that a Tort temperature score card (TTS) process can be used to achieve this. In the earlier sections of this article, we have shown some of the sources of information that may form inputs into a TTS. The information we have shown is based mainly on public information and is not meant in any way to be exhaustive. Individual companies will have more information based on their own portfolio experience and knowledge sources. The aim of a TTS is to draw all this information together in a coherent way. Using a scale of nil to ten (here a score of five suggests a neutral Tort Temperature) we estimate that the Australian environment is around seven as shown in figure 8. We have highlighted increasing litigation as a particular driver of increasing costs. In practice we would expect the TTS to be undertaken at a far more detailed level, considering the evidence from different jurisdictions and for different types of claims. The process of filling out the TTS must be one that is shared and discussed across a company. In particular it is not something just for the actuaries. The benefits of using a TTS approach arise from the journey as much as the destination. The TTS is a simple tool and designed to involve all stakeholders in its construction, yet is also effective from a communication perspective. Once the organisation comes to a view of the Tort Temperature on its own liability portfolio, it can then be used to inform or influence planning across the insurer, including risk appetite, pricing, and underwriting (along with all the other areas we mentioned earlier). Conclusion Understanding the Tort Temperature has always been challenging, and it is tempting to put it into the too hard basket. However, the tort environment is an important risk factor for insurers writing liability or indemnity policies where claims are often decided by legal action, and in particular those involving bodily injury. The indications are that the Tort Temperature is higher now than it has been over the last decade. How much higher and the implications of this for the future are considerations that should be important to all insurers. In this article, we have suggested that a Tort Temperature Scorecard (TTS) process could be implemented as a way to bring together all the knowledge which resides within and outside a company and to agree on an outlook for the future. The TTS will not give a definitive read on the tort environment, and it is not designed to, but it does give a basis for management to make decisions. The benefits come from having a strong process that incorporates the views of the people across the life cycle of a liability policy, from technical pricing and underwriting, to paying the claims. The tort environment is an important risk factor for insurers writing liability or indemnity policies where claims are often decided by legal action, and in particular those involving bodily injury. FIG 8. Tort temperature Score card for the Australian liability industry Factor Observed trend Impact future underwriting periods? Rationale Likelihood of trend continuing % = Certain % = Won't occur Magnitude of Impacts = Detrimental impact 5 = No impact = Beneficial impact Claim Frequency Impacts Reported claim numbers Flat Yes No evidence to suggest reported claim numbers will increase. 75% 5 Social Attitudes Policy terms/wordings Limited impact observed so far No changes impacting on claim frequencies Potentially General view that we are becoming a more litigious society. 25% 6 Yes Unlikely to change in the near future. 9% 5 External claim drivers (e.g. Economic Factors) Recent economic slump Maybe Reduced economic activity might reduce claim frequency. 25% 4 Claim Frequency Score 5 Claim Severity Impacts Claims going to litigation Steadily increasing, leading to higher expenses (and maybe settlements) Yes Steady trend observed. Lawyers are advertising more. 8% 8 High Watermark cases (Large Claims) Amaca vs King set a new personal injury benchmark Possible Only one case to go on at this stage. Uncertain if the trend will be picked up in NSW. 25% 8 Court decisions Recent court decisions have backed off slightly Possible Lawyers attribute this to new judges being appointed. 5% 4 Legislative changes No recent talk of additional reform Yes Not a key political topic at this moment. Lack of 'political will' likely to continue, adding to the Tort Temp. 75% 7 Policy terms/wordings No changes impacting on claim severity Yes Unlikely to change in the near future. 9% 5 Claim Severity Score 7 Expected Tort Temperature (= Hot; 5 = Neutral; = Cold) 7