English court upholds WELCAR exclusion defence

Clyde & Co represented the successful defendant insurer in a significant English court judgment in an offshore energy construction insurance claim which has highlighted the importance of considering business common sense in construing exclusion clauses and has provided clear guidance on the parameters for assessing the reasonableness of damages claimed under a liability policy.

The Court has handed down judgment in the case of Technip Saudi Arabia Limited v The Mediterranean and Gulf Cooperative Insurance and Reinsurance Company (“MedGulf”) [2023] EWHC 1859 (Comm) dismissing a US$31m claim under the liability section of an offshore construction all risks insurance policy on the pre-eminent policy wording in use in the energy market.

MedGulf succeeded in establishing that the claimant’s claim was excluded by the Damage to Existing Property (“DTEP”) exclusion in WELCAR section II and, importantly, did not fall within the scope of the DTEP buyback. There have been a number of disputes in the energy insurance market in the last decade regarding the interpretation of the DTEP exclusion and buyback but, until now, none of these cases have been determined by a court.

The judgment in this case is a clear example of how, in addition to the words on the page, the English court takes into consideration the context and purpose of a particular policy wording in order to construe contractual terms in a way that is most consistent with business common sense.

The level of damages claimed became irrelevant due to the court’s finding on coverage. Nevertheless, the judgment sets out some important principles for the assessment of damages claimed under a liability policy following a settlement with a third party claimant. The quantum dispute in this particular case centred around MedGulf’s argument that the settlement was inflated which was attributable to the fact that the relevant property repairs had not in fact been carried out thereby creating ambiguity regarding the hypothetical cost of repair.

Facts of the loss

The claim related to an allision in 2015 between a vessel chartered by the insured, Technip, to carry out certain offshore construction works in the Khafji oilfield, offshore Saudi Arabia, with an existing wellhead platform in the vicinity of the project works which was owned by the field operator, KJO.

Technip reached a settlement with KJO, as owner of the platform, in the sum of US$25m and claimed that sum plus US$6m of various other alleged losses under its offshore construction all risks insurance. Technip’s primary claim was pursued under Section II of the policy, the section providing liability cover (Technip had also pursued the claim in the alternative under Section I, the physical damage section, but dropped that claim in the middle of trial). Technip and KJO were both named as “Principal Insureds” under the policy.

The dispute

The insurer, MedGulf, had declined cover under Section II on the primary basis that Technip’s liability in respect of the platform was excluded by limb 1 of the policy’s DTEP endorsement, which excluded damage to existing property in the field owned by “the Principal Insured”, in this case, damage to the platform owned by KJO. The DTEP endorsement provides an option for this policy wording to be bought back by scheduling the relevant property but the platform which was the subject of its claim had not been scheduled in the DTEP buyback.

Technip argued that limb 1 only applied to existing property owned by the principal insured making the claim. Technip asserted that, where there are multiple insureds under a policy, the principle is that the policy is treated as a composite bundle of policies issued to each individual insured. Technip sought to apply that principle in the construction of the DTEP exclusion to argue that, for a claim under limb 1 brought by Technip as principal insured, the existing property capable of being excluded is only the property owned by Technip, not existing property owned by a different principal insured.

The Court rejected Technip’s argument. It found that “the exclusion applies to any property owned by any of the Principal Assureds. The language of the exclusion can naturally be read as excluding damage to any such property. The exclusion is, as Medgulf submitted, concerned with the identity and nature of the property, and not with which insured party has suffered a loss in respect of it.” The judge confirmed that the composite nature of the policy does not change what property falls within the scope of the exclusion and he concluded by saying that he was “unpersuaded by all of Technip’s points”.

In the alternative to MedGulf’s primary reliance on limb 1 of the DTEP exclusion, MedGulf ran several alternative coverage defences on which it was unsuccessful.

Relevance of factual matrix to contractual interpretation

It is established case law that an insurance policy, like any other contract, must be interpreted objectively by asking what a reasonable person, with all the background knowledge which would reasonably have been available to the parties when they entered into the contract, would have understood the language of the contract to mean. If there are two possible constructions, the court is entitled to prefer the construction which is consistent with business common sense and this can involve a process whereby each suggested interpretation is checked against the provisions of the contract and its commercial consequences are investigated.

The judgment in this matter is a clear example of how these legal principles operate in practice. In reaching his decision, the judge had in mind that the policy is a widely used standard-form wording in the energy insurance market and he took into account broad commercial factors including the purpose of the policy in the industry, the language of the endorsement in the context of the policy as a whole, the rationale behind the cover being structured in the way that it is, and the commercial consequences of the parties’ rival constructions:

• The judge considered that all potentially relevant “existing property” would likely be owned by KJO, as operator of the field and noted that this conclusion was consistent with the property for which cover was bought back in the schedule (which was all owned by KJO).
• The judge noted that there was a significant liability risk that Technip, or those for whom it was responsible, would cause damage to the property of third parties (in particular, KJO, whose property was in the vicinity of the project) in the course of carrying out the contract works and therefore the parties would have been concerned to deal with the risk that KJO’s property would be damaged by one of the other insureds.
• The judge took into account the fact that, when the policy was placed, Technip had been asked by its brokers to identify the third-party property that was in the vicinity of the contract works. Technip subsequently provided details of certain KJO property to be scheduled, the value of that property, the nature of the potential damage and the potential maximum risk, the clear inference being that it was understood that in the absence of it being scheduled, it would be caught by the exclusion. 
• Technip’s construction of the exclusion clause produced the odd result that existing property would be subject to the exclusion if the claim is made by one insured but not subject to the exclusion if made by another insured.
• In response to Technip’s examples of scenarios where a principal insured could be liable to itself (which is the only way that limb 1 of the DTEP endorsement would bite on Technip’s construction), the judge said that these scenarios were “a very long way from the subject-matter of this insurance, and the real risks associated with the carrying out of the Project”.

The judge concluded that a reasonable person with the relevant knowledge would have understood the policy to mean simply that if damage was caused to existing property owned by any principal insured, there would be cover for that property if it was identified in the schedule of existing property (i.e. cover had been bought back for that particular property) but if it was not identified, then the exclusion would operate.

The judge said that “the straightforward reading of the clause advanced by Medgulf, which I accept, makes commercial sense, is supported by the factual matrix and is more consistent with the endorsement as a whole". In contrast, Technip’s construction produces a “complex and rather odd result” and would give rise to a “number of other surprising uncommercial consequences” and “illogical effect[s]”, for which there is no linguistic support. Furthermore, the judge commented that MedGulf’s interpretation “gives a very sensible reason why there was a Buy-Back” whereas Technip’s construction “makes no commercial sense” and “pays no regard to the context in which the Policy was placed”.

Coverage under DTEP endorsement for an insured’s liability in respect of its own property

A market issue that has arisen in the past but has never been litigated concerns whether there is cover under the DTEP endorsement for damage to existing scheduled property owned by the principal insured which has been damaged by a third party but for which the third party is not liable by virtue of a hold harmless clause. It is a point of contention between insurers and insureds whether the DTEP endorsement provides cover in such a scenario as it would have the effect of converting cover under WELCAR Section II, which is liability cover, into first-party property insurance.

The facts of the present case did not require the court to consider whether such a liability would be covered under WELCAR Section II and so this specific market issue remains unresolved.

Quantum: calculating the reasonable cost of repair for an unrepaired damage claim

The court confirmed that demonstrating that a settlement with a third party was broadly reasonable is not in itself sufficient to establish the extent of the recoverable loss under a liability policy. The insured has to prove (a) that it was liable to the third party; and (b) that it would have been liable for at least the amount of the settlement had the third-party claim been litigated instead.

In terms of calculating the insured’s liability, an issue that arose in this case was how the court should calculate the hypothetical cost of repair where the damage in question was never repaired.

The court confirmed that it must, with the assistance of the expert evidence, undertake a ground up assessment of what the repair would have cost in order to produce a figure; it is not acceptable to come up with a range of figures for the reasonable cost of repair and then for an insured to recover a figure somewhere within that range. In other words, the settlement of US$25m between Technip and KJO could only operate as a cap on the amount that Technip would be entitled to claim as the reasonable cost of repair. It did not operate as evidence of the reasonable cost of repair.  

In light of his finding on liability, the judge did not need to determine the quantum of Technip’s claim, however, he did so in case his judgment was appealed. Following a careful examination of the expert evidence submitted on behalf of both parties, the judge concluded that the recoverable loss would have been US$10.38m (against Technip’s total claim of US$31m), which was in line with MedGulf’s appointed quantum expert’s assessment of the repair costs.

In view of the wide market usage of the WELCAR policy wording and therefore the importance of its interpretation, the judge has granted Technip permission to appeal in relation to the proper construction of limb 1 of the DTEP endorsement. 

Please click here for the judgment.

Clyde & Co acted in this matter for MedGulf, led by Angela Flaherty and assisted by Abigail Li, Alice Hodgson and William Oakhill.