PI Insurance: Mitigation Costs And Dominant Purpose

Standard Life Assurance Ltd v Ace European Ltd & Ors [2012]1 Commercial Court 1 February 2012

This dispute arose under a professional indemnity policy issued by the Defendant insurers to the Claimant, Standard Life ("SLAL"). The claim concerned the operation of one of SLAL's pension funds, which had been marketed as a temporary home for short term investment, and described as being invested in cash, though by 2007 the fund's assets included a substantial proportion of asset backed securities. Following the failure of Lehman Brothers in September 2008, trades in the underlying securities came to a halt, rendering the fund illiquid and increasingly difficult to value.

In January 2009, SLAL took the decision to switch to a different valuation model, resulting in a one-off one-day fall in value of units in the fund of around 4.8%. This generated a mass of complaints and claims from customers, and severe pressure from the Financial Services Authority.

Standard Life's research suggested that some 64%, by value, of customers invested in the fund would have valid claims for mis-selling, equating to an exposure of £124 million, on the assumption that 100% of those entitled to claim would in fact do so. The company considered setting up a claims process and inviting claims to be met on a case by case basis. However, it subsequently decided that a better option was to restore the one-day 4.8% fall in the fund by means of a cash injection into the fund of just under £82 million. It also made payments totalling nearly £25 million to customers who had left the fund since the price reduction to compensate them for the 4.8% fall. Arguably, this solution produced a "windfall" for those investors who it was felt, at least by some, did not have a valid claim.

Having made these payments, SLAL sought an indemnity under the PI policy, on the grounds that the payments constituted "Mitigation Costs", defined under the policy as follows:

"...any payment of loss, costs or expenses reasonably and necessarily incurred by the assured in taking action to avoid a third party claim or to reduce a third party claim (or to avoid or reduce a third party claim which may arise from a fact, circumstance or event) of a type which would have been covered under this Policy..."

Insurers denied liability. Their main arguments were as follows:

that the payments were not incurred for the purposes of avoiding or reducing claims. Rather, their dominant purpose was to avoid or reduce...