Runoff deals gone bad spark complex legal war
Berkshire Hathaway unit sues hedge fund
By Douglas Mcleod
March 12, 2008
NEW YORK--Ten years ago, Greenwich Street Capital Partners II L.P. saw an opportunity in running off solvent U.S. insurers: The New Jersey hedge fund acquired two such insurers in partnership with runoff manager Cavell USA Inc., backed by $590 million in loss portfolio reinsurance from Berkshire Hathaway Inc.'s National Indemnity Co.
A decade later, the deals have gone sour, prompting a widening legal war over control of the two insurers.
National Indemnity now is suing GSC and Bermuda-based Enstar Group Ltd., a runoff firm that replaced Cavell, charging that they improperly tried to take over handling claims for the insurers, Seaton Insurance Co. and Stonewall Insurance Co.
The suit follows a National Indemnity complaint last month to block arbitration demands by the two insurers, which are seeking to rescind the reinsurance coverage. Seaton and Stonewall--former subsidiaries of John Hancock Financial Services and American Financial Group Inc., respectively--lost similar arbitration cases last year.
Meanwhile, Seaton and Stonewall are suing former manager Cavell, alleging fraud and charging that Cavell abdicated its claims servicing duties to National Indemnity, damaging the value of the two insurers. Cavell has filed a motion to dismiss the suit on jurisdictional grounds, and has filed its own complaint against the two insurers in a U.K. court.
As the disputes escalate, National Indemnity continues to control claim payments by Seaton and Stonewall despite the current runoff management agreement between the insurers and Enstar. Enstar also has an application pending before insurance regulators in Rhode Island--where the two insurers are domiciled--to acquire 44.4% of Seaton and Stonewall. A decision on the application is expected shortly.
Lawyers for National Indemnity and GSC declined to comment on the litigation. Representatives of Enstar could not be reached.
Ken Randall, chairman and chief executive officer of Cavell parent Randall & Quilter Investment Holdings P.L.C. in London, called the charges "nonsense" and said that both he and Cavell "strenuously deny what is alleged."
Seaton, formerly known as Unigard Security Insurance Co., and Stonewall wrote insurance and reinsurance and were heavily exposed to asbestos and pollution losses; both ceased all underwriting by the 1990s.
Seaton last year reported incurred losses that will exhaust its $350 million limit with National Indemnity, while Stonewall has ceded $135.9 million under its $240 million cover, leaving it $104.1 million for future claims, according to the insurers' 2007 financial statements. Seaton's surplus dropped $14.9 million last year to $25.1 million at year-end, while Stonewall's rose slightly to $59.3 million.
The prospects for the runoff business must have looked brighter in the 1990s, when GSC, a hedge fund affiliate of GSC Capital Corp. of Florham Park, N.J., decided to invest. In 1996, GSC formed an affiliate, Dukes Place Holdings L.P., to acquire runoff insurers, and teamed with Cavell to manage the acquired companies.
Dukes Place bought Seaton in 1998 and Stonewall in 2000.
By 2006, though, relations among the parties were breaking down: Dukes Place terminated its contracts with Cavell and hired Enstar as runoff manager, and National Indemnity filed arbitration demands against the two insurers.
The Berkshire unit asked arbitrators to affirm its right to manage the insurers' claims, while Seaton and Stonewall sought to rescind the National Indemnity treaties and take over claims servicing themselves.
While details of the arbitrations are confidential, the two insurers have contended in financial and court filings that aggressive policy buy-backs and reinsurance commutations would have reduced their liabilities and improved their financial condition. National Indemnity has failed to take these steps, and has impeded Enstar from doing so, in order to hold on to the two insurers' premiums for as long as possible, Seaton and Stonewall have alleged.
Last September, separate arbitration panels ruled against the insurers, denying their recision demands and affirming National Indemnity's role as claims servicer.
Seaton and Stonewall, though, filed new arbitration demands this year, again seeking recision. National Indemnity responded last month with a suit seeking to enjoin new arbitration and arguing that the issues have already been resolved.
Within days, the Berkshire unit also filed a suit in U.S. District Court in New York charging GSC, Dukes Place, Enstar and several affiliated entities with plotting to end National Indemnity's role with Seaton and Stonewall so that the two insurers can be sold.
The complaint notes that National Indemnity's contracts allow it to take over claims servicing if ownership of the insurers changes. In 2005--before the arbitration rulings and while Cavell was still runoff manager--GSC started negotiations to sell the two insurers to a processor company of Enstar. GSC and Enstar realized that the National Indemnity contracts would prevent Enstar from assuming control of claims after the sale, though, and the two companies then launched efforts to coerce National Indemnity to give up its contractual rights, the lawsuit alleges.
Those efforts included making false allegations to Rhode Island regulators and arbitration panels that National Indemnity was mishandling claims, the complaint charges.
GSC and Enstar have not yet responded to the Berkshire unit's suit, which seeks damages for alleged breaches of contract and fiduciary duty.
Meanwhile, after the arbitration rulings last year, Seaton and Stonewall filed a fraud lawsuit in New York federal court against Cavell and Mr. Randall.
The suit charges that Cavell secretly entered a "collaboration agreement" with National Indemnity, ceding all claims management authority to the reinsurer and undermining the two insurers' interests in quick resolution of their liabilities.
The suit seeks the return of $27 million in management fees paid to Cavell, along with unspecified damages for the alleged reduction of the two insurers' value and $75 million in punitive damages.
Cavell, meanwhile, is suing the two insurers in the United Kingdom for breaching an agreement that terminated Cavell's management contracts with Dukes Place, Mr. Randall said.
Under that agreement, Seaton and Stonewall released Cavell from claims related to the runoff except those based on fraud. The charges in the insurers' suit do not amount to fraud, though, and the suit thus violates the terms of Cavell's agreement, Mr. Randall said.
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