It would appear “all steam ahead” for the HIH Australian scheme of arrangement. Not all smooth sailing however, despite all the positive publicity. Cobalt had one objection that has largely gone unnoticed. It related to the “Common Liability” provisions in clause 22.4 of the scheme document.

Without going in to too much detail this one small clause would have had the effect of allowing the HIH schemed entity to “piggy back” off commercial settlements made by their co-insurers. In other words the HIH schemed entity would have been able to settle claims at a reduced amount (based on their proportionate share of the policy limit and the average overall settlement of all co-insurers).

Now that Cobalt has been successful in arguing against clause 22.4 and the clause has now been removed, at least two knock on effects are likely:

1. So far as a reinsurer with HIH assumed liabilities is concerned, the status quo of the original reinsurance contract has been restored. They will now not enjoy the windfall gain that might otherwise have arisen had HIH been able to restrict its liability under clause 22.4. Arguably most reinsurers will be debtors rather than creditors so most reinsurers will now not receive the positive benefits that may have arisen had clause 22.4 remained part of the scheme.

2. A reinsurer with both ceded and assumed liabilities (ie. both a debtor and creditor such as Gordian) will be positively impacted if their debtor position is greater than their creditor position. It allows such an entity to recover debts from the HIH liquidated entity at 100 cents in the dollar. In this case a reinsurer will be better off.

Lessons from the decision? Well, a couple of simple ones: make sure the scheme is fair for everyone; and creditors – read the whole scheme documentation carefully!!! One small clause might have a big impact!!

This Feature item appeared in issue 107 of JTW News - July - August 2006

Author: Colin Russell - Cobalt Solutions