A duty to act ‘rationally’
UK Acorn Finance v Markel (High Court) [2020]
In some cases, a contracting party may be obliged to demonstrate that it has acted ‘rationally’ when taking decisions in relation to contracts
Facts:
A lender (the claimant) brought a claim against professional indemnity insurers (the insurers) of an insolvent surveyor (the insured) under that well-known piece of legislation, the Third Parties (Rights against Insurers) Act 1930. The claimant sought to recover from the insurers in respect of two judgments it had obtained against the insured concerning alleged negligent valuations undertaken by the insured.
The insurers provided the insured with professional indemnity insurance. The terms of the policies contained an unintentional non-disclosure clause (the UND clause), which provided that: "In the event of non-disclosure or misrepresentation of information to us, we will waive our rights to avoid this [insurance] provided that you are able to establish to our satisfaction that such non-disclosure or misrepresentation was innocent and free from any fraudulent conduct or intent to deceive."
Representations made by the insured in risk profile documents submitted as part of the insurance application process were subject to a clause, which warranted their accuracy.
The risk profile documents asked the insured to confirm that all lending institutions for which the insured carried out work were either UK clearing banks or building societies. It later accepted that the answers provided were incorrect, as the claimant was not a UK clearing bank or building society.
The insurer argued that they were entitled to avoid the policies because the insured could not satisfy them that the alleged misrepresentations and non-disclosures relied on were innocent or free from fraudulent conduct or intent to deceive. Having avoided the policies, the insurers argued that the claimant was not entitled to recover from them.
The principal issue for the court was whether the insurers were entitled to take the position that they had.
Decision:
The High Court held that insurers were not entitled to avoid the policies. The court held that, although the clause rendered the insurers (not the court) the ultimate decision makers in relation to whether the insured had been fraudulent, the clause was qualified by a so called ‘Braganza’ duty. Accordingly, the insurers had to act rationally when exercising their discretion and it was held that they had not done so as they had failed to take the right matters into account, including that it was inherently more probable that a misrepresentation had been made innocently or negligently, rather than dishonestly.
The court's role was limited to determining whether the insurers' decision was one that was open to a reasonable decision maker on the basis of the facts and matters that it was entitled to take into account in arriving at its decision. The implication of the duty was necessary since, without it, it would be open to the insurers to make decisions that were arbitrary, capricious or irrational. Terms which confer a discretion on a contracting party which involves making an assessment or choosing from a range of options taking into account the interests of both parties, are qualified by a duty of rationality.
The UND clause was precisely the category of contractual provision likely to be qualified in Braganza terms. The court held that it would be wrong in principle to conclude that the court could substitute its own judgment. The contract conferred the decision-making power on the insurers.
The court held that the insurers were required to prove that they:
- Did not take into account matters that they ought not to take into account and took into account only matters that they ought to have taken into account.
- Did not come to a conclusion that no reasonable decision maker could have reached.
On the facts, the insurers failed to satisfy these requirements. The court concluded that the insurers’ decision to avoid the policies was not a decision that a decision maker was entitled to reach. The decision maker had taken account of factors that should not have been considered and failed to take account of factors that ought to have been considered.
Points to Note:
- Although an insurance case, the principles set out in the judgment have broader implications.
- The court expressed the view that wording which made a contracting party ‘the sole judge’ would be treated in exactly the same way as a contract which used the phrase ‘to our satisfaction’. All such decisions will be subject to a level of scrutiny.
- The duty to act ‘rationally’ is not the same as an obligation to act ‘reasonably. The latter is probably a higher, objective, standard as opposed to a minimum standard.
- Contracting parties must be very careful to ensure that they comply with these principles when taking ‘quasi-judicial’ decisions such as this and that contemporaneous records do not contain statements that could indicate otherwise.
- The degree of active investigation required of the person exercising the discretion or forming an opinion as to relevant facts is not the same as might be expected of a court but those subject to the duty would be well advised to conduct reasonable enquiries and seek explanations in writing.