RESERVE BANK OF NEW ZEALAND v CBL INSURANCE LTD (NO 3) [2018] NZHC 2969

RESERVE BANK OF NEW ZEALAND v CBL INSURANCE LTD (NO 3) [2018] NZHC 2969 [16 November2018]IN THE HIGH COURT OF NEW ZEALANDAUCKLAND REGISTRYI TE KŌTI MATUA O AOTEAROATĀMAKI MAKAURAU ROHECIV-2018-404-000306[2018] NZHC 2969UNDER Part 4 of the Insurance (PrudentialSupervision) Act 2010 and Part 16 of theCompanies Act 1993IN THE MATTER OF an application to appoint liquidators to thedefendant companyBETWEEN RESERVE BANK OF NEW ZEALANDPlaintiffAND CBL INSURANCE LIMITEDDefendantHearing: 12 November 2018Appearances: N S G Gedye QC and S A Barker for Reserve BankJ S Cooper QC and A E Murray for Interim LiquidatorsA S R Ross QC and J E M Lethbridge for Elite InsuranceM Kersey for LBC HoldingsJ A MacGillivray for AlphaD A Salmon and J P Cundy for CBLIH L Quinlan for Supporting CreditorJudgment: 16 November 2018JUDGMENT OF COURTNEY JThis judgment was delivered by Justice Courtneyon 16 November 2018 at 2.30 pmpursuant to R 11.5 of the High Court RulesRegistrar / Deputy RegistrarDate.Introduction[1] On 12 November 2018, I made an order placing CBL Insurance Ltd (in interimliquidation) (CBLI) in liquidation. The liquidation application had been made by theReserve Bank of New Zealand (the Bank) in its capacity as regulator under s 151(2)of the Insurance (Prudential Supervision) Act 2010 (IPSA). This was the first suchapplication decided under s 151(2). For that reason, and because of the high level ofpublic interest in the demise of CBLI, it is appropriate to give reasons for my decision.[2] The liquidation application proceeded unopposed and with the active supportof CBLI's largest creditor, Elite Insurance Company Ltd (Elite). However, that stateof affairs only came about on the morning of the hearing. Since the appointment ofInterim Liquidators, in February 2018 there had been strenuous efforts to opposeliquidation. The company (represented by two of its directors, Peter Harris and AlistairHutchison) and its shareholder, LBC Holdings Ltd (administrators appointed) (LBC),had maintained that voluntary administration pursuant to a Deed of CompanyArrangement (DoCA) would be preferable to liquidation. LBC withdrew itsopposition two days before the hearing and CBLI and the directors only withdrew theiropposition on the morning of the hearing.[3] Two other creditors appeared. Alpha Insurance A/S (in bankruptcy), CBLI'ssecond largest creditor appeared and abided the Court's decision. Curmi and PartnersLtd appeared and abided the decision of the Court.[4] The Interim Liquidators also appeared, to assist the Court. They abided thedecision.The statutory context: the Insurance (Prudential Supervision) Act 2010[5] The IPSA came into force in 2010. Its purposes are to promote the maintenanceof a sound and efficient insurance sector and to promote public confidence in theinsurance sector.1 To those ends, the IPSA establishes a licencing system for insurersand imposes prudential requirements. The Bank is responsible for compliance with1 Insurance (Prudential Supervision) Act 2010, s 3(2).those requirements and has certain powers in respect of insurers that are in financialdistress or which have breached their prudential requirements.2[6] Section 4 of the IPSA identifies a number of principles that the Bank must takeinto account in carrying out its statutory functions and exercising the powers conferredon it by the IPSA. Relevantly, they include:(b) The importance of maintaining the sustainability of the New Zealandinsurance market.(c) The importance of dealing with an insurer in financial distress or otherdifficulties in a manner that aims to –(i) adequately protect the interests of its policy holders and thepublic interest; and(i) Desirability of sound governance of insurers.[7] Section 151 of the IPSA permits the Bank to apply for an order that a licensedinsurer be placed in liquidation. That section provides:(1) The Bank may, in the case of a licensed insurer that may be put intoliquidation under or in accordance with the Companies Act 1993, apply to theHigh Court to appoint a liquidator for the insurer.(2) The High Court may, on an application under subsection (1), appointa liquidator for the licensed insurer if it is satisfied that –(a) the insurer is unable to pay its debts (and, for that purpose, section 287of the Companies Act 1993 applies with all necessary modificationswhether or not the insurer is a company); or(b) the insurer is failing to maintain a solvency margin; or(c) the insurer has persistently or seriously failed to comply with anydirection, condition, or other requirement imposed by or under thisAct or the regulations; or(d) it is just and equitable that the insurer be put into liquidation.[8] The Bank does not assert that CBLI is unable to pay its debts as they fall due.Its application was brought under s 151(2)(b), (c) and (d), asserting that:2 Insurance (Prudential Supervision) Act 2010, s 3(2).(a) CBLI was in breach of its required solvency margin;(b) CBLI had seriously failed to comply with directions given by the Bankin 2017 and early 2108;(c) it was just and equitable to wind CBLI up because it was balance sheetinsolvent and because of impropriety by the directors.Background[9] CBLI is part of the wider CBL group. It is a subsidiary of LBC, which is, inturn, owned by CBL Corporation Ltd (New Zealand) (CBL Corp). CBL Corp is listedon the NZX and ASX. CBLI is the group's largest operating entity. It is a licensedinsurer in New Zealand, though almost all its business is written overseas; onlyapproximately one per cent of its business (by premium) relates to New Zealand risks.[10] CBLI was heavily exposed as a reinsurer to builders' warranty insurancewritten in France. Such insurance, which is compulsory, protects both builders andhome owners in respect of construction defects. It is regarded as long-tail because thestatutory claims notification period extends for 10 years. Elite, an insurer based inGibraltar, ceded some 80 per cent of the French construction policies it wrote to CBLIunder a quota share arrangement. Alpha also underwrote these risks and cededapproximately 90 per cent of them to CBLI. Elite and Alpha between them representsome 80 per cent of the CBLI's outstanding claims liability. CBLI also acceptedcessions of these risks from CBLI Europe Ltd (CBLIE), another company in the CBLgroup. The French business had grown significantly since 2006. Gross written premiafor these products increased from $1 million in 2006 to $38 million in 2011 to $130million in 2016.[11] During 2016 there was ongoing engagement between the Bank, CBLI and thecompany's appointed actuary, PwC NZ. The Bank had concerns about CBLI's rapidbusiness expansion, reserving strategy and adequacy of reserves. These concernsintensified with events affecting the ceding insurers. By early 2017, Elite's regulator,the Financial Services Commission of Gibraltar (FSCG) was concerned about aspectsof Elite's business, including the adequacy of reserving for the French insurancebusiness and its exposure to CBLI. It required Elite to cease issuing and renewingpolicies. In July 2017, Alpha's regulator, the Danish Financial Supervisory Authority,required Alpha to substantially increase its claims provision as a result of concernsabout the company's exposure to the French construction business reinsured by CBLI.Further, CBLI's sister company, CBLI Europe Ltd (CBLIE) was required by itsregulator, the Central Bank of Ireland, to strengthen its balance sheet, which led toCBLIE withholding reinsurance premia from CBLI.[12] The Bank was sufficiently concerned to write to CBLI on 25 July 2017recording its belief that it had reasonable grounds to conclude that CBLI may not becarrying on its business in a prudent manner and invoking its power under s 130 of theIPSA to initiate an investigation. It gave directions requiring CBLI not to enter intoany transaction or transactions that would have the effect of increasing its exposure toElite and required it to maintain a solvency ratio of 170 per cent.[13] The liquidation application arose from the events that followed.The liquidation applicationSolvency margin[14] Under s 55 of the IPSA, the Bank may issue solvency standards. Suchstandards may be general or specific3 and may prescribe the minimum amount ofcapital that an insurer must hold and maintain and the methods for calculating thatamount of capital.4 A licensed insurer may also be required to maintain a minimumsolvency margin (a prescribed dollar amount) or a minimum solvency ratio (apercentage buffer) in accordance with the applicable solvency standard.5[15] A licensed non-life insurer, which CBLI was, is also required to submitsolvency returns to the Bank on a half-yearly basis.6 If a licensed insurer hasreasonable grounds to believe that a failure to maintain the solvency ratio is likely tooccur at any time within the following three years, it must report that likely failure to3 Section 55(3).4 Section 56.5 Insurance (Prudential Supervision) Act 2010, s 21(b).6 Solvency Standard for Non-Life Business 2014, s 4.2 and Insurance (Prudential Supervision) Act2010, s 81(1) and (2).the Bank as soon as reasonably practicable.7 A licensed insurer must also have anactuary appointed by the insurer.8[16] In November 2017, CBLI and its appointed actuary advised the Bank that thecompany was likely to breach its solvency ratio at 31 December 2017. Given thatdevelopment and in light of breaches of directions given by the Bank (to which I comeshortly) the Bank applied in February 2018 to have interim liquidators appointed. TheInsurer Solvency Return filed in March 2018 showed the solvency ratio as atDecember 2017, at 25 per cent.[17] The seriousness of the breach and the circumstances in which it arose wereacknowledged by CBLI and were such that it would, in itself, have justified windingup. However, I also considered the other grounds on which the Bank relied and go onto consider them as well.Serious breach of Bank's directions[18] On 22 November 2017, the Bank issued a modified direction requiring CBLIto consult with the Bank before entering any transaction or series of relatedtransactions that involved the payment or transfer of assets of $5 million or greater.That direction was further modified in late January 2018 to clarify the consultationrequirement so that the direction required that:CBL Insurance Ltd must prior to entering any transaction or series of relatedtransactions involving payment or transfer of assets of NZ$5 million or greaterconsult with the Reserve Bank about its circumstances and about thetransaction or any other actions or proposed actions it intends to take inresolving its difficulties. Consult means – providing the Reserve Bank withsufficient information for the Reserve Bank to form an informed view on theproposed transaction, receiving feedback from the Reserve Bank, and havingregard to that feedback before entering a transaction.[19] In early February 2018, a trading halt was ordered on CBL Corp's sharespending an announcement on its financial result for the 2017 year which included aforecast loss of NZ$75 – 85 million after tax. This situation was attributed largely tothe need to increase its reserve for the French construction business by approximately7 Insurance (Prudential Supervision) Act 2010, s 24.8 Insurance (Prudential Supervision) Act 2010, s 76.$100 million. However, just over a week later, CBL Corp announced its withdrawalfrom the French construction business.[20] At the same time, the Bank became aware of CBLI's intention to make apayment of €25 million to Alpha in relation to reinsurance claims. The Bank instructedCBLI verbally, on 11 February 2018, not to make the payment. The verbal instructionwas followed by written directions on 12 February 2018 that:CBL Insurance Ltd must not without the prior written permission of theReserve Bank enter into any other transaction or series of related transactionsinvolving payment or transfer of assets of NZ$1 million or greater to AlphaInsurance A/S or any other companies in the Alpha Insurance group. For theavoidance of doubt this includes any backdated transaction.[21] CBLI wrote to the Bank on 15 February 2018 expressing its very seriousconcerns about the consequences of not making the €25 million payment to Alpha andasking the Bank to reconsider its decision. The Bank responded the following day,refusing to agree to the payments being made. Nevertheless, between 8 and 20February 2018, CBLI made six payments that totalled approximately NZ$55 million.These included a payment of €25 million to Alpha.[22] In his affidavit sworn on 23 May 2018, Mr Harris acknowledged that CBLIhad made the payments. His explanation for doing so was simply that "there wereimportant commercial reasons for the payments and I consider it was in the interestsof CBLI to make them".[23] Given the clarity of the Bank's directions regarding such payments and thecircumstances in which they were made, there can be no doubt that there was a seriousfailure to comply with the directions.The just and equitable ground[24] The just and equitable ground, although typically relied on in the context ofwinding up under the Companies Act 1993 in cases involving disputes betweenshareholders, is not limited to such cases. In Baird v Lees, Lord President Clydedeclined to attempt a definition of the circumstances that might amount to a just andequitable cause but said:99 Baird v Lees 1924 SC 83 at 90.A shareholder puts his money into a company on certain condition. The firstof them is that the business in which he invests shall be limited to certaindefinite object. The second is that it shall be carried on by certain personselected in a specified way. And the third is that the business shall be conductedin accordance with certain principles of commercial administration defined in[the relevant statute] which provide some guarantee of commercial probityand efficiency.(emphasis added)[25] The Privy Council adopted those observations in Loch v John Blackwood Ltd:10Such a consideration, in their Lordships' view, ought to proceed upon a soundinduction of all the facts of the case, and should not exclude, but shouldinclude circumstances which bear upon the problem of continuing or stoppingcourses of conduct which substantially impair those rights and protections towhich shareholders, both under statute and contract, are entitled. It isundoubtedly true that at the foundation of applications for winding up on the"just and equitable" rule there must lie a justifiable lack of confidence in theconduct and management of the company's affairs. But this lack of confidencemust be grounded on conduct of the directors, not in regard to their private lifeor affairs, but in regard to the company's business. Furthermore, the lack ofconfidence must spring not from dissatisfaction at being out-voted on thebusiness affairs or on what is called the domestic policy of the company. Onthe other hand, wherever the lack of confidence is rested on a lack of probityin the conduct of the company's affairs, then the former is justified by the latter,and it is under the statute just and equitable that the company be wound up.(emphasis added)[26] It is evident from these cases that conduct amounting to a lack of probity suchas to warrant winding up on the just and equitable ground need not involve illegality.The question for the Court is whether the justice and the equity of the case requiresthat outcome.11 Matters of illegality are, self-evidently, for another forum.[27] Where a liquidation application is brought by the Bank as regulator under theIPSA, the considerations just described must be viewed with the purposes andprinciples of the IPSA in mind. The Bank's concern is not limited to the interests ofpolicy holders but takes in the broader objective of maintaining a sound and efficientinsurance sector and promoting public confidence in the insurance sector. Animportant aspect of that, which it is required specifically to take into account, is thesound governance of insurers.10 Loch v John Blackwood Ltd [1924] AC 783 at 788, cited in Re Livestock Investments Ltd SupremeCourt Auckland M525/77, 18 December 1978 in relation to an application by the Registrar ofCompanies under s 219 of the Companies Act 1955.11 Secretary of State for Business Innovation and Skills v PAG Management Services Ltd [2015]EWHC 2402 (Ch).[28] Importantly, these considerations apply even in relation to insurers that seek tobe licenced in New Zealand while writing most or even all of their business overseas.In its report to the Finance and Expenditure Committee on the Insurance (PrudentialSupervision) Bill dated 22 February 2010, the Bank noted the importance of itscommitment to international co-operation in relation to the regulation of multi-national corporations and the need to not undermine that position. That meansensuring that off-shore regulators are not undermined and New Zealand does notbecome a haven for offshore insurers by being perceived as a "softer" regulatoryjurisdiction.[29] The two aspects relied on by the Bank in asserting that it was just and equitableto wind CBLI up were first, that CBLI was "balance sheet insolvent" and, secondly,misconduct in the management of the company.[30] The company's financial position would not have brought the case withins 151(2)(a), which requires the company not to be able to pay its debts (cashflowinsolvency). But the Bank submitted that, in the context of an insurance company thetest of cashflow insolvency is of limited use; an immediate cashflow shortage is rarelythe reason for an insurer's insolvency and an insurer that is able to meet its day-to-daydebts immediately may nevertheless be insolvent. The Bank asserted, however, thatCBLI's liabilities substantially exceeded its assets, so that it was balance sheetinsolvent, which was significant given that its largest exposure lies in future long-tailclaims.[31] Mr Gedye submitted that the importance of balance sheet insolvency riskedthose whose claims arose in the near future being paid in full at the expense of thosewhose claims arose in the more distant future, a point also made in InsuranceCommissioner v Associated Dominions Assurance Society Pty Ltd.12 In ASIC vBilkurra Investments Pty Ltd, Beach J accepted that balance insolvency could be takeninto account in considering the just and equitable ground.13[32] I accepted that the balance sheet position was a matter that could be taken intoaccount in considering this aspect of the Bank's application. The state of CBLI's12 Insurance Commissioner v Associated Dominions Assurance Society Pty Ltd (1953) 89 CLR 89.See also New Cap Reinsurance Corporation v A E Grant [2008 NSWSC 1015 at [74].13 ASIC v Bilkurra Inveatments Pty Ltd [2016] FCA 371.balance sheet was the subject of considerable debate over the last several months.Finity, the actuary engaged by the Interim Liquidators, considered that CBLI'sliabilities exceeded its assets by NZ$98.4 million as at 31 December 2017. In anaffidavit sworn by one of the Interim Liquidators, Ms Johnstone, on 9 November 2018,an updated balance sheet based on Finity's figures showed that, as at 30 June 2018,CBLI's liabilities exceeded its assets by between $122,813,064 and $274,815,430. Itis notable that, although Finity's figures have always been rejected by CBLI in favourof the lower PwC figures, the appointed actuary has never provided evidence tosupport that assertion.[33] I proceeded on the basis that there is a significant deficit in CBLI's assetposition. For an insurer facing substantial long-tail exposure this is a matter of seriousconcern. The evidence suggested a state of affairs in which the company would beunable to meet its medium to long-term obligations. Those obligations were verysignificant and would require immediate and competent management. The positionwas so serious that I would have considered this ground made out without goingfurther. But the allegations of misconduct by the directors, on which the Bank alsorelied, put the matter beyond doubt.[34] The Bank filed extensive evidence on this aspect, which I had considered priorto the hearing. In oral submissions, Mr Gedye focused on five transactions which theBank said showed a level of serious misconduct and impropriety that justified windingup on the just and equitable ground. For present purposes, I think it necessary to referto only three of these.[35] The first relates to €12.5 million (approximately NZ$20 million) shown inCBLI records, including its insolvency returns to the Bank, as being a deposit with theNational Bank of Samoa (NBS). When the Interim Liquidators requested repaymentof the deposit they were advised that the funds were deposited as part of a lendingtransaction and had been applied to the credit of NBS' customer by way of set-offfollowing the Interim Liquidators' appointment. Enquiries showed that the depositwas part of a series of transactions by which approximately NZ$30 million inreinsurance security reserves held by Alpha were released to CBLI in return for CBLIfacilitating a loan of €12.5 million to Alpha. The funds were lent by NBS to FederalPacific Group (Singapore) Pte Ltd (FedPac), a company associated withMr Hutchison, and on-lent by FedPac to Alpha. CBLI issued a surety bond to NBSfor the NBS/Fedpac loan and the deposit was held by NBS as cash collateral to supportthat bond.[36] The focus for the Bank was a letter held by CBLI from the Chief Executive ofNBS, dated 23 March 2015, recording the fact that the CBLI deposit was neithersecured nor encumbered and could be returned to CBLI at any time. The InterimLiquidators' investigations indicated that the letter had been requested by CBLI'sauditors but was drafted by Mr Harris with involvement from Mr Hutchison and thenprovided to NBS to sign and return, which NBS did, with one minor amendment. Butthe letter did not accurately reflect the arrangement between the parties as described.The letter was relied on by the auditors in preparing CBLI's financial statement andby CBLI in relation to its solvency margin discussions with the Bank and the FinancialMarkets Authority.[37] The true status of the deposit had significant adverse effects on CBLI'ssolvency margin. The recalculation of the solvency returns for 31 December 2014 and30 June 2015 put the true solvency ratio below 100 per cent. This put CBLI in breachof its licence terms on both dates. Notably, CBL Corp was the subject of an InitialPublic Offering in October 2015, at which time both Mr Harris and Mr Hutchison soldsignificant parcels of shares.[38] The second ground of alleged misconduct and impropriety related to aninvestment in a goldmine in Peru known as El Toro. On the basis of emailcommunications between Mr Harris and other parties to that investment, the Bankasserts that a parcel of shares in the goldmine were beneficially owned by CBLI butthat US$600,000 in dividends paid in respect of the shares had not been received byCBLI. There are other aspects of the El Toro goldmine referred to in the evidencewhich, the Bank says, raises questions as to whether the goldmine was part of a money-laundering operation and, if so, whether the directors of CBLI appreciated that. It isunnecessary for me to consider those aspects of the evidence. In his oral submissions,Mr Gedye emphasised the recovery aspect of the dividends and value of the shares.[39] The third area of alleged serious misconduct and impropriety was the proposedsale of CBLI receivables to Castlerock. This related to a managing general agent, SFS,which was part of the CBL group. CBLI wrote business in the French constructionmarket through SFS and, by late 2017, had $44 million in overdue receivables fromthat business. Including Elite's share of the receivables and SFS fees, the figure was€88 million. Sometime in September 2017, the CBL group proposed that thereceivables be sold for approximately €42.3 million to Castlerock ReceivablesManagement Ltd. The terms of the proposed agreement were recorded in a Term Sheetsigned 10 October 2017.[40] The transaction was entered into at a time when CBLI was already underinvestigation for conducting its business other than in a prudent manner, but was back-dated to 31 July 2017. In addition, the transaction indicated that CBLI had substantialreceivables dating back as far as 2010. Moreover, during the negotiation period of thetransaction, CBLI gave notification of its probable breach of the solvency ratio and,when the transaction was cancelled in February 2018, it wrote off the entire amountfrom its balance sheet. The Bank asserted that the whole transaction was contrived tomanipulate the solvency standard rather than substantively improving CBLI'sfinancial position.[41] For the purposes of the liquidation application, I was satisfied that there hadbeen aspects of CBLI's management that indicated a lack of commercial probity. Thetransactions described above suggested a preparedness to manipulate records on whichthird parties, including the regulator, relied. They suggested a lack of candour indealing with the company's auditors and the regulator. The Bank asserted that, in thesecircumstances, it was justified in expressing a lack of confidence in the conduct andmanagement of the company's affairs and I agree. I was satisfied that it was just andequitable that CBLI be wound up.____________________P Courtney J