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Until recently, there was a relative lull in new mass tort events in the United States. This led to a sense among insurers that mass litigation was no longer the looming threat that it was in the 1980s and ’90s. In addition, to the extent it was seen as a threat, only Fortune 1000 companies were seen as at risk. The view was that insurers writing small and medium-sized enterprises (SMEs) were protected.

Executive Summary

Insurers that thought they were safe from mass tort claims because they focused on small and medium-sized enterprises (SMEs) as insureds are facing an ugly surprise: a trio of factors that is creating a “duty to defend” catastrophes, according to experts at Praedicat. Here, they note that litigation funding, suits implicating product retailers and distributors, and science that links chemical exposures and developmental injuries in children could easily create mass actions involving more than the 8,000-plus defendants for asbestos litigation, with major SME insurers footing defense billions for hundreds of these companies.

But the proverbial bear of mass tort seems to be awakening, and the litigation landscape is changing in ways that might create mass litigation risks unique to SME insurers.

In particular, three patterns are emerging in United States litigation that are shifting the risk profile toward increasing risk to SMEs and their insurers.

The first two risks involve factors that will lead to increased defense costs. First, increased capital is becoming available to the plaintiffs’ bar to support litigation, with litigation funding emerging as an investment vehicle. Second, in part due to having more resources available, plaintiffs are implicating larger numbers of defendants, including retailers and distributors who were not commonly named in past actions. Both of these trends are leading to litigation that can last longer and drive higher expenses regardless of the outcome. SME insurers therefore face the dual threat of more policies responding to claims as more defendants are implicated, with larger defense cost burdens for each one due to the protracted litigation.

The third issue involves science. Whereas the 20th century mass torts largely involved adult plaintiffs, scientific literatures today are much more heavily focused on the chemical exposures present in modern life that cause developmental injuries, which means there is significant potential risk that future mass torts could be fought on behalf of child plaintiffs.

These three issues together may create a “perfect storm” of casualty catastrophe risk that is particularly relevant to SME insurers. We call this perfect storm a “duty to defend cat,” which we will illustrate with a scenario.

Consider a hypothetical litigation scenario involving phthalates, which are ubiquitous, high-volume industrial chemicals used in a diverse range of products from building materials to cosmetics to medical tubing. Suppose that scientists conclude workers’ exposure to phthalates in occupational settings caused developmental defects in the workers’ children. When the children file lawsuits, the claims would not be covered under workers’ compensation, but would instead be within the scope of the general liability policies for the companies involved. For some companies, such as those involved in installing residential flooring, thousands of construction contractors could be exposing workers, and their children, to these chemicals. Such a litigation would involve myriad SME claimants.

Risks and Non-Risks

The accompanying article is part of a series of regular articles that Praedicat’s people have authored expressly for Carrier Management, alerting the casualty insurance community to growing areas of concern and to areas where potentially insurable risks lie beneath hyped theories linking products to human harm.

In 2019, Carrier Management published these articles in the series:

It is entirely possible that the number of companies named in such a mass action could exceed the number named to date in the asbestos litigation, which is in excess of 8,000 companies. A major SME insurer could find itself defending hundreds, or even thousands, of these companies.

A key provision in commercial general liability (CGL) policies is the carrier’s obligation to defend the policyholder against claims which, if successful, would be covered by the policy. Furthermore, under many CGL policies these defense costs do not erode policy limits, so defense costs are effectively unlimited. While a litigation with hundreds or thousands of companies would be consolidated to address scientific and other pretrial issues, individual specific issues for each of the small companies caught up in the litigation would be resolved individually, and the total cost could be catastrophic. This is the duty to defend cat.

Today, because of concerns over mass litigation, many Fortune 1000 insurers buy direct excess insurance in Bermuda, where the typical policy does not obligate the insurer to defend claims. However, for domestic SME insurers, this duty to defend in the new litigation environment can represent as much or more of an aggregation risk as the threat of indemnity claim payments for latent bodily injury or property damage claims.

There are some factors that could mitigate this risk.

A commonly contested question is whether a claim, if successful, would be covered by the policy. Common points of contention are around whether the injury qualifies as “arising from an occurrence during the policy period” or whether loss can be considered expected or intended. These types of determinations are typically made after the plaintiff v. defendant litigation is disposed, with the result that the carrier must provide defense up front, with a possible clawback of some of the costs in the case where it is determined that the claim is not (or would not have been) covered by insurance.

As the resurgence of mass litigation continues to pick up steam, insurers of SMEs will need to pay more attention to duty-to-defend aggregation risk in underwriting, pricing, and reserving. Underwriting guidelines need to consider cross-industry accumulation of risks. Pricing guidance and reserves need to reflect that recent claim history is likely to understate the future cost of defending mass tort claims.