Truth About Lloyds

letter from Thomas L. Seifert, P.C., November 4, 1998, to:

The Insurance Commissioners for the 50 States of the United States
The Attorneys General of the 50 States of the United States
The Members of National Association of Insurance Commissioners Surplus Lines Task Force.
The National Association of Insurance Commissioners

Re: The Financial Viability of Lloyd's of London ("Lloyd's") and the Equitas Group ("Equitas"): the Transit Casualty Company Litigation in Cole County, Missouri.

Dear Honorable Ladies and Gentlemen:

This letter follows up my letters to you regarding the financial viability of Lloyd's and Equitas. As you know the 1995 New York State Insurance Department Audit of Lloyd's (the "NYSID Lloyd's Audit") for the period ended December 31, 1993 found an $18.479 Billion Lloyd's deficiency. (A copy of the NYSID Lloyd's Audit is annexed hereto as Exhibit H.) Also as you know less than Ł1 Billion (or $1.6 Billion) in new cash was infused into Lloyd's/Equitas in September 1996 as a result of Lloyd's Reconstruction & Renewal ("R & R") program. As a result, after giving effect to R & R, there is still an unaccounted for $16.879 Billion Lloyd's deficiency. For reasons that defy explanation, this $16.879 Billion deficiency until recently was being ignored. Thankfully, based in part upon the NYSID Lloyd's Audit, a St. Louis, Missouri judge in the Transit Casualty Company Case has recently set the record straight and I include copies of the following documents from the Transit Casualty Company Case:

1. The July 23, 1998 "Report and Recommendation as to Order of Security" by Special Master James P. Dalton (the "Special Master's Report on Lloyd's Syndicate 109 et al") regarding Lloyd's Syndicate Nos. 109, 227, 246, 257, 263, 278, 279, 498, 553, 618, 650, 939, 947, 948, 989. (Exhibit A hereto).

2. The July 23, 1998 "Report and Recommendation as to Order of Security" by Special Master James P. Dalton (the "Special Master's Report on Lloyd's Syndicate 553") regarding Lloyd's Syndicate 553. (Exhibit B hereto).

3. The September 28, 1998 "Order" by Judge Patricia S. Joyce enforcing the Special Master's Report in the Lloyd's Syndicate 109 Case requiring the posting of a letter of credit $15,835,312 (the "$15,835,312 Court Order"). (Exhibit C hereto).

4. The September 28, 1998 "Order" by Judge Patricia S. Joyce enforcing the Special Master's Report in the Lloyd's Syndicate 553 Case requiring the posting of a letter of credit $10,787,035 letter of credit (sic) (the "$10,787,035 Court Order"). (Exhibit D hereto).

5. Transit's Pre-Hearing Brief on the Lloyd's American Trust Fund (the "LATF Brief"). (Exhibit E hereto).

6. Transit's Supplemental Brief on Pre-Answer Security re Lloyd's payment of reinsurance to close ("RITC") does not comply with New York Insurance Department Regulation 108 (the "Failure to Comply with NY Reg 108 Brief"). (Exhibit F hereto).

The Special Master's Report on Lloyd's Syndicate Nos. 109 et al (Exhibit A) contains the following very significant findings:

1. "The Special Master finds unwarranted by the facts or the law the [Missouri] Department's [of Insurance] reliance on the actions of the New York Superintendent of Insurance in determining Missouri's policy on "credit for reinsurance" ceded to Lloyd's syndicates. . . . the [Missouri] Department [of Insurance] has no factual or legal basis for accepting a "different requirement" for the Lloyd's "marketplace" than is required by [Missouri] § 375.246 and other Missouri statutes solely because no other state has taken action to deny Lloyd's 109 or any other [Lloyd's] syndicate credit for reinsurance. This is especially true, since the [Missouri] Department [of Insurance] has taken no action to determine if Lloyd's 109 has complied with Missouri statutes. (¶6, page 8 of the Special Master's Report on Lloyd's Syndicate 109)

2. The Special Master finds that the [Missouri] Department [of Insurance] has conducted only a very limited investigation of Lloyd's financial status, including the transaction involving Lloyd's and Equitas. The [Missouri] Department's [of Insurance] witness made it clear that the [Missouri] Department [of Insurance] has "limited resources" and that it had not independently investigated Lloyd's, despite the fact that "WE ARE CONCERNED ABOUT LLOYD'S OF LONDON AND THEIR FINANCIAL STATUS." The [Missouri] Department [of Insurance] has not "verified or substantiated" the amount of security in trust in New York or required compliance with [Missouri] § 375.246. THE DEPARTMENT HAS ONLY DETERMINED THAT, IN THE AGGREGATE FOR ALL MISSOURI CEDING COMPANIES, REINSURANCE PLACED WITH LLOYD'S (AS A MARKETPLACE)_ONLY REPRESENTS 1.7 PERCENT OF THE SURPLUS OF THOSE COMPANIES AND, THEREFORE, NO COMPANY IS THREATENED BY THE FINANCIAL COLLAPSE OF LLOYD'S. (¶7, pages 8 and 9 of the Special Master's Report on Lloyd's Syndicate 109) (emphasis added)

3. The Special Master further finds erroneous Defendants' contentions that Lloyd's "trusteed surplus" is $100 million in excess of its U.S. liabilities as required by [Missouri] § 375.246. The only reason that the trusteed surplus currently exceeds that figure is because most of the Lloyd's Names entered into a new, second reinsurance arrangement to cover most of the syndicates' pre-1992 reinsurance liabilities to Transit and other insurers. This new reinsurer is known as "Equitas." This second reinsurance or "retrocession" to Equitas of Lloyd's reinsurance liabilities to Transit turned a deficiency of over $6 billion into a surplus of $860 million. This change occurred during a three-month period from June 1996 to September 1996, despite the influx of only $2 billion in new dollars into the Equitas fund. . . . Equitas is not an "approved reinsurer" in Missouri even under Defendants' offered definition. Further, the [Missouri] Department's [of Insurance] witness reviewed the two trusteed surplus statements for the three month period described. She concluded that the swing of over $7 billion in the surplus was due to a shift of $5.5 billion out of the trusteed surplus. That money was paid as a reinsurance premium to Equitas in exchange for its assumption of over $12 billion in Lloyd's liabilities. This transaction created the $7 billion "swing" in surplus – from a $6 billion deficient [sic] to an approximately $1 billion surplus. THE SPECIAL MASTER FINDS THAT THE SWING IN SURPLUS IS NOT RECOGNIZED AS VALID UNDER EITHER MISSOURI OR NEW YORK LAW. New York's Regulation 108 and Missouri's equivalent do not recognize such "portfolio transfers" or "retroactive reinsurance" until the actual liabilities assumed by the new reinsurer exceed the premium paid for that reinsurance. In other words, if the reinsurer assumes $12 billion in liabilities for $5.5 billion in premium paid to it, the surplus may not change more than $5.5 billion until the new reinsurer (e.g. Equitas) begins paying reinsurance claims in excess of $5.5 billion. IN SHORT, UNDER NEW YORK AND MISSOURI LAW THE SPECIAL MASTER FINDS THAT THE DEFICIENCY IN LLOYD'S TRUSTEED SURPLUS IS STILL APPROXIMATELY $6 BILLION UNTIL THE TIME THAT EQUITAS BEGINS TO PAY CLAIMS IN EXCESS OF THAT AMOUNT." (¶8, pages 9 and 10 of the Special Master's Report on Lloyd's Syndicate 109 et al) (emphasis added)

4. The Special Master further finds that the report of the independent auditors of Equitas – Coopers & Lybrand [now PriceWaterhouse Cooper's]– as well as the 1997 analysis of Standard & Poors, make clear that the Equitas reinsurance is not the type of security required by the Missouri statute governing "trusteed surplus." The credible evidence shows that the new, post-1995 Lloyd's – which is currently regulated as individual syndicates with separate funding – receives high ratings by these independent sources. . . . However, the financial audit of the old, pre-1995 Lloyd's (reinsured by Equitas) – which covers most of the liabilities at issue here – was highly qualified by Coopers & Lybrand in its most recent report. That report includes specific allegations that the auditors did not receive the "quality and completeness" of data. Accordingly, it concluded that all of the surplus of Equitas could be diminished. Standard & Poor's analysis further states that ‘there is a strong possibility that the Equitas surplus will be eroded and that it could become insolvent at some point in the future.'" (¶9, pages 10 and 11 of the Special Master's Report on Lloyd's Syndicate 109 et al) (emphasis added)

5. The Special Master finds that in reference to Lloyd's Syndicate 109 et al Transit has loss reserves in the amount of $13,744,486.00 and Transit has paid losses in the amount of $2,090,826.00. (¶10, page 11 of the Special Master's Report on Lloyd's Syndicate 109 et al)

6. "Recent case law requiring pre-answer security from Lloyd's rebuts the argument made here that the syndicates sued by Transit are not required to post security." [The Special Master cited eight (8) sources, including primarily cases against Lloyd's, in support of this conclusion.] "The only courts that have denied a ceding insurer security have completely misinterpreted the public policies underlying the security laws and the exceptions thereto." (¶ 1, pages 11 and 12 of the Special Master's Report on Lloyd's Syndicate 109 et al) (emphasis added)

The Special Master's Report on Lloyd's Syndicate 553 (Exhibit B) contains the following very significant findings:

1. "[U]nder New York and Missouri law the Special Master finds that the deficiency in Lloyd's trusteed surplus is still approximately $6 billion until the time that Equitas begins to pay claims in excess of that amount." (¶ 8, page 11 of the Special Master's Report on Lloyd's Syndicate 553) (emphasis added)

2. The Special Master further finds that the report of the independent auditors of Equitas – Coopers & Lybrand – [now PriceWaterhouseCooper's] as well as the 1997 analysis of Standard & Poors, make clear that the Equitas reinsurance is not the type of security required by the Missouri statute governing "trusteed surplus." The credible evidence shows that the new, post-1995 Lloyd's – which is currently regulated as individual syndicates with separate funding – receives high ratings by these independent sources. . . . However, the financial audit of the old, pre-1995 Lloyd's (reinsured by Equitas) – which covers most of the liabilities at issue here – was highly qualified by Coopers & Lybrand in its most recent report. That report includes specific allegations that the auditors did not receive the "quality and completeness" of data. Accordingly, it concluded that all of the surplus of Equitas could be diminished. Standard & Poor's analysis further states that "there is a strong possibility that the Equitas surplus will be eroded and that it could become insolvent at some point in the future." (¶ 9, pages 11 and 12 of the Special Master's Report on Lloyd's Syndicate 553) (emphasis added)

3. "The Special Master finds that in reference to Lloyd's Syndicate 553 Transit has loss reserves in the amount of $9,583,114.00 and Transit has paid losses in the amount of $1,203,921.00." (¶ 10, page 12 of the Special Master's Report on Lloyd's Syndicate 553)

4. "Recent case law requiring pre-answer security from Lloyd's rebuts the argument made here that the syndicates sued by Transit are not required to post security." [The Special Master cited the eight (8) sources listed in note 2 in support of this conclusion.] "The only courts that have denied a ceding insurer security have completely misinterpreted the public policies underlying the security laws and the exceptions thereto." (¶ 1, page 12 of the Special Master's Report on Lloyd's Syndicate 553)

5. "It is irrelevant that the [Missouri] Department [of Insurance] permits companies to take credits for reinsurance placed with any Lloyd's syndicate prior to July 31, 1995 based on a regulation. The Department may not rely on regulations that are contrary to state statutes. . . . ([Missouri] Department of Insurance regulation is void if it attempts to modify or extend the authorizing statutes) . . . . ([Missouri] Department of Insurance regulation may only be promulgated to the extent of and within the delegated authority of the enabling statute). As with the regulations in both of the above-cited cases, [Missouri] 20 CSR 200-2.200 is "ultra vires." It cannot be used to support the contention that the members of Lloyd's 553 are "authorized" even though the members have not complied with [Missouri] § 375.246.1(4)(a). The Special Master does not ignore the fact that Lloyd's of London has long been afforded "approved reinsurer" status by the Department even though the trust fund in the U.S. had assets far below the liabilities assumed from U.S. ceding insurers, including Transit. The underwriting members of Lloyd's 553 cannot avoid their responsibility to the policyholders of Transit simply by relying on an outdated, superceded, and improperly promulgated regulation which purportedly exempts all of the "old Lloyd's" from the requirements of [Missouri] § 375.246." (¶ 3, pages 13 and 14 of the Special Master's Report on Lloyd's Syndicate 553) (emphasis added)

As a result of the Court's enforcement of the Special Master's Report, two letters of credit, one for $15,835,312 and one for $10,787,035 or a total of $26,622,347 were required to be posted by the Lloyd's syndicates.

There are several lessons to be learned from the enclosed materials and from the eight (8) cases cited by the Special Master:

1. As is the case in the enforcement of securities laws, due to the lack of adequate funding and personnel at the various state insurance departments, private enforcement of state insurance laws and regulations remains the primary enforcement tool in the enforcement of insurance laws.

2. For whatever reason (ranging from lack of resources and personnel to perhaps more untoward reasons) Lloyd's may have been successful in certain states in certain instances in convincing state insurance departments to afford Lloyd's unwarranted and undeserved favorable treatment, BUT, the important point is and remains, incorrect, improper or unwarranted rulings in Lloyd's favor at the state insurance department level will be successfully challenged in every instance by adversely affected parties who will refuse to accept the consequences of such incorrect, improper and unwarranted rulings in favor of Lloyd's.

3. In light of the below-listed very clear and very telling warning signals that continue to exist in connection with Lloyd's, state insurance departments should exercise extreme caution in making any decision that affects or relates to Lloyd's:

A. The existence of the unexplained and unaccounted for $18.479 Billion Lloyd's deficiency found by the New York State Insurance Department as of December 31, 1993.

(The 1995 New York Insurance Department Audit of Lloyd's as of December 31, 1993, a copy of which is annexed hereto as Exhibit H, and the $18.479 Billion Lloyd's deficiency disclosed thereby was used very effectively to defeat Lloyd's by the successful plaintiffs in the Transit Casualty case discussed above. That is to say, the findings by the New York State Insurance Department in its audit remain a very important and viable tool and resource when dealing with Lloyd's.)

B. The fact that Lloyd's 1996 plan of R & R, at best only infused Ł1 Billion ($1.6 Billion) in new cash into Lloyd's/Equitas in 1996 leaving a huge deficiency of $16.789 Billion. (Even if you accept the Special Master's finding that R & R infused Ł2 Billion ($3.2 Billion) in new cash into Lloyd's/Equitas, there is still a huge Lloyd's deficiency of $15.279 Billion.)

C. The fact that "New Lloyd's" (1993 and subsequent) has guaranteed the performance of "Old Lloyd's" (1992 and prior) means that "New Lloyd's" and "Old Lloyd's" are still inextricably intertwined legally, commercially, and financially and that the combined "New Lloyd's" and "Old Lloyd's" is really no more solvent, of course, than the amount of new cash that was infused in 1996 into "New Lloyd's" and "Old Lloyd's" (or Equitas) on a combined basis as a result of R & R.

D. The three (3) very highly qualified audit reports concerning Equitas performed by Coopers & Lybrand and most recently by PriceWaterhouseCoopers. In this regard it is very important to note that prior to R & R Lloyd's had never been audited except by the New York State Insurance Department which discovered the $18.479 Billion deficiency. Please also note that in the event that Lloyd's had ever been audited by an independent certified public accounting firm for its 1992 and prior business, the three very qualified audit reports from Coopers & Lybrand and PriceWaterhouseCoopers concerning Equitas represent exactly the audit reports you would have received concerning Lloyd's. Due to the highly qualified nature of the Equitas/Lloyd's Audits it still remains a total mystery as to how and on what basis the English Department of Trade and Industry ("DTI") ever determined and ever declared that Lloyd's was solvent in September 1996. In fact the situation is even worse, i. e., over two years have passed since DTI determined and declared that Lloyd's was solvent, and yet, with two additional years to obtain the missing information regarding Lloyd's and Equitas, the audits of Equitas remain highly qualified.

E. The October 1998 Moody's Investors Services Report on Lloyd's raises but does not answer several very significant questions about the financial viability of Equitas and Lloyd's.

F. The findings and the conclusions reached in the Transit Casualty Company case draw into sharp focus many of the questions regarding Lloyd's and Equitas financial viability.

In conclusion, when it is the primary responsibility of every insurance department to make sure that insurance companies under their jurisdiction have adequate resources to be able to honor the valid claims of policyholders, in view of the vast amount of evidence calling into question the financial viability of Lloyd's and Equitas, why would any insurance department want to take any action of any kind that is favorable to Lloyd's and that is or might be contrary to the best interests of policyholders. State insurance departments should remain extremely cautious in dealing with Lloyd's and I would recommend that this caution on the part of the state insurance departments should continue until at least the time that PriceWaterhouseCoopers is able to issue an unqualified audit opinion relating to Equitas. Please ask yourselves, if some insurance company other than Lloyd's/Equitas were involved and you received the three highly qualified audit reports covering the period from September 1996 through March 1998 that have been issued in connection with Equitas (together with the other information referred to herein), what actions you would take that favor such a company. The answer is simple: you would not permit such an insurance company to operate in your state without the same type of advance payment security that the Special Master required in the Transit Casualty case.

In the event that you have any questions or require any additional copies of the materials enclosed herewith or in the event that you require any additional information, please call me. . .

Very truly yours,

(Signed)
Thomas L. Siefert, P.C.

cc:
1. Assemblyman Alexander B. Grannis
Chairman of the New York State Assembly Insurance Committee
2. The Three (3) Insurance Examiners at the New York Insurance Department That Prepared the 1995 New York State Insurance Department Audit of Lloyd's of London That Disclosed the $18.479 Billion Lloyd's Deficiency:
3. Mr. Paul Cohen, CFE, CIE, Supervising Examiner, New York Insurance Department

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