Antico v Heath Fielding Australia Pty Ltd

1. This appeal against part of the judgment of the New South Wales Court of Appeal given and made on 30 January 1996 be allowed.

2. The judgment of the New South Wales Court of Appeal dated 30 January 1996 so far as that judgment affect the respondent be set aside and in lieu thereof the following orders be made.

The answers given by Giles J in his judgment dated 5 June 1995 to the questions set out in par 3.1(c) and 3.3(c) of the "Statement of issues in relation to the Earlier Policy" (which is the Appendix to the reasons for judgment dated 5 June 1995 of Giles J) be set aside and in lieu thereof the following answers be given:

Questions Answers 3.1(c) Whether the Plaintiff's failure to obtain the First Defendant's contest under Condition 1 of the Earlier Policy is an omission to which s 54 of the Act applies Yes 3.3(c) Whether the Plaintiff's failure to comply with cll 9.2, 9.6 and 9.7 of the Earlier Policy is an omission to which s 54 of the Act applies Yes

(b) the respondent pay the appellant's costs of the appeal to that court which are referrable to the issues raised by questions 3.1(a) and 3.3(a);

(c) the appellant otherwise pay the second respondent's costs of the appeal to that court.

3. The proceedings be remitted to a judge of the Commercial Division of the Supreme Court of New South Wales to proceed in light of these orders.

4. The costs of the appellant in this appeal be taxed by the proper officer of this Court and when so taxed and allowed be paid by the respondent to the appellant or his solicitors.

A Directors and Officers Legal Expenses policy of insurance was issued to the appellant, Sir Tristan Antico (the insured), by C E Heath Casualty & General Insurance Ltd (the insurer) providing an indemnity for legal expenses incurred as a result of proceedings that might be brought against the insured during the period of twelve months from 22 December 1989. Proceedings were brought against the insured as a director of a company during that period. The proceedings were compromised. The insured incurred legal expenses which were said to be well in excess of $1 million in dealing with the claims. The insurer declined to pay and the insured sued to enforce his alleged right to indemnity under the policy but his claim was dismissed.

The respondent Heath Fielding Australia Pty Ltd was the insured's broker. The insured joined the broker as a defendant in the proceedings in which he sued the insurer. He obtained a finding that was upheld on appeal that the broker had breached its retainer and its duty to the insured. Although the trial judge had left for later determination the question whether the conduct of the broker caused loss and damage to the insured, two issues of law relevant to the assessment of any such loss and damage were determined in the proceedings. The first question was whether the insured's failure to obtain the insurer's consent under condition 1 of the policy is an omission to which s 54 of the Insurance Contracts Act 1984 Cth (the Act) applies. The second question was whether the insured's failure to comply with the conditions of the policy contained in cll 9.2, 9.6 and 9.7 is an omission to which s 54 of the Act applies.

The relevant terms of the policy are set out below:

If you incur Legal Expenses as a result directly of an Insured Event occurring during the Period of Insurance we will indemnify you for those Legal Expenses subject to all applicable conditions and exclusions and the limit of liability set out in this Policy.

(The bringing of proceedings against the insured during the period of insurance was an "Insured Event".)

We shall not be liable to make any payment under this Policy in respect of:

6. Legal expenses incurred or paid before our consent has been given in accordance with Condition 1. of this Policy.

4. Any circumstances where you have pursued or defended a claim or proceedings without our consent

We shall not be liable to indemnify you under this Policy unless you have obtained our specific consent which we are only obliged to give if you have reasonable grounds for defending any claim or proceedings made or instituted against you, or there are reasonable grounds for the successful outcome of any matter. In considering any request for indemnity we will have regard to the opinion of the Appointed Representatives as well as that of our own advisers particularly with regard to the prospects of success of the claim or proceedings.

If we refuse to grant a request for the provision of indemnity, we shall give you detailed reasons for our refusal. We shall also give you access to our advisers so that representations can be made to them. If we still refuse to consent, you may obtain the opinion of a Queen's Counsel (acceptable to us both or failing agreement, to be appointed by the President of the Law Society of NSW for the time being). We shall give our consent if that Queen's Counsel is of the opinion that you have reasonable grounds for defending any claim or proceedings made or instituted against you, or that there are reasonable grounds for the successful outcome of the matter. (In this event, we will be responsible for the Queen's Counsel's fees.)

If you continue with the claim or legal proceedings that were the subject of the unsuccessful request for indemnity and you are successful in them, the indemnity provided by this Policy shall be deemed to have been extended as if we had given our specific consent in the first instance.

If you wish to nominate your own solicitor to act for you in connection with any claim or legal proceedings you must submit the name and address of the solicitor to us. You have freedom of choice in nominating any Appointed Representative and you may request us to nominate an Appointed Representative to act on your behalf. In all cases the Appointed Representative shall be appointed in your name and shall act on your behalf.

We may accept or refuse any nomination of any person or firm to act as Appointed Representative without giving any reason. If thereafter agreement cannot be reached on the appointment the president of the Law Society or Law Institute within the relevant State or Territory shall be requested to nominate an Appointed Representative. During this period we shall be entitled but not bound to instruct an Appointed Representative on your behalf if we consider it necessary to do so to safeguard your immediate interests.

You must forward to us all bill of costs or other communications relating to fees and expenses immediately after receipt by you. If requested by us you shall instruct the Appointed Representative to submit the bill of costs for taxation or adjudication by any relevant professional body, Court or other Tribunal.

Where you are awarded costs, you must take all steps reasonably available to you to recover fees and expenses which would be the subject of indemnity under this Policy. All such fees and expenses actually recovered shall be taken into account when calculating our liability under this Policy.

1.7 You must not without our prior written approval enter into any agreement with the Appointed Representative as to the payment of fees and expenses or as to the level of fees and expenses to be charged. Where time is of the essence we may agree to waive the requirement for written approval provided that we are made fully aware of the contents of any agreement which is the subject of our approval. You must not represent to any Appointed Representative that all fees and expenses charged to your account are covered by this Policy.

The insured, accepting that he had not sought the consent of the insurer under condition 1 nor complied with conditions 9.2, 9.6 and 9.7, invoked s 54 of the Act to support a submission that his failure to obtain the insurer's consent to the incurring of legal expenses or to comply with those other conditions did not entitle the insurer to refuse to pay.

(1) Subject to this section, where the effect of a contract of insurance would, but for this section, be that the insurer may refuse to pay a claim, either in whole or in part, by reason of some act of the insured or of some other person, being an act that occurred after the contract was entered into but not being an act in respect of which subsection (2) applies, the insurer may not refuse to pay the claim by reason only of that act but his liability in respect of the claim is reduced by the amount that fairly represents the extent to which the insurer's interests were prejudiced as a result of that act.

(6) A reference in this section to an act includes a reference to:

(b) an act or omission that has the effect of altering the state or condition of the subject-matter of the contract or of allowing the state or condition of that subject-matter to alter.

Section 54 is clearly remedial legislation. Remedial legislation is construed in the manner stated by Mason, Brennan, Deane and Dawson JJ in Khoury v Government Insurance Office (NSW) [1] :

the rule [is] that remedial provisions are to be beneficially construed so as to provide the most complete remedy of the situation with which they are intended to deal [but] restrained within the confines of " the actual language employed " and what is " fairly open " on the words used. (Emphasis added.) 1. (1984) 165 CLR 622 at 638.

In East End Real Estate Pty Ltd v C E Heath C & G Insurance [2] , Gleeson CJ construed s 54 beneficially:

Unlike s 18 of the Insurance Act 1902 [s 54 of the Act] is not in its terms limited to providing relief in the event of a failure by the insured to observe or perform a term or condition of the contract of insurance When an insurer desires to frame a policy of insurance in such a way that a particular act or circumstance will bring about the result that the insurer is not liable to the insured there is often a range of drafting techniques available to produce that result, and the selection of one rather than the other may be a matter of form and not of substance

In my view, by choosing words of generality and avoiding reference to the particular type of contractual provision that might produce the result that the insurer may refuse to pay a claim, the legislature has evinced an intention to avoid the result that the operation of s 54 depends upon matters of form. As a matter of ordinary language, it is perfectly appropriate to say in the present case that the effect of the contract of insurance is such that, but for s 54, the respondent may refuse to pay the appellant's claim. The circumstance that this comes about because of the language of that part of the contract of insurance which defines the risk rather than by reason of a breach of a condition of the policy does not seem to me to be material. The case falls within the general words of the section and I see no justification for reading them down.

The Act, in its long title, is described as an Act to reform and modernise the law relating to certain contracts of insurance so that a fair balance is struck between the interests of insurers, insureds, and other members of the public and so that the provisions included in such contracts, and the practices of insurers in relation to such contracts, operate fairly. It would hardly be consistent with the purposes thus described to construe the language of s 54 in such a way as to make its operation depend upon the choice that is made between various available drafting techniques.

I respectfully agree with, and adopt, his Honour's exposition of s 54. 1. (1991) 25 NSWLR 400 at 403-404.

Sub-section (1) of s 54 focuses not on the legal character of a reason which entitles an insurer to refuse to pay a claim - falling outside a covered risk, coming within an exclusion or non-compliance with a condition - but on the actual conduct of the insured, that is, on some act which the insured does or omits to do. The legal classification of the act or omission is immaterial. The act or omission must have occurred "after the contract was entered into" so that sub-s (1) does not operate to alter the contractual promise of the insurer to pay a claim. It is engaged when the doing of an act or the making of an omission would excuse the insurer from an obligation to pay a claim for a loss actually suffered by the insured. Sub-sections (2), (3), (4) and (5) make special provision in respect of acts or omissions which "could reasonably be regarded as being capable of causing or contributing to a loss". Those sub-sections do not require consideration in the present case. None of the insured's omissions contributed to his incurring of the legal expenses for which he claims an indemnity.

Sub-section (6)(a) extends a reference to an act in earlier sub-sections to a reference to an omission. In the context of s 54, an omission is that by reason of which an insurer is entitled to refuse to pay a claim. In that context, therefore, an omission is the nonperformance of an act which, if done, would disentitle the insurer to refuse to pay a claim. To state the definition in that way involves, of course, an hypothesis and a double negative. However desirable in the interests of simplicity it would be to avoid such a definition, the text of the sub-section does not permit simplification. The true meaning of omission in the context of s 54 is critical to the resolution of the present case. The act must be done or the omission made by "the insured or some other person". Section 54 could not have been intended to include the insurer within the "some other person" category, so the section focuses on the act or omission of the insured or of a third party.

Defining "omission" in the way I have stated, the question in the present appeal is whether, if an act which the insured omitted to do had been done, the insurer would have been entitled to refuse to pay the insured's claim. The present appeal is not concerned with the effect of the omission on the insurer's interests. That question, which arises under the concluding provisions of sub-s (1), was considered in Ferrcom Pty Ltd v Commercial Union Assurance Co of Australia Ltd [3] . As that case indicates [4] , the effect of an omission on an insurer's interests arises only if the omission is one to which s 54 applies. In other words, the effect of an omission on an insurer's interests arises only if the insurer would not have been entitled to refuse to pay had the omitted act been done.

1. (1993) 176 CLR 332. 2. Ferrcom (1993) 176 CLR 332 at 340.

The effect of the policy, apart from s 54, is that the insurer was entitled to refuse to pay the insured's claim by reason of the absence of the prior consent of the insurer to the incurring of the legal expenses. That element of s 54 being satisfied, what is the "act" or "omission" of the insured which can engage s 54? What did the insured omit to do? He did not omit to "obtain" consent for there was no consent given that could be susceptible of being obtained. What he omitted to do was to seek consent. But, if the insured had sought the insurer's consent to the incurring of the legal expenses for which the insured now claims, would the insurer have been bound to give its consent and thus bound to indemnify the insured for the legal expenses incurred? The answer to this question turns upon the terms of the policy. Condition 1 obliges the insurer to give specific consent to the incurring of legal expenses if, but only if, the insured has "reasonable grounds for defending any claim or proceedings made or instituted against [the insured], or there are reasonable grounds for the successful outcome of [the] matter". That is an objective criterion. The criterion is to be applied in the first instance by the insurer and its advisers but, if the insurer and its advisers decide that there are no "reasonable grounds", provision is made for a review by a Queen's Counsel whose decision that there are "reasonable grounds" activates the insurer's liability. Irrespective of the person who is to apply the criterion, the insurer's liability attaches if the criterion, objectively considered, is satisfied; the insurer's liability does not attach if the criterion, objectively considered, is not satisfied. For the purposes of s 54, it must be assumed that the criterion would have been properly applied.

In the present case, there has been no finding as to whether the criterion is satisfied. If there were no "reasonable grounds", the insurer would have been entitled to refuse to pay - not "by reason only" of the insured's omission to seek consent but by reason also of its entitlement to refuse to pay had the insured sought consent. Conversely, if there were "reasonable grounds" the insurer would have been entitled to refuse to pay under the terms of the policy but "by reason only" of the insured's omission to seek consent. The absence of prior consent would not have entitled the insurer to refuse to pay the insured's claim if the insured had sought that consent and there were "reasonable grounds" for the incurring of the legal expenses. Thus the relevant omission is the omission to seek consent.

To the question whether the omission by the insured to seek consent is an omission to which s 54 applies, only a qualified answer can be given. That answer is that s 54 applies to that omission if, but only if, prior to the incurring of the legal expenses claimed, there were "reasonable grounds for defending" the proceeding brought against the insured or there were "reasonable grounds for the successful outcome of [the] matter". This is not the answer that the Court of Appeal gave to the question and the appeal must therefore be allowed.

The insurer would be entitled, but for s 54, to rescind the policy for breach of these conditions and thereby refuse to pay. The insured's omissions to comply with their respective requirements thus fall squarely within s 54. That section denies the insurer's right to refuse to pay but entitles the insurer to reduce its liability to pay by an amount fairly representing the prejudice suffered by the insured's failure to comply.

The issues between the insured and the broker arise on an appeal against the dismissal by the Court of Appeal of the broker's cross-appeal to that Court. The questions that have been canvassed on this appeal were resolved by the trial judge's giving of answers to specific questions that were raised as between the insured and the insurer. The present questions were among those so resolved and were said to arise hypothetically on the cross-appeal. The answers as between the insurer and the insured cannot be disturbed for the insurer is not a party to the appeal but a declaration can be made as between the insured and the broker. Further, as the form of the first question admits only of a simple affirmative or negative answer, it is preferable to make a declaration stating the law as I apprehend it to be.

The order that should now be made must set aside the order of the Court of Appeal dismissing the cross-appeal. I would then make declarations in the following terms:

1. Declare that the omission of the appellant to seek the consent of the insurer to the incurring of the legal expenses the subject of the appellant's claim under the policy is an omission to which s 54 of the Insurance Contracts Act 1984 Cth applies if, but only if, before those expenses were incurred there were reasonable grounds for defending the proceeding brought against the insured or there were reasonable grounds for the successful outcome of the matter.

2. Declare that the appellant's failures to comply with conditions 9.2, 9.6 and 9.7 are omissions to which s 54 of the Act applies.

I would remit the matter to a Judge of the Commercial Division of the Supreme Court of New South Wales to proceed in the light of these declarations. I would make the costs of the appeal to this Court the appellant's costs in the cause.

Sir Tristan Antico (the appellant) was a director of Bernborough Breeding & Racing Ltd (Bernborough). The business of Bernborough involved it in the acquisition, breeding and sale of thoroughbred horses. Its activities gave rise to various legal proceedings which included claims that the appellant was liable in damages by reason of misconduct as a director of Bernborough. All the proceedings were compromised. The appellant paid significant sums to the claimants and incurred substantial legal costs.

Heath Fielding Australia Pty Ltd (the respondent) was the appellant's insurance broker. It arranged insurance for him with C E Heath Casualty & General Insurance Ltd (the insurer). The policy of insurance giving rise to the present litigation (the policy) is Directors and Officers Legal Expenses Policy No VZ21093/60. This is a claims made policy in force for twelve months from 22 December 1989 and provides indemnity for legal expenses incurred as a director. The limit of indemnity is specified as $1 million.

The insurer denied the entitlement of the appellant under the policy in respect of the legal expenses incurred in the circumstances described above. The appellant instituted an action in the Supreme Court of New South Wales against the insurer to establish and enforce his entitlement to indemnity under the Policy. He joined the respondent as second defendant, claiming damages against it on two grounds. The first was breach of an implied term of the respondent's retainer that it exercise all due care, skill and diligence in and about advising the appellant in relation to the policy. The other ground was breach of a duty of care owed to the appellant by the respondent to exercise such due care, skill and diligence.

The Chief Judge of the Commercial Division ordered that certain questions be decided separately from and prior to any other questions in the proceeding. The Chief Judge answered those questions with reasons for judgment delivered 5 June 1995 [5] and on 16 June 1995 his Honour ordered the entry of judgment for the insurer. The Court of Appeal (Kirby P, Priestley and Powell JJA) dismissed an appeal [6] . The result is that the litigation between the appellant and the insurer is at an end. However, the action against the respondent remains on foot and gives rise to the appeal to this Court.

1. Antico v C E Heath Casualty & General Insurance Ltd (1995) 8 ANZ Insurance Cases ¶61-268. 2. Antico v C E Heath Casualty & General Insurance Ltd (1996) 38 NSWLR 681.

The appellant's claim on the policy was defeated by reason of shortcomings by the respondent in certain dealings between it, as the appellant's broker, and the insurer. The primary judge pointed out that it followed from this that the respondent had breached its retainer and its duty of care to the appellant. But his Honour continued [7] :

At first sight, however, [the appellant's] claim against [the respondent] would fail because the breach did not cause loss: [the Insurer] would have been entitled to decline to provide indemnity because the consent required by condition 1 of the [Policy] had not been obtained. The appellant's contention is that s 54 of the Insurance Contracts Act 1984 Cth (the Act) operates upon the facts of this case so as to produce the result that nothing flowing from condition 1 of the policy stands in his path as an absolute bar to the provision of indemnity under the policy. 1. Antico (1995) 8 ANZ Insurance Cases ¶61-268 at 76,012.

Condition 1, in broad terms, stipulates that the Insurer will not be liable to indemnify the appellant unless he has obtained its specific consent to the provision of indemnity with respect to the particular claim or proceeding in question. Section 54(1) of the Act provides that, in certain circumstances, an insurer may not refuse to pay a claim "by reason only of" acts or omissions of the insured or of some other person subsequent to entry into the contract of insurance; rather, the liability of the insurer in respect of the claim is reduced by the amount which "fairly represents" the extent of the "prejudice" to the interests of the insurer which results from the act or omission in question. In a given case, the extent of this prejudice to the insurer may be so considerable as to be a complete answer to what otherwise would be the requirement of s 54(1) that the insurer not refuse to pay the claim [8] . If that be so, the result of the operation of s 54(1) is to leave intact what would have been the status quo which favoured the insurer.

1. As in Ferrcom Pty Ltd v Commercial Union Assurance Co of Australia Ltd (1993) 176 CLR 332.

The question for this Court does not concern the identification of any relevant "prejudice". It is the threshold issue of whether the Court of Appeal was correct in holding that the appellant's failure to obtain the consent of the Insurer to the incurring of legal fees was not an act or omission to which s 54 applies.

By letter from his solicitors dated 16 December 1992, the appellant sought the consent of the Insurer to the incurring of legal costs in respect of certain claims made against him, but this was at a time after some costs already had been incurred. The Insurer did not give its consent but asked for additional information. Some but not all of this had been provided before two of the claims were settled. What happened in the other proceedings was less clear but, according to the finding of the Chief Judge of the Commercial Division, the evidence showed that the appellant did not obtain the Insurer's consent in accordance with condition 1.

At the trial it was also common ground that the appellant did not comply with conditions 9.2, 9.6 and 9.7 of the policy, which related to the provision of certain information and to the seeking of certain approval. The appellant incorporated as referrable to those conditions his submissions on the effect of s 54 of the Act on condition 1.

Condition 9.2 provides that if the appellant wishes to nominate his own solicitor to act for him in connection with any claim or legal proceeding, he is obliged to submit to the Insurer the name and address of the solicitor. Condition 9.6 requires the appellant to forward to the Insurer, immediately after receipt by him, all bills of costs or other communications relating to fees and expenses. Condition 9.7 forbids the appellant, without prior written approval of the Insurer, from entering into any agreement as to the payment of fees and expenses with solicitors, assessors, consultants or investigators instructed to act on his behalf in connection with any claim or proceeding with respect to which legal expenses are payable under the Policy.

The primary judge found that the appellant had not obtained the consent of the insurer in accordance with condition 1. His Honour also held, applying what he believed to follow from the decision of the New South Wales Court of Appeal in FAI General Insurance Co v Perry [9] , that the failure of the appellant to obtain the consent required by condition 1 was neither an act nor an omission within the meaning of s 54. Rather, it was "inaction", with the result that s 54 did not apply [10] .

1. (1993) 30 NSWLR 89. 2. Antico (1995) 8 ANZ Insurance Cases ¶61-268 at 76,011.

The Court of Appeal also rejected the submissions by which the appellant sought to attract the operation of s 54. However, the reasoning of the Court of Appeal differed somewhat from that of the primary judge. The Court held that there was a relevant act or omission of the appellant, namely failure to seek consent, to provide the information sought and to satisfy conditions 9.2, 9.6 and 9.7. However, the Court went on to hold that, whilst the failure of the appellant to seek the consent of the Insurer was an omission on the part of the appellant, the failure to grant consent was an omission not of the appellant but of the Insurer. Consequently, s 54 did not apply.

The reasoning in this regard of Kirby P and Priestley JA appears from the following summary by Priestley JA [11] :

(1) condition 1 of the policy states that the insurer shall not be liable to indemnify the insured unless the insured has "obtained" the insurer's consent in regard to the commencing or defending of proceedings; (2) the obtaining of consent requires action first by the insured and then by the insurer; (3) s 54 might only help the insured in regard to his lack of action (not asking for consent) but could have no application to the absence of action by the insurer (not granting consent) since that action was never requested; (4) the result is that s 54 cannot assist the appellant in the circumstances of the case. Powell JA said [12] : The simple answer to the appellant's claim for indemnity, as it seems to me, is that the indemnity provided by the policy did not extend to legal expenses which were incurred or paid by the appellant unless and until the [insurer's] consent to the incurring or payment of those expenses had been given, or unless, in the light of subsequent events, the [insurer's] consent to the incurring or payment of those expenses was to be deemed to have been given. 1. Antico (1996) 38 NSWLR 681 at 708. See also at 707-708, per Kirby P. 2. Antico (1996) 38 NSWLR 681 at 709.

The appellant submits that in these passages there is a dissection of the absence of consent by the insurer into (i) an omission to seek it on the part of the appellant, and (ii) an omission to give it on the part of the insurer. He contends that this process of refinement distracts attention from the terms of the statute which ask whether the contract has a certain effect. That effect is that the insurer, but for the section, may refuse to pay "by reason of" some act or omission of the insured or of some other person. The appellant further submits that the causal link between the omission of the insured and the refusal of the insurer to meet the claim is not restricted to a sole or unique cause but merely to any cause falling within the expression in s 54(1), "by reason of some act [or omission] of the insured or of some other person".

(1) Subject to this section, where the effect of a contract of insurance would, but for this section, be that the insurer may refuse to pay a claim, either in whole or in part, by reason of some act of the insured or of some other person, being an act that occurred after the contract was entered into but not being an act in respect of which subsection (2) applies, the insurer may not refuse to pay the claim by reason only of that act but his liability in respect of the claim is reduced by the amount that fairly represents the extent to which the insurer's interests were prejudiced as a result of that act.

(2) Subject to the succeeding provisions of this section, where the act could reasonably be regarded as being capable of causing or contributing to a loss in respect of which insurance cover is provided by the contract, the insurer may refuse to pay the claim.

(3) Where the insured proves that no part of the loss that gave rise to the claim was caused by the act, the insurer may not refuse to pay the claim by reason only of the act.

(4) Where the insured proves that some part of the loss that gave rise to the claim was not caused by the act, the insurer may not refuse to pay the claim, so far as it concerns that part of the loss, by reason only of the act.

(a) the act was necessary to protect the safety of a person or to preserve property; or

(b) it was not reasonably possible for the insured or other person not to do the act;

the insurer may not refuse to pay the claim by reason only of the act.

(6) A reference in this section to an act includes a reference to:

(b) an act or omission that has the effect of altering the state or condition of the subject-matter of the contract or of allowing the state or condition of that subject-matter to alter.

Section 54, with ss 55 and 55A, comprises Div 3 of Pt V (ss 34-55A) of the Act. Section 55 states: The provisions of this Division with respect to an act or omission are exclusive of any right that the insurer has otherwise than under this Act in respect of the act or omission.

Section 55 evinces a legislative intention to establish a regime which will overcome the perceived inequities to the insured in the operation of the common law remedies available to the insurer. Those remedies depended upon form rather than substance. Thus, if an obligation of the insured were expressed as a condition, the insurer might rescind for breach, whereas if the same obligation were expressed as an exclusion from the cover, the insurer might refuse to allow a claim. Again, there might be little or no causal connection between the claim itself and the conduct relied upon by the insurer in refusing the claim [13] .

1. The alleged shortcomings of the common law were discussed, with reference to decisions such as In re Morgan and Provincial Insurance Co [1932] 2 KB 70, by the Australian Law Reform Commission in Insurance Contracts , Report No 20 (1982), pars 218-220.

The New South Wales Court of Appeal determined in East End Real Estate Pty Ltd v C E Heath Casualty & General Insurance Ltd [14] that where s 54(1) speaks of "the effect of a contract of insurance", that might refer to the consequences of the imposition of obligations, the breach of which entitled the insurer to avoid the policy, as well as to the operation of the definition of the cover provided by the policy. Gleeson CJ pointed out [15] that a range of drafting techniques was available to an insurer desiring to frame a policy in such a way that a particular act or circumstance will bring about the result that the insurer is not liable to the insured, and that the selection of a particular drafting technique may be a matter of form rather than of substance. The Chief Justice continued, in a passage with which we agree [16] :

In my view, by choosing words of generality and avoiding reference to the particular type of contractual provision that might produce the result that the insurer may refuse to pay a claim, the legislature has evinced an intention to avoid the result that the operation of s 54 depends upon matters of form. His Honour did not see as material to the operation of s 54 the circumstance that, but for s 54, an insurer might refuse to pay the insured's claim by reason of the terms of that part of the contract which define the risk rather than by reason of a breach of a condition of the policy. He added [17] : The Act, in its long title, is described as an Act to reform and modernise the law relating to certain contracts of insurance so that a fair balance is struck between the interests of insurers, insureds, and other members of the public and so that the provisions included in such contracts, and the practices of insurers in relation to such contracts, operate fairly. It would hardly be consistent with the purposes thus described to construe the language of s 54 in such a way as to make its operation depend upon the choice that is made between various available drafting techniques.

The explanatory memorandum relating to [the Act] when it was introduced into Parliament said, concerning s 54:

The existing law is unsatisfactory in that the parties' rights are determined by the form in which the contract is drafted rather than by reference to the harm caused. The present law can also operate inequitably in that breach of the term may lead to termination of the contract regardless of whether or not the insurer suffered any prejudice as a result of the insured's breach. The proposed law will concentrate on the substance and effect of the term and ensure that a more equitable result is achieved between the insurer and the insured. 1. (1991) 25 NSWLR 400. The appeal was from a decision upon a question referred for separate determination. This was whether the insured was bound to fail merely by reason that it had notified the claim to the insurer after the period of insurance cover had expired. The Court of Appeal answered that question favourably to the insured and remitted the matter for resolution of outstanding issues. The Court of Appeal did not deal with any issue as to "prejudice" within the meaning of s 54. Ultimately, Rolfe J decided the case favourably to the insurer: (1993) 7 ANZ Insurance Cases ¶61-151. 2. East End Real Estate (1991) 25 NSWLR 400 at 403. 3. East End Real Estate (1991) 25 NSWLR 400 at 403. 4. East End Real Estate (1991) 25 NSWLR 400 at 404.

Section 54 does not postulate a liability of the insurer to pay a claim which has been made. Rather, it takes as its starting point the existence of a claim and a contract the effect of which is that the insurer may refuse to pay the claim. The section directs attention to the reason founding the refusal, namely a particular act or omission on the part "of the insured or of some other person". The term "act", when used in s 54, includes a reference to an omission (s 54(6)(a)).

Section 54(1) uses the phrase "by reason of some act of the insured or of some other person". It does not specify the act or omission of the insured as being a failure to discharge an obligation owed by the insured to the insurer. The legislation is expressed in broad terms and, on its face, there is no reason why the omission of the insured may not be a failure to exercise a right, choice or liberty which the insured enjoys under the contract of insurance. In any event, the act or omission may be that of a third party, "some other person", who is unlikely to be a party to the contract of insurance in question. Submissions by the respondent which were contrary to the above construction of s 54(1) and which apparently were based upon the reasoning of the New South Wales Court of Appeal in FAI General Insurance Co v Perry [18] should be rejected.

Questions of sufficiency of causal connection appear at several stages in an analysis of s 54. The first was indicated in the joint judgment of this Court in Ferrcom Pty Ltd v Commercial Union Assurance Co of Australia Ltd [19] , where it was said:

Section 54 prescribes the effect to be attributed to two classes of "act": an act that "could reasonably be regarded as being capable of causing or contributing to [the] loss" [s 54(2)] and an act that could not reasonably be so regarded. Sub-section (1) relates to acts or omissions occurring after the contract of insurance is entered into that could not reasonably be regarded as being capable of causing or contributing to the loss; sub-ss (2)-(4) relate to acts or omissions that could reasonably be regarded as being capable of causing or contributing to the loss. On the present appeal, it was not suggested that the failure in observance of condition 1 was an act or omission that could reasonably be regarded as being capable of causing or contributing to the loss in question. That is to say, the case is not put as one where, for this reason, the appellant could not bring himself within s 54(1). 1. (1993) 176 CLR 332 at 339-340.

The questions of sufficiency of causal connection which are significant for the present case arise at the next stage, in an analysis of s 54(1). The issue here is whether the Insurer may refuse to pay the appellant's claim "by reason of" some act or omission of the appellant which occurred after entry into the relevant contract of insurance. If so, the Insurer may not refuse to pay the claim "by reason only of" that act or omission, but the liability of the Insurer is reduced in the manner provided in s 54(1). The liability of the Insurer in respect of the claim is reduced by that amount which fairly represents the extent to which the interests of the Insurer were prejudiced as a result of the relevant act or omission.

It is convenient now to turn to the provisions of the Policy. Under the heading " Extent of Cover ", the Policy states:

The nature and extent of cover is described in each of the Sections of the Policy. If you incur Legal Expenses as a result directly of an Insured Event occurring during the Period of Insurance we will indemnify you for those Legal Expenses subject to all applicable conditions and exclusions and the limit of liability set out in this Policy. Section 1 is headed " Directors and Officers Cover " and under the sub-heading "Insured Event" there appears: A claim or legal proceedings first made or brought against you during the Period of Insurance in relation to or arising out of a Wrongful Act committed, attempted or allegedly committed or attempted by you.

Wrongful Act means act, error, misstatement, misleading statement, omission, neglect or breach of duty committed, attempted or allegedly made, committed or attempted by you, individually, or otherwise, in the course of your duties as a Director or Officer or any claim made against you solely by reason of your serving as a Director or Officer.

Under the heading " Exclusions " there appears: We shall not be liable to make any payment under this Policy in respect of:

6. Legal expenses incurred or paid before our consent has been given in accordance with Condition 1. of this Policy.

4. Any circumstances where you have pursued or defended a claim or proceedings without our consent or contrary to or in a different manner from that advised by the Appointed Representative.

We have referred earlier in these reasons to conditions 9.2, 9.6 and 9.7. Upon the appeal to this Court, submissions focused upon condition 1. In its form at the relevant time, condition 1 stated:

We shall not be liable to indemnify you under this Policy unless you have obtained our specific consent which we are only obliged to give if you have reasonable grounds for defending any claim or proceedings made or instituted against you, or there are reasonable grounds for the successful outcome of any matter. In considering any request for indemnity we will have regard to the opinion of the Appointed Representatives as well as that of our own advisers particularly with regard to the prospects of success of the claim or proceedings.

If we refuse to grant a request for the provision of indemnity, we shall give you detailed reasons for our refusal. We shall also give you access to our advisers so that representations can be made to them. If we still refuse to consent, you may obtain the opinion of a Queen's Counsel (acceptable to us both or failing agreement, to be appointed by the President of the Law Society of NSW for the time being). We shall give our consent if that Queen's Counsel is of the opinion that you have reasonable grounds for defending any claim or proceedings made or instituted against you, or that there are reasonable grounds for the successful outcome of the matter. (In this event, we will be responsible for the Queen's Counsel's fees.)

If you continue with the claim or legal proceedings that were the subject of the unsuccessful request for indemnity and you are successful in them, the indemnity provided by this Policy shall be deemed to have been extended as if we had given our specific consent in the first instance.

The term "Appointed Representative" is defined in the Policy as meaning "solicitors, assessors, consultants or investigators instructed to act on behalf [of the appellant] in connection with any claim or proceedings with respect to which legal expenses are payable under this Policy".

In argument on the appeal, there was some discussion as to the correct classification of condition 1. On one view, failure to obtain the consent referred to therein was a failure to satisfy a condition precedent to liability of the Insurer, rather than breach of a term imposing an obligation on the appellant. The distinction is not presently material. In Ferrcom Pty Ltd v Commercial Union Assurance Co of Australia Ltd, in the course of considering the proposition that the prejudice to the interests of the insurer identified in s 54(1) was to be assessed as damages and by reference to "ordinary contractual principles", this Court said [20] :

The "ordinary contractual principles" as to damages are indeed difficult to apply when the relevant act or omission is not a breach of contract but merely a failure to satisfy a condition precedent to the insurer's liability. But to give the latter part of s 54(1) some operation in a case where the relevant act is merely a failure to satisfy a condition precedent to the insurer's liability, it is necessary to treat a condition precedent as a term imposing on the insured an obligation to comply with it and to treat a failure to satisfy the condition precedent as a breach of a term obliging compliance. By doing so, "the extent to which the insurer's interests [have been] prejudiced as a result of [the] act" can be assessed. 1. Ferrcom (1993) 176 CLR 332 at 341.

Nor is it appropriate to analyse condition 1, as did the Court of Appeal, so as to deny to s 54(1) any operation in this case because there was inaction or an absence of action by the insurer. Within the meaning of s 54(1), there was an omission by the appellant, who failed to obtain the consent of the insurer before incurring the relevant legal expenses. Likewise, the appellant failed to provide information to the Insurer and otherwise to comply with conditions 9.2, 9.6 and 9.7. The question then is whether "by reason of" such omissions, the effect of the policy, but for s 54(1), would be that the Insurer may refuse to pay the claim. The phrase "by reason of" does not express a limitation to the sole or unique cause of the entitlement of the insurer to refuse payment. Rather, s 54(1) refers not to precise concepts of form but to the effect of the contract and asks whether that effect is that the insurer may refuse payment "by reason of" the relevant act or omission.

The point is illustrated by consideration of a passage in the judgment of Mahoney JA in East End Real Estate Pty Ltd v C E Heath Casualty & General Insurance Ltd [21] . That case decided that, where a policy of professional indemnity insurance indemnified the insured against claims first made within the period of insurance and notified to the insurer during the period of cover, s 54 operated so that the insurer might not refuse to pay the claim merely by reason of the circumstance that the claim was notified to the insurer after the expiration of the period of insurance cover. His Honour said [22] :

For [s 54(1)] to apply, the entitlement to refuse to pay the claim must be "by reason of some act of the insured or of some other person". In the present case, the immediate reason why the insurer could refuse to pay the claim was not, in terms, by reason of an act (for which may be substituted "omission") of "the insured or of some other person" but by reason merely of the fact that, the making of the claim upon the insured not having been "notified" to the insurer, the claim was not within the cover. But it was not within the cover by reason of an (omission) of the insured. Therefore the entitlement to refuse arose by reason of that omission. 1. (1991) 25 NSWLR 400. 2. East End Real Estate (1991) 25 NSWLR 400 at 407.

The effect of condition 1 of the Policy is to protect the position of the Insurer against payment of legal expenses incurred by the insured in defending claims or proceedings where the insured lacks reasonable grounds for that defence or there is an absence of reasonable grounds for the successful outcome of the matter. That this is so is emphasised by the final paragraph of the condition. This provides that, where a request for indemnity has been refused, the insured will still have the indemnity if the insured continues with the defence and it is successful. Ex post facto, the existence of reasonable grounds will have been demonstrated.

The operation of condition 1 may be illustrated by taking the case where the earlier steps indicated in condition 1 have been followed, but the Queen's Counsel gives an opinion which does not conclude that the insured has reasonable grounds for defending the claim or proceedings made or instituted against the insured or that there were reasonable grounds for the successful outcome of the matter. The furnishing of the unfavourable opinion will be an "act of some other person" within s 54(1). Under the contract of insurance this may found a refusal by the Insurer to pay a claim by the insured. However, s 54(1) would operate to deny to the insurer the right to refuse to pay the claim by reason only of that act of the Queen's Counsel. Rather, the liability of the Insurer in respect of the claim would be reduced by the amount which fairly represented the extent to which the interests of the insurer were prejudiced as a result of that act. Those interests would be prejudiced to the extent to which the insured laid out funds on the defence where, in truth, there had not been reasonable grounds for doing so. That issue would fall for curial determination in assessing damages against the insurer [23] .

1. Ferrcom Pty Ltd v Commercial Union Assurance Co of Australia Ltd (1993) 176 CLR 332 at 341-342.

A relevantly similar outcome applies in this case where the appellant did not obtain the specific consent referred to in the first paragraph of condition 1. In the present litigation, between the appellant and the respondent, the essential issue arising from the application of s 54 to the claim made upon the Insurer is the ascertainment and quantification of the prejudice (if any) the Insurer sustained by the appellant having defended the proceedings, up to the achievement of a compromise, where the appellant maintains he had reasonable grounds for taking that course. As the action by the appellant against the respondent stands at present, there has been no adjudication of whether the appellant had such reasonable grounds. One forensic advantage which the broker, the respondent, seeks by a dismissal of the present appeal is the denial to the appellant of the opportunity for such an adjudication as a step in his action for breach of retainer and negligence.

The appellant failed to comply with condition 1, a provision with which he was required to comply before the Insurer was obliged contractually to meet the claim. The failure may or may not have prejudiced the interests of the Insurer. That is a situation to which s 54 is addressed.

Condition 1 exonerated the Insurer from liability to indemnify the appellant unless the Insurer's specific consent was obtained. The Insurer was obliged to give such consent only if the appellant had reasonable grounds for defending the claim or if there existed reasonable grounds for the successful outcome of the matter. If a dispute arose, it was ultimately to be resolved by the opinion of a Queen's Counsel who was acceptable to both parties or, failing agreement, was appointed by the President of the Law Society of NSW. The provision for the selection of a Queen's Counsel in this way indicates that the opinion of this person was to be treated as expressing conclusions which were reasonably open. In the present case, the Insurer has lost the opportunity of being provided with such an opinion which was favourable to it.

The measure of the prejudice to the Insurer addressed in s 54 will turn upon the probability that a Queen's Counsel reasonably would have considered that the appellant had reasonable grounds for defending the claim against him and whether the amount of costs incurred would have been less had the appellant complied with condition 1 and the other relevant provisions of the policy.

Section 54 is remedial in character and its language should be construed so as to give the most complete remedy which is consistent with the actual language employed and to which its words are fairly open [24] . However, the construction which we would give to s 54 and its application to the present dispute involve not so much the giving of any generous reading to its provisions as the according to s 54 of the meaning it bears on its face.

1. Khoury v Government Insurance Office (NSW) (1984) 165 CLR 622 at 638.

The appeal should be allowed. The effect of the dismissal of the appeal to the Court of Appeal was to uphold the negative answers given by the primary judge to the two relevant questions.

These questions are set out in pars 3.1(c) and 3.3(c) of the Appendix to the reasons for judgment delivered by the primary judge on 5 June 1995. Since the Insurer is not a party to the appeal to this Court, it may not be appropriate to disturb the relevant order made by the Court of Appeal. But, as between the parties to the appeal, we would answer those questions as follows:

(1) Whether the appellant's failure to obtain the Insurer's consent under condition 1 of the Policy is an omission to which s 54 of the Act applies.

(2) Whether the appellant's failure to comply with conditions 9.2, 9.6 and 9.7 of the Policy is an omission to which s 54 of the Act applies.

The respondent should pay the costs of the appeal to this Court and so much of the costs of the appellant of the proceedings in the Court of Appeal and before the primary judge as are referrable to the issues taken on appeal to this Court. It will be for a judge in the Commercial Division of the Supreme Court to give directions as to the further conduct of the action by the appellant against the respondent.

The parties have liberty to file within twenty-one days a minute of the orders to be made to give further effect to these reasons.