Australian Associated Motor Insurers Ltd v. Ellis & Anor (1990) 6 ANZ Insurance Cases 60-957

Banque Keyser Ullmann SA v. Skandia (UK) Insurance Co Ltd & Ors [1990] 1 QB 665

Bradley and Essex and Suffolk Accident Indemnity Society, Re [1912] 1 KB 415

Con-Stan Industries of Australia Pty Ltd v. Norwich Winterthur Insurance (Australia) Ltd [1986] HCA 14; (1986) 160 CLR 226

Distillers Bio-Chemicals (Australia) Pty Ltd v. Ajax Insurance Co Ltd [1974] HCA 3; (1974) 130 CLR 1

Gibson v. Parkes District Hospital & Anor (1991) 26 NSWLR 9

Groom v. Crocker [1939] 1 KB 194

Kelly v. New Zealand Insurance Company Ltd (1993) 7 ANZ Insurance Cases 61-179

Kelly v. New Zealand Insurance Company Ltd (1996) 9 ANZ Insurance Cases 61-317

Maye v. Colonial Mutual Life Assurance Society Limited [1924] HCA 26; (1924) 35 CLR 14

Moss & Anor v. Sun Alliance Australia Ltd (1990) 6 ANZ Insurance Cases 60-967

Newnham v. Baker [1989] 1 Qd R 393

Nigel Watts Fashion Agencies Pty Ltd v. GIO General Ltd (1995) 8 ANZ Insurance Cases 61-235

Queensland Independent Wholesalers Ltd v. Coutts Townsville Pty Ltd [1989] 2 Qd R 40

Territory Insurance Office v. Adlington [1992] NTSC 60; (1993) 7 ANZ Insurance Cases 61-149

Thompson v. Palmer [1933] HCA 61; (1933) 49 CLR 507

Vermeulen v. SIMU Mutual Insurance Association (1987) 4 ANZ Insurance Cases 60-812

1 In July, 1981 Graziella Milone ("the plaintiff") by her next friend commenced proceedings in this court claiming damages against St Andrew's War Memorial Hospital ("the hospital") for alleged negligence in treating an epileptic fit she suffered while an inpatient in November, 1972. She also sues three doctors, alleging that they treated her negligently. The hospital had effected a policy of public liability insurance with GRE Insurance Ltd. Zurich Australian Insurance Limited ("Zurich") has replaced GRE Insurance Ltd as insurer under the policy and has succeeded to all of its rights and obligations contained in the policy.

2 By the terms of the policy Zurich promised, in consideration of the payment of the premium, and subject to its terms, conditions and exceptions, to pay to or on behalf of the hospital all sums which the hospital should become legally liable to pay for compensation in respect of bodily injury occurring during the period of insurance. It was a term of the policy that Zurich's liability under the policy for compensation should not exceed the limit of indemnity which, the parties agree, was $200,000.00 for the year during which the plaintiff claims to have been injured.

3 The term of the policy to which I have just referred continues:

"but (Zurich) will also pay in connection with claims in respect of which (the hospital) is entitled to indemnity under the Policy ... all law costs and all charges and expenses incurred in the settlement or defence of claims or litigation arising therefrom where such costs charges and expenses are incurred by (Zurich) or by (the hospital) with the written consent of (Zurich) and all law costs charges and expenses recoverable from (the hospital) by any claimant."

4 The present dispute between Zurich and the hospital concerns Policy Condition 3. It provides:

"(Zurich) may at any time pay to (the hospital) in respect of all claims against (the hospital) ... the amount of the Limit of Indemnity ... or any lesser sum for which the claim ... can be settled and upon such payment (Zurich) shall relinquish conduct or control of and be under no further liability under the Policy in connection with such claim or claims except for costs charges and expenses recoverable from (the hospital) or incurred by (Zurich) or by (the hospital) with the written consent of (Zurich) prior to the date of such payment".

5 Policy Condition 2(d) gave Zurich full discretion to conduct any proceedings in connection with any claim made against the hospital and obliged the latter to give all information and assistance as Zurich might require in the defence of the claim. Pursuant to this power Zurich conducted the hospital's defence of the proceedings brought against it by the plaintiff. For this purpose it retained the hospital's own solicitors, Messrs Crouch & Crouch (later Crouch & Lyndon) between July, 1981 and 1995 when Zurich terminated the retainer and instructed Messrs Gadens to act instead.

6 Despite some initial uncertainty entertained by the hospital about the extent of the monetary cover provided by the policy in respect of the plaintiff's claim, it was early realised that, should she succeed, damages awarded to the plaintiff would be vastly in excess of $200,000.00. The plaintiff's action has progressed very slowly. It is now ready for trial and is expected to be heard almost eighteen years after it was commenced and more than a quarter of a century after the plaintiff is alleged to have been injured.

7 Both Zurich and the hospital have always been confident that the plaintiff's claim will not succeed but the costs of defending the action to date have been substantial and the costs of preparing for and appearing at the trial will be considerably more. Zurich has already paid about $150,000.00. The trial is expected to last three months and it is thought the cost of the hospital's defence will be as high as $500,000.00. The plaintiff's costs will no doubt be of a similar magnitude. By the provisions of the insuring clause, Zurich will be liable to indemnify the hospital in respect of costs ordered against it in favour of the plaintiff. Zurich thus contemplated having to pay hundreds of thousands of dollars pursuant to a policy which limited the extent of principal cover to $200,000.00.

8 In January, 1998 Zurich purported to exercise the rights conferred on it by Condition 3 and tendered to the hospital $250,000.00. Of that amount $200,000.00 was, of course, the monetary limit of indemnity against claims provided by the policy. $50,000.00 was proffered as an estimate of the plaintiff's costs of her action against the hospital, taxed as between party and party, to the date of the tender.

9 The hospital refused to accept the cheque. It contends that the condition does not entitle Zurich to walk away from the defence of the action or to leave the hospital unprotected against any order for costs made against it in favour of the plaintiff.

10 These proceedings have been brought for a determination of the rights of the parties

pursuant to the policy and, in particular, Condition 3.

11 The hospital now accepts that Zurich may, pursuant to Condition 3, pay the monetary limit of indemnity, $200,000.00, in full discharge of its obligation to indemnify the hospital against the plaintiff's claim for damages. The hospital disputes Zurich's assertion that by tendering payment it is also relieved from any further liability to indemnify the hospital against the plaintiff's costs of the action or the conduct of the hospital's defence of that action.

12 The debate has two dimensions. First, the hospital argues that, on its true construction, Condition 3 does not permit Zurich to escape liability to indemnify it in respect of whatever costs the hospital is ordered to pay the plaintiff in respect of her action. Second, the hospital contends that Zurich may not utilise Condition 3 to avoid liability to pay the hospital's costs of defending the plaintiff's action or costs it is ordered to pay the plaintiff, because to do so would be in breach of the insurer's duty to act with the utmost good faith to its insured, or because the insurer is estopped from relying upon the condition.

13 It is convenient to deal with the construction point first.

14 The relevant part of Condition 3 is that upon payment of the amount representing the limit of indemnity, Zurich shall relinquish conduct or control of the claim and be under no further liability under the policy in connection with the claim except for costs, charges and expenses recoverable from the hospital or incurred by Zurich or by the hospital with the written consent of the hospital prior to the date of the payment of the amount representing the limit of liability.

15 The nub of the contest is whether the temporal qualification, "prior to the date of such payment", qualifies only the costs of the hospital's defence or whether it applies to all costs for which Zurich might have been liable under the policy.

16 Although terms similar to Condition 3 have been common in public liability policies for many years, my own research and that of counsel have been unable to discover any case or textbook commentary that might assist in the question of its construction.

17 The point for decision is the construction of the proviso, or exception to the insurer's release from liability under the policy. Upon paying the monetary limit of indemnity, the insurer ceases to be liable to pay any money in connection with the claim against the insured with the exception of certain costs, charges and expenses. What are those costs for which the insurer remains liable notwithstanding its payment of the money?

18 Despite the disjunctive "or" appearing twice there are, I think, only two categories of costs in the exception. These are:

(i) costs, charges and expenses recoverable from the hospital; and

(ii) costs, charges and expenses incurred by Zurich or by the hospital with the written consent of Zurich.

"except for costs charges and expenses ... incurred by the Company or by the Insured with the written consent of the Company ...".

20 The same phrase occurs in the insuring clause which promises that Zurich

"will also pay ... all law costs and all charges and expenses incurred in the settlement or defence of claims or litigation arising therefrom where such costs charges and expenses are incurred by the Company or by the Insured with the written consent of the Company and all law costs charges and expenses recoverable from the Insured by any claimant".

21 There are clearly only two categories of costs and expenses which Zurich promised to pay. These are the costs of defending the insured against the claim and the costs which a successful claimant is ordered to recover from the insured, and, no doubt, costs agreed as part of a settlement of the claim. "Costs charges and expenses incurred by the (insurer) or by the Insured with the written consent of the (insurer)" are one category of costs. The incurring of those costs, or the obligation to pay them, may arise in one of two ways: either by the act of the insurer or by the act of the insured who has written authorisation of the insurer to act.

22 Although the categories of costs described in Condition 3 reverse the order of those categories in the insuring clause they are, in my opinion, the same categories. If this were not so and the condition contained three categories,

(a) costs, charges and expenses recoverable from the hospital;

(b) costs, charges and expenses incurred by Zurich; and

(c) costs, charges and expenses incurred by the hospital with the written consent of Zurich,

the second category would be entirely superfluous. If the insurer had itself incurred costs in defending the insured, it would be liable to whomever it engaged to render the services giving rise to the costs. There could never be a question that the insured might be liable to pay those costs and the insurer's liability to pay them could not be affected by its paying the amount of the indemnity limit pursuant to the condition.

23 The phrase "incurred by the Company" does not seem to add anything to the insuring clause or to Condition 3. It was scarcely necessary for the insurer to promise the insured that it would pay costs which it itself incurred. Nevertheless the phrase appears as part of the description of the costs of defending the action which Zurich promised to pay.

24 As I say, the real question is whether the temporal limitation, "prior to the date of such payment", qualifies both categories in the exception or only the second. The choice can be seen clearly if one looks again at my reformulation of the exceptions to the condition which appear in paragraph 18 of these reasons. Should the phrase "prior to the date of such payment" appear at the end of both categories (i) and (ii) or only at the end of category (ii)?

25 If it is only the second category of costs which may be limited by reference to the time prior to which they were incurred, then Zurich would remain liable to indemnify the hospital against such costs as it is ordered to pay the plaintiff. Zurich's payment of the indemnity amount would not affect that liability. If both categories are subject to the temporal limitation, the payment of the indemnity amount limits any further liability Zurich may have in respect of costs awarded to the plaintiff against the hospital.

26 In my opinion, the temporal limitation applies only to the second category. I say this for a number of reasons. The first is that this view accords with the structure of Condition 3. The limiting phrase is positioned as part of the second category of costs. It follows the words "costs ... incurred by ... the Insured" and is remote from the words describing the other category, "... costs ... recoverable from the Insured". Had it been intended to apply to both categories the condition could have been worded without difficulty to make that clear, either by repeating the phrase after the words "expenses recoverable from the Insured" or by making the division of categories clearer, perhaps in the manner shown in paragraph 18 and not appending the limitation to one only.

27 My second reason is that to read the limitation as applying to both categories would be to erode quite seriously the protection given by the policy. The insuring clauses appear to promise indemnity for the claim against the insured, the costs of defending the claim (subject to a condition) and the costs recoverable by a claimant from the insured. Condition 3 can operate so as to diminish the promise to pay for the defence of the claim. If the condition were intended also to allow the insurer to diminish the promise to pay costs ordered against an insured it should say so clearly. If the limitation can apply equally to the two categories or to one of them only, I think it should be read contra proferentum as applying to only one. Adopting Isaac ACJ's fourth canon of construction from Maye v. Colonial Mutual Life Assurance Society Limited [1924] HCA 26; (1924) 35 CLR 14 at 22:

"If by reason of its own language in relation to the matter, or by reason of the context or of conflicting or differing provisions elsewhere, a term when fairly read is doubtful or ambiguous and reasonably susceptible of two constructions, that construction should be adopted which is the more favourable to the assured, because that is of the two the more reasonable in the circumstances ...".

28 My third reason is that Zurich's construction can lead to unreasonable results. The reasonableness of the result is a relevant consideration in choosing between rival constructions; see Interpretation of Contracts by Lewison at pages 151-2 and the cases cited by the author. If the limitation applied to both categories the condition could be used to the great detriment of an insured. An insurer could conduct the defence on behalf of an insured confidently expecting the action to fail only to find, at the trial, that the claimant's case was far stronger than realised. If Zurich's construction of the condition be right the insurer could then pay the amount of the limit of indemnity and avoid liability for indemnifying the insured for the claimant's costs. I do not think a construction should be countenanced which gives an insurer such latitude.

29 Zurich's construction could allow almost no scope for the first category to operate. Ignoring settlements, costs are only "recoverable" from an insured when an order for the payment of costs has been made. Apart from costs ordered on interlocutory applications there will be no costs "recoverable" from an insured until a claimant has successfully sued the insured to judgment. If before that time an insurer can, by paying the indemnity amount, avoid liability to indemnify its insured as to the claimant's costs there is not much substance in the insurer's promise to pay "costs charges and expenses recoverable from the Insured by any claimant".

30 Zurich appears to recognise the force of this point by having tendered $50,000.00 toward those costs. This merely highlights the difficulty. There is not an amount of $50,000.00 recoverable by the plaintiff from the insured. The amount merely represents Zurich's guess of the proportion of the plaintiff's costs that might be attributed to the period of the action to date. Mr Lyons QC, who appeared for Zurich, submitted that Condition 3 should be construed as though the words "in respect of the period" were inserted. Thus Zurich submits that the exception should be understood to read:

"except for costs, charges and expenses recoverable from the insured in respect of the period prior to the date of such payment".

31 There is no warrant for inserting the additional qualification. The insertion is intended to soften the harshness of the result which would otherwise flow from Zurich's submissions that the temporal limitation applies to the first category of costs.

32 Either Zurich remains liable to indemnify the hospital for such costs as may be awarded against it in favour of the plaintiff regardless of the payment of the monetary limit or it can by paying that amount be liable to pay only such costs as have been ordered against the hospital prior to the payment. There is no middle ground.

33 For the reasons I have given I conclude that on its proper construction Condition 3 does not allow Zurich to avoid indemnifying the hospital for costs, charges and expenses recoverable from the hospital by the plaintiff.

34 The hospital submits that it is a breach of the duty of good faith which an insurer and an insured respectively owe to each other for Zurich to rely upon Condition 3 so as to decline indemnity for costs which the hospital may have to pay the plaintiff and for defending the plaintiff's claim. I have found that on its true construction, Condition 3 does not exonerate Zurich from the obligation to indemnify the hospital in respect of the plaintiff's costs. The present argument is therefore relevant only to the hospital's own costs of defending the suit.

35 To decide whether there has been a breach of the duty it is necessary first to consider what the content and scope of the duty of good faith is as it affects the present circumstances. The policy of insurance was effected in 1972 so that sections 13 and 14 of the Insurance Contracts Act 1984 have no application. Section 13 implies into every contract of insurance to which the Act applies a term requiring each party to act towards the other in respect of any matter arising under or in relation to the contract with the utmost good faith. Section 14 provides that a party to a contract of insurance may not rely upon one of its terms if to do so would be to fail to act with the utmost good faith.

36 The nature of the duty apart from contracts covered by the Act is obscure. As the authors of Report No. 20 of the Australian Law Reform Commission (1982) into the adequacy of the law concerning contracts of insurance said:

"328. The Duty of Utmost Good Faith. The common law requirement that insurer and insured act in the utmost good faith towards each other forms the basis of their relationship. This requirement has usually been recognised in connection with the duty of disclosure. In principle, it should apply equally to other aspects of the insurance relationship. That view was adopted by Mr Justice Stephen in Distillers Bio-Chemicals (Australia) Pty Ltd v. Ajax Insurance Co. Ltd. However, there is no reported decision in Australia applying the duty to the payment of claims. The position must, therefore, remain in some doubt. That doubt should be resolved ...".

37 The duty of good faith is most commonly referred to in the context of an insured's obligation to disclose to the insurer, prior to the issue of the policy, all facts material to the insurer's decision whether to accept the proposal or what premium to demand. Indeed, the standard textbooks on insurance law deal with the question of utmost good faith only in the context of pre-contract disclosure; see e.g. MacGillivray & Parkington on Insurance Law, 6th edition, paragraphs 724-726 and Ivamy, General Principles of Insurance Law, 2nd edition, pages 87-89. It is to be observed that the duty is to disclose material facts. The duty is not to act in good faith. It is because the relationship between insurer and insured is one "of the utmost good faith" that the duty to disclose arises but the duty is described in more specific terms than to act in good faith.

38 A similar phenomenon can be seen in relation to other incidents of the contract of insurance. In Re Bradley and Essex and Suffolk Accident Indemnity Society [1912] 1 KB 415, Farwell LJ (at 430) regarded the requirement of good faith from both insurer and insured as providing the rationale for construing policies of insurance contra proferentum. Because the insurer invariably prepares the policies and chooses the wording and because it must act in good faith towards its insured it is obliged to make the meaning of its policies plain. If it does not, any ambiguity is resolved in favour of the insured.

39 Similarly, the duty of an insured to take reasonable steps to reduce or to minimise its loss and therefore the liability of the insurer is "a manifestation of the principle of utmost good faith". See Newnham v. Baker [1989] 1 Qd R 393 at 399 and Sutton, Insurance Law in Australia and New Zealand, 2nd edition, paragraph 15.110. Because of the nature of the relationship there is a duty to reduce loss. The duty is not "to act in good faith".

40 In each instance the relationship, that of good faith, is not itself expressed in terms of an obligation but is the basis for implying a more specific duty.

41 The hospital's submission focussed centrally on remarks, made obiter, by Stephen J in Distillers Bio-Chemicals (Australia) Pty Ltd v. Ajax Insurance Co Ltd [1974] HCA 3; (1974) 130 CLR 1 and the discussion in Banque Keyser Ullmann SA v. Skandia (UK) Insurance Co Ltd & Ors [1990] 1 QB 665, especially the passage at 777 - 781 which was approved by the House of Lords in [1991] 2 AC at 280.

42 I have not found Banque Keyser of any real assistance because the nature of the obligation to act in good faith was there confined to disclosure.

43 In Distillers the respondent issued a policy of public risk insurance to the appellant against whom claims were made for compensation. Condition 2 of the policy provided that the appellant should not make any admission, offer, promise or payment in connection with any claim without the consent in writing of the respondent. The same condition entitled the respondent, if it so desired, to take over and conduct the defence or settlement of any claim in the name of the appellant.

44 The appellant wished to settle some claims brought against it. The respondent did not admit liability to indemnify the appellant pursuant to the policy but nor did it intimate that it would not do so. It refused to take over or conduct the appellant's defences of the claims. The appellant was concerned that if it settled the claims it would be in breach of condition 2 and the respondent might, as a consequence, decline indemnity. It unsuccessfully sought a declaration that the condition had no application where the insurer refused to conduct the defence of the claims against the insured. Gibbs J would have made the declaration but Menzies and Stephen JJ upheld the decision of the Supreme Court of New South Wales and declared that:

"Upon the true construction of the said policy the making by the (appellant) of any admission, offer, promise or payment in the actions referred to in the summons ... would constitute a breach of condition 2(a) of the said policy notwithstanding that the (respondent) has elected not to take over and conduct the defence or settlement thereof".

45 Menzies J dealt with the matter quite briefly as a matter of construction of the policy. His Honour said ((1974) [1974] HCA 3; 130 CLR 1 at 9-10):

"The insured may make a reasonable settlement where the insurer breaches the contract by denying liability and refusing to defend or settle ... [B]ut such is not the case here for the insurer has not repudiated its obligations and is not, so far as I can see, in breach of its obligations. By acting as it has it may be that the insurer is forcing the insured to defend claims that it would prefer to settle at the partial expense of the insurer. However it seems to me that the condition is directed to giving the insurer such an advantage for its own protection".

46 Only Stephen J considered the question of good faith. His Honour said:

"Policies insuring against such risks and which combine an upper limit of indemnity with a prohibition upon settlement of claims by the insured without the insurer's concurrence ... are very likely to give rise to conflicts of interest as between insurer and insured whenever a claim is made against the insured in excess of that upper limit of indemnity. The insured will be anxious to settle the claim at a figure within that limit; the insurer, however, will gain little from a settlement close to the limit and may prefer to have the case fought out rather than have it settled on such terms. An immediate conflict of interest then arises" (at 23).

"... the consent to which condition 2(a) refers is not one which the insurer may arbitrarily withhold. Its power of restraining settlement by the insured must be exercised in good faith having regard to the interests of the insured as well as to its own interests and in the exercise of its power to withhold consent the insurer must not have regard to considerations extraneous to the policy of indemnity" (at 26-27).

"Where conflicts of interest arise as between an insured and an insurer, as they frequently will where an indemnity against liability to third parties is limited to a maximum amount, the insurer must exercise its powers under the policy with due regard for the interests of the insured" (at 29).

47 Stephen J then referred to Groom v. Crocker [1939] 1 KB 194 and continued (at 31):

"The implied obligation imposed upon the insurer to have regard to more than its own interests when exercising its rights and powers under the contract of insurance is perhaps most clearly to be seen in the well established doctrines of the United States courts".

His Honour then referred "generally" to American Law Reports, 2nd edition (1955), volume 40, page 168, Williston on Contracts, 3rd edition, volume 7, paragraph 914, the review of cases in Cardinal v. State (1952) 304 NY 400 at 410-411, (1952) 107 NE 2d 569 at 573, the "recent" case of Gordon v. Nationwide Mutual Insurance Co (1972) 30 NY 2d 427, 334 NYS 2d 601 and continued:

"This duty of good faith and fair dealing must, I think, not only control the actions of an insurer who has taken over its insured's defence but will apply equally to the insurer's exercise of its power of granting or withholding consent to the making of admissions etc. even if it elects not to take over the defence".

48 The relevant passage in the American Law Reports is in volume 40 at 181. It says:

Although it may be said to be the general rule that a liability insurer, in considering an offer to compromise a claim against its insured, is under a duty to exercise `good faith' toward the insured, the courts applying this rule have not formulated any satisfactory test as to just what degree of consideration for the insured's interest is entailed by such good faith. Some of the courts have indicated that, in the absence of actual fraud or misrepresentation the insurer is entitled to regard its own interest as paramount, others have said that the insured's interest must be given equal consideration, while at least one court has said that in the event of a conflict of interest the insured's interest must be given priority".

There follows a synopsis of a number of cases exemplifying the three approaches mentioned by the report.

49 Paragraph 914 in Williston on Contracts, 3rd edition, volume 7 is an extensive treatment of the "duty of insurer to defend". It did not seem to me, with respect, helpful in the present inquiry. One passage, though, serves to illustrate that American jurisprudence is so different from the common law as to make it difficult to extract anything of use. At page 438 the author says, quoting Comunale v. Traders & General Insurance Co 50 Cal 2d 654, 328 P2d 198:

"There is an implied covenant of good faith and fair dealing in every contract that neither party will do anything which will injure the right of the other to receive the benefits of the agreement. This principle is applicable to policies of insurance. The rights of the insured `go deeper than the mere surface of the contract written for him by defendant' and that implied obligations are imposed `based upon those principles of fair dealing which enter into every contract' ".

50 I could not find anything of assistance in the first case recommended for study by Stephen J, Cardinal v. State. The second case, Gordon v. Nationwide Mutual Insurance Co, concerned a motor vehicle insurer who cancelled the policy because of the insured's failure to pay a premium. Having cancelled the policy it abandoned the defence of claims against the insured for damages for personal injury. It notified the insured of its intention no longer to defend the claims but the insured took no steps to protect his own position. Because of a deficiency in a statutory period of notice, it emerged that the insurer may have cancelled the policy prematurely with the result, according to local law, that the cancellation was invalid and the policy remained in force. The limit of indemnity provided by the policy was $20,000.00. The insured recovered against the insurer just under $260,000.00 on the basis that its decision not to defend the claims was made in bad faith. The Court of Appeal allowed the insurer's appeal though by the narrow margin of four to three.

"The punitive nature of damage for the bad faith breach of contract is a characteristic of the law of contracts generally, and is not a peculiarity alone of the contract of liability insurance. In every contract `there exists an implied covenant of good faith and fair dealing' ... But a punitive measure of damages is not applied routinely for breach of contract; and bad faith requires an extraordinary showing of a disingenuous or dishonest failure to carry out a contract".

At 438 the majority referred to two cases in which insurers were found to have acted in bad faith by refusing `selfishly' to settle for reasons of their own self-interest.

52 The review of cases by the minority summarised their effect by saying (at 446):

"Significantly, the authorities discussed thus far are concerned with the insurer who defends but in doing so advanced its own interest by compromising those of its insured".

53 I was referred to an article by Professor Burton, Breach of Contract and the Common Law Duty to Perform in Good Faith (1994) Harvard Law Review 369 and an exposition on Professor Burton's article by Mr Hawke in (1994) 6 Insurance Law Journal 91.

54 The Burton article commences with the proposition that the duty to perform a contract in good faith is a general principle of contract law. This at once marks a significant point of departure from the common law. The gist of Professor Burton's explanation of the duty to perform in good faith may be seen from the following passages:

"Good faith limits the exercise of discretion in performance conferred on one party by the contract. When a discretion-exercising party may determine aspects of the contract, such as quantity, price, or time, it controls the other's anticipated benefits. Such a party may deprive the other of these anticipated benefits for a legitimate (or good faith) reason. The same act will be a breach of the contract if undertaken for an illegitimate (or bad faith) reason" (at pages 372-3).

"The problem of good faith in contract performance can be clarified in terms of a party's reasons for exercising discretion. ... A party with discretion may withhold all benefits for good reasons. The cases therefore carry the inquiry further and establish that the state of mind of the discretion-exercising party is of central importance. The courts, mindful that good faith should not be used as a vehicle for judicial fiat, defer to a party who acts with no improper purpose" (at page 384).

"The good faith performance doctrine may be said to permit the exercise of discretion for any purpose - including ordinary business purposes - reasonably within the contemplation of the parties. A contract thus would be breached by a failure to perform in good faith if a party uses its discretion for a reason outside the contemplated range - a reason beyond the risks assumed by the party claiming a breach" (at pages 385-6).

"Bad faith performance consists of an exercise of discretion in performance to recapture opportunities forgone at formation ... A reasonable person accordingly would enter a contract that confers discretion on the other party only on the belief that the discretion will not be used to recapture forgone opportunities ... Many of the contracts in which good faith performance is of central importance once would have been unenforceable for indefiniteness or lack of mutuality. This generalisation is most accurate with respect to conditions of personal satisfaction, discretionary termination clauses, many open and floating quantity contracts, and open price contracts. ... [E]ach party must forgo some future opportunity upon formation and thus restrain its future freedom in some way. The implication of good faith now renders many of these contracts enforceable, suggesting judicial recognition that the parties in fact were forgoing opportunities in many such contracts" (at pages 387, 388).

55 The concept of good faith as explained in this article appears to me quite alien to the common law of contract. As appears from the last quote, the concept has found most utility in preserving contracts that the common law would regard either as void for uncertainty because the parties did not agree upon some essential term or the mechanism for determining it, or, more frequently, as containing an implied term as to reasonableness. I am disinclined to introduce, as a means of preserving otherwise uncertain contracts, a judicial enquiry into the economics that drove the negotiations for a contract or an enquiry into the motives of a party to a contract for exercising a power given by it.

"A number of commentators have tackled this exercise in the specific context of utmost good faith, and the enquiry has generally led beyond the insurance context, into general principles of acceptable conduct between contracting parties ... What these forays chiefly reveal is the difficulty of `crystallising', as a legal duty or objective standard of conduct, a formula which would be more readily interpreted as a moral imperative. The articles tend to throw up a plethora of terms which can be regarded as synonymous with utmost good faith, but which do not really tell us much more about it. What does emerge, however, is a clear consensus that good faith in contracts generally, and certainly utmost good faith in insurance contracts, requires more than mere mechanical performance according to the letter of the agreement; just how much more is, of course, the critical question" (at page 94).

57 Mr Hawke then takes up Professor Burton's point about the purpose for which a discretion is exercised and goes on:

"The very fact that the contract confers a discretion on one party indicates a mutual intention that the other be placed, to a certain extent, in the first party's hands as to the ultimate benefit received" (at page 97).

58 Mr Hawke's conclusion borrows heavily from Distillers. It is:

"The insurer, as the party experienced in litigation management and as the person who is paying both defence costs and any eventual damages, is given the discretion to manage the litigation and decide whether to settle or defend; and it could fairly be said to be anticipated by the parties that it will use this to control and minimise its ultimate pay out under both aspects of the coverage ... It is not anticipated that it will use this discretion to avoid substantially its performance costs under one or other of the policy limbs, either defence costs or damages indemnity, in such a way as to deprive the insured of the specific policy benefit appropriate to the circumstances of the case. In short, whenever an insurer settles a case which an insured ought in all justice to win, or pays substantially more than a third party's claim is worth, merely because to do so is less expensive than the provision of a proper defence, it arguably exercises its discretion for a purpose uncontemplated by the parties at the time of making the contract. ... Likewise, if an insurer takes the view that it has nothing to lose by `taking a punt' on a defence of dubious merit, merely because the amount for which the case should properly be settled exceeds the anticipated defence costs or is close to the policy limit, it is abusing its discretion in order to recoup an opportunity which it properly relinquished at the time it entered into the policy obligation to settle legitimate damages claims against the insured, up to that limit" (at pages 119-120).

59 My reading of the cases and materials leads me to think that the American experience is an uncertain, and for that reason, unhelpful guide to the content or ambit of the duty of good faith in contracts of insurance. The principle is difficult to apply as may be seen from the acute division of judicial opinion in Gordon. It allows individual judicial prejudices far too much influence in deciding where in the "calculus of economics" (to borrow Mr Hawke's phrase) in which contracts are made the line is to be drawn between fair dealing and bad faith. The concept is tied up with the awarding of punitive damages for breach of contract, something which the common law has steadfastly refused to countenance. In short, the American doctrine of good faith and fair dealing is so exotic a growth that if it is to be transplanted into the common law it should be done by a more accomplished gardener than I.

60 Gibson v. Parkes District Hospital & Anor (1991) 26 NSWLR 9 contains an extensive review of American authority. The case itself dealt with whether an employee not a party to a contract of insurance may have a right to damages for the insurer's breach of good faith in not processing his employer's claim for indemnity in respect of the employee's claim for worker's compensation. The ruling that the claim was not "so clearly untenable" that it should be struck out does not provide a real basis for confidence that the American concept will take root here. In any event I am not concerned with a claim in tort.

61 Groom v. Crocker [1939] 1 KB 194 does not in terms discuss the duty to act in good faith. The case relevantly concerned an action by an insured against his insurer alleging breach of contract. The action arose out of a collision between a car, driven by the plaintiff, and a truck for which the latter was entirely to blame. The plaintiff's brother was injured in the collision. He sued the plaintiff and the owners of the truck. The plaintiff's insurer compromised the action with the insurers of the truck. They had a "knock for knock" agreement pursuant to which the plaintiff's insurers paid out his brother's claim and the insurers of the truck paid out another claim in which both insurers were liable to indemnify their respective insured. The plaintiff had no interest in the second action.

62 The means by which the plaintiff's brother's claim was settled was that the insurer who had the conduct of the action on behalf of the plaintiff instructed its solicitor to admit negligence and submit to judgment. On learning of what had happened Mr Groom sued the solicitor for damages for breach of duty, in tort and contract.

63 The breach of duty complained of was that his solicitor, without obtaining his consent, committed him to an admission of allegations which the solicitor did not believe to be true when the admission was calculated to be damaging to his reputation. See [1939] 1 KB 194 at 202.

64 The solicitor's defence was that he acted on behalf of the insurer as well as Mr Groom and it was a term of the policy that the insurer should have absolute conduct and control of any proceedings against the insured.

65 The court held that the solicitor was liable for breach of duty in contract only and that the solicitor had broken his contract of retainer to act with reasonable care. What is important for present purposes is that the policy on which the solicitor relied to justify his admission of negligence was construed not to entitle the insurer, and therefore the solicitor, to act in disregard of Mr Groom's interest.

"The effect of the provisions in question is, I think, to give to the insurers the right to decide upon the proper tactics to pursue in the conduct of the action, provided that they do so in what they bona fide consider to be the common interest of themselves and their assured. But the insurers are in my opinion clearly not entitled to allow their judgment as to the best tactics to pursue to be influenced by the desire to obtain for themselves some advantage altogether outside the litigation in question with which the assured has no concern".

"Under condition 2 the (insurers) were given, in consideration of their indemnity, an absolute right to control their assured's defence; but the scope of this right was, in my view, subject to certain implied boundaries and limitations. It was not one which they would be entitled to exercise arbitrarily. They were bound to exercise a real discretion upon each question as it arose in the conduct of the defence, making each decision after due consideration of the circumstances of the particular case; not, of course, consulting the wishes of the assured as if he were an uninsured person, but taking their decisions with their minds on the facts of the particular allegations made against him, whilst not forgetting their own rights arising from the bargain expressed in the policy - namely, that in return for his indemnity their assured allowed them freedom to deal with the pecuniary risk to which they were exposed as economically for themselves as they could without bringing into the account extraneous considerations wholly foreign to the subject-matter of the insurance between him and them".

"... the second condition ... which provides that `The (insurer) shall have absolute conduct and control of ... any proceedings against the assured' is subject to an implied term that the solicitor who is selected by the (insurer) shall act reasonably in the interests both of the assured and the (insurer)".

68 The matter was dealt with not on the basis of some supervening or overriding duty of good faith but by implying limitations on the manner in which the power given to the insurer by condition 2 in the policy could be exercised.

69 I was referred to Insurance Law in Australia, 2nd edition, by Professor Sutton in which the author said (at page 101):

"The term `good faith' has many different meanings in the legal context but in essence it encompasses notions of fairness, reasonableness and community standards of decency and fair dealing. It imposes a market standard of fairness, that is, what is customary and acceptable conduct in the particular commercial activity concerned as established by expert evidence".

The passage has been quoted with approval, e.g. by Walsh J in Kelly v. New Zealand Insurance Company Ltd (1993) 7 ANZ Insurance Cases 61-179 and, on appeal, (1996) 9 ANZ Insurance Cases 61-317. In the Full Court, Owen J (with whom Kennedy and Steytler JJ agreed) said in finding there had been no breach by an insurer of the duty to act in good faith:

"For all of these reasons there was no dishonest, capricious or unreasonable conduct by the respondent. It is not necessary for a party to point to conduct of any particular degree of seriousness in order to establish a breach of the duty. In this case there is nothing that can be sheeted home to the respondent that could be said to offend `the essential element of honesty' that is at the heart of the good faith principle" (at 76,520).

70 The reference to the essential obligation of honesty comes from the judgment of Hardie Boys J in Vermeulen v. SIMU Mutual Insurance Association (1987) 4 ANZ Insurance Cases 60-812 at 74,987.

71 I do not find these formulations of any assistance in determining with any degree of clarity or specificity what is the nature and extent of the duty to act in good faith imposed upon an insurer (and an insured) after the contract has been made. A multiplicity of synonyms and rhetorical appeals to "honesty", "fairness", "decency" or lack of caprice merely causes confusion.

72 I have difficulty comprehending what useful role the obligation can play in relation to powers or discretions conferred on one of the parties to a contract if the essence of the obligation is to act honestly. A dishonest exercise of a power is no exercise of the power at all. Dishonesty encompasses use of the power for a collateral or ulterior purpose or motive. The law of contract does not require a separate doctrine of good faith to provide a remedy in such a case. The law simply disregards the purported exercise which has no legal effect.

73 The implied term requiring parties to a contract of insurance to act towards each other with the utmost good faith implied by section 13 of the Insurance Contracts Act has twice been the basis for conferring relief on an insured. I have not found either case helpful in determining the question whether Zurich was in breach of an obligation to act in good faith by using Condition 3. Both cases approached the point in dispute by reference to the implied term. Section 13 brought a change to the law and there is, I think, no warrant for assuming that in contracts to which the Act does not apply there are terms of the kind described by sections 13 and 14. As well, I do not find the decision to be a convincing exposition of the nature or scope of the duty.

74 Moss & Anor v. Sun Alliance Australia Ltd (1990) 6 ANZ Insurance Cases 60-967 was a case in which the plaintiffs insured their business premises against fire. The property burnt down but the insurer declined to pay under the policy. It harboured a suspicion, proved wrong, that the plaintiffs had started the fire. The plaintiffs had borrowed heavily to buy the property and the delay in receipt of the insurance moneys embarrassed them with their financiers. Without the income from the property or the moneys due under the policy, the insured could not repay their loans and incurred a liability to pay interest for the period during which the insurer delayed payment.

75 An insurer who fails to pay indemnity moneys due under a policy has, since the Common Law Practice Acts were amended in 1972, been liable to pay interest for the period of the delay. Section 57 of the Insurance Contracts Act expresses the same obligation.

76 The court in Moss, apparently relying upon the implied term to act in good faith, allowed damages in addition to interest to compensate the insured for late payment. The court accepted a submission that "prompt admission of liability to meet a sound claim for indemnity and prompt payment is required of an insurer by virtue of its obligation to act with the utmost good faith towards its insured". The judgment is, with respect, not entirely clear but it seems that the court, having found that the insurer was in breach of its obligation to act in good faith by delaying admission of the claim and payment of the indemnity sums, held the insurer liable to pay damages for the loss of use of the money, calculated by reference to the compound rates of interest the insured had to pay, rather than the simple interest recoverable by an insured who has been paid late pursuant to section 57 of the Insurance Contracts Act. The court seems to have relied upon Hungerfords v. Walker [1989] HCA 8; (1990) 171 CLR 125 to award damages for loss of use of the money.

77 There may be a question whether an insurer who pays late is liable to pay damages rather than interest only, but that question cannot, in my view, be answered by reference to the character of the particular term of the contract which is said to have been broken. If an insurer is liable to pay damages because it paid late, that is because there is a term or implied term of the contract that it should pay by a certain date. It is not because it was bad faith to be late. To allow a different measure of damage depending upon the nature of the term breached is, I think, unwarranted.

78 The second case is, to my mind, equally unsatisfactory. In Australian Associated Motor Insurers Ltd v. Ellis & Anor (1990) 6 ANZ Insurance Cases 60-957 a comprehensive policy of motor vehicle insurance contained a condition that the insured not make any modification to the car without the insurer's written consent. After the policy had been made and the policy renewed, the insured modified the car by fitting it with "mag" (i.e. large sporting) wheels, the purpose of which is to allow the vehicle to corner at higher speeds than ordinary wheels would permit. The vehicle was damaged whilst being driven by the insured's twenty-three year old daughter. The modified wheels played no part in causing the collision.

79 The condition was not unusual. It had been found in policies of comprehensive motor vehicle insurance for decades. Had the insurer been notified of the modification it would have maintained the policy but declined cover whenever it was being driven by a person under twenty-five. The particular collision would thus not have been covered by the policy.

80 The court found that the insurer was in breach of the implied duty found in section 13 because it had not notified the insured of the consequence of breaching condition 5.

81 This decision appears to me, with respect, wrong. A duty, the essence of which is to act honestly, is elevated to an obligation in an insurer to coddle its insured and to allow idiosyncratic judicial solicitude to replace principle.

82 I have concluded, as a result of my review of the cases and articles, that there is not, as the hospital submits, a separately existing, independent general duty to act in good faith which would circumscribe Zurich's exercise of the choice given it by Condition 3. Consistent with what I understand to be the principles of the law of insurance and the nature of the relationship between an insurer and an insured, that it requires good faith from each to the other, there is an implied limitation in any term of a policy which confers rights or powers on the insurer that they be exercised with due regard for the interests of the insured where those interests conflict with the insurer's.

83 This approach is supported by Groom and, I think, by Stephen J in Distillers. His Honour expressly approved Groom and, though referring to a "duty of good faith and fair dealing", his Honour also referred to "the implied obligation imposed upon the insurer to have regard to more than its own interests when exercising its rights and powers under the contract ...". The approach is also consistent with the obligations to disclose material facts, minimise loss and produce clear policy wordings. In each instance it is the nature of the relationship which impels the imposition of the duty.

84 The central problem remains. What is "due regard" for the interests of the insured? The passage I have quoted from the American Law Reports points to the failure of the courts of that country to formulate any satisfactory test to decide what is an appropriate level of consideration for the insured's interests. One can say with confidence that due regard will depend upon the nature of the right being exercised and the circumstances in which it comes to be exercised but that is not to say very much. To my mind an important factor is that the parties have agreed by formal written contract to confer on one of them, the insurer, a discretion, the exercise of which will or may occur in circumstances where their interests are opposed. In other words, as Mr Hawke puts it (at page 97), the contract indicates a mutual intention that the insured be placed, to a certain extent, in the insurer's hands in relation to the exercise of the power.

85 Importantly the implied limitation that an insurer will exercise rights with due regard for the interests of the insured has little application with respect to a condition which operates only as between the insurer and the insured. Condition 3 expressly confers upon the insurer the right to act in a way which can only be inimical to the insured's interests. An implied term can scarcely overcome this express agreement by the insured that the insurer may act to its detriment.

86 The situation is different, as the cases illustrate, where an insurer is empowered by the policy to deal with third parties either by way of compromising or defending claims or bringing suits against them. The interests of insurer and insured, which may be different, are affected by the outcome of the action or defence. One can readily see how the insurer should be mindful of its insured's position when defending, suing or compromising. But the capacity of the insurer to injure the interests of the insured pursuant to a term that only operates between insurer and insured and which expressly authorises the conduct is of a wholly different category. It seems to me the implied limitation cannot have any application to Zurich's reliance on Condition 3.

87 There seems to me nothing unfair in this result if my construction of the condition be correct. Zurich will have to indemnify the hospital in respect of the plaintiff's claim, up to the limit of the policy amount, and for costs awarded in favour of the plaintiff. Condition 3 may be used by Zurich only to limit the amount it spends on defending the claim on behalf of the hospital. But Zurich was never under an obligation to pay for the hospital's defence. Whether it did so was made, by the insuring clause, a matter entirely for Zurich's discretion. Having made the decision to pay for the defence, Condition 3 permits Zurich to bring its commitment to an end.

88 The hospital submits that it is prejudiced by Zurich's decision to discontinue funding its defence. But it seems to me that the hospital does not suffer any loss beyond that contemplated by Condition 3 itself to which the hospital expressly agreed when it made the contract. The hospital has suffered no detriment to date in having its costs paid by Zurich. There is no suggestion that it cannot defend the action with as much skill and chance of success as Zurich might have done. It will have to pay itself but this, as I say, is what the clause expressly contemplates. In exercising the right given by Condition 3, Zurich, in my opinion, is not acting without due regard for the insured's interests. I do not believe the duty has any application to the exercise of powers such as those contained in Condition 3.

89 The hospital has submitted that there are a number of factors which demonstrate that "the purported payment of the limit of indemnity in January 1998 amounted to a breach of the duty by Zurich". The factors identified were that:

* it was known from an early time that the costs of defending the action would substantially exceed the limit of indemnity;

* there is no worthwhile prospect of recovering any costs against the plaintiff;

* the value of money has eroded substantially between the issue of the writ in 1981 and the present;

* at all times up until January, 1998, Zurich defended the action on behalf of the hospital and indicated that it would continue to do so;

* Zurich did not involve the hospital in attempts to compromise the action and did not invite the hospital to contribute towards a settlement sum; and

* by reason of the forgoing the hospital lost the opportunity to compromise the action at a time when costs were less, judgments were lower and money was more valuable.

90 The first three factors may be accepted. There is some contention about the others. All were advanced in support of an argument that there was a breach of an amorphous duty of good faith which I have rejected. The factors appear to me to be irrelevant to the exercise of the discretion conferred on Zurich by Condition 3. The hospital, when it made the contract, agreed that Zurich should have that power, which, whenever it was exercised, would leave the hospital having to pay for its own defence. The exercise of the discretion will always disadvantage the insured and benefit the insurer financially. The interests of the insurer and insured will always be opposed if the power is exercised. The condition gives the insurer the right to act in its own self-interest.

91 Of the factors listed the lost opportunity to settle the action is the only one of any consequence. On the evidence there has never been a worthwhile prospect of settling so that the hospital's complaint has no basis in fact. This matter is dealt with next.

(i) at a meeting on 9 December, 1993 that Zurich was and would remain liable to indemnify the hospital in respect of costs;

(ii) by a facsimile transmission of 29 October, 1996 that Zurich was and would remain liable to meet the costs of defending the action;

(iii) by letter of 9 August 1995 from its solicitors to the hospital, that the hospital was indemnified by Zurich against all costs.

(b) it relied upon the representations by refraining from becoming a party to any negotiations to compromise the action.

(c) it thereby suffered detriment in that it lost the opportunity to compromise the action and save "hundreds of thousands of dollars" in costs which it will be unable to recover from the plaintiff.

93 As an alternative to the plea of estoppel by representation, the hospital pleads that "Zurich and the hospital conducted their affairs concerning the action on the conventional basis that Zurich would indemnify the hospital in respect of all costs of defending the action". The plea continues that in reliance upon that conventional basis the hospital refrained from taking steps to participate in the negotiations for compromising the action or from taking steps to bring about an earlier trial of the action, as a result of which it suffered the detriment identified.

94 The hospital did not rely upon estoppel by representation so much as estoppel by convention.

95 The High Court, in Con-Stan Industries of Australia Pty Ltd v. Norwich Winterthur Insurance (Australia) Ltd [1986] HCA 14; (1986) 160 CLR 226 at 244, described estoppel by convention as a

"form of estoppel founded not on a representation of fact made by a representor and acted on by a representee to his detriment, but on the conduct of relations between the parties on the basis of an agreed or assumed state of facts, which both will be estopped from denying".

96 In Queensland Independent Wholesalers Ltd v. Coutts Townsville Pty Ltd [1989] 2 QdR 40 at 46, McPherson J (with whom Andrews CJ and Demack J agreed) said that:

"... it remains ... an open question whether a conventional estoppel is capable of ... `varying' the express terms of a formal written contract ... [e]ven if ... the true effect of a conventional estoppel is not to `vary' the contract but simply to prevent a party from insisting upon its strict literal terms ... The word `conventional' in this context carries connotations of agreement, not necessarily express but to be inferred, or at least a demonstrable acceptance of a particular state of things, as the foundation for the dealings of the parties. There must ... be at least a `course of dealing between the parties'; that is to say acts or conduct which impinge upon ... `their mutual affairs'. ... To produce that consequence the acts or conduct relied upon must point plainly, if not unequivocally, to the assumption put forward as the conventional basis of relations. A course of dealing that is explicable by reference to some other equally plausible assumption inevitably falls short of establishing that the parties accept as the basis of their relations the particular assumption contended for".

97 The hospital identifies the acts of the parties which demonstrate the shared assumption that Zurich would remain liable to indemnify the hospital for costs as:

* Zurich paid all of the costs of defending the action up to 15 January, 1998;

* At no time did Zurich request payment of costs from the hospital;

* Zurich did not, until 15 January, 1998, inform the hospital that it had any potential liability for the costs of defending the action;

* In answer to a question by the hospital, Zurich replied by letter of 27 August, 1994 that it was liable to pay only $200,000.00 toward any award of damages the plaintiff might recover but did not refer to the possibility that the hospital might be liable for the costs of defending the plaintiff's action.

* By letter of 3 April, 1990 from Crouch & Lyndon, Zurich informed the hospital that it had attempted to settle the action and referred to the hospital's exposure because of the monetary limit of the cover but did not refer to a possibility that the hospital might have to pay its own costs.

* By letter of 20 March, 1991 Crouch & Lyndon, on behalf of Zurich, told the hospital that the costs of the trial, payable by Zurich, were such that an attempt should be made to settle the action on "purely commercial grounds".

* By letter of 15 November, 1990 Zurich asked Crouch & Lyndon about the prospects of making a "commercial settlement" of the action to reduce the amount it would have to pay to defend the action.

* By letter of 7 October, 1991 Zurich informed Crouch & Lyndon that it appeared inevitable that the matter would proceed to trial but did not inform the hospital that it might be liable for the costs of defending the action.

* At a meeting on 9 December, 1993 Zurich's officers informed the hospital's officers that under the policy the hospital was indemnified for $200,000.00 plus legal costs. No mention was made of the possibility that the hospital might be liable to pay costs.

* On 13 December, 1994 officers of Zurich attended a meeting with representatives of the insurers of the other defendants and discussed settling the action and the possibility of a combined defence to the action including a sharing of the payment of the costs of the defence.

* By facsimile transmission of 14 December, 1994, a copy of which was given to the hospital, Zurich referred to its liability as the sum of "$200,000 plus of course legals".

* The letter of 9 August, 1995 from Zurich's solicitors to the hospital in which Zurich discouraged the hospital from involvement in compromise negotiations and stated that the hospital was indemnified by Zurich against all costs.

* In or about December, 1996 an officer of Zurich met with an officer of the hospital. Zurich offered to settle its obligations to the hospital by paying $200,000.00 plus costs to date plus an unspecified sum for future legal costs. The hospital rejected the offer. Zurich did not say that it had any right to avoid liability for future legal costs by paying $200,000.00.

* At a meeting between an officer of Zurich and an officer of the hospital prior to mediation of the plaintiff's action, Zurich did not intimate to the hospital that there was a possibility that the latter might become liable for the costs of defending the action.

* By facsimile transmission of 29 October, 1996 Zurich informed the hospital that it had decided to change solicitors acting for it in the litigation because, inter alia, of Zurich's concern about its liability for costs.

98 The letter of 9 August, 1995 from Crouch & Lyndon to the hospital relevantly said, having referred to the plaintiff's action:

"You will recall that we are acting through your insurers Zurich Insurance. However, you are also aware that the indemnity is a limited indemnity on the claim and costs.

Messrs Corrs Chambers Westgarth Solicitors for Dr Bulman have for some time been attempting to arrange a meeting with the hope of obtaining an offer from the parties. This offer is being justified purely on a commercial basis because notwithstanding that the parties appear confident that there has been no negligence ... the actual costs of running this trial will be prohibitive with little or no chance of recovery against the plaintiff ...

A meeting of this kind has been held in the past between the insurers. However, on this occasion Messrs Corrs Chambers Westgarth wish a representative from your Hospital to also be present.

We believe this to be completely unnecessary due to the fact that you are indemnified against all questions of costs and in any event we will be present to protect your interests. We do not believe that you as a Hospital should have to contribute to any settlement sum because of your insurers Zurich. ..."

99 Although this is put forward as a communication from Zurich, by its solicitors, to the hospital, the relevant passage asserting that the hospital is "indemnified against all questions of costs" is, in my opinion, advice proffered to the hospital by its own solicitors. Messrs Crouch & Lyndon have for many years been solicitors for the hospital. They were, for some time, instructed by Zurich to conduct the defence of the plaintiff's action and, no doubt, pursuant to that retainer on occasions communicated to the hospital as agents for Zurich. This letter, though, does not seem to be of that type. It appears, rather, to impart information relevant to the attempt to settle and then to proffer advice in relation to the proposed negotiations. That advice was given by Crouch & Lyndon as solicitors for the hospital, not for Zurich.

100 The facsimile of 29 October, 1996 was from Mr Saitzeff to Mr Keogh. It read:

"... I attach a copy of my letter addressed to Mr Squires of Crouch & Lyndon ... Whilst we have allowed this matter to proceed with Mr Squires firm to date in the hope that a commercial settlement might be reached within our indemnity limits, it would appear that the matter will now proceed to mediation and ultimately trial.

You are correct that the amount currently being pursued by the plaintiff is in the region of $10,000,000 and we believe such is rather an unrealistic amount. Regardless ... we cannot guarantee that a final judgment will (not) be made in that region. Whilst we accept that Messrs Crouch & Lyndon are probably a very good commercial firm, we have taken the decision to use our own firm of solicitors who are specialists in this type of litigation. ...

If this matter proceeds to trial, we will not only have the plaintiff's demand to consider but trial legal costs on a combined basis which we estimate at up to $1,000,000. You can appreciate that we do not wish to take any chances when sums of this nature are at stake ...".

101 I have not referred to the representation said to have been made or constituted by what was said at the meeting on 9 December, 1993. The hospital did not adduce any evidence to support it.

102 The representations contained in these communications amount, at most, to a statement that, at the time of making them, it was Zurich's intention to fund the hospital's defence up to the conclusion of the trial or earlier settlement. They are statements of present intention, not, it seems to me, promises of future conduct. In particular, I am unable to see either as amounting to an intimation that Zurich would never invoke the right given it by Condition 3. It will be remembered that the condition commences, "(Zurich) may at any time ... pay ... the amount of ... the ... Limit of Indemnity ...". The estoppel which the hospital seeks to invoke must be of a representation that Zurich would never exercise the right given by the condition. The representations pleaded do not have that effect.

103 Mr Lyons QC submitted, correctly I think, that there was no evidence that the hospital had done anything in reliance upon any of the representations pleaded.

104 As already noted, the hospital relies principally on an estoppel by convention. The "convention" which the hospital seeks to establish is that Zurich would not rely upon Condition 3. To put it a little differently from the formulation in paragraph 93, the hospital is asserting an assumed state of affairs between it and Zurich in which Condition 3 does not appear in the policy, or in which the introductory words "may at any time" are omitted. But this, it seems to me, is to vary the terms of an express written contract which Coutts said could not be done.

105 The matters on which the hospital relies to establish the assumed state of affairs do not go so far as to show that the parties assumed that Zurich would never rely upon Condition 3. There is no inconsistency between the existence of the condition in the policy and the potential for the exercise of the power conferred by it, and the facts listed by the hospital as giving rise to the convention. Condition 3 allowed Zurich to change its mind about paying the hospital's costs of defence. In paying for the defence until it changed its mind and stating its then present belief and intention that it would pay for the defence, it was not acting on the basis that it would not change its mind. There is no dichotomy between the facts (the payment of the hospital's costs) and the right given Zurich by Condition 3. The parties were not acting on the basis of an assumed state of affairs which differed from the real one.

106 The detriment which the hospital says it has suffered by relying upon or acting on the assumed state of affairs is that it lost the opportunity of settling the action for a figure within the reach of Zurich and the hospital. It has thereby become exposed to paying its own substantial costs of the action which it could have avoided had it settled earlier.

107 There are two difficulties. The first is that there is no evidence that the hospital refrained from participating in settlement negotiations or initiating them because Zurich was funding its defence.

108 The second point is that, on the evidence, I am not satisfied that there was ever a chance that the action could have settled for a figure lower than the amount it now faces for costs.

109 In October, 1989 an offer was made that if the plaintiff discontinued her action the hospital would forego its entitlement to costs. The offer was rejected.

110 In July, 1990 Zurich initiated a meeting of insurers for all defendants with a view to a joint offer of settlement. To that end Messrs Crouch & Lyndon wrote to the solicitors for Dr Bulman proposing that the defendants together make an offer of $400,000.00 to settle the action. The doctors' insurers opposed the proposal because the plaintiff is the first of a number of claimants who have similar causes of action. The other insurers have an interest in defeating those claims in which the hospital is not concerned. The plaintiff's case is believed to be deficient and the other insurers perceive their interests to be best served by defeating the plaintiff rather than settling and inviting other claims.

111 Each of the defendants has claimed contribution from the others alleging that their negligence caused all or part of the plaintiff's injury. There is thus no point in the hospital attempting to settle separately with the plaintiff unless it first obtained a release from the other defendants. Unless all of the defendants joined in a settlement or the others released the hospital from their cross-claims the hospital will be caught up in the trial. Zurich's desire to settle was effectively frustrated by the attitude of the other defendants' insurers.

112 In 1992 Zurich asked the other defendants to release the hospital from their cross-claims so that it could settle separately with the plaintiff. They refused, and also rejected Zurich's suggestion that the plaintiff's case be mediated.

113 Late in 1994 Zurich succeeded in convening a meeting of all insurers with a view to making a joint offer of settlement. Zurich was prepared to contribute up to $150,000.00 toward a sum to be offered to the plaintiff on the basis that the four defendants contribute equally. This would have resulted in a maximum sum of $600,000.00 being offered. In the result the other insurers would not agree to such an amount. After considerable delay, an offer of $400,000.00 was made in March, 1996. The plaintiff rejected the offer.

114 As a precondition to the allocation of trial dates the claim was mediated in September, 1997 before Mr Hanger QC. Zurich was prepared to contribute something over the amount of the indemnity towards a settlement. The hospital was also prepared to contribute up to $50,000.00 from its own moneys. The other defendants refused to make any offer. The mediation failed.

115 The plaintiff has never indicated an amount for which she would settle. The amount sought is enormous and has increased over time.

116 Mr Couper QC, for the hospital, placed much emphasis on Mr Saitzeff's opinion that an offer of "something over $1,000,000.00" might have settled the action. If that amount (i.e. $1,000,000.00) were shared equally between the four defendants the hospital's share would be only $250,000.00. Mr Couper criticised Zurich for limiting the amount it was prepared to contribute to a settlement to $150,000.00. He submitted that by not offering the larger amount and by not informing the hospital of the arithmetic and its consequences, the hospital was deprived of a chance of settling by paying from its own moneys no more than about $50,000.00.

117 This argument is entirely speculative. Mr Saitzeff had no basis for his opinion that "something over $1,000,000.00" would be an acceptable sum to the plaintiff. Moreover, he did not, and could not, specify the amount of the "something". Nor is there any basis for believing that the other defendants' insurers would contribute to such a settlement.

118 The real difficulty is, however, that the hospital could not settle separately from the other defendants. The amount they have been prepared to commit to an offer has limited Zurich's scope for compromising. The other defendants would not agree to an offer more than $400,000.00 at any stage. The plaintiff would not accept such a sum. According to Mr Saitzeff, the doctor's insurers are adamant that the matter should proceed to trial.

119 My impression from the evidence is that Zurich has consistently tried to settle the action on terms which would not involve the hospital having to contribute its own moneys. It did so in a deliberate effort to protect the hospital. It was Zurich which initiated and persisted in efforts to persuade the other defendants to make an aggregate offer to the plaintiff.

120 No estoppel is made out unless the party alleging it "will have placed himself in a position of material disadvantage if departure from the assumption be permitted": per Dixon J in Thompson v. Palmer [1933] HCA 61; (1933) 49 CLR 507 at 547. Where the estoppel is said to arise from an insurer's conduct of litigation on behalf of an insured there will be material disadvantage if the insured loses a real chance of doing better from the litigation than the result achieved by the insurer. A mere possibility that the insured might have done better is insufficient. See Nigel Watts Fashion Agencies Pty Ltd v. GIO General Ltd (1995) 8 ANZ Insurance Cases 61-235 at 75,654 per Handley JA and Territory Insurance Office v. Adlington [1992] NTSC 60; (1993) 7 ANZ Insurance Cases 61-149 at 77,781.

121 In my view there was no real chance that the hospital could have done any better in negotiating a settlement of the plaintiff's claim than did Zurich. The intransigence of the other insurers, for their own good reason, made settlement impossible. The hospital has not, in my view, suffered material disadvantage or detriment. It is not unjust or unconscionable that Zurich should seek to rely on Condition 3.

122 The result is that the hospital is entitled to a declaration in relation to the construction of Condition 3 as it affects the payment of costs that the plaintiff might recover against it. Accordingly I declare:

Zurich Australian Insurance Limited is obliged to indemnify St Andrew's War Memorial Hospital against costs which are recoverable from it by the plaintiff in Writ No. 223 of 1981.

I do not think it necessary to make the other declaration sought by Zurich. It follows from my reasons that upon payment to the hospital of the sum of $200,000.00 it will not be liable to continue paying for the hospital's defence of the plaintiff's action but will have to indemnify it against any costs awarded to the plaintiff.