The Court of Appeal’s recent decision in Prattley Enterprises Limited v Vero Insurance New Zealand Limited [2016] NZCA 67 provides welcome certainty to insurers on the issue of validity of settlement agreements.

Background Facts

Prattley Enterprises Limited (Prattley) owned Worcester Towers, a commercial building in Christchurch.

Worcester Towers was severely damaged in the Christchurch earthquakes and was eventually demolished.

Worcester Towers was insured with Vero for indemnity value with a sum insured of $1,605,000. Prattley therefore became entitled to the building’s indemnity value but the policy did not provide a method for this to be calculated.

Vero obtained a valuation showing that the pre-earthquake market value was $370,000 and the depreciated replacement value was $1,400,000, and provided this to Prattley. After discussion about this methodology, a second valuation was obtained which showed that market value to be $1,050,000 and depreciated replacement value was $1,021,000.

In August 2011, the parties agreed on a settlement of $1,050,000.

The settlement agreement provided that payment by Vero was in full and final settlement and discharge of all claims present and future in connection with the earthquakes and the policy.
Prattley subsequently wished to pursue a greater claim against Vero and presented a claim for $8.8 million. Proceedings against Vero were issued in September 2013.

High Court decision

Prattley sought to set the settlement agreement aside on a number of grounds.

It argued that:
• Vero breached its obligations under the contract, including obligations under the Fair Insurance Code;
• The agreement was not a true contract of compromise, and no consideration had been paid by Vero because the settlement amount was less than Prattley’s “true” entitlement;
• The agreement was reached in breach of the Fair Trading Act 1986, because Vero’s conduct towards Prattley had been misleading and deceptive;
• The agreement was entered into a mistake which invoked the powers of the Court under the Contractual Mistakes Act 1979.
In the High Court, all of Prattley’s causes of action were dismissed. Dunningham J found that Prattley’s entitlement under the policy was the pre-earthquake market value of Worcester Towers, and that Vero had dealt openly and transparently with Prattley.
Prattley appealed.

The Court of Appeal decision

The primary issue before the Court of Appeal was whether Prattley had assumed the risk of mistake as to its entitlements under the policy when it signed the settlement agreement. A party who assumes the risk of mistake cannot have a contract set aside under the Contractual Mistakes Act 1977.

Mistake

The Contractual Mistakes Act 1977 allows the Court to grant relief where a contract is entered into by one or both parties under the influence of a mistake of law or fact, if the mistake resulted in a substantially unequal exchange of values when the contract was entered into.
Prattley asserted a mutual mistake by both parties that the full measure of indemnity under the policy was market value. Prattley identified two dimensions to the mistake, one being an assumption by the parties that cover was capped at the sum insured of $1,605,000 and the other that market value was the correct measure of indemnity value. Prattley argued that the correct measure was replacement cost with no allowance for depreciation or, alternatively, that “elemental” depreciation applied, resulting in a depreciated replacement cost of around 90% of new build cost.

The Court considered the correct approach to interpreting a clause in a settlement agreement which provides for a general release of all claims known or unknown. It held that the ordinary approach to contract interpretation applies, so the object is for the Court to ascertain the parties’ presumed intention and give effect to it. If it is the parties’ intention that a release will apply to a claim of which the parties know nothing at the time of contracting, the Courts will readily give effect to that. Finality facilitates settlements, and in many cases the intention is to “buy the release from any possible future claim”. However, the Court will consider what type of claim was intended to be released. It may be appropriate to read down the general language of a release where there is a claim a party could not be taken to have intended to release, such as where a mistake has been induced by fraud.

The Court doubted that any relevant mistake had been made. Both parties knew that market value was not the only way of calculating indemnity, this having been identified in the valuations shared between the parties prior to settlement. The real question was whether they were mistaken in their shared belief that market value was a better measure of indemnity than depreciated replacement cost, that being solely a matter of opinion.
Because the release discharged all claims, whether “in existence now or may arise, known or unknown”, Prattley was obliged to take the risk of unknown claims, including the risk of mistake.
The Court found that the mistake, if there was one, was exactly the kind of issue that the parties had contemplated at the time of the settlement. There was no reason to read down the words of the release in the settlement agreement.

And finally, the Court held that there was no substantially unequal exchange of values. It disregarded the post-settlement claim and focussed on the values available to the parties at the time of settlement. The highest of these was $1,400,000, as opposed to the $1,050,000 agreed upon, but the Court held that if negotiations had continued a degree of give and take was likely and there was no reason to suppose that a settlement at the higher figure would have been agreed by Vero. Allowance had to be made for the downside risk to Prattley and the costs that were avoided by agreeing an early settlement.

Conclusion

The Court concluded that the appropriate measure of indemnity on destruction was the depreciated replacement cost as this more accurately reflected Prattley’s loss than a market value based calculation. It found that Prattley had in fact ended up with a settlement that was within a range based on depreciated replacement cost assessment. It was on this basis, among others, that the Court upheld the settlement agreement and dismissed Prattley’s appeal.