Neutral Citation Number: [2006] EWHC 2716 (Comm)
Case No: 2004 FOLIO 198
IN THE HIGH COURT OF JUSTICE
QUEEN'S BENCH DIVISION
COMMERCIAL COURT

Royal Courts of Justice
Strand, London, WC2A 2LL

Date: 01/11/2006

Before:

MR JUSTICE CHRISTOPHER CLARKE
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Between:

	(1)	TRAVELERS CASUALTY AND SURETY COMPANY OF CANADA
(2)	OAK DEDICATED LIMITED
(3)	AMERICAN HOME ASSURANCE COMPANY
(4)	CHUBB INSURANCE COMPANY OF CANADA
(5)	LIBERTY MUTUAL INSURANCE COMPANY	Claimants	
	- and -		
	(1)	SUN LIFE ASSURANCE COMPANY OF CANADA (UK) LIMITED
(2)	SUN LIFE FINANCIAL INC	Defendants	

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Mr Christopher Symons QC, Mr Robert Howe & Miss Shaheed Fatima (instructed by Robin Simon LLP) for the Claimants
Mr Gavin Kealey QC, Mr Andrew Wales & Mr Philip Edey (instructed by Clifford Chance LLP) for the Defendants

Hearing dates: 2nd November – 13th December 2005
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Judgment

MR JUSTICE CHRISTOPHER CLARKE: 
1.	In October 2000 Sun Life Assurance Company of Canada (UK) Limited (“Sun Life”), the first defendant, was required by the Financial Services Authority (“FSA”), acting on behalf of the Personal Investment Authority (“PIA”) to conduct a review of past business. As a result it ultimately incurred very large costs and expenses, in respect of which it seeks to recover an indemnity under a Financial Institution Professional Liability Policy (“the policy”) from the claimants, its insurers.  The claimants seek a declaration that they are not bound to provide any such indemnity.
 The parties
2.	Sun Life is a subsidiary of Sun Life Financial Inc (“Sun Life Financial”), the second defendant. The brokers for the policy were Marsh Canada Limited (“Marsh”). Mr Robert Farquharson, a senior Vice President of Marsh, had the management of the placement. 
3.	Until March 2000 Sun Life Assurance Company of Canada (“Sun Life of Canada”), which was incorporated in Canada as a mutual insurance company in 1865, operated in the UK through a branch. Sun Life, the UK company, was established in 1969 to run unit linked business. It was a subsidiary of Sun Life of Canada UK Holdings Plc, itself a subsidiary of Sun Life of Canada. In March 2000 Sun Life of Canada demutualised. Sun Life Financial became its holding company and the holding company of Sun Life, to which the UK branch business was transferred. Sun Life had a direct sales force of about 800. They sold individual life insurance and unit trust and personal equity plans. Sun Life also transacted group business, such as life and permanent health insurance, sold through independent financial advisers. From the mid 1990s onwards Sun Life was not making profits on its new business.
4.	The five claimants (hereafter “the insurers”) are:
i)	Travelers Casualty and Surety Company of Canada (“Travelers”);
ii)	Oak Dedicated Limited, on behalf of the members of Lloyd’s Syndicate 839 (“Syndicate 839”);
iii)	American Home Assurance Company (“American Home”); 
iv)	Chubb Insurance Company of Canada (“Chubb”); and
v)	Liberty Mutual Insurance Company (“Liberty Mutual”).

They are the insurers on the primary layer of the policy (US $ 50,000,000 < US $ 25,000,000), in the following proportions:

Travelers		20 %
Syndicate 839	40 %
American Home	15 %
Chubb			15 %
Liberty Mutual	10 %

The original Leading Underwriter and 20% participant in the primary layer of $50,000,000 was Gulf Insurance Company UK Ltd (“Gulf UK”). The original participants on the primary layer also participated in the same proportions on the first excess layer ($50,000,000) and in different proportions, together with New Hampshire Insurance Co on the second excess layer ($100,000,000). American Home, Chubb and Liberty Mutual participated, in different proportions and with others, on the third excess layer ($100,000,000). Hereafter “$” means US $ unless the contrary appears.

The making of the policy
5.	In July 1999 Marsh sent to prospective insurers an underwriting submission, entitled “Corporate Errors and Omission Submission 1999 – 2001” in respect of the policy which Sun Life was then seeking to place. That submission, which was eventually agreed by Sun Life and the insurers to be part of the contract between them, gave an overview of Sun Life of Canada’s global operations and identified its new senior management team: Donald A. Stewart, Chairman and Chief Executive, C. James Prieur, President and Chief Operating Officer, and Gregory W. Gee, Vice-Chairman. It also gave details of its “Risk Management and Company Profile”, in which it referred to the Corporate Insurance & Risk Management Department. It explained that that department, which was based in Sun Life of Canada’s offices in Toronto, reported directly to the Senior Vice-President, Strategic Development, and was headed by an Assistant Vice-President – Ms Susan Meltzer. It also described how the compliance function at Sun Life resided in the individual business units.
6.	The submission set out, under the heading “Coverage Specifications”, the coverage sought in the following terms in respect of Corporate Errors and Omissions:

NAMED INSURED	Sun Life Assurance Company of Canada et al	
POLICY TERMS	October 1, 1999 (3 Years Non-Cancellable)	
POLICY LIMITS	U.S. $ 20,000,000 any one occurrence

U.S.  $ 20,000,000 Annual Aggregate	
SELF INSURED RETENTION	U.S. $ 5,000,000	
TERRITORY	Worldwide	
MAJOR EXTENSION	Non-Cancellation Clause	

7.	The submission included a proposed policy wording and a Claims History. It also proposed a “Blended Excess Program” (“the Program”) which would be for three years and provide cover up to $200 million excess of four underlying policies i.e. (i) the Corporate Errors & Omissions Policy; (ii) a Financial Institution Bond; (iii) an Employment Practices Liability Policy and (iv) a Fiduciary Liability Policy. 
8.	The Claims History stated that Litigation Reports for the past five years included two E & O losses both in the UK, the first totalling £870,000 and the second £ 1.6 million. It then referred to two matters:
(a) the settlement of an action by the PIA against (i) Sun Life and (ii) Confederation Life Insurance Company (UK) Ltd, its subsidiary, by a fine of £300,000 on each company plus £125,000 costs, for failing to take all reasonable steps to make compensation for pension mis-selling. and a description of what the mis-selling issue involved; 

(b) the settlement of certain litigation in Canada and the USA known as the “Premium Offset” litigation;

9.	There were also listed in a separate spreadsheet all losses for the past 5 years in excess, or expected to be in excess, of $2.5 million. Attention was drawn in the Claims History to two of the larger losses. The first related to some litigation entitled “Rand v Confederation Life” with an estimated maximum value of £1.3 – 1.8 million, and the second was a case involving a large group, paid up life insurance policy where there had been a mathematical error in the calculation of certain Experience Rating Refunds which were to be payable by Sun Life. The result, if uncorrected, would be that the policyholder would receive over 20 years about Can $26,000,000 in excess of the correct amount. I refer to this hereafter as “the Experience Rating Refunds matter”.
10.	The Program was principally negotiated between Marsh on behalf of the Sun Life companies on the one hand and various representatives of Gulf New York and Gulf UK on behalf of the insurers.  In November 1999 Mr Simon Ashby of Gulf UK signed an indicative quote slip subject to a list of “subjectivities". These subjectivities included:

“Confirmation on the following points:

2.	 Final agreement on the proposed professional liability wording.

3.	Acceptable wording relative to known circumstances which could give rise to a claim under the proposed blended program.”

The policy
11.	The policy forms part of what was described as the “Sun Life Financial Services of Canada Inc. Blended Excess Program Policy Number MMF/1460” (“the Program”).  The Program consisted of:
a)	Master Declarations;
b)	Sections 1A, 1B, 1C, and 1D, containing individual policies; and 
c)	 Section 2 containing Master General Conditions (“MGC”).

The Master Declarations described Sun Life Financial as the Parent Organisation and provided for (a) a Limit of Liability of  $300,000,000 any one loss or claim and $600,000,000 aggregate over the Policy Period;  (b) a retention of $25,000,000 each and every loss or claim and (c) a Policy Period from September 30th 2000 to October 1 2003.
12.	Each of the individual sections, save the policy, overlay an underlying policy.  Section 1 A was a Financial Institution Bond policy which was to follow all the terms and conditions of a policy issued by Columbia Casualty Company, covering a number of different risks. It had a policy period of September 1st 2000 to September 1st 2003 and a limit of liability of $25,000,000 per loss. Section 1 B is the policy in suit. Section 1 C was an Employment Practices Liability Insurance and it was to follow all the terms of a policy issued by American Home. It had a policy period of October 1st 2000 to October 1st 2003 and a limit of liability of $25,000,000 each Claim. Section 1 D was a Fiduciary Liability Insurance and was to follow all the terms and conditions of a policy issued by Liberty Mutual Insurance Company, of Canada. It had the same period and limit of liability as section 1C. In Sections 1A, C and D the named insured was Sun Life Financial.
13.	Section 1 B contains the policy, described as a “Financial Institution Professional Liability Policy”. It begins with a number of declarations as follows (the bold type is in the original):
“THIS IS A CLAIMS MADE POLICY. SUBJECT TO ITS TERMS THIS POLICY APPLIES ONLY TO ANY CLAIM FIRST MADE DURING THE POLICY PERIOD PROVIDED SUCH CLAIM IS REPORTED TO THE INSURERS AS SOON AS PRACTICABLE. AMOUNTS INCURRED AS COSTS, CHARGES AND EXPENSES SHALL REDUCE AND MAY EXHAUST THE LIMIT OF LIABILITY AND ARE SUBJECT TO THE APPLICABLE RETENTIONS…

These declarations along with the Policy, warranty statement and all submission materials provided to the Insurer shall constitute the contract between the Insureds and Insurer
 
Parent Company:	Sun Life Financial Services of Canada Inc.

		------------------------------------------------------------------------------------

 Item1 Limit of Liability	     		 Please refer to Master Declarations

		Item2 Retention Amount      		 Please refer to Master Declarations

		Item3 Policy Period			Please refer to Master Declarations
12.01 A.M. Standard Time at the Principal Address of the Parent Company.

		…………………

In consideration of the payment of premium, in reliance upon the information provided to the Insurers and subject to all of the provisions of this Policy, the Insurer and the Insureds agree as follows.

I.	Insuring Clause     
“A (i)	 The Insurer shall pay on behalf of the Insureds for Loss resulting from any Claim first made during the Policy Period for a Wrongful Act in the performance of, or failure to perform, Professional Services.
…
A(iii)	The Insurer shall pay on behalf of the Insured all sums which the Insured shall become obligated to pay, and all costs incurred by the Insured as a result of any investigation or review by a financial services regulatory authority or Self Regulatory Organization into possible violations of law …or regulation(s) and/or which give rise to any proceeding initiated against the Insured or any entity or person covered under this policy before any financial services regulatory (sic) or any Self-Regulatory Organisation or court of competent jurisdiction…
II	The following terms whenever used in the Policy in boldface type shall have the meaning indicated . 

A.	Claim means:

(i)	a demand for monetary or non-monetary relief,

(ii)	a civil proceeding,

(iii)	a criminal proceeding,

(iv)	arbitration;

(v)	a judicial or formal administrative or regulatory proceeding commenced by the filing of a notice of charges, formal investigative order or similar document, or a review of all or part of its business, whether fully completed or not, prescribed by a financial service regulatory authority, or Self Regulatory Organisation in accordance with its regulations, rules, standards of practice or specifications, …

against any Insured for a Wrongful Act, including any appeal therefrom.

		………………………………

D	Costs, Charges and Expenses means reasonable and necessary legal fees and expenses …incurred by the Insureds in defence of any Claim, but shall not include

(1)	directors’ fees, salaries, wages, overhead or benefit expenses associated with directors officers or employees of the Insured Organisation, or …

E    Insured(s) means the Insured Organisation and 
       Insured Persons

F     Insured Organisation means:
	
(1)	the Parent Company;
(2)	any Subsidiary, and
(3)	any Joint venture

………….
K	Loss means damages, settlements, punitive and exemplary damages, and Costs, Charges and Expenses incurred by any of the Insureds ….

L	Parent Company means the entity named in the Declarations.

………………………

O	Subsidiary means .. any entity, at the Inception Date of this Policy, of which more than 50% of the outstanding securities …. is owned or controlled by the Insured Organisation 

P	Wrongful Act means any actual or alleged error, omission or negligent act, any misrepresentation, misstatement, misleading statement, neglect, failure to supervise, breach of duty, breach of trust, breach of fiduciary duty, breach of professional duty, breach of confidentiality, breach of any regulation, rule, standard of practice or specification of any financial services regulatory authority or Self Regulatory Organisation… ..

				………………….

III   Exclusions  	        Insurers shall not be liable to make any payment in 
	        connection with any Claim:

F.	against any of the Insured Persons of any Subsidiary, or against any Subsidiary based upon, arising out of, directly or indirectly resulting from or in consequence of, or in any way involving any Wrongful Act occurring subsequent to the date such entity ceased to be a Subsidiary;

……………….

IX Assignment and Action
Against Insurers 	No action shall lie against the Insurer unless, as a condition precedent thereto, the Insureds shall have fully complied with the terms of this Policy…

 X   Entire Agreement		By acceptance of this Policy, the Insureds agree 
that this Policy embodies all agreements existing between them and the Insurer or any of their agents relating to this insurance, except as provided in the Master General Conditions …”

14.	Section 2 is headed “Master General Conditions”. They provide that:
“The General Conditions set out below will supersede conditions in the individual policy sections and apply to all Sections unless conditions more beneficial to the Insured are contained within each individual policy section.”

15.	The Master General Conditions include the following:
“Prior Acts    5		 In respect to Section 1B, 1C and 1D, coverage shall 
apply to all Wrongful Acts (as defined in the applicable Policy Sections) committed, attempted, or allegedly committed or attempted prior to the inception of this policy, except as described in General Condition 6, Warranty.

 Warranty         6	In respect to Section 1B and 1C, it is agreed by the Parent Organization, and by the Insured Persons (as defined in the applicable Policy sections) that the particulars and statements contained in the Warranty and the attachments and materials submitted with the Warranty (which shall be retained on file by the Insurer and shall be deemed attached hereto, as if physically attached hereto) are true and are the basis of the Policy and are to be considered as incorporated in and constituting a part of this Policy.
Reporting and Notice 7	Once known or discovered by the Assistant Vice President, Insurance and Risk Management, notice shall be provided to the Insurer as soon as practicable for
(a)	any Claim, Loss or potential Loss exceeding $12,500,000;
(b)	any formal administrative or regulator proceedings, Claim or investigation;
(c)	any class action lawsuit.
All other Claims, Losses or potential Losses exceeding $2,500,000 shall be reported to the Insurers on an annual bordereau.”
The Assistant Vice President, Insurance and Risk Management was Susan Meltzer.
16.	The warranty letter, which was on the notepaper of Sun Life of Canada, provided as follows:
“With respect to this Warranty Letter, wherever reference is made to a representation or warranty of knowledge or information, Insured shall mean the following individual employees at Sun Life: executive officers, risk managers, general managers and vice presidents of national offices, heads of national office legal departments, general counsel and vice chairmen. For all other references Insured shall be defined as per the terms and conditions of the Policy.

As respects the Financial Institution Professional Liability Policy number MMF/1460 (the “Policy”) issued by [Gulf UK] (the “Insurer”), the Insured provides the following:

The Insured hereby represents and warrants that it has no knowledge or information of any actual or alleged fact, circumstance, situation, act, error, omission, misrepresentation, neglect or breach of duty which could give rise to a Claim within the scope of the proposed coverage against the Insured or any of the persons or entities covered under the Policy except as disclosed in “Corporate Errors & Omissions Insurance Program Claims History (as of September 20, 2000)” in Appendix A attached.  The Insured acknowledges and agrees that if such fact, circumstance, situation, act, error, omission, misrepresentation, neglect and/or breach of duty exists, whether or not disclosed, any Claim arising therefrom is excluded from coverage under the Policy.
…………………
The Insured represents and warrants that all statements made by the Insured and all documents and information provided to the Insurer are its representations and that all such statements are true, are the basis of the Policy and are incorporated into and form part of the Policy. The Insured specifically acknowledges and agrees that the Insurer has relied upon all such statements and the information provided in underwriting and accepting the risk under this Policy.”
17.	Appendix A to the Warranty Letter was headed “Corporate Errors & Omissions Program Claims History (as of September 20, 2000)”. It began with the words “The following loss history provides information on closed and outstanding losses greater than US $ 2.5 million for the past 5 years”. It then gave details of four losses as follows:
1.	UK Pension Mis-selling: the description was the same as in the Claims History attached to the underwriting submission; but it now came with an estimated total cost of £400 million;

2.	The Premium Offset Litigation. The description was the same as in the Claims History but now with estimated total costs of C $85 million and  US $100 million;

3.	The Experience Rating Refunds matter, which was described in the same terms as in the original Claims History; 

4.	Free Standing Additional Voluntary Contribution (FSAVC) Policies. Details were given of an (industry wide) review ordered by the FSA in May 2000 which would involve compensation of policyholders who would have been better off if they had taken advantage of options available to make additional contributions to their employer’s scheme rather than taking out a free standing (i.e. not employer linked) top up plan. The estimated cost was £12 million.
	
The Issues in respect of liability
18.	The insurers contend that there has been both a breach of warranty and a failure to comply with the notification requirements of condition 7 of the MGC, so that, on each account, they are not liable to indemnify the defendants. The defendants dispute this. The parties are also in disagreement as to the law applicable to the policy.
The applicable Law
19.	Neither the Program nor any of its constituent policies contains an express choice of law. The policy is underwritten by some insurers who are established and carry on business in a member state of the European Union and some who do not. Some of the risks that it insures are risks situated within a Member State or States and some are not. These facts raise potentially difficult questions as to whether the rules for determining the applicable law are those set out in the Rome Convention, appended to the Contracts (Applicable Law) Act 1990 or those set out in Schedule 3A to the Insurance Companies Act 1982 (“ICA 1982”) - in force when the Policy was entered into, but no longer.
20.	I do not regard it as necessary to decide which regime applies because, whichever it is, there are three relevant questions:
(i)    	when making their contract, did the parties expressly choose the law of any country and, if so, which? (Rome Convention Article 3; cf. paras. 1(6) and 2(1) of Schedule 3A);
(ii)  	if not, did they make an implied choice which can be demonstrated with reasonable certainty?
(iii)	 if not, which is the country with which the contract is most closely connected?
The concepts of choice and closest connection are the same under both regimes – see para 5(1) of Schedule 3A; American Motorists Insurance Co v. Cellstar Corporation [2003] EWCA Civ 206 para 19; [2003] Lloyd’s Rep. I.R. 295 at 305. 
21.	On 16th July 2004 Mr Jonathan Hirst, Q.C., sitting as a Deputy Judge of this Court, dismissed a challenge that Sun Life had made to the jurisdiction on forum non conveniens grounds. He considered the applicable law of the policy and concluded that he could not resolve at that stage whether the policy was governed by the law of England or that of Ontario. He adjudged that there was a good arguable case for each of those laws.
22.	The Program should be treated as governed by a single law. It was taken out by Sun Life Financial for itself and its subsidiaries. Neither Sun Life Financial nor the other Insureds, nor the insurers, can sensibly be supposed to have intended different laws to apply to different Insureds or different risks.  
Implied choice of law
23.	I turn, therefore, to consider whether the parties made any implied choice of the law that was to govern the Program, including the policy. In my judgment a series of circumstances demonstrate with reasonable certainty that the parties impliedly chose the law of Ontario as the applicable law. They are the following:
a)	The Program is entitled “Sun Life Financial Service of Canada Inc. Blended Excess Program”. Sun Life Financial, the Canadian parent, is the only insured company named in the Program. It is named as the Parent Organisation with its principal address in Toronto;
b)	The brokers are named as Marsh Canada Limited in Ontario. Whilst Marsh UK were involved , they acted primarily  as a conduit to the London market; and their effective involvement was very small; 
c)	The Policy Period is defined in the Master Declarations by reference to Standard Time at the Principal Address of Sun Life Financial which is, as appears from item 1 of the Master Declarations, an address in Toronto; 
d)	MGC 3 provides for payment under the policy in respect of judgments rendered or settlements denominated in a currency other than US $ to be made in US $  at the exchange rate for US $ rates published in The Globe & Mail, a Toronto newspaper, on the date of final judgment or the date when the settlement is agreed;
e)	The Reporting and Notice provisions in MGC 7, which are applicable to all Claims in relation to all Insureds, call for notice to be given of facts known or discovered by the Assistant Vice President, Insurance and Risk Management, (Susan Meltzer) who is based in Toronto;
f)	The language and spelling of the Program is North American. Its wording was, to the knowledge of the insurers, subject to review by internal counsel at Sun Life’s offices in Toronto and by external counsel (Le Boeuf, Lamb, Greene & McRae) in New York;
g)	Sections 1A, 1C and 1 D all sit excess of underlying policies. None of those policies contain an express choice of law clause but in each of them:
(a)	     the named insured is Sun Life of Canada 
	     or Sun Life Financial;

(b)       the policies were placed by Marsh 
	     Canada;

(c)	      the policies were written in Canada and 
the insurers were either Canadian or the Canadian branch of North American insurers; and

(d)	two of the policies make reference to Canadian Statutes in terms which indicate that they are governed by Ontario Law. The American Home Assurance policy underlying section 1 C has a provision for arbitration in accordance with the Ontario Arbitration Act 1991 which requires the arbitrators to give due consideration to the general principles of law of the state where the Named Entity (being Sun Life of Canada) is incorporated. The Liberty International Canada policy underlying section 1D make express reference to a number of Canadian statutes and includes a provision for arbitration of any dispute as to the allocation of a claim as between covered and uncovered loss in accordance with Ontario legislation.  

h)	The centres of gravity for the negotiation of the Program and the warranty were Toronto and New York. So far as Gulf was concerned most of the underwriting discussions occurred in New York. The key Gulf personnel involved in the negotiation of the policy, namely Messrs Monaghan, McElroy, and Fantuzzi, were all based in New York, as were other Gulf personnel: Messrs Miniter, Biancardi, Raksnis and Mrs Kelly Holmes. The underwriting decisions were made by Gulf in New York. Thus it was Mr Monaghan, the Head of Gulf’s professional liability unit in New York, who made the decision to cover endowment mortgages. So far as the Insureds were concerned the decisions were made in Toronto. The warranty was negotiated between Gulf New York (Mrs Holmes) and Marsh Canada (Mr Farquharson). Mr Farquharson consulted with Ms Meltzer of Sun Life of Canada.
i)	40% of the subscribing market on the primary layer participated through their Ontario operation. The 20% Gulf UK share resulted from negotiations that had, so far as Gulf UK was concerned, largely taken place in or from New York. The underwriter of Lloyd’s 40% share scratched a fully negotiated policy wording, not on a standard London market slip or form, in favour of Sun Life Financial with a principal address in Toronto, in which Marsh Canada was expressed to be the broker. This is the only document to which all the insurers have subscribed. It has no London jurisdiction or choice of law clause.
j)	The original policy was, at Ms Meltzer’s insistence, delivered to Marsh in Canada and by them to her at Sun Financial’s offices in Toronto, from which she produced it to the Court. This is the only document containing the signatures on behalf of all of the insurers. The cheque for the premium of $7,046,424 was only delivered by her to Mr Farquharson after the policy had been delivered to her. As a matter of Ontario law that meant that the contract was deemed to have been made in Ontario and Ontario law would, therefore, conclude that it was governed by Ontario law – see section 123 of the Ontario Insurance Act and the Smith Report paragraphs 14-20.   
k)	The payment of premium and management of claims has been made and undertaken through Sun Life Financial in Toronto; 
l)	At Gulf’s request, made prior to the conclusion of the policy, all claims handling under the policy was to be undertaken by Gulf in New York. 
24.	I do not ignore the London connection. At the time that the policy was issued the Leading Underwriter – Gulf UK - was an English corporation. Gulf UK subscribed to 20% of the primary layer, and Lloyd’s subscribed to another 40%. So a majority of the risk on that layer (and also on the first excess layer) was subscribed by English companies.  The November 1999 quote slip had been issued by Gulf UK at the request of Marsh UK. A Lloyd’s Co-insurance policy (headed “Copy”), executed on behalf of the Lloyd’s syndicates alone, was entered at LPSO and kept by Marsh UK in Norwich. It contained a Canadian service of suit clause permitting service on a designated individual in Montréal. 
25.	However, these factors appear to me to be of considerably lesser significance than those that point in favour of Ontario.
Closest connection
26.	If I am wrong on that, and no implied choice can be determined with reasonable certainty, then, as it seems to me, it is Ontario with which the  Program and the policy has the closest connection. In respect of the “closest connection” test the Rome Convention and ICA 1982 regimes adopt different starting presumptions. In the former it is the country where the party who is to effect the performance which is characteristic of the contract has, at the time of conclusion of the contract, its central administration (if it is a body corporate) – Article 4.2. In the latter it is the Member State where the risk is situated - paragraph 2 (4). In either case, as it seems to me, the circumstances to which I have referred outweigh the presumption. 
The law of Ontario
27.	The experts for  the parties – Mr Thomas McGrenere for the insurers and Mr Glenn Smith for Sun Life – are agreed that in the law of Ontario the following principles of construction are applicable to the construction of insurance policies and the warranty:
	(i)	the Court must be mindful that the underlying economic rationale for insurance is to act as a mechanism for transferring fortuitous contingent risks: Non-Marine Underwriters, Lloyds of London v. Scalera (2000) 185 D.L.R (4th) 1 (“Scalera”), para 68);
	(ii)	where a contract is unambiguous, effect should be given to its clear language, reading the contract as a whole.  Where there is ambiguity, effect should be given to the reasonable expectations of the parties (Scalera, para 71);
	(iii)	Courts should “be loath to support a construction which would either enable the insurer to pocket the premium without risk or the insured to achieve a recovery which could neither be sensibly sought nor anticipated at the time of the contract”.  (Scalera, para 71; citation from Consolidated-Bathurst Export Ltd v Mutual Boiler and Machinery Insurance Co  [1980] 1 SCR 888 (SCC) (“Consolidated-Bathurst”), at pp 901-2);
	(iv)	contracts should be interpreted so as to avoid absurd results (Toronto v W H Hotel Ltd, [1966] SCR 434 (SCC) (“W H Hotel”) at pp 5-6;
	(v)	coverage provisions under insurance contracts should be construed liberally and exclusionary provisions narrowly (Scalera,  para 70);
	(vi)	Courts should interpret contracts so as to give effect to the expectations of the parties (Scalera, para 71);
	(vii)	 individual provisions of contracts should not be interpreted in isolation, but rather in context having regard for the entirety of the contract’s provisions; and
	(viii) in resolving ambiguity it is appropriate for Courts to look at the factual matrix in which the parties were operating when they made their contract, including the commercial objectives which they were seeking to achieve (Sun Alliance, supra, para 34; Hi-Tech Group Inc v Sears Canada Inc [2001], 52 OR (3d) 97 (Ont, CA) (“Hi-Tech”), at paras 23-24).  
28.	There is an issue as to whether, as Mr Smith says, there is a general rule of construction that ambiguities are to be construed against insurers or whether the principle is that, in the event of ambiguity, the contra proferentem rule may be applied. In my view Mr Smith’s formulation is somewhat too wide, although where, as is often the case, the insurer is the proferens, the result will be the same whichever principle is applied. 
29.	The proper approach, in my view, is that adopted by the majority of the Supreme Court of Canada in Consolidated Bathurst. In that case the Court was faced with two alternative interpretations of the meaning of a contractual definition of the word “accident”. Estey J. giving the judgment of the majority said (underlining added):
“Insurance contracts and the interpretative difficulties arising therein have been before courts for at least two centuries, and it is trite to say when an ambiguity is found to exist in the terminology employed in the contract such terminology shall be construed against the insurance carrier as being the author, or at least in control of the contents, of the contract… Meredith J.A. put the proposition in Pense v. Northern Life Assurance Co. [(1907), 5 O.L.R.31] at p. 137:
“There is no just reason for applying any different rule of construction to a contract of insurance from that of a contract of any other kind; and there can be no sort of excuse for casting a doubt upon the meaning of such a contract with a view to solving it against the insurer, however much the claim against him may play upon the chords of sympathy, or touch a natural bias. In such a contract, just in all other contracts, effect must be given to the intention of the parties, to be gathered from the words they have used…
Such a proposition may be referred to as Step one in the interpretative process. Step two is the application, when ambiguity is found, of the contra proferentem doctrine. This doctrine finds much expression in our law and one example which may be referred to is found in Cheshire and Fifoot’s Law of Contract (9th ed.) at pp 152-3:
‘If there is any doubt as to the meaning and scope of the excluding or limiting term, the ambiguity will be resolved against the party who has inserted it and who is now relying on it. As he seeks to protect himself against liability to which he would otherwise be subject, it is for him to prove that his words clearly and aptly describe the contingency that has in fact arisen.’”

In effect, therefore, if, but only if, there is an ambiguity, it will be resolved against the insurer if it was he who drafted the ambiguous clause or who required or procured its inclusion. In Canadian National Railway Co v Royal and Sun Alliance Insurance Co of Canada [2004] O.J. No 4086 Ground J, held (i) that there would only be an ambiguity if the relevant provision remained ambiguous after considering the plain meaning of the words, the factual matrix and whether one of two possible interpretations would be more likely to produce a fair result consistent with the parties’ objectives in entering into the policy, and (ii) that the rule would apply even if the policy had been negotiated between the insurer and the insured or his broker. But I do not understand him to be saying that, if the relevant provision was, for instance, one inserted at the request of the insured and drafted by him, any ambiguity in it should be resolved against the insurer.

Breach of warranty
30.	Insurers claim that there was a breach of warranty because one or more of the individuals identified in the warranty letter (“the identified individuals”) knew or had information of facts, circumstances etc which could give rise to a Claim “within the scope of the proposed coverage”. The first question in relation to this issue is whether a Claim falls within the scope of the proposed coverage if:
i)	 it is the type of Claim to which the policy responds i.e. a claim that falls within Insuring Clause A (i), being for Loss resulting from  a Claim first made during the Policy Period against an Insured for a Wrongful Act in the performance of, or failure to perform, Professional Services; or only if
ii)	it is a  Claim which could result in Loss exceeding the $25,000,000 retention, and which the policy would, therefore, have to cover. 
Both parties contend that their case on construction is buttressed or determined by exchanges which took place between Mrs Kelly Holmes and Mr Farquharson during the negotiations for the policy. Mrs Holmes is a New York attorney who was until 25th August 2000 Vice President and Associate General Counsel with Gulf Insurance Group, New York, responsible for the supervision of claims on Gulf in respect of professional liability. Each side says that the interpretation for which they now contend was in effect agreed such that their counterparty cannot now contend for a different one. 
31.	If insurers’ contention is correct, the breach of warranty is made out. When the warranty was signed Mr Blackburn,  Sun Life’s Chief Legal Advisor and the man responsible for compliance, knew that one possible outcome of a visit from the FSA which took place in August 2000 was that the FSA would require Sun Life to carry out some kind of review of past business. This amounts to a Claim. 
Types of Knowledge
32.	If Sun Life’s construction is correct, further questions arise as to what type of knowledge, if any, must be established if a breach of warranty is to be proved. The candidates are the following:
i)	No Knowledge. All that is required is that, at the time of the warranty, facts or circumstances etc existed which could give rise to a claim exceeding $25,000,000. This was expressed to be insurers’ primary case;
ii)	Knowledge of facts, circumstances etc which could give rise to a Claim exceeding $5,000,000 in value, regardless of whether anyone in fact realised, or whether a reasonable person in any particular position would have realised, that those facts could have that consequence. 
iii)	Knowledge of facts etc which a reasonable person would consider could have that consequence.
iv)	Knowledge of facts etc which a reasonable person in the position of the relevant identified individual would realise could have that consequence.
v)	Knowledge in the sense that an identified individual knew of facts etc which he or she realised could have that consequence.
33.	In support of their primary contention insurers rely on the second sentence of the third paragraph of the warranty letter (“The Insured acknowledges and agrees that if such fact etc exists, whether or not disclosed, any Claim arising therefrom is excluded from coverage under the Policy”). They say that this means that cover is excluded if the Claim arises from a fact existing prior to the warranty letter, even though no one knew of the fact.
34.	Insurers’ primary contention  rests upon the proposition that when the second sentence refers to “such fact etc...” the antecedent of “such” is a fact which could give rise to a Claim within the scope of the policy. If such a fact exists at the date of the warranty, any Claim which, in the event, arises therefrom is excluded. This interpretation makes no sense in the context of a claims made policy expressly affording coverage for prior acts, i.e. acts that have taken place prior to the inception of the policy.  By definition such claims will arise from facts in existence before the policy is written. To use the second sentence to deny coverage on the ground that facts that could lead to a claim existed before the inception of the policy is a contradiction in terms. Such a construction would also render any question of knowledge, or of the individuals who have to have it, otiose. Whilst grammatical purism might indicate that “such” prima facie refers to its immediately preceding antecedent, the parties must have intended that the warranty would only be broken if an identified individual had or should have had (it is debatable which) some sort of appreciation of the significance of the facts which he or she knew.  The second sentence of the warranty is an exposition of the consequence of the first; not a free standing exclusion.
35.	For similar reasons I reject the submission that there is a breach of warranty if an identified individual knows of facts which could give rise to a claim within the scope of the proposed coverage but has no idea, nor would a reasonable person in his or any position have any idea, that those facts could give rise to a claim. Such a construction would, in respect of claims in relation to prior acts, emasculate the policy to almost the same extent as insurers’ construction of the second sentence, not least because facts occurring prior to inception which give rise to a claim after inception are intrinsically likely to be known to at least one of the identified individuals, even though the significance of those facts may not be.
36.	The manifest purpose of the warranty is to deny coverage if an identified individual knows of facts which could give rise to a claim of the relevant type. That must, in my view, signify either that those individuals appreciated, or at least that they ought to have appreciated, that facts known to them could have the specified consequence. A construction which identifies specific individuals as the persons whose knowledge matters, but then limits the knowledge required for a breach of warranty to knowledge of facts, without regard to any appreciation, actual or constructive, of their significance, would place the insurance at risk even if no identified individual was or ought to have been aware of the significance of the relevant facts or that they ought to be disclosed, and would be unreasonable.  
37.	If the question is whether a reasonable person with knowledge of the facts would have appreciated that those facts might give rise to a claim, the reasonable person must be a reasonable person in the position of the relevant identified individual, and not some hypothetical individual who may be possessed of some knowledge or skill, such as familiarity with the practice of the regulator, which the relevant identified individual lacks and could not be expected to have. 
38.	The choice, therefore, lies between knowledge in category (iv) or (v).  Looking at the matter without reference to authority, the position seems to me to be as follows. The parties (as I have already held) cannot have contemplated that the warranty would be broken if a defined individual knew of a fact but no one would have appreciated its significance. That might suggest that actual knowledge of the significance of a known fact was required. But the knowledge, lack of which is warranted, is of a fact with certain characteristics, not of a fact that the defined personnel believes has those characteristics. Moreover the parties are unlikely to have contemplated that the warranty would be fulfilled if the warranted ignorance, although genuine, was the result of inattention, stupidity or indifference.  Accordingly, as it seems to me, the wording used means that the warranty is broken if an identified individual has knowledge in category (iv). 
Canadian authority
39.	The question is not, however, bereft of Canadian authority.  In  Moore v. Canadian Lawyers Insurance Association 95 DLR 4th 365, at first instance in the Nova Scotia Supreme Court the Court had to construe the words: 
“the insured, as soon as practicable after learning of a claim or circumstances  which would be likely to give rise to a claim hereunder, shall give notice…”. 
40.	The Court considered a number of cases including  Royal Trust Corp of Canada v American Assurance Co [1992] 20 D.L.R. (4th) 582  and Marcoux v. Halifax [1948] 4 D.L.R. 143. Goodfellow, J.,  said at page 182:
“In Marcoux… the Supreme Court of Canada applied an objective test. The truck driver and truck owner may well have believed, and probably did believe, that the elderly gentleman had not suffered bodily injury, but such belief was not reasonable in all the circumstances.

Applying the Marcoux test then the question becomes, would a reasonably prudent solicitor have given notice to the insurer, in this case prior to October 17, 1990?”

	   On the facts he held that the answer to that question was “No”.
41.	In the Royal Trust case, also a first instance decision in Nova Scotia, the clause under consideration was this:
“The insured shall as soon as practicable after learning of a happening which may give rise to a claim hereunder give notice or cause notice to be given…”.  

The ratio of the case was that the insured did not know of the happening at the relevant time. But the judge went on to say that even if the insured had known of it, “the evidence does not establish that he recognized that it might give rise to a claim against him”. That obiter finding was treated by Goodfellow J as the judge pointing out that there was “a subjective element in the terminology in the policy”. In effect he declined to follow these dicta because he applied an objective test.
42.	When Marcoux reached the Nova Scotia Supreme Court, Appeal Division, the Court allowed the appeal on the facts, and confirmed that an objective test should apply in the sense that:
“…after learning of his probable breach of duty, a lawyer must measure up to the standard of a reasonably prudent lawyer in assessing whether his deficient conduct will likely give rise to a claim; at this stage an objective test applies.”
43.	In the light of those authorities and the considerations set out in paragraphs 32 - 38 above I hold that, on the true construction of the warranty, in order for there to be a breach it must be shown that an identified individual had knowledge or information of facts etc which a reasonable person in his or her position would realise could give rise to a Claim within the scope of the proposed coverage against the Insured or any of the persons or entities covered under the policy.
English Authority
44.	The only English authority on this point to which I was referred was Jones v Provincial Insurance Company [1857] 3 CB (NS) 65. In that case the deceased had been insured under a life policy in which he declared that he had never been afflicted by a series of specified conditions and was in a good state of bodily health and that he was not aware of any circumstances tending to shorten his life or render an assurance on his life more than usually hazardous. In fact he had had two bilious attacks in each of the two years before the proposal. The jury was directed that “if the assured honestly believed at the time he made the declaration, that the bilious attacks had no effect upon his health and did not tend to shorten his life or render the insurance upon it more than usually hazardous, the fact that he was aware that he had had those attacks, even though (without his knowledge) they had such a tendency, would not defeat the policy”.  The jury found for the plaintiff, who was the administrator of the declarant’s estate. The Court of Common Pleas held this direction to be correct upon the ground that the effect of the declaration was to limit underwriters’ right to that of being informed of what was in the knowledge of the assured “not only as to its existence in point of fact, but also as to its materiality”. That decision, quite apart from the fact that it is not a Canadian authority, relates to a particular wording in a quite different context. I do not regard it, even in English law, as compelling a conclusion that, in the present case, only knowledge in category (v) will be sufficient to establish breach. 
“Within the scope of the proposed coverage”
45.	I turn then to consider the meaning of the words “within the scope of the proposed coverage”. Looking at the matter without reference to the disputed conversations, it seems to me that those words are apt to signify that the Claim is one which will in fact be covered by the policy in the sense that the insurers will have to pay it. The scope of the proposed coverage extends to two matters. The Claim must be in respect of a risk for which the policy provides indemnity, i.e. in respect of Loss resulting from a Claim first made during the Policy Period for a Wrongful Act in the performance of, or failure to perform, Professional Services; and its amount must exceed the retention of $25,000,000. Unless both conditions are satisfied the Claim is outwith the scope of the coverage provided by the policy.
46.	I see no reason to limit the “scope of the proposed coverage” to the first matter alone i.e. to exclude the coverage’s financial scope. As a matter of ordinary language the Insureds would not regard themselves as “covered” for a Claim in respect of which the Insurers were not bound to afford indemnity. A Claim that is not covered is, by definition, not within the scope of the coverage. 
47.	Secondly, if the insurers are right, the obligation on the identified individuals would be extremely onerous. They would be promising that they knew of no fact that could give rise to any demand for money, or any civil or criminal proceeding or arbitration, or regulatory proceedings, in respect of anything within the very wide definition of Wrongful Act, however small the demand or proceedings might be. Any such knowledge would be fatal to the insurance since, both in its own terms (”all such statements are true, are the basis of the Policy”) and by virtue of MGC 6 to the same effect, the policy falls if the warranty is untrue.  Knowledge, therefore, of a regulator’s requirement that any one Sun Life entity within the definition of “Insureds” should carry out a past business review of, say, 3 months work of one salesman, or of facts which would give rise to a $100,000 claim but which were incapable of giving rise to a claim of $25,000,000 or anything within striking distance of it, would suffice.  The parties cannot have intended such an unreasonable result. Both for that reason and because exclusionary provisions are to be construed narrowly, a construction that avoids such a result is justifiable.  
48.	That construction is also consistent with the contents of the Coverage Specifications in the underwriting submission. The fact that the specification of the coverage included the amount of the retention and that the parties made the submission, including that specification, part of the policy is an indication that the “scope of the coverage” within the meaning of the warranty letter is to be determined by examining whether the Claim is in excess of the retention set out in the specification.
49.	Such a  conclusion is also consistent with the approach of Lord Templeman in Lord Napier & Ettrick v Hunter [1993] A.C. 713. There the question arose as to how claims recoveries were to be allocated as between insured and insurer when the recoveries were not sufficient to recoup both the uninsured part of the insured’s loss and that part of the loss in respect of which the insurers had indemnified the insured. As to that Lord Templeman said (page 730):
“The problem must, in my opinion, be solved by assuming that the Name insured the first £ 25,000 of any loss and also insured the excess over       £ 125,000 as well as insuring the £ 100,000 payable under his policy with the stop loss insurers.   There would then be three insurance policies as follows: (1) a policy for the payment of the first £ 25,000 of any loss; (2) a policy for payment of the next £ 100,000 of any loss; (3) a policy for payment of any loss in excess of £ 125,000.”
Having then analysed the position in terms of the insured agreeing to bear the first £25,000 and any amount over £125,000, he said (page 731F):
“In my opinion, an insured is not entitled to be indemnified against a loss which he has agreed to bear.  I agree therefore with the Court of Appeal that the Name must bear the loss to the extent of the excess, namely £25,000.”
If the first $25,000,000 in the present case is to be regarded, for the purpose of allocating recoveries, as if the insured had insured himself for that loss, it is difficult to see how any Claim up to that figure can be regarded as coming within the scope of the coverage. Lord Napier is not a Canadian authority, nor can Mrs Holmes and Mr Farquharson be supposed to have had Lord Templeman’s words in mind. They are nevertheless instructive.
50.	Further, if insurers are right, the disputed words add very little to what is already there. If the disputed clause is left to one side, the fact, ignorance of which is warranted, must be one which could give rise to a Claim. In order to be a Claim it must be a claim against an Insured for a Wrongful Act. In order to be a Wrongful Act there must have been an act or omission in the course of the Insured’s performance of, or failure to perform, Professional Services. The only matter within the insuring clause not encompassed within the definition of Claim is that the Claim must arise during the Policy Period. On the insurers’ contentions this is the only additional matter with which “within the scope of the coverage” deals. It seems to me inherently unlikely that that wording was designed to address the requirement that the possible claim must be within the Policy Period, not least because a limitation to Claims made during that period is contained in the Insuring Clause itself.  Mr Symons submitted that this was too much of a lawyers’ point which neither Mr Farquharson nor Mrs Holmes would have had in mind and that the inclusion of the disputed phrase would be an entirely normal belt and braces approach.  In my view, with an agreement of this sophistication, it is legitimate to take into account, as an aid to interpretation, the fact that one construction, itself open to objection on other grounds, leads to a virtual tautology. On a broader brush approach the parties can legitimately be supposed to have realised that the defined word “Claim” embraced the type of claim that could be covered and that the disputed words went further than that.  
The negotiations 
51.	The Sun Life Group did not, traditionally, purchase global errors and omissions (“E & O”) insurance. Some limited covers were taken out when required by local regulations or by contract. Otherwise E & O losses were borne by the relevant company itself. But when Sun Life and Sun Life of Canada suffered serious losses from the premium offset litigation in Canada and the U.S.A. and the industry wide pension mis-selling review in the U.K, Ms Meltzer decided to approach Marsh, the company’s brokers, to investigate the feasibility of purchasing global catastrophe cover against similar exposure in the future. 
52.	Ms Meltzer reported to Mr Claude Accum, who was from February 2000 until May 2002 the Chief Risk Officer of Sun Life Financial. Although he played some role in the preparation of the policy, and was organisationally responsible for Ms Meltzer’s work, he was not involved in day to day decisions about it. His training was as an actuary.
1999
53.	Sun Life’s Risk Management Department, with assistance from Marsh, put together the underwriting submission of July 1999. On 24th August 1999 Ms Meltzer made a presentation in London to Mr Simon Ashby of Gulf U.K, the prospective Lead Underwriter .  She provided him with a copy of the July 1999 underwriting submission.
54.	In September 1999, in response to questions by underwriters, Sun Life presented the proposed insurers with a document entitled “Corporate Errors & Omissions Submission – Response to Underwriting Questions”. This document included a restated Claims History (as of 2nd September 1999), which was expressed as providing “information on closed and outstanding losses greater than US 2.5 million for the past five years”. It was in essentially the same form as before save that it now gave estimated total costs for UK Pensions mis-selling (£400,000,000) and Premium Offset Litigation C $85,000,000 and US $100,000,000). It referred, as before, to Rand v Confederation Life with a maximum value of £ 1.3 - £ 1.8 million. The document contained the following paragraph:
“How does Sun Life intend to respond to a warranty question?

It is Sun Life’s intention at this time to respond to a warranty question in an application by referencing the restated claims history. In addition, Sun Life will cite the Free-Standing Additional Voluntary Contribution Plans as a “fact or circumstance which could give rise to a claim”. At this time, there are no other situations with regard to Sun Life products (including endowment mortgages) which we reasonably believe could give rise to a claim”.
55.	By October 1999 it had become clear to Ms Meltzer that Gulf was the most suitable Lead Underwriter for the policy, and that their quote was likely to be accepted by others. On 4th November 1999 a meeting took place in Toronto between representatives of Sun Life of Canada and Marsh, two of Gulf’s underwriters in New York, Mr Ashby of Gulf UK and others. There was discussion as to the cover sought, the draft policy wording, and the disclosure and warranty that would be provided. Tom Monaghan of Gulf New York was concerned about the regulatory risk in the UK, in particular in relation to endowment mortgages, and, in the light of that, wanted to get an understanding of how Sun Life was managed.  Ms Meltzer suggested that Gulf’s concerns could be addressed if Mr Ashby met Mr Stephen Melcher, Sun Life’s Chief Executive Officer and Managing Director.
56.	A combined telephone conference/ meeting took place for that purpose on 8th December 1999. Mr Ashby travelled to Sun Life’s Basingstoke office where he met Mr Melcher. They had a telephone conference with, amongst others, Ms Meltzer and Mr Farquharson in Toronto, Mr Monaghan and Mr Miniter of Gulf New York in New York, and representatives of AIG, Liberty and Zurich in Toronto. Mr Melcher explained that the UK market in life insurance and pensions was in turmoil; but that the endowment mortgages situation differed from the pension mis-selling situation; and that he did not believe that many endowment mortgages had been mis-sold or that the PIA would order an industry wide review. He referred to Newco (see paragraph 158 below) and to the new Training and Competence (“T & C”) scheme being developed in conjunction with the PIA. He said that recent PIA meetings with Sun Life had been “positive of late”, and that the PIA had been “more concerned with [the] audit trail than the content of [management] or [supervision]” and that “PIA visits (3) did not find anything in randomly selected files”. The quotes are from notes of the meeting. If these observations were intended to relate to the PIA Report in October 1999 they were unduly positive. 
57.	Whatever qualms they may previously have had Gulf decided to go ahead with the proposed policy subject to agreement on suitable wording for it and for the proposed warranty.
2000 
58.	In early February 2000 Mr Monaghan asked Mrs Holmes to produce a draft of the warranty. On 9th February she e-mailed a draft to him with a number of alternative permutations. On  11th February Mr Fantuzzi of Gulf New York wrote to Mr Ashby at Gulf enclosing for review a copy of the most recent draft of the policy. His letter invited Mr Ashby to discuss with Mr Farquharson a number of additional issues including:
“
•	Warranty letter addressing all lines of coverage to be completed by Sun Life. The current version of this letter is still in review and will be forwarded in the very near future..
 	  ……

•	Employment Practices underwriter must complete their review prior to offering a position on the excess coverage.”

Mr Farquharson and Mrs Holmes received a copy of that letter. In the event the warranty was not to apply to all lines of coverage.
59.	The reference to “excess coverage” related to Sun Life’s Employment Practices Liability policy with American Home. The wording of that policy covered claims by those who were not employees. By endorsement 1 the definition of Employment Practice Violation was amended so as to provide cover for sexual harassment and discrimination claims by non-employees and any claim of violation of an individual’s civil rights relating to such discrimination or sexual harassment. But Endorsement No 3 limited cover in respect of claims by non-employees to sexual harassment or breach of civil rights relating thereto. So discrimination against non-employees, not amounting to sexual harassment, was not covered. The question at issue was whether the insurers would extend coverage to include discrimination claims by non-employees. In the end the insurers agreed to cover such claims in excess of the retention, but not to provide drop down cover, i.e. cover in respect of third party discrimination claims up to $25,000,000. To that end section 1C contains a provision that, for the purposes of that section, the definition of Employment Practices Violation should be as defined by endorsement No 1 of the American Home policy.
The first draft of the warranty
60.	On 15th February Gulf New York faxed what had become the chosen draft to Simon Ashby of Gulf UK, who was then visiting Scottsdale, Arizona, asking him to pass it on to Mr Farquharson, who received it on 16th February. The draft read as follows:
“The Insured, as defined by the terms and conditions of Financial Institution Professional Liability Policy number ---------------------- (“the Policy”), hereby represents and warrants that it has no knowledge or information of any actual or alleged fact, circumstance, situation, act, error, omission, neglect or breach of duty which could give rise to a Claim against the Insured or any of the persons or entities covered under the Policy. The Insured acknowledges and agrees that if such fact, circumstance, situation, act, error, omission, neglect, and/or breach of duty exists, whether or not disclosed, any Claim arising therefrom is excluded from coverage under this Policy.
The Insured represents and warrants that all statements made by the Insured and all documents and information provided to Gulf Insurance Company UK Ltd  (the “Insurer”) are its representations and that all such statements are true, are the basis of the Policy and are incorporated into and form part of the Policy. The Insured specifically acknowledges and agrees that the Insurer has relied upon all such statements and the information provided in underwriting and accepting the risk under the Policy.” 

Thursday 17th February 2000
61.	On Thursday 17th February there was a telephone conference call between Mrs Holmes, Mr Farquharson and several others. The fullest note of the meeting is one made by Carolyn Bratt of Marsh. Her eleven page note has one page that records:
“Warranty

-	Would it exclude…”endowment mortgages”
-	RF rework to say except with endowment mortgages
	KH – they would then be open to all endowments
LM – we should all rethink this

-	in opinion of insd they have not received any specific demands”
62.	As these notes indicate, the focus of the discussion was on endowment mortgages.  Mrs Holmes accepted that the telephone conversation covered no more on the subject than is recorded in the Marsh note. 
63.	Mrs Holmes made a one page note of the conversation. It contains the words:
“Warranty statement
Exception for Mtg. Endowment
Big questions”
64.	The same note also has the words, 
“Any coverage which has not heretofore been provided”

Mrs Holmes did not recall when she wrote those words. They are written at a slightly different angle from, and at the bottom of, the rest of the page. The words are not reflected by anything in the fuller Marsh note. In those circumstances the likelihood is that they were written after the 17th February telephone conversation.
65.	Mr Farquharson made some notes in red and blue biro on his copy of Mrs Holmes’ email to Mr Monaghan containing the draft warranty wording. The words in red are “EM EXCEPTION” at the left hand side of the script and, at the bottom:
 “(1) EXCESS $25M”
   (2)  - OPINION OF INSURED AS OF SIGNING.
            NO CIRCUMSTANCE AS DEFINED.
            NO SPECIFIC DEMANDS LETTERS ETC”.

These words reflect some of what is recorded in Carolyn Bratt’s notes (see paragraph 61) and that of Mrs Holmes (her note also has the words “E/O excess of 25m in every case”). Mr Farquharson was not able to say whether these notes were made by him before or during the telephone call of 17th February, or later as an aide memoire of the points that required to be developed in the warranty wording. I find it impossible to be sure which of those it was. But it seems to me likely that the words in red were written either during the 17th February telephone conference or very soon after it, because of the very close similarity between those words and the content of the notes of Carolyn Blatt and Mrs Holmes as appears in the following table:

Mr Farquharson’s words in Red   	Carolyn Blatt’s Note	Mrs Holmes’ note	
EM Exception 	RF: rework to say except with endowment mortgages		
(1) Excess $ 25 mm		E/O, excess of $ 25 mm in every case	
(2) Opinion of Insured as of signing

No circumstance as defined

No specific demands Letters etc	In the opinion of the insured they have not received any specific demands		

66.	Mr Farquharson’s notes in blue consist of the words “which would fall within the scope of this insurance” at the end of a line emanating from the text which begins after the words “could give rise to a claim” and at the bottom the words “QUALIFY IN CONTEXT OF PROPOSED COVERAGE”.
Monday 21st February
67.	On Monday 21st February at 1426 Mr Farquharson sent an e-mail to a number of people at Gulf, including Mrs Holmes and Mr Ashby, which included the following:
“Subject:	SUN LIFE BLENDED PROGRAM

Firstly, we are encouraged by the progress made during our concall Feb 17, however, we remain concerned with the number of issues raised and the implications of the revisions requested following the detailed review of the wording during our meeting in November
….
The following areas require activity of the noted nature by the noted party:

“WARRANTY (GULF)
•	Include the words “which would fall within the scope of the proposed coverage” after “Claim…” in the first sentence.
•	Include an exception for the Endowment Mortgage issue
•	This warranty only applies to new coverage (FIPL and expanded EPL, if agreed)”.
68.	This e-mail does not expressly refer to any conversation after 17th February and there is a dispute as to whether Mr Farquharson ever spoke to Mrs Holmes between the conference call on that date and this e-mail. I shall return to this topic when I have set out what happened after the e-mail was sent. 
Tuesday 22nd February
69.	At some stage on 22nd February a further conference call took place, involving Mrs Holmes, Mr Farquharson and several others. During the course of this call Mrs Holmes told Mr Farquharson that she would send him a further draft of the warranty and he said that he would run it past Susan Meltzer. At 1712 on that day Mrs Holmes e-mailed a revised warranty letter to Mr Farquharson, with copies to others. The draft contained a paragraph dealing with the Mortgage Endowment situation (the second bullet point in the e-mail of 21st February) in which the Insured acknowledged the existence of a situation that could give rise to a claim but warranted, putting it broadly, that it had not yet received any form of claim or been the subject of any investigation, and Gulf UK acknowledged that any Claim arising out of the situation would be considered by Gulf UK in the same way as any other Claim under the policy.
70.	In this draft the warranty was introduced by the following words:
“As respects the Financial Institution Professional Liability Policy number ___________ ("the Policy”) issued by Gulf Insurance Company (“Gulf”) [change if other company paper to be used] and the Excess Employment Practices Liability extension of coverage under the Policy, the Insured provides the following:”
These words addressed the third bullet point. The draft did not, however, include the words “which would fall within the scope of the proposed coverage”, the first bullet point. The only alteration to the operative (second) paragraph was as shown by the following:
“The Insured, as defined by the terms and conditions of the Policy Financial Institution Professional Liability Policy number ---------------------- (the “Policy”), hereby represents and warrants that it has no knowledge or information of any actual or alleged fact, circumstance, situation, act, error, omission, neglect or breach of duty which could give rise to a Claim against the Insured or any of the persons or entities covered under the Policy. The Insured acknowledges and agrees that if such fact, circumstance, situation, act, error, omission, neglect, and/or breach of duty exists, whether or not disclosed, any Claim arising therefrom is excluded from coverage under this Policy.”

Wednesday 23rd February
71.	In the course of the afternoon of 23rd February Mrs Holmes had a telephone conversation with Mr Farquharson and agreed a number of changes to the warranty.  As a result at 1817 she e-mailed a revised version which included  the following changes:
(i)	the introductory second paragraph (“As respects ..”) now 
referred to the Financial Institution Professional Liability Policy alone;

(ii)	the third paragraph now included the words “within the scope of the proposed coverage” after “which could give rise to a Claim”; this was one of the matters she had agreed with Mr Farquharson in the telephone conversation;

(iii)	a new fifth paragraph was added which introduced a warranty in relation to the EPL section of the Policy in similar terms to the warranty in respect of the Financial Institution Professional Liability Policy (“no knowledge  ... of any actual or alleged fact etc which could give rise to a Claim”) but without the words “within the scope of the proposed coverage” and applicable only to Claims alleging discrimination. 

Thursday 24th February
72.	On Thursday 24th February Mr Farquharson sent the draft that he had received from Mrs Holmes to Susan Meltzer for review. Neither she nor Mr Farquharson recalled having any discussion about the inclusion of the wording “which could give rise ..”. On the same day she e-mailed Mr Melcher that part of the wording of the warranty that dealt with endowment mortgages and asked for confirmation that Sun Life had not received any of the documents in relation to “the Endowment Mortgage Situation” referred to in it. It is not apparent that she received any reply.  
Friday 25th February
73.	In the morning of 25th February Mrs Holmes and Mr Farquharson had a further telephone conversation as a result of which Mrs Holmes e-mailed him with a further change of wording. The change related to the warranty in relation to the EPL section. The effect of the change was that that warranty only related to the enhanced coverage that had by now been agreed to be provided, i.e. to discrimination claims by non employees which had been excluded by endorsement 3. On the same day Mr Farquharson e-mailed the revised wording to Ms Meltzer observing: 
“The EPL paragraph has been altered to reflect the intent of the warranty to only address the enhanced coverage being the difference between Endorsements 1 and 3 of the underlying policy”.
74.	After these exchanges there was some delay in concluding the policy. Negotiations continued during 2000, particularly from the end of May onwards. No further changes were made to the critical part of the warranty. Ms Meltzer signed the warranty letter in its final form on 27th September 2000. By this stage it contained a first paragraph which provided that, for the purposes of the warranty letter, Insured should mean the identified personnel. 
The disputed conversation

Mr Farquharson’s evidence
75.	Mr Farquharson’s evidence was that he had a conversation with Mrs Holmes at some time between the conference call of 17th February and the time in the afternoon of 21st February when he sent his e-mail of that date, during which he discussed the need, as he saw it, to limit the warranty (a) to cover which had not been in place before i.e. the Professional Liability and extended EPL cover; and (b) to knowledge or information of facts etc which could give rise to a Claim in excess of the retention. The gist of his evidence appears from the following passage:
“ MR JUSTICE CLARKE:  Mr Farquharson, I have one question.
You were asked just a moment ago which elements of the
 conversation that you say took place between you and
Mrs Holmes between the 17th and 23rd February you
recall, and the answer that you gave, this is what the
transcript reads, is:

   "The points that had appeared in the actual warranty
    paragraph following the word 'claim' were discussed and
    the fact that they would apply in respect of the retention which at   
    that time was 25 million."

Now, the words that actually appear or were being talked about were "within the scope of the cover". I want to understand your answer.  Do you mean by that that you have a recollection of a reference to the
retention of 25 million in this context, or is your recollection that there was a discussion of the words "within the scope of the cover" which meant to you "in excess of 25 million".  Do you understand the
distinction between the two matters that I am putting to you?

A.  Yes.

MR JUSTICE CLARKE:  And what is your recollection?

A.  My recollection is that the discussion, although may not
have -- I may not have referenced 25 million dollars as
a number, the discussion would have included or did
                        include reference to the retention which at that time,                                       
                        as you mentioned, was known to be 25 million”.
76.	Mr Farquharson’s witness statements were somewhat unclear. In his second, rather short, witness statement he recorded that he had suggested adding the words “which would fall within the scope of this insurance “ (the words he wrote in blue ink on his copy of the original draft):
“..for the simple reason that I wished to make it clear that there was no requirement for Sun Life to tell Insurers of circumstances that they did not believe could give rise to a claim to which the Policy would have to respond”

He went on to refer to the fact that the wording was refined slightly in later drafts “in order to streamline the Policy language” and observed that:
“The intent behind the language remained the same. This aspect of the wording was accepted without further discussion”

This second statement did not expressly refer to any discussion with Mrs Holmes, let alone one involving a reference to the retention. There was a reference to retention in paragraph 11 but in a different context.
77.	In his longer third statement, which was linked to a more extensive set of contemporary documents, he gave the same reason for requesting the eventual wording (“within the scope of the proposed insurance”) as he had given for seeking the words “which would fall within the scope of this insurance”  in his second statement. He expressed his belief that he had a telephone conversation between February 16th, when he received the original version of the wording, and his e-mail of February 21st and that he had made his red and blue manuscript notes on the original version at about the time of that conversation, but whether before or during the conversation he could not say. He accepted that the blue and red notes may have been made at different times. He also said that he spoke to Mrs Holmes on either 22nd or 23rd (Mrs Holmes’ e-mail of 23rd shows that it was the latter) when he believed that he explained the necessity of adding the words which was:
“in order to limit the scope of the warranty, both in terms of the scope of its application (what types of circumstances) and to make clear that it would apply to the sections of the Policy as noted in consideration of the retention level contemplated”.

The last phrase (“as noted etc..”) is somewhat obscure, but I take it to mean that the warranty would apply to the sections of the policy insofar as claims under those sections exceeded the applicable retention.

Mrs Holmes’ evidence
78.	Mrs Holmes had limited recall of the detail of her involvement in the negotiation of the warranty. Her own file was no longer available. Her evidence was that she did not have a one-to-one conversation with Mr Farquharson until after she had received his e-mail of the 21st and after the conference call on 22nd February. In the course of that conversation he referred to the fact that he wanted the warranty to be limited to claims under the proposed new coverage, i.e. sections 1B (Financial Institutions Liability) and 1C (expanded EPL); and that  Sun Life did not want to be in a position of giving representations and warranties about facts and circumstances that could give rise to a claim under its pre-existing policies, such as pollution and workers compensation coverage or, according to Mrs Holmes’ oral evidence, CGL coverage, which Sun Life had in place with other insurers. The proposed wording was never tied (by Mr Farquharson or anyone else) to the retention. If Mr Farquharson had tried to do so, the proposal would have been rejected. She thought that the first and third bullet points in the e-mail of 21st February were the same point. She agreed to the critical phrase even though the substance of what Mr Farquharson wanted had, in her view, already been addressed by the opening paragraph that she had drafted, because that was what Mr Farquharson sought.
My conclusions on the disputed conversation
79.	I accept Mr Farquharson’s evidence that he did have a conversation with Mrs Holmes about the wording of the warranty, probably on either Thursday 17th February (later in the day than the conference call) or on Friday 18th, and that the effect of the discussion was that he wanted the wording “which would fall within the scope of this insurance/within the scope of the proposed coverage ” after “Claim” so as to indicate that the Claim the subject of the warranty must be in excess of the retention as well as being within the insuring clause. I cannot be sure which of the two alternative formulations he used but it seems to me likely that it was the former since (a) that is what appears in blue on his copy of the first draft of the warranty; and (b) his evidence was that the drafting of the phrase went through a measure of refinement. 
80.	I have reached that conclusion for the following reasons. Despite the ambiguities of his two written statements, I found Mr Farquharson a reliable witness whose evidence seemed to me convincing, consistent with the contemporary documents and in accordance with the probabilities. I preferred his evidence to that of Mrs Holmes whose recollection of events was, save as to the one point that mattered, very limited. I was not convinced that her memory on that point was reliable.
81.	As to whether a conversation took place before the e-mail of 21st February, it is significant that, in her second witness statement, amplifying her very short first statement, Mrs Holmes said that “shortly after” Gulf New York’s fax of 15th February Mr Farquharson telephoned her to request that the wording be changed.  It was only in her third witness statement, made after she had been shown some documents she had not been shown before, that she said that she did not now believe that she spoke to anyone until after receipt of the 21st February e-mail. However, it seems to me unlikely that Mr Farquharson’s points on the warranty letter other than in relation to the endowment mortgage situation were raised for the first time in his e-mail of 21st February. That e-mail appears to be a drawing together of points that had already been raised and now needed to be actioned. Mr Farquharson told me that it was not his style to insert something in an e-mail like this without having made some introduction of the subject to the recipient, and that seems to me likely to be true.  
82.	There are some further indications that a conversation took place between 17th and 21st February. If, as seems likely, Mrs Holmes’ note (“Any coverage which has not heretofore been provided”) was made after the 17th February conference call, it is likely to have been made in the context of a separate discussion with Mr Farquharson on or shortly after 17th February when the note was still close to hand.  Further, if, as Mrs Holmes recalls, there was no one-to-one conversation between her and Mr Farquharson between the 17th February conference call and the 22nd February conference call it seems to me a little surprising that Mrs Holmes would then have produced her redraft of 22nd February, having only had, by way of further  conversation with Mr Farquharson, the conference call of February 22nd, in which, according to Marsh’s note all that was discussed in relation to the warranty was that Mrs Holmes would send a draft and Mr Farquharson would run it past Ms Meltzer.
83.	Mrs Holmes’ note (“Any coverage which has not heretofore been provided”) added to  her note of the conference call of 17th February seems to reflect what was to become the third bullet point in Mr Farquharson’s e-mail of 21st February.  Similarly Mr Farquharson’s notes in blue (“which would fall within the scope of this insurance” inserted after “Claim” and “qualify in context of proposed coverage”) support the inference that there was a separate telephone conversation for which the notes were a preparation or a record, in which Mr Farquharson asked for those words to be added after “Claim” .  
84.	I do not regard the third bullet point in Mr Farquharson’s e-mail of 21st February (“The warranty only applies to new coverage (FIPL and expanded EPL, if agreed )” as an indication that Mr Farquharson’s points were being put forward for the first time. “If agreed” referred to the question, at that stage still unresolved, as to whether insurers would provide expanded EPL cover. Mr Farquharson refers later in the e-mail to “EPL final position on coverage” as one of the matters to be addressed. 
85.	As to the content of this conversation, the e-mail of Monday 21st February is clearly dealing with three different points (a) the Claim must be within the scope of the proposed coverage; (b) there must be an exception in relation to the Endowment Mortgage situation; and (c) the warranty is only to apply to new coverage. Both the wording and the layout (the third bullet point being separated from the first by the second) indicate that point (a) was not the same as point (c). In those circumstances the existence of  point (a) supports the conclusion that the prior telephone conversation dealt with the warranty applying only to facts giving rise to a claim which would be covered by the policy because it was in excess of the retention, in addition to the separate point that it was only to relate to the new coverage. Although Mrs Holmes believes she regarded the two points as the same, I do not think that she can have done so at the time, at any rate after her conversation with Mr Farquharson in the afternoon of Wednesday 23rd.
86.	I do not accept Mrs Holmes’ evidence that there was no one-to-one conversation before the e-mail of 21st February and that, in her first such conversation with him - on 23rd February - Mr Farquharson referred to an unwillingness to giving warranties in respect of circumstances relating to pollution or worker’s compensation or CGL coverage.  I accept his evidence that he did not.  Mr Farquharson’s  e-mail of 21st February had already referred to “FIPL and expanded EPL” as being the “new coverage” (and made no reference to pollution, worker’s compensation or CGL). Mrs Holmes’ own draft wording of 22nd February had already limited the application of the warranty to those two sections. It seems to me unlikely that Mr Farquharson would thereafter have been concerned that Sun Life might be taken to be giving warranties about pollution and workers’ compensation claims when (a) such claims did not fall within the wording  “Claim  … for a Wrongful Act ….in the performance of, or failure to perform, Professional Services” ; (b) the warranty was expressly to be given “as respects the Financial Institution Professional Liability Policy”; and (c) any pollution, workers’ compensation or CGL coverage was of a different nature to that covered by the policy.  
87.	The likelihood is that, finding his second and third bullet points had been addressed in Mrs Holmes’ e-mail of 22nd February by the new second and fifth paragraphs, Mr Farquharson pressed for the inclusion of language that would deal with his first point. The notes in his handwriting on his copy of  Mrs Holmes’ e-mail of 22nd  February 2000 show that the first bullet point was considered since against “Claim” he has written “within the context of coverage provided under Policy No..” after “Claim”. Those words ultimately became “within the scope of the proposed coverage”. The effect and purport of the two is the same, namely, as Mr Farquharson had put it in his blue ink notation on the original wording, “to qualify the warranty in the context of the proposed coverage”, of which the retention was an integral part in the sense that it defined the point at which coverage would begin. 
88.	In my view the likelihood is also that the upshot of the conversation on 23rd February was that Mrs Holmes accepted that the warranty drafted by her should be further amended so as to include the words set out in the first bullet point which were, as then and previously discussed, to signify that the Claim the subject of the warranty must be in excess of the retention. 
89.	The separate warranty in respect of the EPL section did not contain, either originally or as amended, the phrase “within the scope of the proposed coverage” or similar. Mr Farquharson thought this may have been an oversight on his part, as I think it was.
90.	I do not accept, as was suggested by Mrs Holmes in re-examination, that a warranty confined so as to apply excess of the retention would be either worthless or unheard of. As to the former it would be of obvious benefit to insurers to be told that there were no known facts that could lead to a Claim in excess of the retention and to exclude claims arising therefrom if there were. As to the latter,  the retention was so large as to make it logical to apply the warranty only to catastrophic claims that would exceed it. The analogy between the retention and a separate insurance policy is apt. Further the quote slip had as one of its subjectivities:
“Acceptable warranty wording relative to known circumstances which could give rise to a claim under the proposed blended program”

There could only be a claim under the Program if the loss exceeded the applicable retention. Sun Life’s construction of the warranty is, accordingly, consistent with what was contemplated in the quote slip. It is, also, to be noted that on 31st October 2001, after Sun Life’s acquisition of Keyport Life, Ms Meltzer signed a declaration to the effect that she was not aware “of any claims or circumstances which could give rise to a claim that would have been paid excess of the self insured retention under the Sun Life Financial Policy No. MMF/1460.”

Appendix A
91.	Insurers rely on the fact that Appendix A begins with the words “The following loss history provides information on closed and outstanding losses greater than US $ 2.5 million for the past 5 years”, and then lists 4 losses of which the third, with an estimated loss of approximately C $26,000,000 (circa US $ 17.94 million in February 2000), and the fourth with an estimated loss of £12,000,000 (circa US $19.2 million) were below US $25,000,000. I do not regard this as altering the position. As appears from paragraph 9 a claims history with a minimum $2,500,000 figure had been used to present information to underwriters for the purposes of their underwriting decision from the start, when the warranty was not under negotiation and when cover was sought from the ground up with a retention of $5,000,000.
92.	 By contrast the warranty was negotiated in the context of a $25,000,000 retention.  From an early stage – see paragraph 54 - the Claims History was put forward by Sun Life as the type of document by reference to which Sun Life would respond to a warranty question. Mr Farquharson appreciated when negotiating with Mrs Holmes that the warranty letter would refer to the history, and Mrs Holmes appreciated that some kind of loss history would be attached to the warranty. But the negotiation of the warranty by those two was something separate from and unconnected with the attachment of the loss history. 
93.	The warranty letter as agreed by them contained no reference to an Appendix. The reference to it by the phrase “except as disclosed … in Appendix A” was added to it at some time between 14th and 27th September 2000. The act of doing so cannot be taken to have been intended to alter the agreement that had been made in February 2000. Nor do the facts that I have described constitute a factual matrix that compels a different construction of the disputed phrase. Further the $ 2,500,000 figure fits neither party’s case. What has to be declared is, on the claimants’ case a Claim of any figure. On Sun Life’s case it is only a Claim which could exceed the retention that has to be declared. 
The upshot of the negotiations
94.	The course of the negotiations as I find it to have been is consistent with the construction of the warranty that I had reached without reference to them. In the light of Mr Farquharson’s evidence I am satisfied that he did not represent to Mrs Holmes that the intention behind the critical phrase was that the warranty should only apply to the new coverage. On the contrary he represented that the purpose of the critical words was to ensure that the warranty related to facts etc which could give rise to a Claim in excess of $25,000,000, to which the policy would have to respond. 
95.	Had I reached a different conclusion on construction, I would have concluded that the insurers were estopped from contending that the warranty had any different effect. The parties, through Mr Farquharson and Mrs Holmes, had in effect gave their own meaning to the disputed phrase and must be treated as having contracted with the intention that the phrase should bear that meeting: The Karen Oltmann [1976] 2 Lloyd’s Rep 708. Further, Mrs Holmes accepted that the phrase should be included for the reasons and on the basis which Mr Farquharson gave for seeking it (namely to take account of the retention in determining what was within the scope of the coverage). Mr Farquharson relied on that in that he proceeded on the basis that the wording was accepted as having the meaning that he intended it to have. In reliance on that belief he failed to negotiate any different wording or to suggest to Ms Meltzer that the proposed coverage was at risk if any of the identified individuals knew or had information of facts which could lead to any Claim, of whatever size, against the Insured.  
96.	It may be that Sun Life could rely upon an estoppel by convention on the footing that the parties have proceeded upon an assumed basis that the wording has the meaning which Sun Life places on it from which it would be unfair to allow the insurers to depart, and that that convention was recognised by something beyond the mere fact of the discussions between Mrs Holmes and Mr Farquharson in that on 31st October 2001 Ms Meltzer executed and delivered to the insurers a declaration to the same effect as the construction for which Sun Life contends. But such an estoppel was never pleaded nor was the declaration canvassed in evidence in the way in which it would have been if such a plea had been made. In those circumstances I do not regard such an estoppel as having been established, and certainly not with the necessary clarity. 
97.	By MGC 6 the Warranty is to be considered as “incorporated in and constituting a part of this Policy”.  The Entire Agreement clause in the policy provides:
“X. 	 By acceptance of this Policy, the Insureds agree that this Policy embodies all agreements existing between them and the Insurer or any of their agents relating to this insurance, except as provided in the Master General Conditions …”
98.	I do not regard this clause, which, insofar as it is exclusionary, should be construed narrowly in the event of ambiguity, as sufficient to preclude reliance on an agreed understanding as to the meaning of the words, or to render ineffective what would otherwise be an estoppel, which is based not on an agreement but on the inequity of departing from representations and shared assumptions. This is particularly so in the context of a contract which calls for the utmost good faith from both parties.   
The individuals identified by the warranty
99.	There is an issue between the parties as to who are the individuals identified by the warranty. The warranty letter defines “Insured” for present purposes as meaning:
“the following individual employees at Sun Life: executive officers, risk managers, general managers and vice presidents of national offices, heads of national office legal departments, general counsel and vice-chairmen”. 
100.	This terminology begs the question whether the executive officers and risk managers referred to are qualified by the expression “of national offices”. Sun Life contends that the words “executive officers, risk managers … general counsel and vice-chairmen” mean the personnel occupying those positions within the corporate head office.  It is only general managers and vice presidents who are qualified by the words “of national offices”; so that the only personnel at national offices who are defined individuals are general managers and vice presidents of national offices and heads of national office legal departments.
101.	In the end the question became moot.  Sun Life accepts that the following individuals, of whom those in italics were cross examined, are within the definition:
i)	Donald  Stewart, the CEO of Sun Life Financial and of Sun Life of Canada; 
ii)	Paul Derksen, the CFO of Sun Life Financial;
iii)	 Susan Meltzer, the Assistant Vice President, Insurance and Risk Management;
iv)	 Claude Accum, the Chief Risk Officer for Sun Life worldwide;
v)	 Stephen Melcher, the General Manager and Vice President of Sun Life, and;
vi)	 Barry Blackburn, the Head of Sun Life’s Legal Department.
102.	The insurers contend, without making any formal concession, that the knowledge of other individuals Mr Philip Lockyer, Sun Life’s Sales Director, Mr Paul Davies, Sun Life’s Vice President and Director, Operations, Mr Stuart Hill, Sun Life’s Chief Actuary, Ms Mandy Perrin, Sun Life’s Director of Human Resources and Mrs Christine Mackiw, the Worldwide Chief Compliance Officer and a Vice President of  Sun Life Financial and Sun Life of Canada, (a post created in March 2000), was no greater than the knowledge of the individuals who are accepted as being within the definition, particularly Mr Blackburn and Mr Melcher. Accordingly it is not necessary to decide whether the individuals other than those to whom I have referred in the previous paragraph come within the warranty. 
103.	In any event my view is that they do not. The natural reading of the definition is that “of national offices” governs the individuals in the phrase “general managers and vice presidents of national offices”, and not anybody in any of the other categories marked out by the commas. This is consistent with the fact that the draftsman repeated a reference to national offices in the following phrase. The insurers’ construction would have the curious consequence that an executive officer and risk manager at the corporate office in Toronto, who could reasonably be expected to have information relating to catastrophic claims, would be excluded. The wording chosen appears to me to have been intended to reflect Sun Life’s North American corporate structure under which executive officers means the executive officers of Sun Life’s corporate head office (Mr Stewart, Mr Prieur and Mr Derksen, as referred to in the underwriting submission), risk managers including Ms Meltzer, and where  “general managers and vice presidents of national offices” covered the individuals responsible for each of the national offices. The position of executive officer, eo nomine, did not exist in Sun Life of Canada’s subsidiaries.  
Knowledge of information or circumstances
104.	I turn then to consider whether the insurers have shown, (the onus being upon them), that at the warranty date, i.e. 27th September 2000, any identified individual had knowledge or information of facts etc which a reasonable person in his or her position would realise could give rise to a Claim in which Sun Life would incur external costs, including redress payments, in excess of US $25,000,000. In order to reach a conclusion on that it is first necessary to refer to the Regulatory background.
105.	Sun Life, as a company in the financial services industry, was subject to UK financial service regulation. From 1st July 1994 until 30th November 2001 the relevant Self Regulatory Organisation (“SRO”) was the PIA. Sun Life was a member of the PIA throughout its period of operation and subject to the PIA Rules and the PIA Adopted Rules (derived from LAUTRO). From October 1997 the FSA was responsible (as successor to the Securities and Investment Board) for the functions and activities of SROs such as the PIA. In May 1998 the PIA  entered into a service and finance agreement with the FSA under which the FSA provided practical support to enable the PIA to discharge its regulatory and statutory functions. With effect from 1st June 1998 the PIA delegated to the FSA its regulatory function (but not its responsibility) for monitoring regulated firms. From that date the FSA’s Investment Firms Division became responsible for assessing the risk associated with different firms and different regulated activities, monitoring firms’ adherence to PIA’s regulatory requirements; and identifying weaknesses and arranging for appropriate action to be taken. On the same day PIA’s employees became employees of the FSA. Under a service level agreement these FSA employees acted on behalf of, or were seconded back to, the PIA to enable it to discharge its functions under the Financial Services Act 1986. Authorisation and Enforcement functions continued to be carried out by the PIA itself. Not surprisingly those involved tended to think of the terms “FSA” and “PIA” as interchangeable and the same person could be found communicating on both PIA and FSA letterheads. In 2001 the PIA was wound up and all of its regulatory functions were taken over by the FSA.
PIA’s Monitoring powers
106.	PIA Rule 7.3.1 provided that the PIA would monitor:
	(i)	the compliance of Members with the Rule Book;
	(ii)	the conduct of Members to determine whether they continued to be fit and proper to carry on regulated business;
	(iii)	 the compliance of registered individuals with the relevant Rules, and
	(iv)	the conduct of registered individuals to determine whether they continued to be fit and proper to be registered.
107.	 Standards of compliance would be checked by:
(a)	Monitoring information received from the firm;
(b)	Monitoring information received from investors and other sources;
(c)	Carrying out periodic inspection visits (“PIVs”). Firms were `	required to allow PIA inspectors to enter their premises (with or without notice), to inspect records and other materials and to interview staff. Typically the PIA would review records and interview staff to test their knowledge of the rules and to understand the procedures and controls in place
108.	From time to time the PIA published guidance and other information by means of Regulatory Update bulletins. In its Regulatory Update Bulletin 52, dated June 1998, the PIA described its new working practices and a revised focus to its approach to monitoring. It stated that, in anticipation of its remaining regulatory responsibilities passing to the FSA, a new risk assessment model was being introduced to provide a comprehensive evaluation of risks in relation to different aspects of a firm's business and that the most noticeable effect of the changes would be that cyclical visits to firms would be replaced by a more targeted, risk-based approach. The PIA  indicated that there would be a greater variety of supervision visits undertaken, including:
	(i)	focused visits - concentrating on particular aspects of a firm's business;
	(ii)	themed visits - looking at a particular issue across a range of firms, and
	(iii)	verification visits - to verify the information provided in returns or questionnaires, or to check that any required remedial action had been undertaken.
	The PIA made it clear that its Rules still applied and that it retained the power to levy fees and impose fines. 
109.	When the PIA carried out a PIV it would usually find some non-compliance with its rules and, if it did so, it would call on the firm concerned to take some form of remedial action. If it discovered serious non compliance it could make a formal request to the firm that the firm should take remedial action, or it could begin its own investigation, or it could initiate disciplinary action. If the PIA found that clients had been, or might have been, disadvantaged by sales that did not comply with the rules the PIA could require a firm to re-visit those sales and if appropriate unwind them and/or compensate the client for any losses incurred. 
110.	If the PIA found weaknesses in the firm’s policies, systems or procedures it could require the firm to undertake a past business review (“PBR”). Rule 7.2.2. provided as follows:
“(1)	 Where it appears to PIA that it is necessary or desirable in the interests of investors, PIA may require a Member (or a class of Members) to carry out a review of any aspect of its investment business with a view to determining whether redress should be offered to any investor who has suffered loss or damage as a result of a failure by the Member to comply with its relevant duties.
(2)	PIA may prescribe the standards and a specification for the conduct of any such review.
(3)	A Member to whom any such requirement applies shall take all reasonable steps to carry out a review of its investment business in accordance with such standards and specification as PIA may prescribe.”
Past business reviews (“of any aspect of the investment business”) could vary widely in scope and form, and, therefore, cost. What that scope was would depend on the matters that led to the PIA requiring a review to be undertaken. It was not necessary for the firm to be “in enforcement” in order for a PBR to be ordered. The purpose of a PBR was to avoid investor loss, not to punish member firms. 
111.	In addition the PIA sometimes required a member firm to engage the services of a third party, such as a firm of accountants, to undertake a PBR on the basis that the third party reported both to the firm and to the PIA. This practice, which was widely in use since the mid 1990s, is not referred to in the PIA rules and Mr Blackburn was not familiar with it. It was, however, something that would have been anticipated as a possibility by a reasonable person in his position. So far as sanctions were concerned the PIA could, amongst other things, (a) deliver a private reprimand; (b) impose a fine for regulatory failure the amount of which was often the subject of negotiation; (c) restrict certain of the firm’s permitted activities, such as the recruitment of sales personnel or, even, require the cessation of selling activities; (d) withdraw, temporarily or permanently a firm’s authorisation to conduct investment business. There was a right of appeal to the PIA Disciplinary Tribunal and the Appeal Commission.
The regulatory history
112.	In the period 1997 to 2000 (and beyond) the PIA/FSA did not hold Sun Life in high esteem. On the contrary in a series of visits and communications from 1997 onwards it made complaints of Sun Life’s non compliance with regulatory requirements. 

The 1997 Inspection
113.	Between 14th July and 12th August 1997 the PIA carried out a monitoring visit to Sun Life. They visited the Head Office in Basingstoke and thirteen branch offices. There was, as was the practice, a verbal debrief in November. An inspection report was sent to Sun Life’s chief executive under cover of a letter dated 18th December 1997. That letter included the following passage:
“I must inform you that, whilst there are some positive elements to your compliance related systems, our overall view is that there are major weaknesses which need urgent attention to achieve the standards expected by PIA.
The enclosed report identifies the breaches or potential breaches of PIA rules that were discovered.  The most serious issues are identified in bold type. ”
114.	The enclosed 178 page report set out detailed criticisms of Sun Life’s operations under a number of headings: Recruitment, Selling Practices, Complaints, Product Disclosure, Cancellation Notices, Training and Competence, and Compliance.  These criticisms  included the fact that PIA branch visits had found (out of a sample of 320 sales files) 53 cases where the files did not evidence sufficient “Know Your Client” information  at the time the advice was provided and 115 cases where the files did not evidence the advice as suitable. The report recorded that evidence of suitability of advice was a “continuing problem” and noted instances where comments had been added to the files after the sale in order to support suitability. The branch visits had identified “widespread and serious concerns regarding the consultants’ knowledge which, in turn, raises issues about their competence”.  There were serious concerns regarding staff knowledge of the complaints procedures. Procedures in place to monitor selling practices at Head Office, and delegated procedures at branch level, were inadequate. In particular the compliance checking by branch administrators was questionable in the absence of evidence that these staff were appropriately trained. Sun Life had failed to show that it had adequately undertaken the monitoring of the conduct of investment staff or that it had sufficient resources to maintain a system of internal control appropriate for the size and type of its business. Sun Life was required to take the necessary corrective action within two months.  
115.	PIA required Sun Life to undertake three past business reviews in the following areas:
i)	Personal Pension Plans. All sales since July 1994 were to be reviewed to identify potential opt outs and non joiners. The PIA was concerned that information obtained by the consultants did not require details of any waiting period prior to joining an occupational scheme and that there was, thus, a risk, that non joiners had not been identified. As a result of this some 31,000 clients were mailed and approximately 3,100 cases were identified as for review and added to the industry pension review phase 2 population. 
ii)	Free Standing Additional Voluntary Contributions. This review was required because, although the PIA had issued Regulatory Update No 20 in May 1996 in relation to FSAVCs Sun Life had not issued guidance to the sales force until August. As a result of this requirement about 1,200 clients who took out policies between 1st May and 31st August 1996 (the period of the review) were contacted, and 171 cases were reviewed.   157 sales were identified as requiring redress, mainly by buying clients back into their company AVC Scheme and, if not, by enhancement of the FSAVC.  Sun Life provided redress because it had failed in these cases to follow the process that the regulator required. 
iii)	 Serps (contracting out). Sun Life was required to extract salary and age details from applications in order to determine whether clients should have remained contracted out. In the event some 23,000 files were examined to extract salary and age details and about 60% were found likely to need some form of compensation
These reviews were carried out by a combination of existing staff and staff recruited by Sun Life for the purpose. 
 The “100% fact find” monitoring system
116.	As a result of PIA’s visit and report from September 1998 onwards Sun Life subjected all its sales to a monitoring system described as a “100% fact find”. Its purpose was to meet the PIA’s requirement to address the continuing problem as to lack of evidence of the suitability of advice given. Under this system all sales were subject to a checking process run by a new business unit named the Needs Analysis Unit (“NAU”). The NAU, headed by the newly hired Nigel Archer, tested the quality of advice given by the direct sales force. It developed the standards to be applied when reviewing the quality of advice given and checklists for recording the review undertaken. The fact find checker (or “validator”) would apply the standards to sales documentation generated by the salesman at the point of sale and complete the check list. The sale would then be marked either “Pass” or “Fail”. If the former, the sale would be allowed to take effect. If the latter, a record would be made of the reasons for failure such as quality of advice, record keeping (e.g. where there was no adequate record of facts or inquiries which would justify the advice given) or administration error. In many cases the Unit needed further information before the sale could be passed e.g. as to the characteristics of the customer (“Know Your Customer” issues) or the reason for the salesman’s advice. If so, it would make a request for Additional Information to be obtained from the customer. A sale would not go, or, at least, should not have gone, into effect until any identified problem had been rectified and the sale was passed. Sales that had not been passed because more information was needed before the validators could tell whether the sale was compliant were described as “pended”. The “pended” cases would typically be counted as part of the “fail” rate (because they had not passed). The salesman would not get his commission until Sun Life went on risk, and that would (or should) only occur after the sale was passed by the Compliance Department.
117.	A 100% fact find monitoring system is an industry recognised method of removing or minimising the risk of mis-selling and non compliance with the rules. When this system was introduced at Sun Life it highlighted a number of concerns about the sales force.  Sun Life’s Annual Compliance Review for 1st September 1997 to 30th November 1998 identified four of them:
(a) failure by consultants to provide details to demonstrate that advice given was suitable;

 (b) inadequate completion of Reason Why Letters; 

(c) profiles completed on a target purchase basis when they clearly should not have been; and

 (d) inadequate details of discussion regarding other suitable plans.

The system also produced high failure rates and it continued to do so, in varying degrees, thereafter. Sun Life’s Quarterly Compliance Report for the quarter ending 30th June 2000 reported a failure rate across all branches ranging between 43 % and 55 %. The failure rate did not mean that mis-sales had come into effect. But it did indicate continuing failures, or apparent failures, to comply with standards, even though some of them related only to the recording of information. At the same time the number of sales which, in the end, failed because bad advice had been given, was very small in percentage terms – of the order of 1 % or less.

The 1998 Inspection
118.	Between August 3rd and 7th 1998 the FSA carried out a verification visit at  Sun Life. Sun Life had been told of the FSA’s intentions by a letter of 6th July 1998 in which the FSA had indicated that it wanted to monitor the effectiveness of the remedial action taken by Sun Life in response to the 1997 PIV. The visit, which was confined to Sun Life’s Basingstoke HQ, lasted three days.
119.	At a debriefing meeting on 13th August 1998 at the FSA’s offices in Canary Wharf, which Mr Blackburn was invited to attend, the FSA acknowledged that there had been improvements in some areas, including the work of setting up the NAU, but said that they remained “very concerned that the overall system of internal control is inadequately resourced”. Their concerns included the fact that some important compliance monitoring routines covering recruitment, advertising, complaints and SERPS pivotal age, had been postponed during the creation of the NAU, that delays had occurred in completing business reviews for individual representatives, and that the “culture” of the organisation was sales, and not compliance, led. This latter complaint was to be repeated in the years to come.  They also complained that the procedures followed by the NAU had not been adequately documented. They did not rule out disciplinary action.
120.	After the meeting Mr Blackburn wrote to Ms Archer of the FSA on 17th August in these terms:
“I am naturally disappointed that, despite the considerable investment and effort which we have made in the light of your 1997 Periodic Inspection Visit report and the improvements in the standards which you acknowledge, there remain several areas of concern… I would like to assure you of our commitment as an organisation to a goal of achieving the highest standards of regulatory compliance in all of the territories which (sic) we operate. This goal has the commitment of our President in Canada, our U.K. General Manager and all of my senior colleagues in the U.K. However it is clearly your perception that we still have some way to go on compliance issues. We are committed to addressing these matters and are anxious to work closely with you in achieving our goals. To that end … I have instructed Messrs Deloitte & Touche to carry out a comprehensive review of our compliance organisation plans, procedures and resources with the intention that we should be, not merely “adequate”, but “leading edge” … [and] to assist us in documenting the procedures within the 100 per cent factfind checking unit…. Our President, Don Stewart, views this matter as of sufficient importance to extend his current visit to the UK and is anxious to arrange a meeting with the PIA during this week and to attend that meeting…” 
121.	On the same day Mr Stewart terminated the employment of Mr Maurice Bates who had since 1st January 1997 been Sun Life’s Vice-President and General Manager and with whose performance in growing the business and its profits, whilst meeting compliance requirements, Mr Stewart had become dissatisfied. The decision to do this had been made in about mid July. His role was assumed on a temporary basis by Mr Marcel Gingras. 
122.	On about 17th September the PIA sent Sun Life its report.  This report copied the entries in the 1997 report under the headings “Problems identified” and “Corrective action required” and then recorded in two further columns the “Progress made with action” and “Further corrective action required”. In relation to Selling Practices the report recorded that queries were raised in respect of 18 out of 29 new business files reviewed. Included in the main points of concern were the facts that in 2 cases [7%] the files did not evidence that adequate Know Your Client information had been obtained and in 7 cases [24%] the files did not clearly evidence the suitability of the recommendations made.  The firm was required to review the cases identified to ensure that clients had not been disadvantaged. In respect of the 1997 report’s concerns about consultants’ knowledge and, therefore, competence, and the need for training,  the PIA noted that Sun Life had initiated generic knowledge tests but could not identify where two matters relating to formula selling and regular premium plans featured in the tests. They found three instances of previously identified problems in the 29 files reviewed. In respect of Complaints the PIA asked for follow up action at one branch where the understanding of the complaints procedure still appeared to be inadequate.
123.	In relation to Compliance the report noted the commencement of the NAU but expressed a number of concerns about it including:
"b) Issues that had been raised in the 1997 report regarding selling practices had not been addressed;
c) The unit were failing 69% of files, however there was no evidence that cases were adequately followed up;
d) Adequate training was not evidenced in all cases.
e) There was no secure authorisation system to protect against issue before approval.
i) No formal procedures had been written for issue to review unit staff.”
124.	The PIA required Sun Life to “improve and formalise its checking procedures”. Sun Life was required to send to the PIA a report detailing the action taken and a copy of the new procedures, which were to be reviewed annually.
125.	 On 18th September Mr Blackburn sent a memorandum to Mr Stewart about the report. Mr Stewart and Mr Blackburn had met Ms Attricia Archer, Sun Life’s then supervisory manager at the FSA on 11th September, in a meeting designed to emphasize Sun Life’s commitment to improving compliance. Mr Blackburn’s memorandum said of the report that there were “clearly a number of issues which need to be addressed ranging from the significant to the minor”. Mr Stewart did not receive a copy of the report but, as a result of Mr Blackburn’s memorandum he became aware that there were serious compliance issues to be addressed by Sun Life. 
Sun Life’s approach to the PIA/FSA’s concerns
126.	On 13th November 1998 Mr Blackburn sent to the FSA a table setting out Sun Life’s responses to the points raised in the 1998 visit report. This indicated that Sun Life had taken action in respect of the points made, that relevant procedures had been improved, and that the PIA had been provided with what it required.  Only a couple of  matters were outstanding and they were shortly to be completed. On 16th November 1998 Mr Blackburn sent the FSA a final version of the Sun Life response. 
127.	On 11th January 1999 the FSA responded (in a manner which Mr Blackburn regarded as “favourable”) to Sun Life’s response in terms which did not indicate that they thought that there was any serious problem. They acknowledged receipt of the procedures document relating to the NAU and said that it would be evaluated in action on their next visit. Sun Life’s response to the 1998 visit included a review of 183 sales files and a review of all business carried out by a particular salesman.  On 18th February 1999 Sun Life made a further response in relation to outstanding matters. One of the matters on which Sun Life reported was that a review of references which had been issued in respect of advisors between August 1997 and August 1998, carried out as a result of the discovery during the 1998 visit that 3 out of 8 references sampled were not “full and frank”’, had found that 133 out of 397 references were lacking in detail and had to be reissued. As a result the FSA had required Sun Life to extend the period of the review back another year to August 1996.
128.	By the end of the year Sun Life’s compliance department consisted of 56 people, not including those involved in the pension review. In 1997 the number had been 22. Much of the increase was attributable to the NAU, which had a staff of between 25 and 36.
D & T’s Report on the Compliance Department
129.	On 27th August 1998 Sun Life had formally commissioned Deloitte & Touche, its auditors, (“D & T”) to review its Compliance Department and its whole compliance function.  D & T produced their report on 22nd December 1998, and Mr Blackburn sent the FSA a copy the next day. The Executive Summary  noted that the review:
“took place against a background of “serious concerns” expressed by the PIA in recent visits which have commented on a poor compliance culture”

 and that:

“Having made the commitment [to raising compliance standards], actions have to follow. Achieving a substantial improvement in compliance standards and arrangements is a significant task. The effort required to achieve this should not be underestimated. While some improvements can be “quick wins”, many of our recommendations demand significant time and thought, notably in the implementation phase. We have recommended the development of a phased implementation plan which is realistic in recognising       interdependencies with other changes and developments and has realistic target dates”

 The Summary identified two main objectives:

“The need for a compliance strategy that has been set and agreed by senior management” 
and 

“A requirement for greater involvement by all departments in compliance issues”

The report recorded that Sun Life had accepted its recommendations, in particular the recommendation to develop a compliance strategy in the light of a review due by the end of December 1998 of Sun Life’s organisation and structure and the results of a Worldwide Compliance Review.
130.	Over the course of the next few months Sun Life took a number of steps to improve its compliance position. It produced a strategy document; created a UK Management Team (“UKMT”) to discuss and agree compliance strategy; commissioned a “T & C Healthcheck” (see paragraph 138); provided monthly reports on compliance issues to the UKMT; recruited Mr Ongley (see paragraph 132); and had a number of meetings with the PIA/FSA. 
  1999
131.	A further D & T paper of January 1999 on “Managing Compliance Risks – The Way Forward” included under the heading “Current compliance position” and the subheading “The progress so far” the observations “Positive steps have been taken to improve compliance culture”, “Continued substantial compliance risks remain” and “A long way from the objective of high quality compliance”, “An action programme is required…”. 
132.	In December 1998 Mr Stewart had recruited Mr Melcher as a new Chief Executive and Managing Director of Sun Life. Mr Melcher had at an earlier stage in his career been Chief Executive Officer of Allied Dunbar and Eagle Star Life Assurance Ltd. Part of his brief was to strengthen Sun Life’s compliance culture and to improve the company’s relationship with its regulator. In turn Mr Melcher appointed a new Sales Director - Mr Phillip Lockyer, who came from Eagle Star; a new Finance Director – Mr Peter Hanby; and a new Director of Operations – Mr Paul Davies.  In response to the D & T review Sun Life recruited Mr Cliff Ongley to a new position as Head of Compliance, reporting to Mr Blackburn. He started work on 22nd January 1999.  
133.	Mr Melcher was shown D & T’s paper of January 1999. On 4th February 1999, in preparation for the meeting to which I refer in paragraph 134, Mr Blackburn sent Mr Melcher a briefing memorandum in which he summarised the principal findings of the 1997 and 1998 PIVs. The findings that he identified in respect of the 1997 visit included “Insufficient evidence of “know your client”/suitable advice” and “Widespread concerns about consultants’ knowledge/sales practices e.g. formula selling” and “The compliance new business check continued to identify breaches with insufficient evidence of any change”. Those for 1998 included “Insufficient evidence of suitable advice” and “Identification of further evidence of formula selling”. He described the underlying worry of the regulator after the 1998 visit as being the “culture” of the organisation.  
134.	On 17th February Mr Melcher had a meeting with the Chairman and Chief Executive of the PIA at which he told them that he understood that Sun Life needed to demonstrate their intention and ability fully to comply with the evolving PIA framework and rules, his personal commitment to that objective, and Sun Life’s desire to turn over a new leaf in its relationship with the PIA. 
FSA’s March 1999 visit
135.	After the 1998 inspection visit Mr Blackburn asked Ms Archer of the FSA if the FSA would review the NAU and its output because Sun Life would welcome verification that the compliance “bar” was at the right height. He was told that the PIA/FSA would not be able to perform an informal quality control check on the NAU, but that it would conduct a PIV focussed on its output and the marking of the fact finds by the validators (i.e. the standards and their application).  Mr Storey told me, and I accept, that it was very unusual for a regulator to respond to any request to come in and check the processes of a regulated firm.  The normal response was that it was up to the firm to judge the quality of its own processes, and that the regulator would check them as part of its monitoring work. On 11th February 1999 Sun Life sent the FSA a large number of documents relating to the operation and output of the NAU. The visit took place over a couple of days in March 1999.
136.	The FSA did not issue a report after the visit; nor did they make any informal criticism of the NAU. When Mr Blackburn asked whether a report would be issued he was told that it was not the FSA’s practice to issue such reports where visits had been requested by firms, but that Sun Life should take the absence of a further follow-up as “a positive sign”. He was entitled to take it as such. In the world of the regulator no news after a visit is good news. The FSA comment when they find something wrong (on an “exceptions basis”) and are usually silent if they do not.
137.	The notes of a Sun Life Strategy Decision Conference on 23rd/24th March 1999 record the existence of a “Good news only culture, not an issues resolution culture”; “Internal audit a toothless vehicle”, and “No ownership by management to fix problems revealed by audit”. I take the audit referred to to be the Compliance Department’s audit.
  D & T’s report on Sun Life’s T & C regime
138.	On 3rd June 1999 D & T produced for Sun Life a report, commissioned by Mr Blackburn in March 1999, dealing with the effectiveness of Sun Life’s Training and Competence regime. It showed that there were fundamental inadequacies in the scheme. Their key findings included the following: “The role of sales managers is not sufficiently supported” [reflecting, inter alia,  the fact that sales managers were mainly rewarded by commission and therefore lacked incentive in relation to recruitment and monitoring of trainee salesmen]; “The current T & C scheme is heavily paper based and cumbersome”: “Communication is poor”; “Assessment procedures are not effective” and “The role of compliance can be enhanced” [reflecting inter alia the fact that the compliance team had no authority to sanction poorly performing branches]. D & T noted that their:
“review of the T&C scheme currently operating at SLOC has highlighted a number of concerns regarding the arrangements made to support the implementation and enforcement of the scheme. This has led to instances where branches are vulnerable to not meeting the requirements of the scheme.” 
139.	As a result Sun Life, at Mr Melcher’s suggestion, engaged a firm of consultants called Goldengate to devise a new T & C scheme. This did not come into effect until early 2000.  D & T’s view was that their report was unimplemented (“got buried” was how it was described in the 24th July 2000 meeting referred to at paragraph 169 below); but they may not have been aware of exactly what work was done on the T & C scheme by Goldengate.
The 1999 Inspection
140.	Between 9th and 20th August 1999 the FSA conducted a Supervision and a Training and Competence Visit at Sun Life and also, separately, at Sun Life of Canada Independent Limited (“SLOCI”). SLOCI was a subsidiary of Sun Life, established in November 1998. It only had five sales representatives and handled almost entirely pension draw down business. These visits were followed by a joint debrief meeting in October. On the visit to Sun Life the focus was on Training and Competence and Selling Practices, not the NAU.  The FSA’s prime aim was to discover the quality of compliance at ground level, not whether non-compliant sales had or had not been put into effect. The FSA visited 7 Sun Life branches (and interviewed personnel of the Cardiff branch at Bristol) and the Basingstoke Head Office. 
The 1999 debrief meeting
141.	Mr Ongley made a note of the joint debrief meeting of 26th August 1999. In relation to Training and Competence and Selling Practices the FSA’s summary included the following: 
(a) supervisors and consultants were not adequately trained or assessed; supervisors were not assessed annually as advisers or on supervision skills;  consultants were not regularly assessed on knowledge, in respect of which there were gaps; 

(b) responsibility for the quality of sales was pushed to the NAU; 

(c) there was too much emphasis on sales volumes not quality; and

(d) it was not satisfactory for validators to provide the first time business check. 

A number of fundamental issues about the quality of advice were raised. The criticism that there was too much emphasis on sales volume as opposed to quality was an echo of the previous year’s complaint that Sun Life was sales, rather than compliance, driven. 
142.	In relation to Compliance, and, in particular, the NAU, Mr Ongley’s note reads as follows:
“A lot of cases are still being failed.

It was not felt that the standards were too high but do need to be slightly re-focused.

The aim should be to achieve self checking within the Branch not relying upon the unit to inform Advisers on adequacy of content.

The Unit is doing a lot of work but information on the action needed to put things right is not reaching the people who need it.

PIA see our check as being too loose”.
143.	It does not appear that the PIA had any serious concerns about the standards applied by the NAU. Their observation that the standards were not too high but needed slight re-focusing must have indicated to Sun Life that they did not regard them as too low either.  The reference to the check as being “too loose” is unclear. It may relate to whatever the PIA had in mind in its reference to re-focusing standards. Or it may be, as Ms Batchelor, Sun Life’s expert, thought, that the FSA was saying that the NAU’s checks were not producing a change in compliance culture by the sales force in the field. Or it may relate to the fact that the NAU rejected sales for a series of different reasons, some of which were on the ground that the sale was not, or was not shown to be, appropriate and others of which were on different grounds. 
144.	The FSA were very concerned about SLOCI, particularly about the adequacy of supervisory training (Barry Walsh, its Managing Director, had had none), the quality of assessments made, the span of control (i.e. the geographical spread of salesmen responsible to one man in Basingstoke) and some of the selling practices. In particular no advice had been given on fund selection and nine out of the 12 sales checked were queried.
145.	The PIA required SLOCI to undertake a review of all past business. This was carried out over the course of two weeks under the management of Pricewaterhouse Coopers (“PwC”) whose fees were £55,546.40. The reason for PwC carrying out the review was that, apart from the original validators, there were no others at Sun Life with the expertise to carry it out. The review covered about 200 policies. PwC found that in 79% of cases there were inadequate details of client circumstances on file; and that in some of the 169 sales they had examined there was some investor risk. But there was no evidence of systemic mis-selling.  Redress was provided in a limited number of cases.
146.	The FSA did not require any form of review in relation to Sun Life. Mr Ongley’s note of the debrief includes the following:
“ [SUN LIFE] SALES FORCE
-	No voluntary undertaking [to take salesmen off the road] is required.
-	Within 1 month we must produce a plan to address the issues below which must then be implemented within 3 months. 
-	Assessment where necessary of Supervisors 
-	Assessment and re-training where necessary of Advisers 

……………………
[PIA] INTERESTED IN GOING FORWARD NOT TRAWLING BACK. (Whilst there may be a need for some small past business reviews they do not foresee a need to review all business sold).” 
	Mr Blackburn took heart from the latter comment as showing that the FSA saw that Sun Life was seeking to get things right and did not believe that there was systemic mis-selling involving a risk to investors.
147.	On 11th October 1999 the FSA sent to Mr Melcher of Sun Life its report on the August visit.  In it they criticised Sun Life’s staff Training and Competence, Selling Practices, Complaints procedures, and its Compliance monitoring and internal controls. The report included the following criticisms (the phraseology of which follows the terminology of the relevant PIA rules), those in bold type being regarded by the FSA as the most serious:
Training and Competence
(a)  Sun Life had failed to establish and implement a programme and scheme appropriate to its business and satisfactory to the PIA, for training and supervising its staff.
(b)	Sun Life had not ensured that its supervisors and representatives had been adequately trained or assessed.
Selling Practices
(c)	Sun Life had not implemented procedures to ensure that representatives always exercised due skill and care in their business dealings.
(d) Sun Life had not established procedures to ensure that representatives used their best endeavours to enable investors to understand the risks of contracts.
(e) 	The training on assessment of attitude to risk was inadequate and the explanations given by representatives at interview were unclear.
Under this heading the PIA had concerns in 83 out of 94 cases examined.
Compliance
(f)	Sun Life had failed to demonstrate that it had adequately monitored its investment staff, with particular respect to:
(i)	Execution only business
(ii)	Fact find fail rate - the firm having been unable to demonstrate whether this was because of (a) the standards of checking; (b) representatives using the checking unit as a checking service; (c) fact find completion [i.e. by the sales consultants] being of poor quality due to lack of training or ability.
(iii)	Replacement business.
	                Complaints
(g)	Sun Life’s systems for monitoring complaints (particularly trends) and recording them were inadequate.
148.	As is apparent, the only matter of significance that was raised in respect of the NAU (and not in bold type) was that the fact find fail rate was high for reasons that were unclear. Whilst this was indicative of failings at ground level it also implied that the NAU was applying rigorous standards.  The FSA did not say in its report that the business that had been passed contained any problems nor did it make any adverse finding as to the checking conducted by the unit. 
149.	The Report required (a) the firm’s T & C scheme to be reviewed, (b) Sun Life’s supervisors and representatives to be reassessed and retrained in accordance with proposals already submitted to the PIA, (c) an examination by the firm of its selling practices and the establishment and implementation of procedures to improve them and (d) a reconsideration by the firm of its approach to assessing attitude to risk and explaining the risk of contract to investors. Sun Life was also required “to examine the reasons for the fact find rejections and produce procedures to improve the quality of submissions” [i.e. by the sales force]. 
150.	In addition the FSA observed, although not in bold text, that they had reviewed 94 product sales and had raised questions in 83 (88%) of them. The firm was required to produce a report on all the product types identified (of which there were 6) and to explain how the issues raised would be resolved. It is not clear whether the PIA reviewed these cases before or after they had been through the unit. Sun Life was not required to carry out a review of past business.
151.	Sun Life prepared a “Selling Practices Re-visited Workbook 1999” which was used for retraining. On 12th November 1999 the FSA made a small number of comments but overall expressed themselves reasonably satisfied with the contents although requiring appropriate follow up work to ensure that its recommendations were put in to practice and that this issue was closely monitored. 
152.	On 13th December 1999 Mr Blackburn of Sun Life sent the FSA a substantial response to the Report. The Response indicated that Sun Life considered that no further action was necessary in 46 of the 83 cases queried, and set out the progress made in respect of the new training and competence scheme and re-testing of advisers. In addition, it referred to 'Compliance' having initiated a project for providing detailed feedback to consultants regarding reasons for fact finds being returned. In respect of the quality of monitoring by the NAU, there was to be a new coding system for pend cases in which A would indicate an administration issue, B a suitability issue, and C a Know Your Client issue.
153.	 On 16th February 2000 the FSA effectively accepted that no further action was necessary in respect of the 46 cases, and awaited confirmation that the remainder of the clients had been contacted. It also said:
"Your response has been taken as an indication that you have completed the corrective action specified by the Supervision Visit Report." 
154.	The Report in relation to SLOCI, which was sent to it, also on 11th October, required a review of all its past business. It was accompanied by a letter stating the FSA’s overall view that there were major weaknesses which needed urgent attention to achieve the standards expected by the PIA, the most serious breaches being in respect of Compliance, Selling Practices and Training and Competence.  
155.	It can be seen from the above that Sun Life’s position vis-à-vis the PIA/FSA was appreciably better after the 1999 than it was after the 1997 visit. Although the Report required considerable corrective work, it was not accompanied by a letter referring to major weaknesses; it was dealt with by a quick and single response; and no verification visit was required. The FSA was also prepared to accept that the corrective action required had been done. 
156.	On Friday 5th November 1999 Mr Ongley’s employment was terminated because his leadership of the Compliance team had been unsatisfactory. The decision was made by Mr Blackburn, who regarded him as having been very office based and not well regarded by sales managers, with the support of Mr Melcher, who thought Sun Life needed someone with “a little more power behind him”. Nigel Archer became Head of Compliance in his place. 
 The 1999 Annual Compliance Review
157.	The Executive Summary of the Compliance Department’s Annual Compliance Review for the period 1st December 1998 to 31st December 1999, presented to the UKMT on 27th March 2000, described the period under review as “challenging”; and the August PIV as “critical”. In respect of Compliance Monitoring it recorded that the percentage of business passed first time had risen from around 50% to 60% but referred to there being “still many issues arising”. It then set out the same 4 items as had been set out in the review down to 30th November 1998 (see paragraph 117 above), stated that the branch monitoring audit recorded control weaknesses relating to training and competency and associated procedural issues, and described the overall picture painted as one of “poor management controls”.
158.	It then referred to a number of remedial actions designed to result in significant compliance dividends in 2000, namely (i) Newco, a new product range consisting of some 13 products; (ii) a new Point of Sale (“POS”) software for those products to be installed on new and more powerful laptops for every salesman; (iii) the Sales Development programme (a new training scheme) and (iv) Focused Compliance Monitoring. The POS system was designed to require the salesman to obtain a full set of information from a customer before he could proceed to the next stage. It contained the framework of a “reason why” letter, evidencing why the advice had been given, and a product choice guide. It was intended materially to improve the quality of sales by ensuring that the advice given was appropriate and to serve as a record of compliance. The hope was that the system would enable the company to move away from 100% fact find checking. The expression “Newco” came to be used to cover items (i) and (ii) above and also LAMDA which was a new back office system for all new business for the new product set.  Originally Newco was to go live in the summer of 2000. In the event it was not introduced until October of that year. 
159.	When Mr Blackburn presented the review to the UKMT on 27th March 2000 he referred to the lack of a compliance culture within the company indicated by the fact that over the year 42% of profiles had failed and the need to make compliance a higher priority.
2000
160.	During 2000 Sun Life experienced some difficulties with the NAU. The need to provide staff for the Newco project reduced the speed of throughput of the work and meant that the unit was less efficient in chasing responses from salesmen to its queries such that there were significant delays, on which the PIA/FSA later commented adversely. In the middle of the year Sun Life decided, with a view to freeing up skilled compliance personnel to develop the Newco project, to move away from 100% fact find checking and to adopt a procedure known as “Risk Based Monitoring” (“RBM”). The effect of this was that not all sales would be checked. About 15% of cases, being those which Sun Life regarded as low risk, were excluded. The first steps towards RBM were taken on 1st June 2000. As a result 19% (671) of the 3,537 profiles received during July 2000 went through the system without being checked. 
161.	On 3rd April 2000 Nigel Archer reported to Mr Lockyer of Sun Life, and Mr Barry Walsh, Managing Director of SLOCI that he had received confirmation from the FSA that all outstanding action from the 1999 supervision visit had been completed to their satisfaction. 
162.	On 13th April 2000 Mr Melcher made a presentation to the Board of Sun Life Financial in Toronto on “UK Sales Compliance”, in which he spelt out what the PIA had found at their August 1999 inspection (“Training and Competence deficiencies, inadequate fact-finding, Poor explanation of contract risks and of recommendations, Unsuitable recommendations – The bar gets ever higher!”), explained what further action was being taken, and said that operating in an increasingly prescriptive regulatory environment under the spotlight of regulatory monitoring had “not been a comfortable experience” for the UK industry. He stated that it was Sun Life’s objective to be recognised as an organisation that operated to the highest compliance standards in order to take advantage of the FSA’s wish to regulate well run firms with a lighter touch and to reap the dividends of lower compliance costs. He told the Board about Newco and received strong support for his plans. 
163.	On 19th May 2000 Mr Blackburn recorded in an e-mail to Mr Lockyer that there had been a substantial fall in the pass rate, following a revision of the standards for fact find completion by the salesmen, from about 65% to about 38% over the previous 7 days. Mr Blackburn thought that much of this decline was due to inadequate completion of the forms. He also reported that “anecdotally ” the training had been “patchy”. The Compliance Report for May 2000 reported that of 3,748 cases checked only 44.2% were passed on first check and that following discussion with several Branch Managers and Consultants there was a “major gap in their understanding of the concept” of why Sun Life was moving to new factfind standards. The Quarterly Report for the quarter ending 30th June 200 reported that the monthly pass rates between April and June had been 57 %, 44.2% and 55%. The figure for July was 52.2%.
164.	In April 2000 the FSA postponed their supervision visit planned for June 2000, a circumstance which gave Mr Blackburn some comfort that the FSA did not regard Sun Life as “raising particular regulatory alarm bells”. It also pleased Mr Melcher who wanted the FSA to be looking at Newco and not a system that was shortly to be redundant. 
165.	 On 30th June 2000 the FSA notified Sun Life that it intended to begin the visit on 7th August 2000. At a meeting between the FSA and Messrs Melcher and Blackburn on Friday 7th July the FSA made clear that it was going to focus on four areas (a) compliance arrangements; (b) complaints; (c) recruitment; (d) testing sales outputs, together with (e) an overview of training and competence. The FSA also indicated that there might be visits to branches. 
166.	On 4th July 2000 Mr Stewart, together with Sir Bob Reid, a non-executive director of Sun Life, had a cordial meeting with Sir Howard Davies, the Chairman of the FSA at its offices in Canary Wharf. Nothing was said to the effect that Sun Life was performing badly. On 7th July Mr Melcher and other Sun Life executives met representatives of the PIA in order to make a presentation on progress in revamping Sun Life to improve its profitability. Nothing significant was said about the forthcoming PIV. 
167.	On 17th July Ms Newby of the Compliance department produced a report on the programme of advisory visits that that department had made following the launch in February and March 2000, of the Sales Development Scheme, which was the new training and competence scheme devised by Goldengate. The report acknowledged that some branches and managers were adapting to the scheme well and embracing the ethos of “development”. But it listed a number of matters of concern which it was “key” should be addressed in order to decrease regulatory risk and promote the growth of the company.  One of the matters raised was that nearly 40% of role-play assessments and 30% of product knowledge tests did not meet company standards. Another was the high incidence of all levels of management not managing and developing their direct reports where a clear need existed, and of managers not adequately supervising consultants.
168.	Between 24th and 27th July 2000 Mrs Christine Mackiw, the Chief Compliance Officer and Vice-President of Sun Life Financial and Sun Life of Canada, visited Sun Life. She met Mr Blackburn at a hotel somewhere near Heathrow and discussed compliance issues.
169.	She also met Mr Richard Sowerbutts, the partner at D & T dealing with Sun Life. Mr Sowerbutts had been an advisor to the PIA.  On 24th July Mr Sowerbutts met Mr Ian Gorham, then one of D & T’s senior managers, now a partner in Grant Thornton, in order to prepare himself for dinner with Mrs Mackiw and Ms Paulette Kennedy of Sun Life of Canada. Mr Sowerbutts’ note records not only Mr Gorham’s views about the problems of Sun Life  but also vignettes and criticisms of the personalities at Sun Life and the observation, which mirrored what had been said at the strategy decision conference in March 1999, that Sun Life had a “Good news culture – don’t like negative. Compliance not really getting to nub of prob[lem]s” . Mr Gorham is recorded as observing that Sun Life had set itself the objective at the end of 1998 to be in the top quartile in compliance standards but “recognised in bottom quartile”. This was followed by the observation that “Steve [Melcher] & new mgt team stronger & compli [ance] minded & central attitude changed”. But, as it went on to observe “Compli[ance] not treated as core problem..”. When Mr Sowerbutts met Mrs Mackiw he told her that in terms of compliance Sun Life was closer to the bottom of the rankings than it had previously been and that the gap between it and those companies near the top of the rankings was growing. 
170.	In early August Mr Hugh Francis, Sun Life’s risk officer, finalised a list of the   Top Ten Risks for UK Operations. The list also identified a further five  significant risks. These risks were not ranked in order of priority. But they were voted on by the UKMT (each member being allowed to vote for 5 items only) and the order in which the risks were tabulated partly reflected the total number of votes received for each risk (albeit several risks had identical scores). Risk No 8 was “Quality of sales advice in moving regulatory environment”. This heading was expanded in the text accompanying the list to refer, inter alia, to substantial potential exposure and financial implications in the form of potential fines, redress compensation, re-training, or lost sales if the field force was taken off the road. It referred to an increasingly stringent regulatory regime. Item No 14 was “Government or Regulatory Intervention”. 

 The August 2000 visit   
171.	Between 7th and 23rd August 2000 the FSA carried out their supervision visit to Sun Life.  The FSA team visited two branches, London North in Hertford and Royal Berkshire in Reading, as well as Sun Life’s Head Office in Basingstoke. In relation to the NAU the FSA team looked at 10 pend cases. Of these 5 were sales by a single salesman, whose selling had been the subject of an individual business review carried out internally by Sun Life. 
172.	The visit did not go well for Sun Life. On Monday 14th August whilst the inspection was still taking place Mr Blackburn reported to senior management that the FSA had said at the end of the previous week that they had a number of “serious points which they could not ignore and which [would be] raised in their report” concerning training and competence, even though that had not been the focus of their visit. It is unusual for the PIA to comment on an area which does not fall within the scope of their visit. For it to do so is an indicator of the seriousness with which it viewed the position.
173.	In reply to the e-mail in which Mr Blackburn passed this news on to him, Paul Davies, Sun Life’s  Director of Operations, said:
“I agree that the PIA issues are appalling and we should all be more than just concerned”.
174.	On 21st August Mr Nigel Archer, Mr Ongley’s successor as Head of Compliance, e-mailed Sun Life’s finance department, in relation to the 2001 budget, warning them that “at the very least I expect significant remedial action [from the PIA visit] which is bound to increase the cost base of the department”. 
The debriefing meeting
175.	The debriefing meeting between Sun Life and the FSA took place on 23rd August at Sun Life’s Basingstoke HQ. It was attended by Messrs Matthew Aire, Mark Warren, and John Bolton, of the FSA and Mr Blackburn and Mr Archer of Sun Life. 
176.	A few days before the meeting Mr Blackburn met Mr Aire at Sun Life’s head office. Mr Aire expressed concern over Sun Life’s compliance “culture”.  The two of them discussed whether it was fair to say that the culture was that sales took precedence over compliance, as the FSA had suggested during their visit. Mr Blackburn was constrained to admit that that was so, at least in part because the company had become more sales driven as part of the strategy to build up the sales force. Mr Aire indicated that the FSA wanted to work with the company to ensure that it got its compliance culture right from the FSA’s perspective and asked if it would help the compliance department if the FSA were to ask Sun Life’s senior management to attend a meeting at Canary Wharf. Mr Blackburn agreed that that would be helpful as a means of ensuring that Mr Melcher and Mr Lockyer really understood the seriousness of the issue. Mr Blackburn did not reveal to anyone else that he had had this discussion with Mr Aire so that Mr Melcher only learnt of it when Mr Blackburn gave evidence. 
177.	Mr  Archer made notes of the meeting which were later typed up. The FSA representatives went through the following topics (i) Recruitment and Termination; (ii) Complaints; (iii) Compliance Monitoring; (iv) Training and Competence; and (v) Conclusions.
178.	 In relation to Recruitment the FSA based themselves on a sample of 10 files. As a result they had a number of issues including queries as to whether 4 recruits were “fit and proper”, the high proportion of recruits subject, on appointment to “special monitoring”, about which the Compliance Department had expressed concerns since July 1999, the ineffectiveness of the special monitoring arrangements, which had been delegated by HR (Human Resources) to field management without any feedback loop, failure to take corrective action on Sun Life’s Compliance department’s concerns about special monitoring, and some sales consultants not being registered with the PIA before selling.  As to the latter Sun Life had contacted the individual registration unit at the PIA on 11th August  to tell them that it had identified a consultant who had not been individually registered with the PIA and had discovered that this came about because of a “systems error”. As a result they had reviewed all consultants appointed since 1st February 1998 and found that the error affected 34 people, 29 of whom had already left and 5 of whom were suspended until the PIA confirmed their registrations.  The FSA/PIA also had doubts in 2 out of 5 cases about whether references were full and frank. 
179.	In relation to Complaints the FSA had checked 15 cases about which they had a number of criticisms, including delays in identifying complaints and dealing with them (which, as they pointed out, had previously been identified by Compliance), inconsistent logging of the complaint as between branch and HQ, evidence that salesmen were making contact with complainants, and inadequate depth of investigation of complaints in 4 out of 5 cases. They complained that the 1999 requirement to review the firm’s systems for monitoring complaints, in particular to identify trends, had not been fully actioned.  
180.	In relation to Compliance Monitoring, i.e. the NAU, the FSA accepted that they had had only a small sample. Although they did not say so the size of the sample – 10 - was minimal when viewed against Sun Life’s approximately 70,000 sales per year. The FSA commented that RBM was not working as the number of outright rejects had fallen, and it appeared that some high risk areas were or might be being missed. This was not itself a criticism of the work done by the NAU once the cases reached it; as opposed to the selection of cases that were not passed through to it.  
181.	The FSA team told Sun Life that the continuing high failure rates did not permit a move from 100% fact finding to risk based sampling. In fact, as the FSA acknowledged, Sun Life had already reverted to 100% fact find monitoring when the FSA had made their criticisms of RBM during the course of the August visit. The FSA complained that there had been no trend analysis of failed cases (i.e. why they had failed and in what proportions) and that the results from their field visits suggested that the NAU was not taken seriously by sales management. They also complained that the inclusion of administrative failures distorted the headline figures of fail rates;  that there were sizeable delays in the branches dealing with, and the NAU following up on, queries raised by the NAU (an issue that had been identified by Compliance), and that, as a result, policies had been allowed to go on risk before the sale had been passed by the NAU.  
182.	The FSA team suggested both at this stage and in their concluding remarks that the failure/pend rate was not high enough having regard to their experience of other companies’ rates (55% pass rate when their audits i.e. their experience of other companies suggested that the pass rate should be 40%); and that this might result in a selling practices audit by the FSA. They thought that the 55% failure rate could include a further 10% reject rate (which I take to mean that a further 10% ought to have been failed). They complained about the consistency monitoring of the NAU that had begun on 9th August (which involved one NAU analyst looking at another analyst’s conclusions to see if he agreed with them: there had been 5 disagreements but no changes of decision).  They thought that the NAU standards and processes needed to be benchmarked in relation to five product areas; and said that the overall rejection rate of 1% was too low. They said that there should be a review of what the note refers to in one place as “pend statistics” and in another as        “ pend cases”.  I think it likely that this was an indication that the FSA required the firm to conduct a review of the pended cases in order to discover  whether any breaches of the Rules had been remedied . In relation to individual business reviews i.e. internal reviews by Sun Life of the business done by individual salesmen, following rejections of sale by the NAU, the FSA thought that overall there was a lack of validity in, and of sales commitment to, the process. There was also complaint that the sales force did not appear to take requests for Additional Information seriously. 
183.	Mr Blackburn did not regard what the FSA said about the NAU as casting any significant doubt on the appropriateness of the standards applied by the NAU, particularly in the light of the very small size of the sample tested and the fact that the FSA’s criticism that the pass rate was too high was only based on what the FSA expected having regard to their experience of other firms rather than Sun Life.  In their report the FSA only disagreed with the ultimate result in one case. 
184.	In relation to Training and Competence the FSA team pointed out that they had not conducted a full review and would be considering how and when to carry one out. They observed that the Compliance Department’s July reports on the Sales Development Scheme (“SDS”) painted a poor picture and showed that consultants were failing in “Skills and Knowledge” and that the scheme was not yet effective. They said that a major cultural change was required “to take SDS on board” and expressed themselves unconvinced, given overall results to date, on the new Point of Sale system, of which they had seen a pilot version. They found that Key Performance Indicators were inaccurate and not used by sales management as a working tool and that Compliance had lowered some of the indicator “hurdles”.
185.	Their Conclusions, as noted by Mr Archer, were as follows:
“Sphere of influence of Compliance Department not enough to influence compliance culture.

Weakness will continue, until achieved

Recruitment – poor
↓
Training – ineffective
↓
Sales monitoring – ineffective
↓
Ongoing training – ineffective

Compliance driven by sales issues

Investor risk therefore high.”

186.	I do not take the arrows in Mr Archer’s note to signify that the FSA were saying that each criticism was the result of the one previously noted; but  rather that it was the combination of the matters enumerated (what Mr Blackburn described as a “cycle of weakness”) that rendered investor risk high.
187.	The FSA indicated that they required:
(a) a review of pended cases; 

(b) a signing off of Sun Life’s Positive Plus  POS system i.e. a decision as to its final form before the sales force was trained in its use; and

 (c) to be supplied within 5 days with a list of what Sun Life regarded as the highest areas of compliance risk.

188.	They said that the report would come out in about six weeks; and suggested a further debrief at Canary Wharf in about 4 or 5 weeks time to be attended by Mr Melcher, Mr Lockyer and Mr Blackburn. 
189.	The FSA/PIA representatives also indicated that corrective action had not yet been decided upon. “Corrective action” is to be distinguished from “Enforcement”, which is a disciplinary process, and from further monitoring visits.  
190.	The FSA then referred to the fact that their findings were serious, indicated that the matter could be referred to the “Enforcement” division or there could be further visits; they wanted a further debrief to be attended by an FSA Group Manager; they suggested in strong terms that the firm should stop recruiting for a period. They referred again to the factfind checking unit not being effective and that it had a 50% pass rate when their audits suggested it should be a figure of 40% and their T& C review suggested 30%. They referred to their options (or in FSA jargon the content of their regulatory “toolkit”) namely disciplinary process plus options 1 and 2, being further visits in quarters 1 and 2, the first dealing with Selling Practices going back 5 years and the second dealing with Training and Competence.  The latter two were matters that had not been the intended focus of the 2000 visit. 
191.	A Selling Practices review would typically involve the FSA visiting a number of branches, interviewing sales representatives and reviewing a number of files detailing the fact finding performed, and the advice given by the sales representatives and the associated documentation, This could either turn out to be so bad that the matter passed to enforcement; or show full compliance; or somewhere in between. This, in turn, could lead to some form of PBR.
192.	Mr Blackburn understood that the disciplinary process, if undertaken, would be concerned with the failings in respect of recruitment processes and complaints which the FSA had identified, and the administrative failings within the compliance unit, and that the two further visits would focus on the two identified topics, at which the FSA had not looked in depth in the course of the 2000 visit. No mention was made at the debrief meeting of a past business review, although, as Mr Blackburn accepted, such a review, related to the failings discovered, was a possible result. He accepted that the reference to corrective action not yet having been decided upon strongly indicated that the FSA would require things to be done to correct the weaknesses identified and to ensure that if investors had been disadvantaged that it would be put right.
193.	At the debrief meeting the PIA also suggested – in strong terms - that Sun Life should consider the immediate suspension of all recruitment of consultants.  Sun Life did so with effect from 1st September. Mr Melcher, who realised that the PIA might require Sun Life to suspend its sales force, thought that this voluntary act would be seen by the PIA as an act of good faith and as evidence of Sun Life’s management’s commitment to remedying the problems that existed. 
194.	Sun Life’s decision to suspend recruitment was also a recognition of the seriousness of the situation in which Sun Life found itself. Sun Life had found the profitability of its new business poor. In mid June 2000 a strategic plan presented to Mr Stewart, as part of the annual planning process and strategic review, had considered three options in relation to the Sun Life UK’s business; (i) Stop selling new business and run the business down; (ii) Sell the business; or (iii) Turn it around towards achieving a 15% return on capital employed. Although it was the riskiest of the three, Sun Life Financial had chosen the last option.  This involved increasing the scale of the business.  Suspending recruitment was, therefore, inconsistent with the current business strategy which was to build up the sales force. Its immediate financial effect was, however, limited. The rate of recruitment of salesmen was of the order of a couple a week; and Sun Life essentially wanted to see how matters stood after the second debrief meeting. 
195.	On 24th August Mr Blackburn spoke to Mr Melcher. Mr Blackburn told him that the PIA had expressed a number of concerns at the debrief meeting and that Sun Life was going to have to do some remedial work to deal with them. He also told him that the PIA wanted to meet senior management for a further debrief meeting at Canary Wharf. Mr Melcher wanted to know (a) whether the PIA saw compliance management and, in particular, Mr Archer as part of the problem or part of the solution, (b) what the PIA envisaged would be happening at the meeting, and (c) who should attend.  Mr Blackburn telephoned Mr Aire who confirmed that the PIA/FSA did not have an issue with the management of the Compliance Department, including Mr Blackburn himself, and that what the PIA was looking for was not a sales pitch but a demonstration that Mr Melcher understood the magnitude of, and was prepared to “embrace”, the necessary cultural change. Mr Blackburn e-mailed to Mr Melcher accordingly, and suggested that, on that basis, it would be better to limit attendance to Messrs Melcher, Lockyer, Blackburn and possibly Davies. 
Informing management of the outcome of the debrief meeting
196.	On 25th August Mr Blackburn circulated to Sun Life’s senior management an e-mail with an attached summary (“the debrief summary”) which Mr Archer had compiled of what he described as the PIA “findings from the debrief meeting”.  He also recorded that he had been asked to produce for the PIA within 5 working days his list of major compliance risks faced by the office. The debrief summary was a list of individual issues raised at the meeting, against which were put the names of the members of management  who were to prepare a response for Mr Melcher on each of them.  It is less critical in tone than the content of Mr Archer’s note and makes no reference to the FSA observation that “investor risk was high” or to “Disciplinary process plus options 1 and 2”.  Mr Blackburn said that this was because there had been an initial meeting at which the FSA/PIA debrief had been discussed and that the function of his e-mail and attached summary was to record responsibilities for work to be done on the matters raised; it was inappropriate to put into such a summary a list of what the PIA could do in the future.
197.	Mr Archer’s notes of the debriefing meeting were not circulated and the information given to Sun Life’s senior management about the content and tone of that meeting appears to have been confined to the debrief summary and what was said at the meetings of the Audit and Compliance Committee and Board on 30th and 31st August: see paragraphs 202 - 206 below.
198.	On the same day Sun Life Financial’s Executive Risk Committee met in Toronto. Mr Francis was there to present the Top Ten Risks for UK Operations. Ms Meltzer recommended purchase of the Program and this recommendation was accepted subject to a review of the disclosure by Mr Gee, a Vice President of Sun Life Financial, Mr Weinheimer, a Sun Life in-house lawyer, and Ms Meltzer herself. 
199.	On 29th August 2000 the FSA wrote to Mr Blackburn in the following terms:
“Further to the recent debrief regarding the above supervision visit, I would like to reconfirm several points which we discussed.  It is PIA's view that there are major weaknesses which need urgent attention in order for your firm to achieve the standards expected by PIA.
Due to the serious nature of the findings, PIA are considering whether further action will be taken against the firm.  In addition, we have requested that we will give a further debrief to senior members of your firm, but would request that this be delivered to Steve Melcher, Managing Director, Philip Lockyer, Sales Director, and yourself. …
We have asked that in preparation for this, that the firm consider the debrief given to you, and be in a position to give proposals as to how the firm will immediately address these issues.
You should be aware that due to the unsatisfactory outcome of the visit, PIA are likely to conduct further regulatory activity in order to satisfy itself that the firm has undertaken appropriate remedial action.” 
200.	On the same day Mr Blackburn sent to Sun Life’s senior management a draft list of the major compliance risks facing Sun Life. The list under its nine headings (Salesforce, Advertising & Publications, Products, Newco, Pension Review, Compliance, IFA company, IFA Network proposal, Structural issues) has a number of sub issues and extends to some four pages. In respect of Sales Practices it identified, inter alia:
a)	lack of management supervision/unaccompanied visits;
b)	remuneration structure militates against supervision; 
c)	‘Commission only’ sales structure of advisers; 
d)	dependence on high compliance risks products e.g. personal pensions; 
e)	continued mortgage endowment sales/high level of interest-only mortgage sales;
f)	high proportion of “execution-only”/”target purchase” sales;
g)	sales process perceived to be too time consuming/hence circumvented by sales people;
h)	no defined advice standard; 
i)	“internal churning” e.g. bonds to unit trusts and vice versa.
201.	When Mr Lockyer, who is clearly a man of graphic expression, saw this list, he was alarmed enough to reply  with copies to others, including Mr Melcher, in these terms:
	“I cannot believe you would seriously be considering releasing a document as potentially inflammatory as this without UKMT discussion.  I have considerable issue with both the contents and prejudice contained in this note.
	If this forms the basis of our meeting with the PIA are you going to supply the “tora, tora, tora” bandanas, I'll bring the swords to fall on!”

Mr Melcher thought the list was “too self-deprecating”. 

The Audit and Compliance Committee 
202.	In the afternoon of 30th August the new Audit and Compliance Committee of Sun Life, which had been set up as part of the new structure following demutualisation, met for the first time.  Sir Bob Reid, a non-executive director of Sun Life and Sun Life of Canada, was in the chair. Mr Stewart, although not a member of the Committee, was there. The minutes record that Mr Blackburn presented the PIA Compliance Quarterly report for 1st April 2000 to 30th June 2000. He stated that Compliance would continue its 100% fact find checking, that the current first time pass rate was 55%, and that this was “significantly lower than other companies” but that the new Point of Sale system and Training and Competence scheme should address many of the issues. He said there was no residual problem relating to the 55% pass rate since ultimately rejection rates were below 1%. 
203.	 Mr Blackburn also distributed a “PIA Visit Issue paper”, i.e. his debrief summary, and discussed the verbal debrief provided at the end of the PIA visit.  The minutes record him as saying that:
	“a number of serious issues have been raised in the [SUN LIFE internal] Compliance Monitoring Reports but many of the actions to address these issues have either not been timely or have been inadequate. The issues indicate a picture of sustained weakness. The statistics do not support a move away from hundred percent monitoring”.
He told the Committee when the PIA report was due and about the further debrief meeting that was to take place.  As his notes on the debrief summary show, Mr Blackburn referred to possible further visits on Training and Competency and Sales Practices (the notes have a cryptic “+ ?” against those words, which I take to be an indication that the PIA were considering their options, which was something that Mr Blackburn told the Audit Committee) and indicated that it would be the response by management at the meeting at Canary Wharf that dictated further action, upon which the FSA had not yet made a decision. Mr Melcher advised that a response was being drafted which would include timeframes for remedial action in relation to each issue and how each issue would be monitored. 

 What Mr Blackburn did not say
204.	Mr Blackburn did not report the fact that the PIA/FSA had said that they were actively considering enforcement action. What Mr Blackburn did not say is recorded in the notes of a meeting between him and Mr Sowerbutts of D & T on 6th September 2000:
“Audit committee not told prompted to suspend recruitment. Not told all options still open to PIA re further action. Not spelled out could be a fine.” 
I accept Mr Blackburn’s suggestion that the last sentence is probably an exposition of the previous one, intended to explain that the omission was that Mr Blackburn did not refer the Audit Committee to a fine being one of the possible options. The reason for Mr Blackburn’s reticence was, according to him, because Mr Melcher had wished to brief Mr Stewart on the issues of suspension of recruitment and a possible fine before any consideration of them by the Audit Committee, and, since Mr Melcher had not had the opportunity of doing so before the audit committee meeting, Mr Blackburn decided to say nothing. This seems to me unlikely to be correct since, if it was, I would expect Mr Melcher to recall (as he did not) having been told, either shortly before or shortly after the meeting, that the FSA/PIA representatives had  themselves talked about the possibility of enforcement, which might lead to a fine. If this had happened before the meeting, then, as Mr Melcher accepted, you would expect some reference to it in the minutes of the Committee.  If after, I would expect Mr Melcher to have discussed it immediately with Mr Stewart. The note also records Mr Blackburn saying:
 	
“Steve [Melcher] & Canada – not worried them unduly – e.g. not told re fine potential”

I am prepared to accept Mr Blackburn’s suggestion that this note refers to what Mr Melcher was not telling Canada, as opposed to what Mr Blackburn was not telling both Mr Melcher and Canada. If, as I think it does, the note has the former meaning it casts further doubt on the supposed reason for Mr Blackburn’s reticence. It is clear from Mr Melcher’s evidence, which I accept, that he was told before 27th September that enforcement was a real possibility, although it is not clear whether he was told that this was what the FSA had said they were considering. He was probably not told that the FSA had spoken in terms of high investor risk. He did not recall this happening.
205.	 At the Audit Committee Mr Blackburn also explained the background of the Top 10 Risks paper: the paper had been written by Mr Francis, the Head of Risk Management in the UK. Directors were individually asked to identify their top 10 risks which were collated and ranked. Mr Francis then discussed each risk and its associated mitigating action with the directors independently. Mr Accum had also been involved. The minutes record that:
“Mr Stewart said that the paper contained the top ten UK risks. The view from afar would place the regulatory risk higher, for example as number two. Mr Melcher said that a risk received no less attention if it was number ten rather than number one”.

Mr Stewart was told that the Top Ten risks were not in order of importance.

 The Sun Life Board Meeting
206.	The Board of Sun Life met on 31st August – its first meeting under the post demutualisation regime. Sir Bob Reid gave a report on the Audit and Compliance Committee. Since the directors were either members of the Audit Committee or, if not, members of the UKMT they were already aware, to a greater or lesser extent, of the results of the PIV. As the minutes record, Sir Bob told the Committee that “there had been a very negative report from the PIA following their recent visit” and that there was to be a further debrief meeting. The minutes also record him as saying that “the compliance function seemed to be working well”. Prima facie these two passages appear contradictory. The explanation is probably that the Chairman, whilst recognising that the PIA had found many regulatory failings, was being complimentary of the efforts of the UK Compliance Department – a view which would coincide with the expressed view of the PIA/FSA that Compliance was part of the solution, not the problem. 
207.	On 31st August Mr Blackburn sent to the FSA a list (which had been drawn from matters referred to in internal compliance reports and reports to the FSA) in a form somewhat similar, but by no means identical, to the draft that had horrified Mr Lockyer, of eight major compliance risks, together with a statement of the measures that were being taken to address them. The first issue mentioned was:
“1.	Management Culture

•	Balance between commercial and compliance considerations sometimes inappropriate

•	Compliance issues sometimes given insufficient priority by senior management”

Mr Melcher had approved this list and he and Mr Blackburn had agreed that they should put down all the risks, whether they were worried about them or not, in order to demonstrate to the regulator that they had them in mind and to demonstrate a compliance culture. 
208.	On 1st September 2000 Mr Blackburn e-mailed Mrs Mackiw in Toronto a copy of the debrief summary and the list of compliance risks and set out the position as follows:
		“PIA view their findings as serious for the following reasons.
i.	Some of these issues have been raised in earlier Inspection Visit reports.
ii.	Many or all of the issues have been raised in internal Monitoring Reports.
iii	There is evidence of a lack of management adopting the right compliance culture -- e.g. lack of commitment from Field Management to the Sales Development Scheme and the persistent delays in management response to Business Reviews on individual consultants.
iv.	The findings reveal weaknesses at many points along the line -- recruitment of consultants, training and management of consultants, the quality of business they do etc.
	PIA indicated that they had not yet decided what action to take as a result of this report. …
	What further action PIA wish to take will depend on that meeting [the forthcoming debrief]. As a minimum, we should expect an Inspection Visit next quarter related to the Sales Development Scheme and one in the final quarter or at the beginning of next year on sales practices.” 	
209.	Mrs Mackiw forwarded this e-mail to Mr Stewart on 5th September 2000. She explained to him that she had “a number of concerns regarding compliance matters in the UK since [she] visited there in July; the issues raised by the PIA have reinforced my initial concerns”. Mr Stewart spoke with her later in the day and told her that Sun Life had suspended recruitment for the sales force – a decision that Mr Melcher had told Mr Stewart about and with which he had agreed.  Mr Stewart did not recall looking at the list of compliance risks, which, together with the debrief summary, was attached to the 1st September e-mail.  
210.	On 5th September 2000, Mr Blackburn sent a further letter to the FSA. He informed them that:
	“I have discussed your findings with my fellow executive directors and reported on them to the audit committee of our U.K. Board. I have also reported on them to the Chairman and Chief Executive Officer of the Group and the Chief Compliance Officer in our Corporate Office in Toronto. I would like to assure you of the seriousness with which your findings are viewed at all levels.
	I write to advise you that we have decided, in the light of your comments on the recruitment training and supervision and monitoring processes in place within our Company, to suspend indefinitely the recruitment of further financial consultants.”
211.	On 6th September Mr Blackburn attended a meeting with Mr Sowerbutts and Mr Gorham of D & T. He had cancelled a Caribbean trip in order to deal with matters arising from the FSA visit, principally the need to brief Messrs Melcher and Lockyer in relation to the forthcoming visit to the FSA.  
212.	The tenor of the meeting, at which Mr Blackburn explained what the PIA/FSA had been doing, appears from the following extract from Mr Ian Gorham’s notes:       
“no-one listening to compli” – reports
……………………
PIA - 3 for 3 weeks
………………
Fund[amental] issue [identified] & not addressed + 97
inspection had i/d some of these issues and not corrected or gone wrong again
Poor sta compli across business [poor standards of compliance across business]
mgt not taking notice so culture not right	….
Mon [Monitoring] – doing everyone else’s work for them
-	100% factfind checking         - Branches issue
-	Not clear effective – fact find unit
Branches say get wrong so ignore,etc
……..
Asked Barry for issues
-	mgt want get right but not paying 
attn, not on crowded agenda
	[therefore] Said get Chief Exec to Canary
	Wharf + Sales Dir & self & give
	dressing down
	……

	Not decided further action yet
-  Asked him give proposals how address issues
-  PIA likely consider further reg activity
- serious nature findings
…….
PIA – This is serious – consider suspending 
recruitment as so many processes to fix,
from rec[ruitment]. thru refs [for] terminated consultants
- all processes wrong/not robust
….
D&T help
1.	Interview to get thru –coached a bit on
Process
…..	
					Steve had to take on his mgt team
Wont go v. sales. Sales Dir a prob”
213.	Some insight into what Mr Blackburn perceived to be the FSA’s attitude is reflected in a note of a telephone discussion between him and Mrs Mackiw on 11th September 2000 when Mr Blackburn is reported as saying that “the PIA [are] peeved because we are a repeat offender; that although we are monitoring and reporting on errors, management does nothing.”   His view of Sun Life, as recorded in a note of a further conversation with Mrs Mackiw on 19th September,  was that 
“Management has compromised compliance for commercial interests too much and there is a need to redraw a line in the sand.”
214.	On 11th September the UKMT met. Mr Francis reported on the Executive Risk Committee meeting of Sun Life of Canada on 25th August 2000, at which he had presented the top 10 risks facing Sun Life. He told the team that Canada’s view was that the priority was regulatory risk.
215.	 On 14th September  Mr Melcher sent Mr Stewart an e-mail which included the following:
	“Following our conversation last night, I would like to assure you that the entire UK Management Team is taking the feedback, which to date we have received only verbally, most seriously. ...
These points are Barry’s interpretation of the conversation and are shown in Attachment 1 to this note [the debrief summary].  The overall criticism is the PIA’s belief that our corporate culture has put commercial interests above compliance best practice and that the specific points are a reflection of this. …
[He then referred to the forthcoming debrief meeting at which he said:]
…We plan to accept all the findings (as you would expect) in general terms and acknowledge that the commercial prioritisation of LAMDA, Positive Plus, sales management reorganisation etc has crowded our compliance agenda and that we placed undue reliance on safety nets such as 100% checking of new business and close monitoring of recruits rather than improving the quality of sales people, businesses and processes…We will present a full project plan with personal responsibilities, actions and timeframes on all of the points including the top 10 risks…. It is our objective to convince the FSA that their view is a momentary lapse rather than a systemic failure and that we can accomplish what we set out to do…
In addition we have instructed PWC and Deloitte and Touche to engage in three projects and these are:
o	To benchmark the standards being used in reviewing business in the fact find checking area
o	To process map our compliance routines to ensure they are fully “joined up”
o	To provide coaching for the senior management in advance of the PIA meeting
	               ………….
I hope this helps put your mind at rest but I can assure you that mine will not be until this whole issue is behind us.”	
216.	Sun Life had engaged D & T to assist them in preparing for the debrief meeting (as Mr Melcher put it “We are being coached by Richard Sowerbutts”). It had also engaged PWC to benchmark the standard being used in the NAU by reference to internal guidance notes and industry best practice; and to conduct a critical appraisal of Sun Life’s new “Product Choices” guide in order to assess its accuracy and effectiveness as a reference tool for staff. 
217.	On 25th September 2000 Messrs Melcher, Lockyer and Blackburn met Mr Sowerbutts at an hotel near Heathrow in order to prepare for the meeting on the 28th. D & T’s advice for the meeting was to “follow the three Cs, namely confession, contrition and control: i.e. admit your errors indicate how sorry you are, and demonstrate that you have good controls going forward”.   He also advised that if Sun Life were to “fail” at the meeting the compliance and monitoring section of the PIA would turn the file over to the “enforcement” section in which case about 50% of cases resulted in disciplinary action.
218.	D & T's Power Point notes record that Sun Life were told the following:
(i)	The FSA judges organisations over time.  Changes in management do not restart the clock or clean the slate.  Accordingly, previous Sun Life failures would count unfavourably.
(ii)	Recurring issues tried the FSA's patience, and Sun Life should be prepared for this.
(iii)	The FSA were interested in facts and deliverables.  They would focus on senior management sponsorship action.  They would be interested in deeds not words.
(iv)	The FSA had serious concerns.  They would want Sun Life to hear what they are saying, and to accept points where it was appropriate to do so.
(v)	Key historical issues still existed.  Sun Life had been “bouncing along the bottom” in terms of compliance.  These would have to be resolved as the FSA had/would run out of patience.
(vi)	Previous reports and proposals (such as the Risk Based Compliance proposal, the 1998 D & T review, and the 1999 Training and Competence review), had not been implemented.
(vii)	Sun Life identified issues but rarely resolved them.  This had to change.  The FSA was now alive to this.  Sun Life needed a strategy that prevented reoccurrence.
219.	Sun Life put together for the purpose of the meeting on 28th September an “Initial Plan” which set out the compliance risks that Sun Life faced and what the company proposed to do to address those risks. It identified regulatory risk as one of the most significant risks requiring management by Sun Life. 
Preparing for disclosure under the warranty
220.	Ms Meltzer was the person at Sun Life who was largely responsible for organising the disclosure process. Mr Accum played very little part in it. On 1st September 2000 Ms Meltzer e-mailed Mr Melcher (and others, not including Mr Blackburn) in the following terms:
“Further to our telephone conversation, in order to effect coverage for the above noted program [Corporation Errors & Omissions – Warranty Statement] I will be signing a warranty statement on behalf of Sun Life, a copy of which is attached for your information.
Although this policy will cover products and services provided to third parties prior to binding, it does not cover claims or circumstances that could give rise to claims of which we had knowledge prior to binding. In that regard the warranty statement provides disclosure of four specific situations including ….
In order to sign the warranty statement, I require your confirmation that there are no other situations which should be disclosed to the insurers. In order to put this question into context, I have attached a summary of the proposed coverage. Please provide your confirmation by September 8 ... ” 
221.	Attached to her e-mail was a copy of the current draft of the warranty (which did not then contain any reference to an Appendix), the Corporate Errors & Omissions Program Claims History as of September 2nd 1999 (see paragraph 54 above), which still included the Rand v Confederation Life £1.3 - £1.8 million claim, and a summary of the proposed coverage. That summary did not refer to the retention or limits of the coverage. According to Ms Meltzer the reason was:
“… I was not asking the national offices and the general managers specifically to disclose to me what was in their requirements for        disclosure.  I did not want them to be making any subjective or otherwise decisions of what they should or should not tell me so I did not put a dollar value on it so they would be very open to me in their letting me know of any circumstance that could possibly give rise to a claim”.

Mr Francis
222.	One of the recipients of her e-mail was Mr Francis, Sun Life’s risk officer, to whom, together with Mr Blackburn, Mr Melcher handed the task of dealing with Ms Meltzer’s inquiry.   No one appears to have impressed on Mr Francis (or Mr Blackburn) that Mr Blackburn was one of the individuals whose knowledge was critical for the purposes of the warranty; or advised as to the ambit of “circumstances that could give rise to claims”.
223.	On 4th September 2000 Mr Francis replied to Ms Meltzer’s e-mail telling her that he had discussed the matter with Mr Melcher and had forwarded her email to Mr Blackburn for his comments. He asked whether the claims history needed to be updated since, for example, Rand v Confederation Life had been settled. On 5th September she confirmed to him that “the disposition of Rand should be included”.   
224.	Mr Blackburn and Mr Francis had some discussion about what needed to be disclosed in respect of endowment mortgages and Mr Blackburn suggested to Mr Melcher, by an e-mail of 4th September, that the number of complaints received (128 ) in relation to endowment mortgages be disclosed. By an e-mail of 6th September Mr Francis asked Mr Blackburn whether there were any other amendments or new claims to consider apart from the Rand matter, and on 8th September sent to him a suggested wording, drafted for Mr Francis by the legal department, for a paragraph about FSAVC to go into the Claims History in place of the reference to Rand which was no longer required. Mr Blackburn had no comments on the draft. 
 Mr Blackburn
225.	Mr Blackburn’s evidence was that he was not really involved with the warranty letter. He read the draft warranty together with the accompanying Claims History of losses over $ 2.5 million in the preceding 5 years, and the summary of the proposed coverage when he received Ms Meltzer’s forwarded e-mail. He did not, however, appreciate that Ms Meltzer’s question was directed to his state of knowledge, or that he was one of the identified individuals whose knowledge was critical for warranty purposes.  He accepted that he did not disclose to the insurers, nor did he suggest that Ms Meltzer should disclose, the fact that the FSA were considering taking further action against Sun Life; but could not recollect whether that was because he did not pay proper attention to the warranty or because he made a decision, for whatever reason, that this was not something that needed to be disclosed. All he could recall was that it never occurred to him to do so.
226.	In my judgment it was the former reason – as Mr Blackburn effectively accepted. There is no evidence that, before 27th September, Mr Blackburn ever actively addressed his mind to what the warranty did or might require. He knew that the FSA was considering taking action against Sun Life, and that one of the actions that they could take would be a PBR of some kind which would or could involve external costs, and possibly redress, and that enforcement action was possible, which would also involve costs. In those circumstances, had he properly addressed his mind to the question I would expect (a) that there would have been some e-mail correspondence or a memorandum on the topic; (b) that Ms Meltzer would have been informed of the position in relation to the PIA/FSA; and (c) that, at the lowest, Mr Blackburn would have been able to recollect what consideration he had given to the warranty. 
227.	Ms Meltzer was unaware that there had been a PIA/FSA inspection visit in August, or a debrief on 23rd, or of the PIA’s letter to Sun Life of 29th August.  (So was Mr Accum). She accepted that if she had received that letter and Mr Archer’s notes of 23rd August, and had known “the fact that they had been told that the regulator was deciding on what action to take and that part of his tool kit was a five-year review” she would probably have sought further information and would have wanted to know (a) what the possible outcome of this might be and (b) what would be the possible costs of that outcome. She agreed that she would “at the very least” have gone through an exercise to see to what extent this was a matter that should be disclosed. 
228.	But she did not receive this information.  On 12th September Mr Francis confirmed to her, in an e-mail copied to Mr Melcher and Mr Blackburn, that, subject to making some amendments not presently material, there were no other situations which should be disclosed to the insurers.  He attached the wording for an FSAVC paragraph which was to replace the reference to Rand “which is no longer required since it is below de minimis”. On 14th September  the warranty was discussed in a conference call between Gulf New York, Marsh and Ms Meltzer in which it was accepted that Rand should be taken out because it had been settled for significantly less than $2.5 million. 
229.	On 15th September, having received assurances that there were no other situations that should be disclosed Ms Meltzer e-mailed Mr Stewart and other members of Sun Life of Canada’s senior management to the effect that, following conversations with Mr Melcher and others, she had “further validate(d) the correctness of our disclosure position”. Whatever those conversations with Mr Melcher were they did not include any reference to what was going on with the FSA in relation to Sun Life or to Mr Melcher’s conversation with Mr Stewart of 13th September 2000.  Ms Meltzer sought final approval of the purchase of the policy, which was given on 18th September by Sun Life of Canada’s Chief Financial Officer, Paul Derksen, to whom Mr Stewart had delegated responsibility for the matter.
 27th September – the critical date
230.	On 27th September Ms Meltzer authorised Mr Farquharson to bind the policy and she signed and dated the warranty, which, therefore, speaks as at that date. As is apparent from the narrative that I have described she did so in ignorance of what had been going on with the PIA/FSA, and in circumstances where no one specifically addressed their mind to whether or not those events required disclosure if the warranty was not to be breached. 
   A Pause
231.	Whether or not there was a breach of warranty has to be determined on the facts known at that date. It is important, therefore, not to be influenced by evidence of events that occurred after 27th September save insofar as they cast light either on what facts the identified individuals knew by that date, or on what those facts signified to them, or would have signified to a reasonable person in their position.  I set out what happened after 27th September with that in mind.
 28th September 
232.	On 28th September Mr Melcher e-mailed a large number of the Sun Life management. He referred to the fact that the FSA had raised a number of issues which required improvement and said:
“I am taking a personal and hands-on interest in this project and therefore would like you to know that on a weekly basis I will be reviewing the progress of all these actions to ensure that we hit the deadlines that we have set ourselves and that the quality of the work is of the highest standard.
I am sure you all appreciate that failure to lift our regulatory and compliance standards has the potential to submarine all the other work which we are undertaking to transform our business. ”

 The meeting with the FSA on Thursday 28th September
233.	This meeting was attended by Messrs Blackburn, Melcher and Lockyer on the part of Sun Life and Messrs Cardinali, Warren and Aire for the FSA. It lasted for about 30 minutes. Sun Life made no note of the meeting, but the FSA made quite a substantial one.  What follows is largely derived from that note. 
234.	The meeting began by Mr Warren referring to the severity of the FSA’s findings but also to Sun Life’s commitment to change. Mr Melcher said that Sun Life recognised the problems. The company had been in freefall with a    £500 million loss in 3 years. The Canadians had decided to invest significantly. There was a new management team of himself and Mr Lockyer; they had found lots of problems and were not therefore surprised that the compliance agenda was “crowded out in priority”. He explained that a plan had been put together since the FSA visit (i.e. the initial plan referred to at paragraph 219) which was to be implemented by Christmas and which addressed the problems that the FSA had found. A copy of the plan  was left with the FSA to review. Mr Cardinali described this as very welcome. Mr Warren said that “a review of investor loss will be required”. Mr Melcher asked whether that would be a review of specific matters and not a broad portfolio review. He appears to have received no direct reply to this question. Mr Cardinali expressed himself pleased with the cooperation they had received from Mr Blackburn. He referred to the fact that Mr Blackburn had alluded to consultants for the future but not to substantive testing of sales practices. He said that the “FSA was asking [Sun Life] to assure  them] that [they were] comfortable that[ there was] no investor loss” and would be “looking for [an] overall plan to show that the past business was OK”. The FSA wanted to be given proposals as to what would satisfy Sun Life that that was so. Mr Blackburn referred to the fact that PwC was going to provide external benchmarking in relation to fact finding. Mr Melcher described the current system as “100% not best but front end so broken that kept”. “Front end” I take to be a reference to the sales staff. He said that the back end checking (i.e. the work of the NAU) was not fundamentally flawed and Sun Life was going to focus on back end as well as front end. Reference was made to a 23rd October start for Newco; to the halt to recruiting of salesmen; to new defined standards for recruitment; to new contracts for sales managers as from January 2001 where payment would be made for supervision and they would be “incentivised for quality”; to extensive training expenditure; and to the new Product Choice guide. Mr Melcher said that Sun Life strongly believed that good compliance was good business, and that Sun Life spent a lot on compliance, more than they should. The present problems would not happen again. Mr Cardinali said that that was the comfort they were after for today; they would look at Sun Life’s action plan; but would want to see “retrospective business results - how satisfy yourself all OK”. Mr Warren said that the FSA report would set out the parameters the FSA had in mind and that the FSA would want a “ sample of business reviewed because [the] systems [were] not satisfactory [and that this was] likely to go back two years over different product types. You look at  weak areas [and decide how] will  address each one”. He also referred to the fact that issues had been identified by Sun Life but then not acted on; there was a need for the compliance department to be followed. 
Sun Life’s reactions to the meeting
235.	Mr Melcher e-mailed Mr Stewart at 1236 the same day, expressing the view that Sun Life had achieved all their objectives (“confess our shortcomings, show appropriate level of contrition, demonstrate commitment going forward, remain within the supervisory department [i.e. stay out of enforcement], maintain a working relationship and buy time to address the weaknesses they identified as well as others that we ourselves know about”). But, as he said, the downside was the FSA’s request for a proposal to “give us/them confidence that the business we have sold over the last 1-2 years has been appropriate and that there are no systemic problems with it.” He concluded:
“We will work with Deloittes to help frame this proposal so that we do not crucify ourselves in the process. Such business reviews are the flavour of the month these days by the regulator and we are therefore not surprised by such a request as it comes on the back of most visits by the FSA with most companies these days.
Peter Cardinali ….expressed “comfort that we were taking this whole issue very seriously, that I was personally involved and leading the issue and therefore had confidence that we would resolve the issues to their standard and expectation” ”
236.	Mr Melcher’s evidence was that what he contemplated after this meeting was that  there would be “a very targeted specific review on specific either      policies or branches or T&C files” to be carried out by internal staff, whether full or part time, from the pension redress department, which was running down. In fact the pension review was not winding down in Autumn 2000. In August 2000 the end date for Phase 2 was June 2002. Many of the pension review staff did not have appropriate qualifications to act as a reviewer; and very few Sun Life staff were used on the PBR until the redress stage. 
237.	On the next day Mr Blackburn remarked to a Ms Parratt in an email that: 
“Good news and bad news is my take: The past business requirements could be troublesome and expensive!”

What Mr Blackburn had principally in mind by “expensive” was the possibility of having to make redress to investors; although he also had in mind internal and consulting costs.
238.	Mr Blackburn’s evidence was that he was surprised at the requirement for a sample business review. But the contemporaneous correspondence reveals no expression of that surprise. 
239.	On 29th September the Compliance Operations report for August 2000 was circulated. It revealed that, in respect of 4 out of 5 KPIs 3 were “not good”,  one was critical, and all four were getting worse. In relation to Complaints to the PIA Ombudsman matters were improving with 100% of complaints decided in Sun Life’s favour in August. The NAU overall pass rate had fallen from 55% in June to 52% in July and  48% in August.
240.	On 10th October 2000 the FSA sent Mr Blackburn the PIA report of the August 2000 visit. In his accompanying letter Mr Warren said this:
“I must inform you that our overall view is that there are major weaknesses which need urgent attention to achieve the standards expected by the PIA. The most serious breaches are identified in bold type and relate to Compliance, New Business Monitoring and Recruitment.
I would stress PIA’s concern that many of the problems had been identified by the Compliance Department and had been reported to the board. However, the firm was unable to satisfy PIA that the firm had shown the appropriate willingness or resource to address the issues raised within an appropriate and timely manner. 
From the comments given at the debrief on 28th September by Stephen Melcher, it was indicated that this had been due to the Firm going through the demutualisation process and resources having been diverted for this cause.
This approach is not advocated by PIA and has resulted in the firm being required to undertake significant remedial work in order to ensure that appropriate systems are in place. The firm is also required to undertake a review of past business in order to demonstrate that investors have not been disadvantaged during the period when the firm was unable to demonstrate appropriate internal controls.
The points which are raised in paragraphs 1.1. 1.2, 2.1(i), 2.1(ii), 3.1, 3.3(i) and 3.4(vi) of the enclosed Report were previously made to you in reports dated August 1997 and August 1998 following earlier PIA visits. In view of these serious failures, consideration had been given to instituting disciplinary proceedings against your firm. Given your commitment to undertake the required corrective work a final decision will not be made until the completion of the work.
You should ensure that, unless otherwise indicated, your firm completes the corrective action shown in the report within two months of the date of this letter.”

241.	The 40 page report which accompanied the letter contained a series of criticisms of Sun Life under the headings (i) Recruitment; (ii) Complaints; and (iii) Compliance. In respect of Recruitment the FSA queried 8 out of 10 files: 3 showed insufficient information to demonstrate that the individuals were suitable for appointment; and 2 out of 5 references did not provide full and frank disclosure. In respect of Complaints in 5 of the 15 cases reviewed Sun Life had failed to ensure that the complaint had been adequately investigated, and in 2 it had failed to ensure that an acknowledgement letter was issued within 7 days. 
242.	As the accompanying letter indicated most of the criticisms constituted repeat breaches of the rules. Thus Item 3.1. under the heading “Compliance”  identified the following problem:
“The firm was unable to demonstrate that it had sufficient commitment or resources to maintain a system of internal controls appropriate to the size and type of business (Rule 7.1.5.)

This was evidenced by the firm not having remedied the deficiencies identified by Compliance in the departments which PIA reviewed. This involved compliance monitoring, recruitment, training, sales and complaints handling.

Barry Blackburn, compliance officer confirmed that the firm was aware of this weakness area.”

The corrective action required in relation to 3.1 included the requirement:

“..to conduct a review of its past business in order to demonstrate that investors have not suffered losses accountable to the points recorded within this report

The firm should provide to PIA a proposal outlining the parameters of the review methodology to be undertaken and a timescale for completion”.

243.	Item 3.2. was that “The firm had failed to ensure that it took all necessary steps to remedy promptly material breaches of compliance” and relied on the facts (i) that serious concerns relating to investment staff not following required compliance procedures had been identified by Mr Blackburn and reported to the Board in the 1999 and 2000 Annual Compliance Reviews without it being apparent what the Board had done to address the issues; and (ii) that the Compliance department had identified concerns about the number of consultants appointed on the basis that they would immediately be placed on special monitoring but Sun Life had failed to act on the issue.
244.	Under Item 3.3. the PIA complained that Sun Life’s “procedures to ensure that its investment staff carry out their functions in such a way as to comply at all times with the Rules and Principles were considered deficient”. The PIA said that the firm’s procedures to monitor selling practices at Head Office were weak. They relied on the high failure rate and the fact that the failure figures included administration errors, fact find completion errors and suitability queries as a result of which it was unclear how the firm was able to make effective use of the information, which had limited credibility with supervisory and investment staff.  The PIA/FSA also complained that where the NAU identified potential investor risk there was insufficient evidence that the breaches had been remedied. In relation to the 10 cases investigated:
(a) all involved delay; 

(b) in 3 cases the policies commenced prior to the NAU approving sign off;

 (c) in 1 case the PIA considered the signed off advice unsuitable and that it should have been classified as a “reject”; 
(d) in 2 cases ISAs went on risk before the Unit had responded and the sales were, therefore,  potentially unsuitable; 

(e) in 4 cases the Unit could not provide sufficient information to determine the status of the policies; and 

(f) in 1 case there was insufficient evidence to show that mis-selling of a personal pension had been recorded as a rejected case. 
	
The PIA said that there was no clear basis for switching to RBM and that the subsequent fall in the number of “reject” cases indicated a failure in the identification of the RBM model. Sun Life was unable to demonstrate that any analysis had been undertaken to monitor the efficacy of the  RBM or that any system was in place to ensure that the identified “low risk” areas not being checked fell within the correct parameters. The PIA was also concerned that there was no effective audit of the Unit.
245.	 Under Item 3.4 the PIA found a lack of evidence that Sun Life had adequately undertaken the monitoring of its investment staff. Their complaints included   (i) that the business reviews procedure was (a) in arrears and (b) inadequate; (ii) that KPIs were ineffective tools for monitoring or training; and (iii) that there were concerns over the efficacy of  the SDS training scheme 
Sun Life’s reaction
246.	Mr Blackburn said that he regarded the letter of 10th October with its accompanying report as “disappointing” in tone and a ratcheting up of the action required - in that the PIA/FSA had moved from concentrating on a validation of Sun Life’s controls to an assumption that the controls were not working effectively and to requiring a past business review of all business within some unspecified time frame, and not just a sample review or a review related to certain identified weaknesses. 
247.	Since the letter did not specify the scope of the review or the period over which it would have to extend, Mr Blackburn rang Mr Warren of the FSA to ask what was meant by a business review. He was told that the aim of the exercise was to test Sun Life’s controls. As a result of this conversation Mr Blackburn envisaged that Sun Life would have to review a sample of sales of particular products over a specified period. He did not expect – so he said - that such a review would reveal any significant issues and thought that Sun Life would be able to show that they had appropriate controls. 
248.	Mr Melcher described himself as shocked by the letter on the basis that, as it now appeared, the exercise was to be completely different from that which had been mentioned at the debrief meeting – no longer an exercise of verifying controls (“give us a proposal to show that there has been no investor loss”) but one of assuming a loss and requiring a verification of sales without any specified parameters. But he still did not envisage it as involving a large scale exercise because of the NAU’s vetting of sales. He was also disappointed that the FSA had not given up on the idea of enforcement proceedings.
249.	Mr Stewart had no recollection of seeing the letter of 10th October and accompanying report. But he became aware of the FSA’s requirement for Sun Life to undertake a PBR which he:
“considered …. was just one of the items on the list of things which {Sun Life} had to do and I did not envisage that it would involve a major amount of work. I did not have any specific concerns about the exercise and I did not foresee it as being a huge financial endeavour”

  Implementing the FSA’s requirements
250.	On or shortly before 16th October 2000 D & T were engaged to assist Sun Life in proposing to the PIA a form of “focused sample review” and a methodology of conducting it.
251.	On 23rd October 2000 there was a Sun Life management team meeting, at which Mr Blackburn reported that work was underway to decide on the extent and nature of the PBR. Mr Blackburn reported that the team for that exercise would be set up within the next fortnight and would involve some 6-8 people, covering 1000-1500 cases and lasting a period of six weeks. But this was only the initial stage of the exercise, directed towards determining a particular form of sampling that could be presented to the PIA/FSA as appropriate to satisfy their requirements. The review itself would require more people and take longer. 
252.	On 26th October Mr Melcher e-mailed Mr Derksen, Sun Life Financial’s Chief finance officer telling him that, if Sun Life did not complete their plan on time or to standard the problem would get very serious; most likely the matter would go to discipline and then there was a 50/50 chance of a trial and a fine. His essential message was that the FSA regarded the UK management as responsible and Toronto should not become involved too early because that could give the wrong impression. 
PwC’s benchmarking of standards
253.	In October PwC produced their review of fact find checking standards. Their review of 67 cases covering a total of 89 products sold by Sun Life found no systemic evidence that clients had been mis-sold products and had been financially disadvantaged as a result. But it made clear that “the historic environment within the NAU has led to cases being passed where there is a lack of clear evidence to justify the sale” and that there were some areas of specific concern. Amongst those were the fact that there were some issues about the sale of the product in 43 of the 67 cases (63%), e.g. in relation to (a) IHT planning and in particular the sale of Select Investment Bonds; (b) affordability and sustainability; (c) whole of life contracts and (d) endowments.  Some of their findings indicated that the controls in place to ensure protection were not being applied robustly; and there was evidence that the NAU checks had not routinely identified all the areas of concern raised in the PwC review and that where issues had been raised these had not always been addressed in a robust manner.  The cost of the benchmarking exercise was about £35,000 + VAT. 
254.	On 1st November 2000 Mr Blackburn raised with Mr Hanby whether, since Sun Life’s proposals for the past business review would go to the PIA in early December and it would be very unlikely that Sun Life would know by 31st December whether they were acceptable, a note in the accounts on the grounds of material uncertainty would be necessary. In the event no such note was made. Mr Hanby was imprecise on the details but recalled that there was a general reserve in the accounts of somewhere between £10 and £20 million and the auditors would have to have estimated that the cost would exceed what was left of the reserve for the cost to be material.  
255.	 On 1st December 2000 D & T produced their draft report. This suggested that:
“Given that PIA have raised the prospect of a past business review in their report of October 2000 but not in previous reports, we believe this suggests it would be appropriate for the review to be conducted for the period covered by the PIA report issued in October 2000 (August 1999 to August 2000).”

256.	But they warned that since PIA had raised issues in their October 2000 report which had been raised in previous reports in 1999, 1998, and 1997 any trends resulting in material investor loss identified by the review of 2000 business would need to be considered in the light of the 1997-1999 business and an assessment made of any action required to investigate the impact of these trends in previous years.  They recommended a sampling technique which would:
(a) exclude sales where investor loss was highly unlikely; 

(b) exclude sales where sufficiently rigorous internal checking procedures existing during the period meant that there was a low risk of investor loss, subject to additional work to establish the validity of the exclusion; and then

 (c) apply a weighting approach focused on the risk of investor loss occurring as a result of issues identified by the PIA. 

This would create an initial population of potentially reviewable cases, which would then be analysed so as to create a sample of cases that would actually be reviewed to see whether investor loss had occurred. They suggested that the population for review would be between 32,000, if all exclusions they regarded as “potential” exclusions were excluded, and 78,550, if none of them were, always assuming that the PIA could be persuaded that a review of only one year’s business was required.
257.	On 15th December 2000 Mr Blackburn was given an estimate of the internal costs of the business review as being £208,582 per 1,000 cases (not including computer hardware/software/IT support, file retrieval, stationery, and office services). 
258.	On 18th December Mr Blackburn reported to the UKMT that Sun Life’s report to the PIA due on 12th December had been delivered on schedule. The minutes record that “a relatively low level of redress is anticipated, and P[eter] H[anby] noted that no financial provision has been made (he has agreed this with D & T)”.
259.	By January 2001 Sun Life was contemplating a first phase desk review of 4,000 cases, apparently following an agreement with the FSA/PIA that Sun Life would sample 5% of 80,000 non excluded cases; to be followed by the review itself, the review of the 4,000 to be done by a separate team (i.e. not the original validators).  This was on the basis that FSA/PIA’s original review period (described in Simon Heath’s e-mail of 19th January 2001 as one of 4 years) should be reduced to 1, but also on the basis, stipulated by Matthew Aire that the PIA reserved the right to look at Sun Life’s findings and then extend the review backwards to the previous year(s). Mr Aire indicated that D & T were not needed to perform the review but that the PIA would expect some external quality control. 
  2001
260.	Newco and Positive Plus had been introduced in October 2000 but test results in late 2000 showed that they were not operating satisfactorily. At the end of January 2001 Mr Blackburn produced his Annual Compliance report. In the draft Executive Summary Mr Blackburn recorded his belief, from the monitoring of Sun Life’s compliance with PIA rules during 2000, that the Board needed to consider “whether the degree of investor risk disclosed is sustainable in the short term”. He referred to a pattern of weakness in the organisation’s compliance with PIA regulation across the spectrum of regulator activity, which was confirmed by the PIA in their August 2000 inspection.  He also referred to the project set up by Mr Melcher to manage remedial work and the improvements in HR, complaints handling processes and the application of the Training and Competency Scheme. But, as he said, these improvements had been overshadowed in the fourth quarter by a substantial deterioration in point of sales compliance following the launch of the new software in October; that system being “operationally unreliable, subject to many manual “workarounds”;  training has been insufficient, change and expectation management inadequate, and supporting compliance advice standards were not trained adequately”. He described the assessment process at the conclusion of the Positive Plus training as lacking, in a substantial number of cases, robustness or integrity, necessitating substantial client contact and reselling. Lastly he referred to a substantial increase in the proportion of business failing its initial compliance check. The 100% review process had fallen into arrears and as a result a backlog of 900 cases had built up in November/December. He concluded by saying :
“I am afraid I have to advise the board that there is a grave and in my view unsustainable risk in a continuation of our present practice”
261.	On 1st February the Audit and Compliance Committee and the Board met. The minutes of the former record Mr Blackburn’s apologies for absence (but also that he could be contacted). Why he was absent is unclear; but I reject the suggestion that he was purposely kept away. His report was before the Committee. This included the Executive Summary (but not in exactly the same form as the draft) . Mr Melcher told the Committee that the backlog referred to in the Executive Summary had been stabilised and ring fenced and was being addressed as a Review, which would be completed by 1st April. Otherwise there was only three days outstanding work in relation to fact find checks. The investor risk associated with the Newco launch had reduced despite the backlogs and the increased rejection rates since Newco (up to 90% at the time of the launch but now reduced to 80%) showed that a tighter “compliance sieve” had been instigated.  The size of the checker team had been doubled and each checker now completed two fact finds a day, compared with six previously. 
  The closure of Sun Life’s sales force 
262.	On 7th January 2001 the UKMT met. This was the first day of a two day away stay at a house in Hampshire. On the agenda was discussion of the 2001 business plan. Mr Melcher started the meeting by asking those present to write on a post-it note (in a secret ballot) whether they thought that Sun Life was now more or less likely than it had been at the beginning of 2000 to meet target of a 15% after tax return on capital that the board of Sun Life Financial had set as a worldwide target soon after demutualisation. The unanimous answer was the latter. After a day of discussion the UKMT decided to recommend to Sun Life Financial, as its shareholder, that it should permanently disband its sales force on the ground that it was impossible to meet the target.  
263.	 On 14th February 2001, after a series of high level meetings (including that of 7th January), at which the decision was effectively taken, the Boards of Sun Life Financial and Sun Life decided that Sun Life would stop writing new individual business in the UK through the direct sales force, which by then numbered about 800, leaving the company to transact only group and institutional insurance/investment business. I accept Mr Stewart’s evidence (and that of Mr Melcher) that the fact that there was a past business review going on played no significant part in the decision and that the fact that there had been compliance problems, insofar as it was considered at all, was “definitely a secondary consideration”. 
264.	As a result of the decision to relinquish the direct sales force a substantial part of the compliance part of Mr Blackburn’s job fell away; and in March he took voluntary redundancy. Mr Melcher also resigned as an executive director, not regarding himself as the appropriate man to run the business down, although he remained as a non executive director and strategic advisor in respect of Asia until 2002.
265.	Meanwhile on 8th February 2001 D & T had prepared a sampling methodology. It proposed to exclude certain categories of cases as low or medium risk, and put forward certain possible exclusions (including policies passed by the NAU at first review). It then proposed using three criteria: Product Information (if there were concerns about the product expressed in the October report), NAU information (where the product was subject to information from the NAU or from PwC’s October 2000 report), and Control Information (where Sun Life’s control processes suggested investor loss was more likely) to identify cases where investor loss was “more likely”, “of limited likelihood” and “very unlikely”. The report envisaged no further action for those in the last category, a mailing approach to those in the middle category, and larger sampling for those in the first. 
266.	By March 2001 the FSA had asked for a third party to be in “charge and control” of the project: see D & T’s letter of 13th March 2001. On 16th May 2001 D & T produced an engagement letter, to which Sun Life and the FSA agreed, which defined what was required of them in the following terms:
"Project direction of the SLFoC Past Business Review;
Training of SLFoC staff to conduct case review work where such case review work is required;
Monitoring and quality assurance of review work undertaken; and

Ongoing monthly reporting and the provision of a final report summarising and defining the results of the review."

Sun Life had indicated to D & T that they would like to have a target for concluding the PBR by 31st December 2001 and D & T agreed to “respect this target date in our planning”.
267.	On 7th June 2001 Simon Heath prepared for Mr Hanby, Sun Life’s then Finance Director, a project summary in respect of the PBR on the assumption that it related to the period from 1st August 1999 to 31st August 2000.  This was based on an estimated 150,000 advice-giving events during that period and contained best, moderate and worst case estimates as follows: 

	Best case	Moderate Case	Worst Case	
Cost of administration	£  4,133,795	£   7,959,006	£  24,986,263	
Cost of redress	£     439,500	£   5,008,418	£  57,989,130	
Total	£  4,573,295	£ 12,967,424	£  82,975,393	

	The assumptions underlying the respective cases were as follows:

Assumption	Full case review required	Redress	
Best Case	13,677 cases	1,065 cases	
Moderate Case	33,559 cases	4,754 cases	
Worst Case	85,000 cases	30,250 cases	

268.	The cost of administration covered (i) D & T; (iii) Hardware/Expenses; (iii) Contractors; (iv) Staff and (v) software. If the staff costs are stripped out the figures look like this: 

	Best case	Moderate case	Worst case	
Cost of administration	£  4,133,795	£   7,959,006	£  24,986,263	
Less staff 	(£    351,566)	(£    468,755)	(£  1,875,020)	
Sub Total	£  3,782,229	£   7,490,245	£  23,111,243	
Cost of redress	£     439,500	£   5,008,418	£  57,989,130	
Total	£  4,221.729	£ 12,498,663	£  81,100,373	
				
Total in $ @ 1.464	$  6,180,611	$ 18,298,942	$118,730,946	

269.	There was also a figure for the compensation that would have to be paid if re-writing the policy or enhancing its value was not an option and all premiums/investment had to be returned (an unrealistic scenario) in which case the figures were as follows:

	Best case	Moderate case	Worst case	
Potential total payment	£ 3,450.894	£ 20,600,090	£ 191,561,315	

The summary included the caveat that the PIA had reserved the right to require Sun Life to extend the review back to cover the previous four years. 

  The submissions of the parties

  The insurers
270.	The insurers contend that, as at the date of the warranty, Mr Blackburn, Mr Melcher and Mr Stewart, at the least, knew of facts which could give rise to a claim exceeding $25,000,000. By August 2000 Sun Life was, in the eyes of the PIA/FSA, a repeat offender. In the light of the FSA’s findings at the August 2000 review, as relayed to Sun Life at the debrief meeting of 23rd August, there was, they submit, a very great risk of the FSA taking action of the severest kind having the potential, as Mr Melcher put it, to “submarine” the business. Since the FSA had indicated that it regarded Sun Life as having a culture directed towards sales and not compliance, and that Sun Life’s extensive failings had affected sales practices and thus involved investor risk, there was a very strong possibility of Sun Life being required to carry out extensive reviews of its past business. Such reviews had proved very expensive in the past and were inherently likely to be so given the number of products sold per year.  The amount estimated in the Claims History for the Pension Mis-selling review was £400,000,000 and for the FSAVC review  £12,000,000. Given that Sun Life sells more than 70,000 products a year there was a clear possibility that the cost could exceed $25,000,000. 
271.	In support of this contention insurers contend that each of those three individuals knew (i) that a PBR was an enforcement mechanism available to the PIA (especially where there was a risk of investor loss); (ii) that Sun Life had serious and ongoing compliance difficulties; (iii) that following its visit to Sun Life in August 2000 the FSA considered that there was a high investor risk and was considering enforcement action, had yet to decide on corrective action, and was considering a 5 year review of selling practices  (any of which could have led to a requirement to carry out a PBR); and (iv)  that any PBR that Sun Life might be required to undertake would be of uncertain scope and, therefore, expense.
272.	The paragraphs that follow set out my findings on the knowledge and information that Mr Blackburn, Mr Melcher and Mr Stewart had as at 27th September 2000.
Mr Blackburn
273.	Mr Blackburn knew that Sun Life had had the compliance difficulties that I have summarised in this judgment. He knew the upshot of the PIA/FSA visits from 1997 onwards and the views that the PIA/FSA had expressed not only about particular deficiencies but also about the lack of a compliance culture. He, himself, felt that management was paying insufficient attention to the compliance agenda and had compromised compliance for commercial interests too much. He knew, as expressed in the note of his meeting with Mr Sowerbutts on 6th September 2000, that it was not clear that the NAU was effective.  
274.	He also knew that the PIA’s requirements in the area of consumer protection were becoming increasingly stringent and its approach increasingly robust; that it believed that Sun Life was guilty of breaches of various rules and codes of practice; and that it was peeved by Sun Life’s recidivist behaviour.
275.	Mr Blackburn knew that the FSA could require Sun Life to carry out a past business review whenever it felt that was “necessary or desirable in the interest of investors” and that, if it so decided, the extent of what was required would be unknown until the scope of the review was defined.   A PBR could involve a review of the whole or a particular section of the business over a particular time, or a review of individual sales. It might be dealt with by sampling, which could influence the extent of the review in that, if the sample indicated a problem in a particular area, that would be likely to require either more, or all, cases in that area to be examined.  He knew that a review could become a very much bigger exercise than originally contemplated (“once you commence an investigation … it will have a tendency to open up”) e.g. if on discovery of non-compliance the population to be reviewed has to increase or if new problems come to light, as had happened dramatically with the pensions review.   
276.	Mr Blackburn knew that the PIA/FSA was actively considering what corrective action to take in the light of the views it had expressed at the August meeting, including its view that there was high investor risk, and that the fact that the FSA referred to “corrective action” suggested that it would take some action to ensure that investors were not disadvantaged. He knew that the PIA was contemplating enforcement, a selling practices audit (which would involve a review of files) going back up to 5 years and a visit focused on training and competence. 
277.	Mr Blackburn accepted that one of the results of the August meeting might be a requirement to review a proportion of past business. He thought that this would be related to the findings of the regulator during the visit, although he accepted that he did not know what the regulator was going to do. But he also accepted that a passage in his witness statement in relation to the 1999 visit in respect of Sun Life namely:
“I knew that if there had been an issue which posed a risk to investors, the PIA would have said so and would have ordered a review of all business as they had done with [SLOCI] at that time.”  
	was of general application. That sentence should not be taken out of context. It occurs in a passage in which Mr Blackburn observed that the issue was that, if the Sun Life sales force was trained incorrectly, that could lead to systemic mis-selling, and in which he says that he took encouragement from the observation made at the debrief that there might be a need for some small past business reviews. The passage should not be taken to mean that Mr Blackburn thought that if there was any risk to investors, however small or limited, the PIA would order a review of all business. I infer from Mr Blackburn’s evidence and the inherent probabilities that Mr Blackburn realised that if the PIA/FSA concluded that there was a risk to investors, a fortiori a high risk to investors, that might well lead to a review of the past business to which, in the view of the PIA/FSA, the risk related, whatever the focus of the visit at which they came to this conclusion.  As will become apparent from paragraph 283 below there was a discussion with Mr Sowerbutts on 27th September, to which Mr Blackburn was a party, as to the possibility of a PBR and of reducing its scope.
278.	Mr Blackburn also knew that if at the FSA’s next visit they focused, as option 1 contemplated, on selling practices, possibly going back over 5 years there was “certainly a possibility” that Sun Life would thereafter be required to conduct a PBR into those practices; and that, if the file was sent to the Enforcement section and a breach of the rules was established that was likely to have led to investor loss, the PIA would be likely to require some form of past business review in order to ensure that investors were not disadvantaged. 
279.	Mr Blackburn knew of the compliance risks that were specified in the list of risks submitted to the FSA and the drafts thereof (in addition to the risks in the Top Ten Risks paper);  the contents of D & T’s PowerPoint presentation of 25th September; and of the Initial Plan. 
280.	Mr Blackburn was aware that a PBR could involve a number of different elements of costs including (i) the administration of the review; (ii) third parties such as accountants; and (iii) redress. In addition enforcement could mean a fine and would involve costs. He was aware of roughly how much the pension review, the FSAVC review, and the SLOCI review had cost, and had more detailed information available. He knew the size of the sales force and that Sun Life sold over 70,000 products a year. 
  Mr Melcher
281.	Mr Melcher, as an experienced executive in the insurance industry, knew that a PBR was part of the FSA’s “toolkit”. He knew that Sun Life had had, and continued to have, serious compliance difficulties. When he joined Sun Life on 3rd December 1998, one of the objectives he was set was to strengthen the compliance culture. So from the start of his employment he was aware of Sun Life’s compliance and compliance culture problems. He read D & T’s January 1999 report on “Managing Compliance Risks”. In February 1999 Mr Blackburn briefed him on the relationship between Sun Life and the PIA. He read the PIA’s report after their 1999 visit and was aware of their concerns. He read Sun Life’s annual compliance review reports. He realised that the situation was serious when in late August 2000 the recruitment of sales staff had to be suspended.  
282.	He was not present at the August debrief meeting nor did he see Mr Archer’s note of it. His knowledge about what then transpired included what was contained in the debrief summary, what was said at the Audit and Compliance Committee and Sun Life Board meetings, together with the knowledge that there was a risk of enforcement. He discussed Sun Life’s position with Mr Blackburn regularly but there is no record of their discussions or as to what exactly he was told. Mr Melcher was confident that Mr Blackburn told him what Mr Blackburn thought he needed to know. He knew that the FSA had put pressure on Sun Life to suspend recruitment; and that he was required to attend the second debrief meeting. He also knew of the material referred to in paragraph 279 above.  
283.	Mr Melcher was aware of the possibility of some form of PBR being required. That appears from the following:
i)	he accepted that, before going into the debrief meeting on 28th September he realised that the FSA could have ordered a PBR “if they thought there was a reason for that”;
ii)	in the course of his evidence he said this:
“we had discussed with Mr Sowerbutts even before this meeting [with the FSA on 28th September] a likely process that would happen, assuming a past business review was suggested. He took us through a model of …a funnel whereby at the top you put in the total population and you start to whittle down that population by certain non-risk areas… that funnelling, sieving process was something that he wanted to discuss with us after the meeting.” 
284.	Immediately after this passage Mr Melcher said that he could not recall whether the discussion had taken place in September or October; but, whichever it was he accepted that he was not terribly surprised at the meeting by the fact that the FSA required a review of investor loss. In my view the likelihood is that both he and Mr Blackburn were told of the possibility of a past business review by Mr Sowerbutts at the meeting prior to the debrief. It is inherently probable that Mr Sowerbutts discussed with his clients what the FSA might require and what it would entail. Further the reference in Mr Melcher’s e-mail of 28th to past business reviews being the “flavour of the month these days” shows that before 28th September he must have either been told this or knew it from his own experience. The likelihood is the former. 
285.	Mr Melcher accepted that on 28th September he did not know what the scale of the exercise was going to be because it would depend on the findings that were made on a review of samples of sales. He must have been aware the day beforehand that a similar uncertainty extended to any review that might be ordered.
286.	Mr Melcher was aware in broad terms of the figures that had been involved in the Pensions and FSAVC reviews, as well as the size of the Sun Life sales force and the quantity of sales made per year.
  Mr Stewart
287.	Mr Stewart was, as Chief Executive of Sun Life Financial and Sun Life of Canada, in practical terms at one stage removed from Sun Life, albeit he was one of its directors. He was aware in general terms of the history of the relationship between Sun Life and PIA/FSA. He was briefed by Maurice Bates about the Pension Review that Sun Life, and the rest of the industry, was required to undertake (to assess the suitability of each pension sale in accordance with PIA guidelines) and, later that Sun Life and Confederation Life had each been fined £300,000 plus costs, by way of settlement of proceedings before the PIA Tribunal, for failing to make sufficient progress in establishing the population for Part 1 of that review. Although that was an industry wide review and although he said in evidence that he “did not recall [his] general knowledge of past business reviews, back prior to the September/October [2000] timeframe you are referring to”, he must have been aware, in broad terms that a regulator could require a firm to take steps to see whether investors had suffered loss, and to compensate them, if they had, and that it was likely to consider doing so if it concluded that breaches of the applicable rules gave rise to a sufficiently significant risk of loss.  He was well aware, and it was a focus of his concern, that the regulator had the power to impose a fine.
288.	The regulatory risk in the UK was something of real concern to the Sun Life group. Mr Stewart did not want to see Sun Life repeat the experience it had had with the pensions review with a fine, which would affect its reputation, or a review, which would affect its pocket. He was aware that the cost of the pension review had been in the hundreds of millions. 
289.	By 27th September Mr Stewart was aware that Sun Life was continuing to suffer significant compliance difficulties. He had attended the Audit Committee and Board meetings of 30th/31st August and heard what was said there. He had thus learnt about the serious issues that had been raised by the PIA and the “very negative” report from them. He had seen the debrief summary. He had later been told of the suspension of recruitment of Sun Life’s sales force as a result of a very strong suggestion from the FSA. He saw the letter of 29th August 2000 which referred to the PIA “considering whether further action will be taken against the firm”. That letter referred to the likelihood that the PIA would conduct further regulatory activity, which, as he accepted in evidence, he realised could include enforcement, which could mean a fine. He must have realised that if a fine was imposed as a result of breaches of the rules or practices laid down, and those breaches were such as could have caused investor loss it was likely that the regulator would require a review of cases affected by the breach to see if there had been any such loss. He was also a recipient of Mrs Mackiw's e-mail of 11th September in which she described that letter as “reiterat[ing] their position as to the serious nature of their findings and that they are considering whether further action will be taken against the company”.
290.	 Mr Stewart attended the Executive Risk Committee meeting of Sun Life of Canada on 25th August 2000 when Mr Francis’ top 10 risks facing Sun Life was presented. On the same day he was told that, if Sun Life “failed” at the 28th September meeting, the file would be turned over to “enforcement” with a 50% chance of disciplinary action: see Mrs Mackiw’s e-mail of 25th September 2000.
291.	Mr Stewart’s evidence was that, if he had been asked at the time (he was not) whether there were any issues relating to the UK operation that should be disclosed, the issue that would have been forefront would have been endowment mortgages, but that he would “never have contemplated that [Sun Life’s] regulatory situation and the resultant requirement to conduct a review of past business would give rise to claim under the policy”. 
  Discussion
292.	The issue is whether by 27th September any identified individual had knowledge or information of any actual or alleged fact, circumstance, situation, etc which could give rise to a Claim in respect of Loss (as defined) exceeding US $25,000,000.   I accept Mr Kealey’s submission that the test is whether the facts etc of which such individuals had knowledge or information would have signified to someone acting with the prudence and foresight of a reasonable person in their respective positions that such a Claim was a realistic possibility. 
293.	In this respect the relevant Sun Life witnesses were cross examined in terms of some generality and the insurers rely upon some of their answers. Thus Mr Blackburn accepted that if Sun Life was going to have to end up looking at a substantial proportion of a year's business, it was going to be” very expensive indeed”; and that, however small the review might start, it might end up being “a very substantial review indeed”, and that the worst fears of a compliance officer going into any inspection visit would be that there was evidence of systemic mis-selling because the redress on such mis-selling would be “very considerable”. Ms Meltzer accepted that “reviews of past business could be very expensive”. 
294.	It was not put to the relevant Sun Life witnesses, or to Ms Batchelor, Sun Life’s expert witness, in specific terms that they did (or should have) appreciated that one possibility arising from the inspection visit was a review of past business costing in excess of $25,000,000, not including internal costs. The effect of not doing so has produced a lack of focus in some of the evidence. Equally the major part of Mr Storey’s evidence appears to be directed to establishing the likelihood of a past business review being required at all when the issue (with which he also deals) is whether or not a review leading to a loss of $25,000,000 was a realistic possibility.  
  Sun Life’s submissions
295.	Sun Life submit that the significant features of the August debrief were these. The number of branches visited (2) was small. The number of cases looked at (10) was statistically insignificant. Criticisms of the slowness with which the salesmen responded to the NAU’s inquiries, and the NAU followed up those responses, were not criticisms of the NAU’s pass/pend rates and did not affect the integrity of its validation work. The criticism that the RBM checking regime was not working was not a criticism of the 100% scheme which had resumed by August 2000. Neither these nor other criticisms such as that the headline pass rate was misleading afforded grounds for a review of past business. Criticism of the NAU pass rates was made by comparison with the FSA's experience at other companies rather than an investigation of actual cases. The criticism that sales monitoring was ineffective was by reference to the particular criticisms made of the process i.e. delays and the RBM checking regime. The remark “Investor risk therefore high” was based upon the specific issues that had been identified, and was not an across the board indictment.  
296.	What was required of Sun Life at the meeting was:
a)	a review of pend cases, which is likely to have meant a review of pend statistics;
b)	benchmarking of the NAU; 
c)	a report from the UKMT representing “sign off” on the new point of sale system prior to field force training;
d)	an identification of Sun Life’s risk areas within 5 days;
297.	Those present were told that corrective action had not yet been decided upon.  But they were not told that any kind of past business review would be required whereas, when that had been required of SLOCI in 1999, FSA had said as much at the debrief meeting. There was, therefore, no reason to suppose that any broad review of past business would be required, as opposed to some focused review of the type that Sun Life, itself, had put forward in its list of top compliance risks in order to address specific issues raised by the FSA – such as a review of the business since January 2000 of sales staff on special monitoring and of sales staff who had been selling whilst unregistered with the PIA. This was particularly so having regard to the provision of Regulatory Update 77 of July 2000 which states:
“The FSA will match its response to risk by selecting the appropriate field or desk based supervisory tools from the range available to it.”
That principle of proportionality created a legitimate expectation that any corrective action would address the respects in which Sun Life’s systems had been shown not to be working and would not extend to some wide ranging review not related to discovered defects. 
298.	What Mr Melcher and Mr Blackburn did or would, as reasonable persons have anticipated, and the limit of what they would have anticipated, in addition to items (i) – (iv) in paragraph 296 above, i.e. the requirements specifically mentioned at the debrief meeting, was:
i)	Some kind of focused  review of past business of the type to which I have referred in paragraph 297;
ii)	A review of business which had not passed through the NAU since it began; i.e. the business not examined during the three months when RBM was in operation.
299.	What was not, nor should have been, appreciated by either Mr Blackburn or Mr Melcher (or Mr Stewart) was that the FSA would require, either immediately or in consequence of any review of selling practices, a review of past business either in respect of the period August 1999 to August 2000 or any longer period, which could, as a realistic possibility, cost more than          $25,000,000 in external costs, for the following reasons. Save to the extent that RBM applied, the NAU was operating to prevent mis-selling occurring. There was no reason to believe that the NAU was flawed, let alone to such an extent as would require a wholesale review of past business. Such concerns as the FSA expressed at the debrief meeting about the NAU did not mean that it could not be trusted to prevent investor loss. The FSA had, in effect, approved the standards and output of the NAU in March 1999 and nothing material had changed since then. Even if a sale came into effect before it was passed by the NAU, the NAU would discover, when the case did come to the unit, that this had happened.  Sun Life would be able to establish whether the sale was compliant, and, if it was not, to unwind it, or, if that was not possible, to compensate the customer. In that respect the NAU would be fulfilling the function of a past business review. 
300.	Further the FSA thought that the NAU should be benchmarked; until the results of that review were known it would have been illogical to require a review of past business. 
301.	Even at the time of the second debrief meeting Mr Blackburn and Mr Melcher were of the view that, given the operation of the NAU, there was no logic in anything other than a limited review (“Back end checking not fundamentally flawed – the sieve [i.e. the NAU] was not wrong”). Further at this stage the FSA were looking for proposals by Sun Life as to an appropriate plan of review of past business to establish that there was no investor loss. Neither Mr Melcher nor Mr Blackburn thought this could possibly involve over $25,000,000 of external costs, nor should they have done.
  The expert evidence

  Mr Patrick Storey
302.	The insurers called Mr Patrick Storey, a lead partner in the Financial Markets Group at Grant Thornton who specialises in the regulation of the retail financial services sector.  Mr Storey has considerable experience as a professional adviser in the regulatory field, having advised regulators (the FSA and its predecessors including the PIA) and regulated firms facing actual or potential difficulties with the regulator. He has been a Compliance Officer at Binder Hamlyn but has not occupied a position as a Compliance Officer in a firm such as Sun Life. His background would have given him a closer insight into the mindset of the regulator than an ordinary Head of Compliance.  It was noticeable that his report made no reference to the 1999 visit in which the PIA considered the NAU. This was partly because there was no record of that visit and also because he focused on what the regulator had said in August 2000 which he regarded as of more significance. A Head of Compliance would have attributed greater significance to the apparent clean bill of health given to the unit at that visit. The impact of his evidence was somewhat affected by the fact that his report misinterpreted the reference in the notes of the August debrief to  Q1 and Q2  as meaning the same as Option 1 and Option 2 and as referring, in the former case, to a past business review in respect of selling practices going back 5 years.  
303.	Mr Storey’s view was that if it appeared to the FSA/PIA that clients’ interests might have been adversely affected by a regulatory breach it was very likely that Sun Life would be required to investigate the effects of that breach by carrying out some form of past business review and to compensate clients if appropriate, and that any senior executive in the life sector would or should have known of this.  Sun Life’s key executives ought to have realised in August 2000 that the likelihood of Sun Life being referred to Enforcement was particularly high in the light of the deficiencies that the PIA had found, there being significant issues concerning a breakdown of controls governing selling practices, those deficiencies being widespread systemic and unresolved – since they had been identified by Compliance but not remedied. If Enforcement action was taken a review of past business of some sort was almost inevitable. In the light of the issues raised by the PIA taken as a whole it would have been clear to any experienced compliance professional or senior executive of a life company that it was very likely that Sun Life would be required to take remedial actions involving a significant expenditure of time and resources.
304.	If he had been consulted at the time, he would have suggested that there were three possible outcomes from the meeting at Canary Wharf: 
i)	If Sun Life demonstrated that it had the necessary conviction and internal resources to rectify matters the PIA might have been prepared to monitor rectification work in the form of a past business review by receiving progress reports, although he would have thought this outcome unlikely;
ii)	 The PIA would require Sun Life to engage the service of a third party to address the issues and to provide independent progress reports to them, probably by a tripartite arrangement;
iii)	 If PIA thought that Sun Life was unable or unwilling to address the issues, it would suspend or restrict the scope of Sun Life’s regulated activities by preventing recruitment, or preventing existing staff from selling or suspending Sun Life’s authority to conduct some or all of its investment business activities.
305.	So far as the costs of any PBR are concerned Mr Storey’s evidence was that the cost of carrying out a review is, as this case shows, often much greater than the cost of any compensation. It frequently happens that firms have made suitable recommendations but are unable to demonstrate this because of poor record keeping. For that reason the cost of putting the documentation right and reviewing the files can outstrip the cost of redress. In the present case the rectification project could be expected to be complex and require skilled resources to plan and manage; the number of cases requiring review was likely to be very large even on a sample basis; and the time to do so likely to  be long. Since one of the PIA’s criticisms was that recording of “Know your Client” information was inadequate it would probably be necessary to seek or verify information from clients before an assessment could be undertaken, which would be time consuming and therefore expensive. The scale of the exercise would be such that there was little chance of Sun Life resourcing the project without external assistance.
306.	 The 1999 PwC review involved 103 files and worked out at £328.68 per file (consistent with a range at the time of between £200 and £500 per case). Taking a figure of £330 per case Mr Storey then assumed that the Regulator would accept a sampling of 5% (the minimum realistic percentage) of the whole of the relevant population and also assumed (for the purpose of the exercise – the population to be reviewed not being readily identifiable) that such risks based sampling would identify 20% of the population as requiring further review. On those assumptions 24% of the whole population would require review, being the 5% original sample plus 20% of the whole less 1% of the whole (20% of the 5% of the whole already reviewed as part of the initial sample). Assuming 70,000 sales a year the potential review costs, taking best to worst case scenarios would be as follows:

Potential Review Costs	   Rate	1 year
70,000 Sales 	2 years 
140,000 Sales	5 years
350,000 Sales 	
Number to be reviewed 	24%	      16,800	      33,600	    84,000	
Cost of review 	£ 330/case	£ 5,500,000	£ 11,000,000	£  27,700,000	
Cost in US $ 	$ 1.464/£	$ 8,052,000	$ 16,104,000	$ 40,552,800	

307.	It will be remembered that on 7th June 2001 Mr Hanby, assuming a review period of 13 months and a total population of 150,000 advice-giving events calculated the spread of review costs, which, if staff are excluded was as follows:
	Best case	Moderate case	Worst case	
Assumed number of case for review	      13,667	      33,559	    85,000	
Cost of administration	£  4,133,795	£   7,959,006	£  24,986,263	
Less staff 	(£    351,566)	(£     468,755)	(£   1,875,020)	
Sub Total	£  3,782,229	£   7,490,245	£  23,111,243	
				
Cost of redress	£     439,500	£   5,008,418	£  57,989,130	
				
Total	£  4,221.729	£ 12,498,663	£  81,100,373	
				
In $ @ 1.464	$ 6,180,611	$ 18,298,042.63	$ 118,730,946	

  Ms Dawn Batchelor
308.	Sun Life called Ms Dawn Batchelor, a qualified accountant, who had for just over 3 years occupied the position equivalent to that of Mr Blackburn as Compliance Director at Winterthur Life, although by the time she gave evidence she had very recently become Head of Risk Management and Compliance in the Life and Health division of Swiss Re in the U.K, having previously spent a time as a consultant. This made her a particularly appropriate witness. The impact of her evidence was, however, affected by the fact that, prior to writing her first report, she had not been provided with a copy of the note of the meeting of 23rd August despite the fact that the note is a Sun Life document and had by then been disclosed to the insurers. She had seen the debrief summary but this did not reveal that the PIA had expressed the view that investor risk was high, and that the PIA was considering  enforcement and a selling practices audit going back five years. 
309.	Her opinion was that  a reasonable Head of Compliance  would not as at 27th September 2000 have anticipated that Sun Life would be required to conduct a general review of past business and that if he had anticipated that such an exercise would be required he would not have anticipated that the exercise would cost $12.5 million. The reason for her expressing the former opinion was that by 2000 the regulator would have had knowledge and confidence in the commitment and ability of Sun Life’s management to address the issues identified. The Regulator appeared to have no serious concerns that any material systemic losses existed prior to conducting the 2000 visit and previous visits had been satisfactorily closed. The report in October 2000 did not comment on the quality of the sales which was either not considered or, if it was, gave rise to no material adverse findings. The NAU was found to be ineffective only in respect of inadequate follow up to ensure that issues raised by the checking were properly dealt with, and in the lack of credibility of the headline failure rates. It was not found ineffective in the quality of its checking. 
310.	In her view a requirement for a review of an entire area of business tended to be based on the PIA having seen clear evidence of failure and not merely lack of evidence of compliance.  Further during the mid to late 1990s there was some change in the regulator’s approach in that where the PIA questioned high levels of sales it would require that the firm correct those sales that had been identified without requiring a review of past business. This was apparent at Sun Life with the 1999 inspection where the PIA initially questioned 88.3% of the sales reviewed, then accepted that no further action was necessary in 46 cases, so reducing the questionable sales to 39% of those reviewed, and eventually required Sun Life to address only those sales identified and to inform the PIA of procedures to be implemented in the future, without requiring a general review of past business. The statistically irrelevant sample of 10 cases selected for review only led to 1 decision that the advice given was actually unsuitable. Moreover a 10% failure rate was a great improvement on the 35% and 39% rates of 1997 and 1999 when no PBR was required.  The appropriate regulatory response for recurrence of breaches was a public reprimand or fine and not a requirement to carry out a past business review. 
311.	In relation to the August debrief meeting she took the view that whilst the fact that there were repeat breaches would indicate the possibility of a reprimand or fine, and that that was underlined by the requirement to attend at Canary Wharf, the criticisms in relation to recruitment would not have been regarded as likely to lead to customer detriment. Whilst there was a risk of customer detriment by reasons of the matters criticised in respect of complaints, that risk would not be addressed by a past business review, which would not be an appropriate regulatory response. The appropriate course would be a review of complaints and a re-analysis of the information before management to see whether any individual business reviews were needed.  In relation to the other matters there was a potential for customer detriment arising from the move to RBM and the absence of benchmarking of standards. Delays in responding to the NAU’s points could also be a cause of detriment. 
312.	What could therefore be expected was a requirement (i) to review the standards applied, (ii) to review the cases that had not been passed to the NAU during RBM, (iii) to complete the outstanding work of responding to the NAU’s queries and completing business reviews, and (iv) to deal with what needed to be corrected in the Recruitment and Complaints area; and (v) to overhaul the training and competence scheme. But, particularly where there were no adverse comments on the quality of the advice received by customers after Sun Life had completed all its checks, any wider PBR was not an appropriate regulatory response.   
313.	As to cost, the reasonable Head of Compliance would know that the conduct of a PBR can vary significantly and would have considered that an initial proposal to establish the quality of the operation of the fact find checking would be likely to satisfy the regulator’s requirement. He would also recognise the need for benchmarking of standards. Whilst both would be likely to require the appointment of a third party, the costs would not be expected to reach the level of $12,500,000. He would not anticipate costs of that magnitude not least because the follow-up would usually be done in house. 
  Conclusions 
314.	I am satisfied that as at 27th September neither Mr Blackburn, Mr Melcher nor Mr Stewart (nor any other identified individual) actually realised that as a  result of the PIA/FSA’s intervention in 2000 Sun Life would or might face a past business review that would cost it more than $25,000,000 in external costs. I am equally satisfied that none of those three, nor any other identified individual, asked themselves what, on the facts they knew and the information they had, was the worst that could realistically result from the PIA/FSA’s  intervention. I have, therefore, to ask myself what answer a reasonable person in their shoes would have given to that question without such assistance as might have been derived from any of them having asked it at the time. 
315.	The need to look at the worst realistically possible outcome arises from the wording of the warranty and its intrinsic purpose. Insurance is intended to provide cover when the worst event (within the terms of the policy) occurs. The warranty was designed to ensure that there was revealed to insurers any circumstance that could lead to the insurers having to pay out under the policy. This is a broad test, and it is apparent from the wording that insurers required to be informed of alleged as well as actual facts and situations as well as acts, errors or omissions that could have that consequence. That did not mean that the identified individuals were required to assume the role of prophets of doom, however remote doom might be, or to proceed on the basis that anything could happen whether or not there was any real ground to suppose that it might. But it did require them to consider what, on the facts known to them, were realistically possible worst case scenarios. 
  Mr Blackburn
316.	I consider first the case of a reasonable person in the position of Mr Blackburn.
317.	It was obviously possible that the PIA would require Sun Life to do anything that at the debrief meeting it had either said was or might be necessary, or the need for which was implicit in any criticism that it had made. Accordingly as at 27th September 2000 what could have been expected as a possibility included:
i)	a review of the business written by staff on special monitoring or whilst unregistered; 
ii)	 a review of business which, whilst RBM was in operation, was not put through the NAU; 
iii)	 a review of pend cases; 
iv)	 a further inspection visit looking at selling practices; 
v)	a requirement to overhaul the training scheme and a further inspection visit looking at training and competence; 
vi)	 a benchmarking exercise in respect of NAU standards.
318.	But there remained two questions. The first was what might be the result of any of the requirements which I have set out above, in particular, the benchmarking of standards and any audit of selling practices and training and competence. The second was whether the PIA might require Sun Life to carry out some form of PBR immediately rather than proceeding on the step by step basis of first requiring Sun Life to benchmark its standards and carrying out a selling practices audit, and then determining in the light of either or both whether some form of PBR might be necessary.  
319.	As to the first question Mr Blackburn was at pains to emphasise that, although it was possible that the FSA could require a PBR, it could be expected to be confined to a review related to the particular issues identified in the course of the August 2000 visit. He suggested that, since selling practices and training and competency were outwith the scope of the August 2000 visit, the most that could be expected was that those matters would be the subject of subsequent visits, and that a review of whether there had been selling practices breaches would be “highly unlikely… if not illogical”. I do not accept this. If the PIA/FSA found that Sun Life’s selling practices were or might be defective, and had not decided on what corrective action they were going to take, it could not be assumed that they would necessarily wait until a subsequent visit to take action and that they would refrain from looking at (or requiring Sun Life to look at) how the products had been sold meanwhile. This was not only because one of the declared objects of the 2000 visit was to test sales outputs, but also because the protection of the public against bad selling practices was one of the primary functions of the PIA. If what it found on a visit not focused on selling practices was sufficiently serious and investors were at risk, it could be expected to take action.  I also do not accept, as Mr Blackburn suggested, that the FSA/PIA would be constrained to require a PBR that went back only to the end of the period covered by their previous visit. A reasonable man in his position would not think that to be so.  
320.	Mr Blackburn also expressed the view that the upshot of any future review was too remote a contingency, or, as he put it:
“I think a possible outcome of a possible visit or even a probable visit would not have been in my contemplation as something I should have disclosed and certainly I did not.”

321.	A reasonable man in Mr Blackburn’s position as one of the individuals giving the warranty would not, in my judgment, have had so circumscribed a forward vision. The selling practices and training and competence visits, if they occurred, were likely to take place in the next two quarters and any benchmarking exercise would be completed within a couple of months. The possible outcomes of these events could not reasonably be left out of account when giving insurers under a three year policy a warranty of ignorance of circumstances which could give rise to loss for which they would have to pay.
322.	The PIA had indicated that it might carry out a selling practices audit going back as far as five years. Such an audit together with the benchmarking exercise (or the training and competence visit) might reveal that the standards applied were, in the Regulator’s eyes, defective and/or that the monitoring of those standards was ineffective and that sales based on wrong advice had been let through as a result. If that was what the FSA concluded a PBR covering several years (and several products, including, at the least, those mentioned by the FSA at the August debrief) was at least possible. Mr Blackburn accepted that the cost of reviewing just a year’s business could be “very expensive indeed”. 
323.	As to the second question, in the light of:
i)	the history – the formation of the NAU, the absence of adverse comment on it in March 1999; the small number of cases checked in August 2000; and the limits of the criticism of the NAU at the debrief meeting; and
ii)	what was said at the August debrief about the possibility of going to enforcement and Selling Practices and Training & Competence visits, and the absence of reference to a past business review;

it would have been realistic to hope, and perhaps even to expect, that the PIA would wait to see whether the benchmarking exercise revealed that the standards applied by the NAU were inadequate  and whether an audit of Sun Life’s selling practices showed them to be defective before deciding whether any review of business was necessary. An examination of the standards applied would be a logical starting point since, if they were inadequate, further investigation of what might have been wrongly let through would be needed. If they were appropriate, the risk of investors having been disadvantaged was much reduced. Such an exercise would look at the control on the final stage of the selling process i.e. whether or not a product was actually sold to the customer.   An audit of selling practices and training and competence would look at the matter from the other end. The results of these audits would provide information as to whether any review of business was needed.
324.	But by 27th September, as must, or at any rate should, have been apparent to someone in Mr Blackburn’s position, the FSA/PIA had made it plain (a) that it had not yet decided on the appropriate corrective action and (b) that it had come to the conclusion that there were wholesale failures in the areas focused on by its review: (i) Recruitment and Termination; (ii) Complaints; and (iii) Compliance Monitoring; and that the Training and Competence regime gave rise to serious concern.  Its examination of compliance monitoring had suggested the need for a selling practices review that could go back for five years. The implication, or at least the possible implication, of these failures was that, in FSA/PIA’s eyes, over a long period advice may have been given and products may have been sold that had caused investors loss. Sun Life had, in their eyes, failed to correct weaknesses that they had pointed out and of which they had been highly critical in 1997, 1998, and 1999 and to which Sun Life’s own Compliance Department had drawn attention. As Mr Sowerbutts had put it “The FSA judges organisations over time”. Sun Life had an enduring sales, and not compliance, culture, with a large direct sales force. Such a force was regarded by the FSA/PIA as involving a high compliance risk. The Compliance department had recognised the culture problem but had been unable, not for want of trying, to rectify it. FSA/PIA’s expressed overall conclusion was that there was a “cycle of weakness” in recruitment, training, sales monitoring, and ongoing training, all of which were poor or ineffective. The cumulative effect was to produce an investor risk that the FSA classified as high. The FSA had summoned Sun Life’s senior executives to Canary Wharf, and it had the power to take whatever steps it thought necessary or desirable to ensure that investors had not been disadvantaged.  
325.	Sun Life placed understandable reliance on the NAU, the fact that it had been looked at by the FSA/PIA without criticism in March 1999, and the absence of any relevant change in it since then.  But, in the light of the deficiencies that the FSA/PIA had found in respect of Training and Competence, it could not be assumed that the FSA/PIA would be satisfied by a system which placed such heavy reliance on the checking that took place at the end of the sale process, rather than the quality of selling (and training for selling) at the beginning of it, so as to rule out any past business review.  
326.	 Moreover the FSA had expressed concerns about the NAU and how it had operated including the following:
(a)  	RBM may have caused high risk areas to be missed; 

(b) 	the NAU was not taken seriously by salesmen; and it was  
		treated not as a double check but as a failsafe mechanism;

(c)	the headline figure was a distorted one; 

(d)	there had been substantial delays in dealing with pended cases and the faults found by the NAU; 

(e)  	 policies had gone on risk before the sale was passed by the NAU because of these delays;

 (f)        there had been no trend analysis of failed cases;

 (g)  	there had been inadequate consistency monitoring;

 (h) 	the unit’s standards needed to be benchmarked (and might therefore turn out to be deficient); 

(i) 	the first time pass rate was too high. There could be a further 10% that should be rejected;

(j)	the ultimate rejection rate was too low;

(j)	sales monitoring was “ineffective”.

327.	The notes of Mr Blackburn’s discussion with Mr Sowerbutts on 6th September record :
“- 100% factfind checking – not clear effective – fact find unit – Branches say get wrong so ignore”

     and, also,

 “Fact find unit – not externally benchmarked … need to do on sample of  bus(iness) to show right standard”.

Sun Life’s Initial Plan, which was being drafted in September 2000, recorded that:
“Standards not benchmarked …. Results of T/C Reviews suggest standards are too low”.
328.	In addition the FSA had referred to an accumulation of matters of complaint: recruitment, training, and sales monitoring all being regarded as ineffective together with an absence of a compliance culture leading to a broad conclusion of high investor risk. 
329.	In the light of the matters set out in the previous five paragraphs it was a realistic possibility, and should have appeared as such to someone in Mr Blackburn’s position, that the FSA/PIA would take the robust approach of requiring Sun Life to carry out some form of general review of the business that it had written in order to satisfy the FSA/PIA that investors had not been disadvantaged. In the light of what the FSA/PIA had found, and the history of non compliance, it would not have been illogical to do so, let alone so illogical that it  could not be regarded as a realistic possibility.  Where there was doubt about the efficacy of the control it would be logical to look at the output from that control. 
330.	The FSA had also referred to the possibility of referring the matter to enforcement. Whether or not a firm should be disciplined is a separate question from whether or not a PBR (which is a corrective action not a punishment) should be required. If, as is usually the case, a reference to enforcement is made because of failings that give rise to investor risk, then, if such failings are established or admitted, some form of PBR is likely, not by way of disciplinary sanction but because the failings leading to disciplinary sanction have put investors at risk. (Conversely a PBR may be required in order to see whether disciplinary action is appropriate). In a minority of cases the breach relied on may be one that would not prompt any, or any sizeable, business review (e.g. a breach of the financial resources requirements or repeated use of non-registered consultants or failure to deal timeously with complaints). In the present case the fact that the FSA/PIA were talking about enforcement underlined the seriousness with which it viewed matters and, since the matters complained of related to investor risk, raised the possibility that the matter might be referred to discipline and breach of the rules might be established or admitted, in which case some form of PBR to ensure that investors had not been disadvantaged would be likely to follow. The extent of any such review would be dependent on what the FSA thought was necessary or desirable for the protection of investors.
331.	It is noticeable that when the PIA announced at the meeting on 28th September 2000 that it required Sun Life to carry out a review over what was likely to be the last two years which would satisfy it that there was no investor loss this does not seem to have come to Sun Life as a bolt from the blue, as appears from Mr Melcher’s e-mail of 1236 on that date:
“such business reviews are the flavour of the month these days by the regulator and we are therefore not surprised by such a request as it comes on the back of most visits by the FSA with most companies these days”.

332.	Sun Life did not call Mr Sowerbutts to give oral evidence, even though on 25th September he had coached the team for the 28th September meeting and must have discussed its likely or possible outcome.  In the absence of any evidence from him other than his written statement dealing with certain aspects of quantum, and in the light of the evidence of Mr Melcher, I infer, as I have already indicated, that at that meeting he drew attention to the possibility that Sun Life might be required to carry out a PBR. I, also, infer that he gave no indication that the cost of any such exercise redress could be limited to any particular figure. Had he given a cost indication that indicated that there was no real prospect of exceeding the retention, he would, no doubt, have been called. 
  Was it realistically possible that the Claim might exceed $25,000,000? 
333.	Even on 28th September, whilst the broad purpose of the review was known its scope in terms of (i) size of population/products/ issues; (ii) sampling (how large and how selected);  and (iii) methodology (what data needed to be gathered and how) was undefined save by reference to its purpose. As a result there was no delineation of its limits. What it would cost would depend on (a) the number of cases to be reviewed, both by initial sampling and further review, if any in the light of that sampling; (b) who was to carry out the review; (c) how much each case would cost to review; and (d) what the outcome of any such review would be in terms of redress.
334.	In this state of uncertainty the ultimate cost of a review that would satisfy the regulator’s demands was inherently extremely difficult to predict.  Factors in favour of any such review being relatively inexpensive were (a) the prospect of limiting any review to cover the period since the last FSA/PIA inspection; (b) the possibility of doing much of the work in house; and (c) the existence of the NAU and the fact that it had passed muster in 1999, which tended to suggest that actual mis-selling would turn out to have been limited.  Factors pointing the other way included the facts (a) that the regulator was obviously “peeved” and in a mind to be rigorous; (b) that the FSA had been talking about a visit to consider selling practices over a 5 year period; (c) that the FSA had expressed concerns about the NAU, which had not been benchmarked, and about the proportion of first time passes being too high and ultimate rejections too low, as well as having much wider concerns about training and competency and culture; (d) that, if there had to be reviews of a sizeable number of cases, Sun Life would have to use outside contractors to carry out much of the work of review.  Added to that, once a review starts then, as Mr Blackburn acknowledged, it has a tendency to expand outwards in the light of discoveries during the process, as had happened, to Sun Life’s knowledge, in a particularly dramatic way in respect of pension mis-selling. .
335.	In those circumstances it seems to me that if, with a view to subscribing to the warranty letter, a reasonable man in Mr Blackburn’s position had asked himself whether there was any realistic possibility that Sun Life would end up expending more than US $25,000,000 not including employee costs (or, to put it another way, whether, looking at matters realistically, it was impossible to suppose that that could be the result), he would have answered that there was such a possibility which could not be dismissed as unrealistic or fanciful. 
336.	In answering that question account would have to be taken of (a) the number of sales made per year; (b) the proportion of yearly sales that might have to be reviewed; (c) the number of years which the review might have to cover; (d) the cost of review per case; and (e) the cost of redress. 
337.	As to (a) the number of sales was of the order of 70,000 or more. As to (b) Mr Heath’s calculation of 7th June 2001 had a worst case analysis for a 13 month period of 85,000 (circa 78,500 per annum). It was unrealistic to suppose that Sun Life would have to review all of them. But I note that Mr Heath’s “moderate” case assumed that 33,559 out of 85,000 i.e. about 40% would have to be reviewed. Mr Storey postulated 24% by way of example. As to (c) the number of years could be at least two but, given that the FSA had spoken of a five year audit of selling practices it could be considerably longer. As to (d) if D & T, or someone like them, were to carry out the review, as might well be necessary if the review was of considerable size, that would cost something like £330 a case: see paragraph 306. The cost of administration figure, not including staff, in Mr Heath’s calculations produces figures per case (which include D & T, contractors, and hardware and software) of £276, £223 and £271 for the best, moderate and worst cases respectively. The fact that Sun Life had a dozen different legacy systems was likely to increase the cost of extraction of data. As to (e) the cost of redress was almost incalculable but I note that Mr Heath’s subsequent best, moderate and worst case figures were £439,500, £5,008.418 and £57,989,130. The actual figure was £5,418,611.
338.	There are obviously many permutations of number of years to be reviewed, percentage of sales to be reviewed per year, cost of review per sale, number of cases to be redressed and amount of redress. But, given that Mr Heath’s moderate case calculation produced a total cost including redress of about       $18,000,000 for a 13 month period, and Mr Storey, using a 2 year period but with only 24% of cases reviewed, produced a figure of $16,000,000 without including redress, it seems to me that a maximum in excess of $25,000,000 was not an unrealistic or fanciful possibility.  Mr Heath’s 13 month period  came with the caveat that the regulator had reserved the right to take the review back for four years i.e. back to and including the period covered by the 1977 visit. The four year period seems to have been one that was mentioned after 27th September. But at the August debrief meeting the regulator had contemplated an audit of selling practices over a five year period. It was probably unrealistic to suppose that, if the PIA required a PBR, it would require one going back over five years. But two, three or perhaps even four years were not impossible. Mr Storey’s figure was based on a two year review (at accountancy rates) of 24% of cases, to which would have to be added the possible cost of redress. Neither the 2 year nor the 24% figures could safely be relied on as maxima.
339.	I have not forgotten that these are all calculations done after 27th September, and that there is a range of possible other calculations.  But the base material for any estimation (number of sales per year and approximate cost per case) was available before 27th September and the other factors (maximum number of years, proportion of business to be reviewed, etc) could be estimated as at 27th September, even though determining “ball park” figures would indicate a rather large park because of the high degree of uncertainty inherent in forecasting the cost of a review at this stage. A reasonable person in Mr Blackburn’s position would have made a worst case estimate.
340.	I note also that, when the FSA indicated that a review of investor loss likely to go back two years  would be required, not only was there an absence of surprise, but there was also a recognition that the exercise that Sun Life was being required to do so might be very expensive indeed. In his “flavour of the month” e-mail Mr Melcher recognised the need to frame the proposal “so that we do not crucify ourselves”.  Further when Mr Heath’s estimates came forward in June 2001 (or March 2001) Sun Life does not appear to have had, or at any rate expressed, any sense that what was being estimated was something quite beyond anything that could have been thought realistically possible at the end of September 2000. 
341.	Lastly whilst what, as at 27th September 2000, could happen is to be judged prospectively, and not with hindsight, “what happens afterwards may assist in showing what the probabilities really were, if they had been reasonably forecasted”: Bank Line Limited v Arthur Capel and Company [1919] A.C. 435,454. The position would be different if, after 27th September, there was  some supervening event, unforeseeable as a possibility, which altered everything.
342.	Accordingly, as I hold, by 27th September 2000 Mr Blackburn knew or had information of facts, etc which a reasonable person in his position would realise could give rise to a Claim within the scope of the coverage. 
  Mr Stewart
343.	In the light of my conclusion it is not strictly necessary to consider whether a reasonable person in the position of Mr Melcher or Mr Stewart, with such knowledge or information of facts, etc as they had, would also have had the same appreciation. I am not persuaded that a reasonable person in Mr Stewart’s position with the knowledge and information that he had as at 27th September 2000 would have had that appreciation. His involvement was at one stage removed from events, at a high level and of a somewhat general character.  His familiarity with the history and the detail of Sun Life’s relationship with the PIA/FSA and with UK regulatory practice and attitudes was considerably less than that of Mr Blackburn or Mr Melcher.  The information that he had as to what had happened at the August debrief meeting, at which he was not present, was incomplete. He was not aware that the FSA had talked in terms of high investor risk, although he was aware that, if Sun Life “failed” at the 28th September meeting the file would be turned over to “enforcement” with a 50% chance of disciplinary action.  
  Mr Melcher 
344.	So far as Mr Melcher is concerned, he was in something of an intermediate position. He was not as aware of the history of Sun Life’s relationship with the PIA/FSA as Mr Blackburn, but considerably more aware than Mr Stewart. He was not present at the August debrief; nor was he given Mr Archer’s note of it; nor was he told everything that was contained in that note (such as the reference to high investor risk or a selling practices review going back five years), although by 27th September 2000 he knew what had been reported at the Audit and Compliance and Board meetings on August 30th/31st and that there was a risk of enforcement proceedings.  He was present at the meeting with Mr Sowerbutts on 25th September when Mr Sowerbutts talked of funnelling the review population down, and he was the author of the “flavour of the month” e-mail. I do not, in the end, regard him as in a significantly different position to that of Mr Blackburn, with whom, unlike Mr Stewart, he had considerable discussion of the situation. It seems to me that, on the information that he had, a PBR which might end up costing more than the retention was a realistic possibility. As his letter of 14th September implicitly recognises, Sun Life might fail to convince the FSA “that their view is a momentary lapse rather than a systemic failure” in which case a review of the effect of such a failure might well take place; and his references to the possibility of regulatory action having the potential to “submarine” or “crucify” the business prompt the inference that he realised that there could be crippling costs.  
345.	Mr Kealey impressed upon me that the insurers’ refusal to pay was not based upon non-disclosure of the situation in which Sun Life found itself with its regulator prior to the inception of the policy, nor on any claim based upon non disclosure of the “moral hazard” or the like (in which case the very substantial premium would be returnable), but on the more specific allegation of breach of warranty. I should not, he submitted, allow any qualms that I might feel about admitting a claim which arose from the difficulties that Sun Life was having at the very moment when the warranty was signed to influence my conclusion. I have not done so. But I have not found myself wholly surprised in concluding that the sort of level of expenditure that was being discussed in June 2001 was something that should have been regarded as possible at worst, nine months before, and that the insurers should have been told about it.
  Notification of the claim
346.	For ease of reference I set out again clause 7 of the Master General Conditions:
“Reporting and Notice 7.	“Once known or discovered by the Assistant Vice President, Insurance and Risk Management [Ms Meltzer], notice shall be provided to the Insurer as soon as practicable for
(a)  any Claim, Loss or potential Loss exceeding $12,500,000;
(b) any formal administrative or regulator proceeding, Claim or investigation;
(c)   any class action lawsuit.
All other Claims, Losses or potential Losses exceeding $2,500,000 shall be reported to the Insurers on an annual bordereau.”
347.	Sun Life first gave formal notification of a claim on 16th April 2002. The insurers contend that the FSA letter of 10th October 2000 constituted a formal administrative or regulatory proceeding, claim or investigation, or alternatively was a Claim, Loss or potential loss exceeding $ 12,500,000, and that Ms Meltzer became aware of the Claim no later than 11th October 2001. But the Claim was not notified until April 2002, which was too late.
348.	This aspect of the case gives rise to the following issues:
i)	was the letter of 10th October 2000 a “formal administrative or regulator proceeding, Claim or investigation” within MGC 7 (b) or a “Claim, Loss or potential Loss exceeding $ 12,500,000” within MGC 7 (a)?
ii)	when did Ms Meltzer know of or discover something falling within either MGC 7 (b) or (a)?
iii)	was notice provided to the insurers as soon as practicable thereafter?
iv)	is compliance with condition 7 a condition precedent to liability or an innominate term?
v)	if the latter, was there a breach sufficiently serious to relieve the insurers from liability?
vi)	what is the significance of the provision under the heading “Declarations” in the policy, namely: “Provided such claim is reported as soon as possible”
vii)	should there be relief from forfeiture?
 “formal administrative or regulator proceeding, Claim or investigation”
349.	Sun Life submitted that these words applied to a limited subcategory within the definition of Claim namely part of sub-paragraph (v) of the definition but not including “a review of all or part of its business, whether fully completed or not, prescribed by a financial service regulatory authority, or Self Regulatory Organisation etc”.  I accept that the reference to “Claim” in MGC 7 (b) must, despite the fact that it is a capitalised word, have some limitation.  The requirement in MGC 7 (a) for notification of any Claim exceeding             $12,500,000 would be otiose if MGC 7 (b) required notification of any Claim of any value.  The appropriate limitation is that the “Claim” must be a “formal administrative or regulator(y) proceeding” as stipulated in II A (v) of the policy. That sub-clause distinguishes judicial from administrative or regulatory proceedings and, as it seems to me, further distinguishes judicial, formal administrative or regulatory proceedings commenced in the manner specified (by the filing of a notice of charges, formal investigative order or similar document) from a review of business prescribed by a regulatory authority. Accordingly the letter of 10th October does not fall within the heading of “formal administrative or regulator proceeding, Claim or investigation” for the purposes of MGC 7 (b). 
  Ms Meltzer’s knowledge
350.	Ms Meltzer works at Sun Life of Canada’s offices in Toronto. On 11th October 2001 she called in at Sun Life’s Basingstoke office when she stopped off in London on her way to Toronto from a conference in Barcelona. She was told by Mrs Julie Houston, then Head of Compliance, that in October 2000 Sun Life had been required to undertake a review of past business and about its progress. This was the first time she had heard of a past business review or the PIA visit in August and the August debrief.  She was told that, as a result of work by D & T on the scope of the review, 120,000 advice events had been identified which had resulted in sales to 80,000 policyholders; that a number of these could be excluded as they related to non-regulated products, but that it might be possible to exclude a further 30 - 40,000 sales. She and Mrs Houston agreed that the review could become a circumstance which would give rise to a claim under the policy if it turned out to be likely to exceed $12,500,000.  She did not recall being given any figures of potential cost at this stage, which I found somewhat surprising given the estimate that Mr Heath had made in June. She was told that, if the sample for review was large, the FSA could require a four-year review back to 1997.
351.	If, therefore, “Claim” within MGC 7 (b) does not have the restrictive meaning that I ascribe to it, she had knowledge of a Claim by 11th October 2001.
“Claim, Loss or potential Loss exceeding $ 12,500,000”
352.	On 12th October Ms Meltzer told Mr Derksen and Mr Accum by e-mail that:
“It is unclear whether the costs of redress will exceed the deductible of USD 25 million (however it is possible)”.

In an e-mail of 14th October to Mr Hanby in the UK she recorded that she 

“believed that the costs of redress uncovered during the PBR will be a claim under the policy, although we can’t take any action to make a claim until after the first analysis is complete”.

In his reply e-mail of the same day Mr Hanby recorded that Ms Houston had told him that the PBR would probably be covered by insurance. Ms Meltzer forwarded that e-mail to Bruce Tainsh.
353.	It is apparent from the passages that I have emboldened in the e-mails referred to in the previous paragraph that Ms Meltzer was, in October 2001 not only aware of a Claim (in its general sense) but also that it was possible that it would exceed the deductible (i.e. $25,000,000), as she believed it would.  She was accordingly aware of a potential Loss exceeding $12,500,000.
354.	 On 19th November 2001 Ms Meltzer met representatives of Gulf in New York. She continued her discussions over dinner with Tom Monaghan, Al Fantuzzi and Larry Minter and representatives of Marsh Canada. During this dinner she told Gulf that the FSA had required Sun Life to carry out a past business review and that there was a possibility that this could develop into a “circumstance”. She explained that D & T were involved in developing a methodology for the review, but that as yet she did not know the likely quantum. Gulf’s reaction was fairly casual. They were much more interested in the issue of endowment mortgages. Sun Life did not contend that this was notice within the meaning of MGC 7.
355.	Between the end of November 2001 and the middle of February 2002 Ms Meltzer was on sick leave, although she continued to do some work from home and it was she who remained solely responsible for managing the policy. During this time she sought to obtain information about the anticipated cost of the review. 
356.	On 17th March 2002 Elaine Carr, who was then the project manager for the review, advised Ms Meltzer that the current budget for the PBR project was                  £10,400,000, and that from recollection (she said her figures were at home) the worst case scenario for redress was £125 million. This intelligence caused Ms Meltzer, who, on her evidence, had started to learn in early February that, on a worst case scenario, the claim could be for several hundred million pounds (as she stated in her e-mail to Robert Sharkey of  16th March 2002), to decide that she should notify the matter to the insurers as a potential circumstance. On 22nd March 2002 she sent an e-mail to Trevor Mapplebeck of Marsh Canada, for onward transmission to Insurers, which began with the following paragraph:
“Trevor

I have been monitoring a situation in our UK operations that could possibly become a claim under our Corporate E & O program. Although there is currently not enough information to constitute a “circumstance” under the policy, I would like to give our insurers a heads’ up about this situation. As this is not meant to be a formal notice of circumstance, I think we should just provide an informal report to the underwriters and would ask that you call me to discuss how to address this with the underwriters”

357.	The e-mail set out the history since August 2000 and the current administration budget of £10,400,000 and went on to say:
“without the information [from D & T] on the reviewable population, we were unable to estimate the potential cost of any redress in this matter and therefore concluded that there was not enough information to constitute a “circumstance” and to report to insurers”.

This e-mail was sent by Marsh Canada to representatives of the subscribing insurers on 12th April 2002. It did not refer to Mr Heath’s best, moderate, worst case analysis or the difficulties that D & T were experiencing with the model. 
358.	On 16th April 2002 Marsh sent to insurers Advices of Loss in respect of all layers of the policy, which the insurers accept to have been a formal notification for the purposes of Condition 7. 
359.	A formal intimation of a possible claim under the policy was made on 20th December 2002. In that letter Ms Meltzer referred to (a) D & T's draft report in respect of seven of the eight products to be reviewed, (b) that it would include findings that certain classes of investors had been disadvantaged as a result of rule breaches, (c) the fact that Sun Life was due to pass on the results of that report on to the FSA on 10th January 2003 and (d) that, as a result of the contents of the draft report it now appeared that Sun Life’s losses “arising from the review will be substantial and may exceed the level of the retention amount”.  
  Practicability 
360.	If, as I hold, Ms Meltzer had knowledge of a Claim and a potential Loss exceeding $12,500,000 on or about 11th October 2001, it was obviously practicable for her to inform insurers of that fact before April 2002. If she only had the relevant knowledge by 17th March I would not regard the delay between then and 16th April as having the consequence that the notice was not given as soon as practicable.

Condition precedent
361.	Condition 7 of the Master General Conditions is not expressed as a condition precedent, nor does the fact that it forms part of what are described as Conditions make it one. Insurers rely on Clause IX of the policy which provides:
“No action shall lie against the Insurer unless, as a condition precedent thereto, the Insureds shall have fully complied with all of the terms of this Policy…”
362.	I do not however accept that the Master General Conditions are terms of the policy within the meaning of Clause IX, although they are part of the Program and part of the agreement between the insurers and the Insured. That that is so is apparent from 
i)	the Table of Contents of the Program, which distinguishes between sections 1A – 1D -  the individual policies, and Section 2 -  the Master General Conditions; 
ii)	the contents of section 1 B which is, and is expressed to be, a self-contained policy with the terms set out in that section - see the Preamble: “This is a claims made policy. Subject to its terms…”; 
iii)	the provisions of the Master General Conditions which are not said to be incorporated into the policy but to “supersede conditions in the individual policy sections and apply to all sections unless conditions more beneficial to the Insured are contained within each Individual Policy section;” and 
iv)	Clause X of the policy (“…the Insureds agree that this Policy embodies all agreements existing between them and the Insurer or any of their agents relating to his insurance, except as provided in the Master General Conditions”), which points to a distinction between the policy and the MGC.  
363.	At the lowest there is an ambiguity in the drafting as to whether Condition 7 of the MGC constitutes a term of the policy for the purposes of Clause IX of Section 1B. The wording of Clause IX was the insurers’ standard wording. The ambiguity should be resolved against them. If the insurers wanted to provide that any failure to give timeous notification of a Claim would invalidate the Claim they could and should have made that explicit.
364.	The term is, therefore an innominate term. But the insurers have not established that the nature and consequence of Sun Life’s breach was so serious as to amount to a repudiation of the agreement or to entitle the insurers to regard themselves as no longer bound to indemnify.
365.	The preamble to the policy begins as follows:
“THIS IS A CLAIMS MADE POLICY. SUBJECT TO ITS TERMS THIS POLICY APPLIES ONLY TO ANY CLAIM FIRST MADE DURING THE POLICY PERIOD PROVIDED SUCH CLAIM IS REPORTED TO THE INSURERS AS SOON AS PRACTICABLE”
366.	This wording in the policy is less beneficial to the Insured than clause 7 of the MGC not least because the notification obligation in the preamble does not only arise once a Claim is known or discovered by Ms Meltzer and applies to a Claim of any value. It is thus superceded by clause 7, since the preamble to the MGC provides that the MGC shall supersede conditions in the individual policy, unless conditions more beneficial to the Insured are contained within each individual policy section.  It seems to me that the “PROVIDED SUCH CLAIM IS ………… AS SOON AS PRACTICABLE” wording is properly to be regarded as a condition in the policy. 
  Relief from forfeiture
367.	If, contrary to my view, compliance with Condition 7 was a condition precedent, then, as a matter of Ontario law, Sun Life can seek relief from forfeiture. The relevant statute is section 129 of the Insurance Act 1990 which provides that:
“Where there has been imperfect compliance with a statutory condition as to the proof of a loss to be given by the insured or other matter or thing required to be done or omitted by the insured with respect to the loss and a consequent forfeiture or avoidance of the insurance in whole or in part and the court considers it inequitable that the insurance should be forfeited or avoided on that ground, the court may relieve against forfeiture or avoidance on such terms as it considers just”

There is authority in the Supreme Court that the statutory wording applies to breaches of contractual provisions. 
368.	The parties are agreed that the relevant principles are set out in paragraphs 45 – 54 of Mr Smith’s report. In essence they are as follows:
i)	Relief from forfeiture is potentially available where there has been imperfect compliance with the terms of the policy and as a result thereof cover would otherwise be lost.
ii)	Failure to give notice to insurers in a timely fashion is imperfect compliance (as opposed to non-compliance) even where the giving of timely notice is a condition precedent under the policy.
iii)	The Court may give relief from forfeiture if it considers that it would be inequitable that the insurance should be forfeited. The factors to be considered in assessing whether there is inequity are:
(i)	Prejudice to the Insurer.
(ii)	The conduct of the Insured.
iv)	Given the remedial nature of the section, it should be given a fair, large and liberal construction. Thus, as regards the conduct of the Insured, in the absence of bad faith, or a deliberate misrepresentation, relief should be granted where no prejudice to Insurers has occurred. The insurers accept that it is only significant prejudice that would lead to relief being denied. 
369.	Canadian Newspapers Company Ltd v Kansa General Insurance [1996] O.J. No 3054 indicates, obiter, that conduct amounting to a breach of good faith will preclude relief from forfeiture but conduct on the part of the insured that falls short of bad faith can lead to a refusal of relief; and that it is for the applicant for relief to show that the insurers suffered no prejudice as a result of the breach, and that if there had been no breach the insurers would not have acted differently. 
370.	 There is, here, no question of bad faith or deliberate misrepresentation. The delay between (at most) 11th October 2001 and 16th April 2002 did not, in my judgment, cause significant prejudice to the insurers. I do not believe that, if notified earlier, the insurers would have behaved in any manner significantly different from the way in which they in fact acted, or that, by reason of late notification, they were deprived of some significant advantage or opportunity to reduce the claim of which they would have availed themselves. In my view it would be inequitable for the insurance to be forfeited on account of this delay. 
371.	I hold that view for these reasons. The delay was, at most, six months. Gulf was given informal notice of the PBR and that it might become a circumstance on 19th November 2001. Ms Meltzer’s evidence, which I accept, is that Gulf’s reaction was fairly casual, they being much more interested in the position in relation to endowment mortgages. After the formal notification of a claim in December 2002 the insurers instructed lawyers and a consultant. In April 2003 Freshfields, Sun Life’s then solicitors, suggested a meeting with insurers’ consultant “to facilitate [insurers’] understanding of all relevant circumstances surrounding the PBR” and proposed regular telephone calls to keep insurers up-to-date with what was going on. Insurers did not wish to participate in such calls. On 3rd June Freshfields proposed that the invoices of all consultants should be sent to insurers for approval before payment and asked insurers to indicate whether they were unhappy with any aspect of the terms agreed with the consultants. Insurers’ response was to insist that Sun Life justify the consultants’ fees given the discrepancy between earlier estimates and the invoices actually rendered and asked for evidence that the fees of D & T and PwC had been negotiated. 
372.	In August 2003 a meeting took place between Ms Meltzer and Mr Edward Maddison, insurers’ experienced loss adjuster, under a reservation of rights from insurers.  Mr Maddison asked questions, which were answered. Ms Meltzer explained various aspects of the PBR, including the replacement of D & T by PwC and the involvement of MSLPS (see paragraph 385 below). Mr Maddison told her that he did not anticipate raising any major issues on the methodology of Sun Life’s redress payments since Sun Life had been required to act and the process seemed sensible and pragmatic. He said that insurers would want him to do sample testing on concluded cases and Ms Meltzer told him that this would not be a problem. In the event no such testing was done. From the middle of 2003 Sun Life’s solicitors sent insurers’ solicitors on a regular basis reports relating to the PBR and details of the amounts being incurred by it in connection with the PBR including consultants’ fees. The response was to reserve insurers’ rights and to state that they neither confirmed nor denied that the relevant expenses had been reasonable incurred or fell within the coverage of the policy.  Insurers required Sun Life to act as prudent uninsured. 
373.	I recognize that from December 2002 onwards the PBR was on its last leg and that insurers were, to some extent, being presented with a fait accompli. Nevertheless their approach in this period does not suggest that they would have acted differently if they had been notified six months before they were. 
374.	No individual from the insurers (including Mr Monaghan who was called) or anyone acting on their behalf has given evidence of the prejudice that they regarded themselves as having suffered or how, if notice had been given earlier, they would or might have acted differently.  I have no doubt that, if the insurers thought that they could point to any such prejudice, they would have adduced such evidence. None was pleaded. 
375.	Had it been necessary to do so I would, accordingly, have granted Sun Life relief against forfeiture. 
 QUANTUM 
376.	In case I am wrong on liability I turn to deal with matters of quantum. Sun Life’s claim to an indemnity is in respect of the costs it incurred in relation to the PBR. In order to explain the issues that arise it is necessary to set out, as briefly as the history admits, the sequence of events..
377.	 The PIA report requiring a review of past business was dated 10th October 2000. Sun Life was required to provide to the PIA a proposal outlining the parameters of the review methodology and a timescale for completion. D & T’s letter of engagement was dated 16th October 2000. They were required to “build a proposition for PIA for a focused sample review” and to assist Sun Life in agreeing the methodology with the PIA and in identifying the population of business to be considered for review.  D & T sent Sun Life a draft “Report on Conducting a Focused Past Business Review” on 14th November 2000 and a revised draft on 1st December 2000.  D & T proposed that the review should relate, at least in the first instance, to business sold and complaints received during the 13 months covered by the FSA’s October 2000 Report, namely August 1999 to August 2000; and that there would be 5 key stages to the review. 
  The weighting approach
378.	These five stages were:
i)	identifying the total population of “events” (i.e.  the giving of advice in relation to the sale of a product) in relation to products sold during the relevant period. The total population for the relevant period was subsequently determined, much later and after considerable work, to contain over 100,000 “events”;
ii)	excluding those cases where material loss was unlikely: either on the basis of the nature of the product in question or, in some cases, by testing a sample (5%) of cases in stated categories thought to be unlikely to involve material loss  to see if they could  be excluded;
iii)	 identifying those areas (i) where poor advice was most/more likely to have been given and resulted in investor loss, (ii) where there was a limited likelihood of loss and (iii) where there was little likelihood of loss. Under this “weighting approach” the potential risk in relation to a particular “event” would be assessed by reference, for example, to whether the relevant product was one highlighted in the FSA report or to the identity of the relevant adviser. The identification would not be by reference to products alone. The end result would be a “risk model” which could be used on the wider population of events;
iv)	carrying out a full file review of a sample of those cases where, using the risk model,  poor advice was identified as being most/more likely to have been given and to have resulted in investor loss in order to assess whether investor loss had actually occurred – depending on the results of that review a decision would be made whether to review the rest; mailing a sample of investors in respect of those cases assessed as having a limited likelihood of loss to see if the investors had any complaints; and taking no further action in respect of those cases identified as having little risk of loss;
v)	analysing the results of step (iv) above and using those results and the information gained from any identified cases of investor loss to consider and agree with the FSA whether further review work on areas of loss was required, either for other cases sold in 2000 or potentially those sold in 1999, 1998 and 1997.
379.	D & T’s proposal was put to the FSA for approval in January 2001. The FSA agreed the methodology subject to a couple of points (they did not, for example, accept all the proposed exclusions) and further explanation as to how the sampling process envisaged as part of the methodology would work. That explanation was set out in D & T’s Report on “Proposed sampling methodology to be adopted in conducting a Focused Past Business Review” a draft of which was produced in February 2001. Following this D & T were given further instructions (including instructions to review the project plan and to assist Sun Life to conduct the work required to progress the “focused past business review project to the point where a focused population is obtained”) by a letter of 22nd February 2001. 
380.	At a meeting with the FSA on 21st February 2001, the FSA indicated that, if the review was not to be carried out entirely by D & T staff, the FSA would require that the review staff were trained by D & T; that D&T would be overall project manager; that D & T would monitor and carry out quality assurance checks of the review process; that D & T would sign off on the final report; and that the FSA would be given full, unhindered access to the work being done. To that end, the FSA required Sun Life to enter into a tripartite agreement between it, the FSA and D & T. The Tripartite Agreement was entered into on 16th May 2001. Under it D & T was to provide “Project Direction” of the PBR, to train Sun Life staff to undertake the case review work efficiently, to  monitor  the review work  and establish quality assurance procedures, and to report monthly to the FSA. 
  Work down to March 2002
381.	In the meantime, Sun Life had withdrawn its direct sales force from the market and had closed to all new business. As a result it lost a substantial number of  staff. It was then necessary for Sun Life to hire a significant number of external contractors to implement the methodology of the PBR and, in particular, to carry out the requisite sample case reviews. That work began after the conclusion of the Tripartite Agreement and, until March 2002, all the external contractors invoiced, and were paid by, Sun Life directly. 
382.	For a variety of reasons, putting D & T’s methodology into practice took much longer and proved considerably more complex than had been anticipated. By the beginning of 2002 the risk model that was to be used to assess cases was still not complete and the classification of the total review population into high risk, limited risk and little risk was quite some way off. In recognition that there had been some unsatisfactory work D & T agreed not to charge Sun Life for £49,000 of work done by it. 
  The product specific approach
383.	By the end of February 2002, a risk model of sorts had been completed, based on a sample of 1,600 cases, but it proved unsatisfactory in its practical operation for a number of reasons. Sun Life and D & T then decided to modify the existing approach to a product specific approach involving the following stages:
a)	Stage 1: Initially looking only at Sun Life’s 8 “core” products  (i.e. the products most sold after excluding products identified as unlikely to involve loss on the basis of the work already done by D & T) and identifying, separately in relation to each, through the use of workshops, what were perceived to be the key risk areas as to advice given in relation to sales of each core product. A sample of 5% or 100 (whichever was the greater) of sales of each core product was then to be reviewed to see whether the key risks were manifest or whether any other key risks became apparent.
b)	Stage 2: For any case that failed stage 1 (i.e. it displayed a key risk), a calculation was done to see what redress would be payable as a result of the manifestation of each key risk. If the redress payable by reference to that risk was immaterial (i.e. less than £250) the relevant risk was not to be pursued amongst the wider population.
c)	Stage 3: once issues that gave rise to immaterial loss had been removed, the frequency of the remaining issues across the product specific sample was assessed. Where an issue/risk was present in less than 5% of the sample population, consideration was given to removing it as an issue for the wider review (“non-systemic” issues). At the end of this process, the 8 core products could be plotted on a risk continuum (grading them red for high risk; amber for limited risk; and green for little risk) and a decision taken how then to proceed with the wider population. 
384.	In the event, in consultation with the FSA, all “red” products (single premium investment bonds) and all “amber” products (unit trusts, whole of life policies and low cost endowments ) were reviewed in full. Only green products (4 of the core products) were not then reviewed, although customers were given redress for any issues identified in the sample reviewed as part of stage 1. The  work involved in classifying products as red, amber or green on the basis of a case by case review of a sample of over 6,000 cases and the resulting review of the wider population of red and amber products (over 13,000 cases) was huge and necessitated the involvement, over the life of the PBR, of some 83 external individual contractors (of whom 61 were reviewers).
  The involvement of Marlborough Stirling 
385.	In March 2002, Sun Life decided to outsource to the Marlborough Stirling Group (“MSG”), of whom Sun Life had been a client since 1999, the administration of Sun Life’s now closed book of life and pensions policies together with, inter alia, the administration and execution of the PBR. Sun Life sold its subsidiary company Sun Life of Canada (UK) Group Services Ltd to a company in the MSG, and the erstwhile subsidiary was then renamed Marlborough Stirling Life and Pension Services Ltd (“MSLPS”). MSG had already agreed to carry out the run-off of Sun Life’s existing business pursuant to the terms of a Run Off Services Agreement dated 21st December 2001 and, by side letters dated 13th January and March 2002, it was agreed that MSG’s role would be extended to include the administration and execution of the PBR on a “costs plus” basis.  Accordingly, from April 2002 onwards, the vast majority of external contractors (hired to review cases) invoiced and were paid by MSLPS which then passed those costs on to Sun Life.
386.	Thereafter D & T remained involved on a day-to-basis in the PBR project at the insistence of Ms Janet Fuller who became Sun Life’s Legal and Compliance Director in March 2002.  D & T not only continued to work on the (revised) review population identification exercise, including, for example, running work shops, attending Operational Steering Committee meetings and providing quality assurance checks of the work being done by the reviewers under the May 2001 Tripartite agreement (as required by the FSA), but became more responsible for the project. 
  The ending of D & T’s involvement
387.	In the light of the Sarbanes-Oxley Act 2002 in the US, it became corporate policy of the Sun Life Group not to employ their external auditors (i.e. D & T) to carry out significant non-audit work. For that reason and also because (a) the continuation of the Tripartite agreement was, by the middle of 2002, perceived by Sun Life to be unnecessary and a potential impediment to the efficient progress of the PBR and (b) there were certain difficulties in the PBR relationship between D & T and Sun Life, Sun Life sought and obtained the FSA’s permission to end the Tripartite agreement with effect from 31st July 2002.
388.	D & T’s role could not come to an end at least until a new firm had been appointed to replace it. Even then it would need to sign off on the work done under its supervision. Sun Life accordingly agreed with the FSA and D & T that D & T should complete, and remain responsible for the supervision of, and quality assurance in relation to, stages 1 and 2, but that a different firm would then come in for stage 3. In the event, after a beauty parade, PwC was selected to take over from D & T and began work in November 2002. They were instructed to provide “technical, strategic and other general guidance building on the methodology previously devised by [D&T]  . cover[ing] all phases of the review from planning through production to decommissioning”.
  Pwc takeover
389.	There was a period of overlap during which D & T were handing over to PwC. No charge was made by PwC for that period. The last Operational Steering Committee meeting attended by D & T was on 4th December 2002. In addition, in December 2002, D & T produced a number of reports effectively signing off on the work it had done and supervised in connection with the PBR. In February 2003, D & T produced its final report, running to 135 pages, entitled “Sampling Audit Trail Report”. 
390.	PwC oversaw and advised Sun Life in relation to the implementation of stage 3 of the PBR and performed quality assurance testing of the work done by Sun Life, MSG and the external contractors. A target of October 2003, set in conjunction with the FSA, for making 95% of redress offers was, with a great deal of effort, met. PwC produced their final report in February 2004. After PwC’s involvement ended, the remaining PBR activities in 2004 were the completion of calculations, the making of redress payments and a review of the non-core products.
  Sun Life’s claim
391.	Sun Life’s claim, as adjusted, is for the following amounts less the retention of $25,000,000: 
a)	Deloitte & Touche’s fees -				 £ 5,176,135
b)	PWC’s fees 							£  3,564,943
c)	Contractor fees paid directly to the contractors by  Sun Life											£   2,361,350 	
d)	MSLPS charges - 						£ 12,402,787 
Split between:
I      Direct costs   			£ 8,194,008
 split between 
(a)	External contractors - £5,473,104 
(b)	Employee costs of MSLPS staff - £2,340,216
(c)	Chargebacks – (£959,043)
(d)	Other direct costs – £596,000 split between:
(i)	Communications - £691
(ii)	Consultancy - £11,620
(iii)	Equipment Maintenance - £24,876
(iv)	IT Depreciation - £13,385
(v)	Miscellaneous - £279,005
(vi)	PBR Complaints - £192,448
(vii)	Printing & Stationery - £57,702
(viii)	Property - £99
(ix)	Training - £3,248
(x)	Travel & Entertainment - £12,926
(e)	Mark-up on items (a)-(d) above - £743,731
II       Overheads  				£ 3,582,939 
		(including mark-up)
III      Other costs 					 £   625,840
 split between:
(i)	Property costs (rent, rates, cleaning etc) - £415,751
(ii)	Elaine Carr secondment - £60,200
(iii)	PBR bonus - £150,000
(iv)	Minor adjustment to employee recharges – (£111)
e)	Life Strategies fees					 £   379,054
f)	Credit Suisse fees for extraction and administration     
									£      10,137
g)	Sundry costs      						 £     20,028
(viii)    Redress payments 					 £  5,418,611
h)	Irrecoverable VAT paid in relation to the above  
 		 £ 1,127,515
392.	Sun Life’s primary case is that its claim falls under Clause A (i) under which the Insurer is to pay for Loss resulting from any Claim. The definition of Loss includes damages and settlements and Costs, Charges and Expenses incurred by any of the Insureds. Costs, Charges and Expenses mean “reasonable and necessary legal fees and expenses and costs of attachment or similar bonds incurred by the Insureds in defence of any Claim”. Sun Life accepts that the reference to “expenses” in Clause A (i) is not confined to legal expenses and that it is for it to establish that the costs incurred by it in connection with the PBR were reasonably and necessarily incurred. 
393.	Sun Life has adduced evidence in the form of some 15 witness statements (from 9 witnesses) together with a very large amount of documentary evidence in support of its claim. The exposition of the claim was put forward in the witness statements of Mr Stephen Lewis, who is the head of Clifford Chance’s Financial and Economic Consulting Group. Although he is a qualified accountant I do not treat his evidence as expert evidence. It is plain however that he had marshalled a very large quantity of documents in order to identify, explain and vouch the sums that are claimed. 
394.	Under Clause VIII (a) Sun Life agreed not to take any action which in any way increased insurers’ exposure under the policy.
395.	Sun Life has an alternative claim under clause A (ii) under which it claims to be entitled to recover all costs “incurred by the assured as a result of any …review”, a claim which it contends does not require it to establish the necessity or reasonableness of the costs. I do not accept that. It is clear from the last line of Clause I A (iii) that that sub clause is dealing with Costs, Charges and Expenses which have to be reasonably and necessarily incurred. In any event if Sun Life had unreasonably or unnecessarily incurred costs those costs should be treated not as the result of the review but of Sun Life’s own decision unnecessarily and unreasonably to incur such costs. 
  The admitted sums
396.	The insurers admit that the following amounts are recoverable under the policy:
(a)	the amounts paid to PwC  together with irrecoverable VAT, totalling £ 4,188,808; and 

(b)       redress payments of £ 5,418,611; 

between them totalling £ 9,607,419.  Otherwise they make no admissions. They have called no evidence in relation to quantum. 

 “Reasonable and necessary …. expenses”
397.	I accept Mr Kealey’s submission that the requisite necessity and reasonableness relates to the engagement by Sun Life of D & T (or any other third party) to carry out work and the payment for it pursuant to those terms of engagement, particularly having regard to the fact that, since internal employment costs are excluded, the principal head of recovery in respect of expenses is likely to be the cost of employing third parties. An insured, when faced with a Claim such as this one, will have to decide, as time goes by, whether to engage third parties, and, if so, on what terms. He cannot recover if it was unnecessary or unreasonable to engage them at all. If the terms upon which he did so were unreasonable, he may not be able to recover all of their fees. But if it was necessary to engage them, and the engagement was on reasonable terms, he is entitled to recover unless he could and should have brought the engagement to an end, or limited its scope, or could legitimately have avoided payment, in whole or in part, e.g. on the ground of negligence or breach of contract.  If that conclusion involves any liberality in construction, which I doubt, such a construction is one that the relevant principles of interpretation enjoin. 
398.	The change in PBR methodology had the consequence that some (insurers say most) of D & T’s work was wasted. It does not follow that the cost of it is irrecoverable. The work was commissioned by Sun Life and had to be paid for unless there was a sound legal ground for not doing so. If the engagement was reasonable and necessary when effected, as I think it was, then, unless Sun Life could and should have curtailed it sooner and would have saved expense thereby, or should not have paid, or acted unreasonably in paying, for some or all of it, it is recoverable.  
399.	Although the claim has been put forward under the headings set out in paragraph 391 above it is necessary to deal with it initially by reference to a number of subject headings. 
  D & T costs (£1,493,135) pre-April 2002
400.	The insurers contend that they are not liable for D & T’s costs for this period because the work done was inappropriate, the methodology too complex and expensive, and the work done up until the end of March 2002 was largely wasted. 
401.	In the light of the PIA’s October 2000 Report Sun Life had to devise a methodology for carrying out a review. It was reasonable, and, given the requirements of the FSA, necessary to engage D & T, or someone like them. Sun Life acted reasonably in doing so. There is no basis for finding that the rates agreed were unreasonable or that the hours invoiced, all of which were recorded, checked and reconciled to the invoices, were not devoted to PBR work. 
402.	By March 2002 it had become apparent that changes were going to have to be made in the way in which the PBR was working. On 25th February 2002 Mr Paul Kingscott, the Operations Manager of Marlborough Stirling, produced a “Past Business Review Healthcheck”, the tenor of which was that there were a sizeable number of problems with the PBR. The document recorded that the extraction of the population for review had proved extremely problematic, had been delayed, and was still not complete. Reviews that had already taken place, far from establishing that certain types/categories of events could be excluded had shown that the bulk of these potential exclusions (and in particular the NAU first time passes) could not be excluded. As a result the expected scope of the work increased from 65,000 to 100,000 reviews . Noticeably the document recorded that, although the budget allocated to the project was £8,000,000, the Project Office regarded the overall cost estimates as being “no more than 25-500% accurate” . The report recorded a number of difficulties including (a) the problems of data extraction given that there were 12 legacy systems; (b) the project not being baselined; (c) the project was operating on a reactive/firefighting basis; (d) D & T had recently raised QA [quality assurance] concerns on the population identification work; (e) the project could not be accurately planned because there were too many unknowns and variables at key points. 
403.	As a result of spending a month reviewing the progress of the PBR Ms Fuller recorded, on 6th March 2002, her belief that the quality of the review was much higher than necessary.  On 20th March 2002 D & T made a presentation to her which reported on a number of problems. On 27th March 2002 she told D & T in a letter that their report confirmed her feelings that the methodology being implemented was significantly more rigorous and complicated than necessary: a view that she described in her evidence as one reached “very much …. with the benefit of hindsight”. Her concern was that Sun Life was being made to appear more non compliant than it truly was. She proposed a number of substantial changes including a complete redesign of the detailed implementation process. 
404.	The disturbing results from the project, including the fact that more cases were being identified as having to be reviewed, caused Mr Paul Derksen, Sun Life’s Worldwide Chief Financial Officer, to expostulate:
“Who has been responsible for managing this project so far (is this person still with us), when did they find out that the standard was inappropriate, why were they not on top of it from the outset …I can’t believe that this extreme level of mismanagement continues unabated”.
405.	As a result the methodology changed. No longer were sales events to pass through a series of sieves in order to reduce the total number of events to be reviewed, the cases were to be sampled by category of product and the products grouped into “red”, “amber” and “green”. 
406.	The insurers submit that, in those circumstances, an appreciable amount of the sums claimed cannot be justified and, since Sun Life have chosen to put forward an undifferentiated claim for the whole of D & T’s fees and since it is for them to demonstrate that the fees were reasonably and necessarily incurred they should not recover any of them. There was, they submit, no reason to pay D & T for this work in full  
407.	I do not accept that the pre-April 2002 D & T costs were not reasonably and necessarily incurred. When D & T, Sun Life, and the FSA, embarked upon the original methodology they did so in the belief that it would, whilst meeting the FSA’s concerns, minimise the number of events requiring review and thus keep costs down. When the methodology began to be implemented it became clear that it would need modification. But there is no basis for holding that it should have appeared, from the outset, to be a flawed and inappropriate exercise. Indeed it appeared to Ms Fuller, to be, in theory, “entirely logical and likely to concentrate the review on the higher risk cases, obviating the need for more extensive testing”. Nor (despite the fact that Sun Life thought that D & T had not been giving the project enough priority and had been doing a poor job) do I think that D & T had been negligent or in breach of contract. Having engaged D & T to do the work Sun Life had to pay them. It did not think that it had any ground not to do so and none has been established.  A discount of £49,000 was negotiated in respect of some early work. The evidence does not establish that a higher one could and should have been obtained.  
408.	Nor, despite Mr Derksen’s not uncharacteristic expostulation, do I think that the evidence establishes that Sun Life culpably failed to take action sooner than they did to procure a change of approach. Lastly I do not regard it as accurate to say that the pre-April 2002 work was completely or largely wasted. Some was in the sense that, if a simpler methodology had been used in the first place, the work would not have had to be done and the project would have gone forward faster. But much of it could be used in relation to the revised methodology.

 Contractor costs pre-April 2002 (£1,692,898)
409.	The insurers contend that these costs were not necessary and reasonable because they were wasted on account of the revised methodology. For essentially the same reasons as apply to D & T’s fees I regard these costs as recoverable. It was reasonable and necessary to engage the contractors to carry out this work, even if, with the benefit of hindsight,  the methodology was later changed; and, having done so, to pay them. To the extent that there was any wastage because of the change of methodology it was not the contractors’ fault. Mr Duff’s evidence was that much of the work they did was in fact of benefit to the PBR.  
D & T costs for the period April - July 2002 (£1,428,861)
410.	During this period Sun Life was expressing dissatisfaction with D & T’s work.  Mr Sowerbutts gave a very detailed response to that in a letter of 1st July 2002, to which Ms Fuller replied by a letter of 11th July 2002. The key complaints were that there was insufficient senior D & T management focus on the project and a lack of “pro-active advice and … forward-development of the methodology”, and that the project was proceeding too slowly. The work done by more junior staff was not the subject of criticism save for a concern that they were learning on the job.  The evidence does not, however,  establish that Sun Life would have been justified in refusing to pay D & T’s invoices. If Sun Life’s complaint of want of senior management attention had been dealt with earlier there would have been additional costs on that account.  The junior staff, of whom there was no criticism, had to be paid for. Ms Fuller, whom I found a reliable witness, made requests for a fee reduction, which she told me were “largely bluster” designed to get more senior management focus. The fact that she made these requests was appropriate and understandable; but it does not signify that there was a legal basis for withholding payment. She reckoned that, following her complaints, what she got from D & T was better than a discount and I see no reason to reach a different conclusion.  
  MSLPS	£12,402,788
411.	There was excluded from the definition of Cost, Charges and Expenses
“ (2) directors’ fees, salaries, wages, overhead or 
benefit expenses associated with directors officers or employees of the Insured Organisation, or …
	
412.	The policy provided the following further definitions:
“E    Insured(s) means the Insured Organisation and Insured Persons

F     Insured Organisation means:
	
(1)	the Parent Company;
(2)	 any Subsidiary, and
(3)	any Joint venture

G    Insured Persons means any past, present or future director, officer, employee ……of the Insured Organisation	

O	Subsidiary means .. any entity, at the Inception Date of this Policy, of which more than 50% of the outstanding securities … is owned or controlled by the Insured Organisation 

413.	The exclusions included the following:
III   Exclusions  	        Insurers shall not be liable to make any payment in 
	        connection with any Claim:

 F    against any of the Insured Persons of any 
       Subsidiary, or against any Subsidiary based upon,   
       arising out of, directly or indirectly resulting from 
       or in consequence of, or in any way involving any 
   Wrongful Act occurring subsequent to the date 
   such entity ceased to be a Subsidiary;

414.	Clause VII provided:
“VII	General Conditions

     Changes in Exposure

(B)   In the event any entity ceases to be a Subsidiary ..this Policy, subject to its terms, shall continue to apply to any of the Insured Persons of such Subsidiary with respect to Claims first made during the Policy Period for Wrongful Acts committed or allegedly committed prior to the time such entity ceased to be a Subsidiary.”
415.	The scheme of the policy is, therefore, that the insurers do not provide an indemnity in respect of, putting it broadly, Sun Life employment costs, or in respect of Claims against any company that was a Subsidiary at the inception of the policy (or any director or employee thereof) in respect of acts occurring after it ceased to be a subsidiary. But they do provide an indemnity to such a subsidiary and its employees in relation to acts committed before it ceased to be a subsidiary. 
416.	The insurers contend that, since MSLPS was a Subsidiary at the date of the inception of the policy, there can be no recovery in respect of the costs of its directors and employees. The point is not burdened with merit. The insurers do not suggest that it was unreasonable for Sun Life to outsource the running of the PBR. The method by which that outsourcing was organised was by the sale of a Sun Life subsidiary to MSG and by Sun Life contracting with that subsidiary. But it was effectively MSG that was providing the services, through its subsidiary. Sun Life could equally well have contracted with another company in MSG, which could then have employed the ex-Sun Life staff. MSG’s charges would have been the same. 
417.	Mr Kealey submits that it is important to note that Insurers agreed to indemnify the Insured for Loss i.e. Costs, Charges and Expenses incurred in the defence of any Claim not including the salaries and wages of “the Insured Organisation”. The Insured Organisation in this context must mean the Insured Organisation which is seeking an indemnity i.e. in the present case Sun Life. 
418.	I do not accept this. The reference to “the Insured Organisation” is to the combination of entities falling within the definition of Insured Organisation i.e. the Parent Company, any Subsidiary and any Joint Venture. If it were otherwise it would be easy for Sun Life (or any other Insured Organisation) to avoid the exclusion by ensuring that any employment costs were borne by a Subsidiary other than itself.  (Indeed, since following demutualisation it was Sun Life Services who became the employer, Sun Life did just that, although not with the object of avoiding the exclusion). This would be inconsistent with what appears to me the manifest purpose of the exclusion namely to preclude the recovery of employment costs incurred within the Sun Life group. 
419.	But I accept Mr Kealey’s further submission that Clause II D (1) does not exclude recovery of the employment costs of a company if it was not a Subsidiary at the time when those costs were incurred. Subsidiary is defined as an entity which, at the inception date of the policy, had the prescribed characteristics. If the words “at the inception date of the policy” are treated as always applicable to the definition then an entity which is a Subsidiary at the date of the policy will remain one for ever. No subsequent change of ownership can alter the fact that at the inception date it had those characteristics. But Exclusion III F and Clause VII.1 (B) plainly contemplate that an entity may cease to be a Subsidiary. It follows that, where those terms use the expression “ceased to be a Subsidiary”, Subsidiary cannot mean an entity which fulfilled the prescribed characteristics at the inception date . An entity which fulfilled those characteristics at that date can never cease to have done so. 
420.	 If that be so, and given that words of exclusion must be given a restricted interpretation, it is legitimate to regard the reference to “Subsidiary” in the definition of Insured Organisation as not always referring to an entity with the prescribed characteristics at the date of inception, and to treat the exclusion  from the definition of Costs, Charges and Expenses of directors fees, salaries and wages of employees of an Insured Organisation as referring to fee and salaries of employees of what was a Subsidiary at the time when those fees, salaries and wages were incurred. 
421.	I am fortified in that conclusion by two further considerations. There is nothing in the policy (other than the requirement that expenses must be necessary and reasonable) to preclude recovery in respect of outsourced work that could have been performed in house. That would seem to point away from a construction of the policy that makes the use of a Subsidiary purchased by a third party fatal to recovery when the same work done by the third party itself or another of its subsidiaries would not have that consequence. Secondly, if insurers are right, the exclusion would have the somewhat curious  consequence that the employment expenses of a company that was a subsidiary at the inception of the policy are permanently incapable of recovery, however many changes of its ownership or commercial activity there are thereafter.  
422.	If I am wrong on that, Clause II D only excludes recovery in respect of those of the MSLPS costs which constituted “directors’ fees, salaries, wages, overhead or benefit expenses associated with directors, officers or employees” of MSLPS. That exclusion would plainly cover the employee costs of              £2,340,216. Sun Life submits that the “overhead” expenses referred to must be those associated with directors, officers or employees. The insurers submit that, even if that is so, since MSLPS is a service company, all the overheads are so associated and that, if the exclusion bites, it eliminates all items of claim under the  MSLPS heading other than the sum of £5,473,104 for external contractors. In my view the exclusion must have the more restricted meaning that Sun Life gives to it.  In the light of my finding that the exclusion does not apply I do not propose to consider further exactly would fall to be stripped out under the exclusion, if it applied. It would include, but is not necessarily limited to, such of the mark up and overhead costs of £743,731 and £3,582,839 as are attributable to directors etc, such as the mark up and overhead percentages applied to employment costs, and the employee costs that are included in “Other costs”. 
  The Exchange rate 
423.	Clause VII.5 of the policy, and MGC 3,provides:
“Valuation and Foreign Currency

All premiums, limits, retentions, and other amounts under this Policy 
are expressed and payable in the currency of the United States of
America. Except as otherwise provided in any coverage section, if 
judgment is rendered, settlement is denominated or another element 
under this Policy  is stated in a currency other than the United States 
of America,  payment under this policy shall be made in United States 
Dollars at the rate of exchange published in The Globe and Mail on the date the final judgement is reached, the amount of the settlement is agreed upon or the other element is due, respectively”.
424.	Insurers submit that “another element” means or includes sums incurred by the Insured with a third party including any Cost, Charges or Expenses. These are to be converted from sterling into dollars at the date when the expenses were due. Sun Life contends that any conversion of expenses that they have incurred in sterling into dollars for the purpose of applying the deductible is to be effected at the rate applicable when judgement is given.  Since the dollar has fallen against the pound from something like $1.4/ £ 1 to something like   $1.8 or 1.9/ £1 the value of this point is in the region of $5,000,000.  The effect of insurers’ submission, if correct, will be that Sun Life has paid out in sterling amounts for which it has not received an indemnity and will recover an amount in dollars, or dollars converted into sterling, which will not produce a full indemnity in relation to its sterling loss.  
425.	I reject the insurers’ argument. The clause is intended to apply when judgment is rendered against the insured in favour of, or the Insured settles with, a third party, in a currency other than dollars. The insurers are then to pay under the policy the US dollar equivalent at the date of judgment or the date when the settlement monies are payable. Less clear is what is meant by the words  “another element under the policy is stated” in non US currency. These words clearly apply if the payment in question is the payment of a premium denominated in a non US currency. But they also extend, in my judgment, to Costs, Charges and Expenses which are incurred (and are thus stated) in sterling amounts. 
426.	Accordingly, under the policy the insurers were bound to make payment of the US dollar value of the sterling amounts at the dates when those amounts were due. Mr Kealey submitted that when MGC 3 spoke of “payment under this policy” it was concerned with payment to the Insured. I entertain some doubt as to whether that is so. The payment required by the policy is that the Insurer shall “pay on behalf of the Insureds” for Loss or for sums which the Insured shall become obligated to pay. Such a provision is consistent with the obligation of an indemnifier to hold the indemnified party harmless from loss by making payment to the creditor direct. If the Insured has incurred the cost and paid it, a subsequent payment in reimbursement constitutes a payment of damages for having failed to afford the indemnity provided by the policy: Chandris v Argo Insurance Co. Ltd. [1963] 2 Lloyd’s Rep 65. But whether MGC 3 relates to payment to third parties, or to payment to the Insured by way of reimbursement for what the Insured had paid, the insurers did neither of these things. After they had failed to do so the value of the dollar decreased. 
427.	In those circumstances Sun Life’s claim is, in the first place, to be calculated in dollars. It is in that currency that it should have been paid. Sun Life is prima facie entitled to the dollar value of its losses at the rate applicable when the sums it paid became due (“the date of loss exchange rate”).  But it is also entitled to claim compensation in respect of its exchange loss, i.e. the loss it will have suffered if insurers now make payment in dollars in respect of Sun Life’s sterling losses converted at the date of loss exchange rate. Such a payment will not put Sun Life into the position it would have been in if timely payment had been made in accordance with the policy, and will not provide it with a full indemnity against its insured losses. Those losses were all incurred in sterling. The facts (a) that Sun Life would incur losses in sterling; (b) that it would suffer loss if the insurers did not make timely payment in dollars at the date of loss exchange rate and the dollar thereafter declined against the pound; and (c) that the dollar might do so were all well within the contemplation of the parties when the policy was entered into. 
428.	In President of India v Lips Maritime Corporation [1988] A.C. 395 the House of Lords held that the English law principle, derived from London, Chatham & Dover Ry v S.E.Ry [1893] A.C. 429, that there can be no recovery of interest as damages for late payment of a debt, unless a claim can be made for special damages within the second limb of Hadley v Baxendale, does not apply to a claim to recover currency exchange losses as damages for such late payment.  So, in English law, even if MGC3 is to be regarded as giving rise to an obligation in debt, that would not be a bar to the recovery of exchange losses. If Sun Life’s entitlement is to damages by way of indemnity, then Sun Life must be indemnified in respect of such exchange losses in order to be made whole.  There is no evidence that the law of Ontario would produce a different result.
429.	The calculation of such exchange losses is not however without difficulty. Suppose (a) that the deductible was $500,000; (b) that Sun Life incurred losses in sterling of £1,000,000; and (c) that the date of loss exchange rate  was $1.5 to the £. If payment had been made in accordance with the policy Sun Life would have received (or had paid on its behalf) $1,500,000 – $500,000 = $1,000,000, which at $1.5/£ equals £666,666 If Sun Life now receives judgment for $1,000,000 and at the date of judgment the exchange rate is $2/£1 Sun Life will have received, in sterling terms £500,000. So its exchange loss is £166,666. That can be recompensed either by giving judgment in the sum of $1,000,000 plus $333,333 (£166,666 x 2) or giving judgment in the sum of £666,666.
430.	What cannot be done is either (a) to take the sterling loss (£1,000,000) and deduct from it $500,000 converted into sterling at the judgment date rate of exchange or (b) take the dollar equivalent of £1,000,000 at the date of loss exchange rate and deduct from it $500,000.  The former would give a recovery of £750,000 (£1,000,000 – [$500,000 ÷ 2 =] £250,000). The latter would give a recovery of $1,500,000 (£1,000,000 x 1.5) - $500,000 = $1,000,000, giving, at the exchange rate at judgment a recovery of £500,000. In the former case the insurers do not get the full benefit of the deductible that they would have obtained had they paid out when the loss occurred, because, although the loss is calculated in sterling, the deductible is not converted at the date of loss exchange rate. In the latter case the Insured is not fully indemnified or reimbursed in respect of his sterling loss, although the sterling value of the deductible will be less than it was at the date of loss.
  The detailed figures
431.	I am satisfied that (with the exceptions mentioned below) the amounts now claimed, as explained in Mr Lewis’ two statements, constitute costs necessarily and reasonably incurred and are recoverable. I regard it as inherently unlikely that Sun Life, with a $25,000,000 retention, and an insurance claim likely to be disputed to the hilt in respect of which a criterion of reasonableness and necessity applied, would consciously incur costs which in its view were either unnecessary or unreasonable. Whilst that is not determinative, it is a powerful indication, particularly in the absence of evidence to the contrary, that the costs claimed were both necessary and reasonable. Those costs were themselves monitored during the PBR by a steering group.
432.	For the purposes of consideration of the detailed figures it is now appropriate to take the figures set out in paragraph 391.
 D & T’s fees 	- £5,176,135
433.	The £5,176,135 figure consists of the £1,493,322 figure down to 30th March 2002 and a figure of £3,682,813 from April 2002 to February 2003 (included in which is the figure of £1,428,861 in respect of the period April to July 2002). It was not suggested that the rates agreed with D & T were unreasonable. Until 31st July 2002 D & T’s work was covered by the Tripartite Agreement, which the FSA had required. Thereafter D & T was necessarily involved in the implementation of stages 1 and 2 of the PBR under the modified methodology, and in the preparation of its reports of December 2002 and February 2003 (see paragraph 389). The amounts charged have been properly vouched and the fees were monitored at the time– as explained in Mrs Carr’s witness statements. I do not accept that the variance between D & T’s original budget and the fees in fact charged for the summer of 2002 was unaccountably high. Ms Fuller herself saw the invoices as they came in; and could see whether they properly represented the time that D & T personnel should be spending in the office in accordance with her work plan. The increase over the original budget in respect of the fees in the summer of 2002 was attributable to the greater attention of senior personnel for which Ms Fuller had been pressing and an increase in the rate of progress. The proposed budget for the summer of 2002 proved to be very accurate. 
  Contractors’ fees	 £7,834,454
434.	This sum comprises £2,361,350, which includes the £1,692,898 referred to in paragraph 409 above, in respect of contractors paid directly by Sun Life (“direct contractors”) and £5,473,104 being, almost exclusively, the amount of money paid by MSLPS to external contractors (“indirect contractors”).  The time sheets and invoices for every contractor engaged on the PBR have been provided to insurers. The invoices for every direct contractor are exhibited to Mr Lewis’ 1st statement as are the invoices for the 25 highest  paid contractors, direct or indirect, together with supporting documentation as to rates and hours worked. All these costs were monitored by Sun Life. 
435.	The direct and indirect contractors were largely the same people. When the administration of the PBR was transferred to MSLPS the contractors who had dealt with Sun Life were now re-engaged by MSLPS. The insurers submit that it was unreasonable for Sun Life to agree to arrangements whereby MSLPS could engage external contractors, who previously contracted with Sun Life direct, and then charge Sun Life not only their base cost but also the various mark ups which MSLPS applied to its base costs. This simply increased the cost to Sun Life, with no discernible benefit to it but considerable benefit to MSLPS. 
436.	The evidence of Mr Power of MSLPS was that he would expect a business that was taking all the risk to charge a mark up on fees such as those of the external contractors and that it was appropriate that revenue going through his balance sheet should attract a margin since MSLPS was, through Elaine Carr, managing the project. Ms Carr was for a time the PBR Project Manager, reporting to Ms Julie Houston, Sun Life’s legal director, who reported to Mr Hanby. Mr Hanby was Sun Life’s Finance Director from August 1999 until March 2001 and then its Chief Executive until October 2002.  However it was Mr Martin Endicott, who was engaged by Sun Life through his company, Telos Solutions Ltd, who managed the programme from November 2002 until June 2004.
437.	I regard the insurers’ contention as well founded. It does not seem to me to have been either necessary or reasonable to incur a liability to MSLPS to pay the same costs in respect of the same personnel as had previously billed Sun Life direct, plus all the other mark ups. In respect of these personnel MSLPS was taking no risk. There should accordingly be a reduction in the claim in respect of the mark up on those fees and the amount of the overheads associated therewith. 
   MSLPS costs except contractor costs 	£6,929,683
438.	These costs are the total MSLPS charges of £12,402,787 less the £5,473,104 in respect of external contractors referred to in paragraph 434. They can be divided into the following, using Mr Lewis’ terminology:

(a) Direct costs of  			£2, 720,904

	made up of

	(i)	Employee costs		£2,340,216

	(ii)	Chargebacks		(£  959,043)

	(iii)	Other direct costs 	 £  596,000

	(iv)	Mark-up 		          £  743,731

(b)  Overheads 			£ 3,582,939

(c)  Other direct costs 		£    625,840

439.	By “direct costs” Mr Lewis meant to describe costs solely relating solely to the PBR. In respect of these costs  Sun Life was charged a mark up. “Overheads” are the general overheads of MSLPS’ business together with a mark up. “Other direct costs” consist mainly of recharges of rent and rates, without mark up. 
  Direct costs 
440.	The employee costs of £2,340,216 are all recorded in the accounting records of MSLPS, booked to the PBR, as Mr Lewis has verified. The work done is described in the evidence of Mr Endicott and Mr Duff. The costs were monitored and checked at the time.  I am satisfied that there was no basis upon which Sun Life could or should have refused to pay these amounts. The negative (i.e. credit) item of chargebacks represents costs originally booked as relating to the PBT but in fact related to other projects. The other direct costs consist of 10 items - (i) Communications, (ii) Consultancy, (iii) Equipment Maintenance, (iv) IT Depreciation, (v) Miscellaneous, (vi) PBR Complaints, (vii) Printing & Stationery, (viii) Property, (ix)  Training, and (x)  Travel & Entertainment - all of which appear to me to represent costs necessarily and reasonably incurred.  Their nature is set out in Mr Lewis’ witness statements and in the underlying documentation (save for invoices of £500 or below) attached to Mr Lewis 1st witness statement. 
441.	The amounts claimed in respect of “Other direct costs” now take account of reductions for some doubtful items accepted as a result of further inquiries on the part of Mr Lewis (viz £12, 075 in respect of the fees of Hazel Carr Plc under consultancy costs, the nature of which cannot now be established;  £10,318 under Miscellaneous; and £1,220 under PBR Complaints). 
442.	In respect of “Consultancy” the insurers object to £5,361 being the cost of conveying an Irish actuary employed by Life Strategies Ltd, an MSLPS subsidiary from Heathrow to Basingstoke between December 2002 and July 2003.  They also object to a figure of £24,876 for “Equipment maintenance”. I am satisfied that these figures are sufficiently established to be recoverable, as is the case with the figure of £13,385 described as “IT depreciation” but which includes a number of computer licences and desktops.  
443.	The largest figure under “Other direct costs” appears under “Miscellaneous” in the sum (after adjustment) of £279,005. Most of that relates to “Chargebacks” when non-PBR staff of MSLPS, who worked on the PBR from time to time, had their services charged to the PBR for that work. In my view in the light of Mr Lewis’ evidence that item is sufficiently established. 
Mark ups		£743,371
444.	The mark-up of £743,731 (adjusted from the original figure so as to exclude items no longer claimed)   represents a mark up of 7.5% or 10% for the PBR and 17.6% for PBR complaints applied to those costs included within the claim after deducting the mark up associated with items that Sun Life no longer pursues.  
Overheads		£ 3,582,939
445.	Schedule 19 of the Run Off Services Agreement between Sun Life and MSLPS provided that:
"Past Business Review and Serps review to be charged
 at cost plus 7.5 per cent until pension review 
			complete, cost plus 10 per cent thereafter and when
			established a fixed cost per case can be determined.

            	 Costs exclude Deloitte & Touche fees paid by SLOC UK."

There was no definition of what was covered by “costs”. The question, therefore, arises as to whether “costs” extends only to what Mr Lewis subsequently termed “direct costs” or whether MSLPS is entitled to recover a sum in respect of its overheads. Mr Hanby’s evidence was that he thought that the mark up was intended to cover overheads. Mr Power of MSG  and Mr Jackson, an operations accountant employed by Sun Life, were quite sure that it was not, and that it was implicit in the arrangement that the mark up would be applied to both the direct and the indirect (i.e. overhead) costs. He explained that the cost and price modelling which MSG had shared with Sun Life made it clear that the 10% margin for which MSG was looking was on the total cost base, direct and indirect. 
446.	Whether that was so or not, an explicit agreement to that effect was made in December 2002. The result was as follows:
(a)	the direct costs were marked up by 7%, 10% or, in the case of PBR complaints, 17.6%, making the (now adjusted) figure of £743,731

(b)	a charge of 10% of the project revenues (direct costs plus mark-up)was used to represent MSG’s “central office” overheads; this was agreed between Edward Gardner, Sun Life’s finance director at  the time and MSG;
(c)	there was added to the “central office” overhead figure a number of specific overheads, apportioned, for the most part, as between PBR and other projects by reference to the percentage of MSLPS revenues  generated by the PBR, and a mark up applied to the resulting total, producing the total of                    £3,582.939.
447.	It seems to me that the costs to be charged, to which the mark up is to be added, should be taken to include overheads. An overhead cost is as much a cost as a direct cost. Overheads usually fall to be distinguished from direct costs because they relate to more than one project so that an apportionment has to be made as between different projects.  If “costs plus” does not embrace overhead costs these could only be recovered through the 7.5 – 10% mark up, a figure inherently inadequate for the purpose of recovering both overheads and profit.    
448.	The insurers submitted that Sun Life had in effect agreed that MSLPS could pile Pelion upon Ossa when billing them, since to every pound of direct costs there was to be added a mark up of 7.5%, 10% or 17.5% (for PBR complaints), as the case might be. There would then be an overhead charge. The apportionment of central office overhead charges, which was monitored by Mr Jackson at the time, was based, for the most part, on the PBR’s share of total revenues, including the mark up. There was then a mark up on the overheads. This, it was submitted was an unreasonable arrangement having the effect that for every £100 of direct cost MSLPS received and additional £67. I do not regard this arrangement as unreasonable. It is made to appear so by treating overhead costs as if they were not really costs at all. I accept that its effect is that an increase in direct costs charged to the PBR will lead to an increase in the proportion of the overheads borne by the PBR. But if, as I accept, the direct costs were reasonably incurred I do not regard this consequence as meaning that insurers are being required to pay for costs that were not reasonably incurred.  
Other costs	£ 625,840
449.	The principal element of these costs is a figure of £415,751 representing the rent, rates and other property costs for two properties (The Square and Southern Cross) recharged to Sun Life by MSLPS. These properties were rented by MSLPS and used for the purposes of the PBR. The sum now claimed includes a reduction of £45,771 which Mr Lewis has discovered may have been overcharged. The insurers contend that the arrangements in respect of the properties are circular and create an artificial charge. Sun Life rents its property to MSLPS who then charge it back to Sun Life. I do not accept this. The outsourcing to MSLPS was a bona fide commercial arrangement and, in those circumstances, there is nothing illegitimate in MSLPS renting property from Sun Life in order to carry out its PBR functions and charging Sun Life therefore. 
450.	The item – Elaine Carr secondment - £60,200 would not have been recoverable if I had taken a different view of the Costs, Charges and Expenses exclusion since she was an employee of MSLPS. That exclusion apart, the item is plainly recoverable. Ms Carr was a senior member of the PBR team.  The PBR bonus of £150,000 was paid to MSLPS for achieving the FSA’s target of 95% of redress offers by the end of October 2003, a deadline which was set after the conclusion of the ROSA. I am satisfied that it was reasonable  and necessary to incur this expense in order to secure the carrying out of the extra work necessary to meet the FSA imposed deadline of 95% offers of redress by the end of October 2003. 
Life Strategies fees	£379,054
451.	This sum represents the cost of actuarial assistance in the period from October 2002 to May 2004 in connection with the PBR, primarily consisting of calculations performed in order to assist Sun Life to calculate loss suffered by customers who had brought Sun Life products. Again I am satisfied that these costs were necessarily and reasonably incurred.
Credit Suisse fees	£10,137
452.	Credit Suisse managed a number of Unit Trust and ISA investments originally sold by Sun Life which were then transferred, before the PBR, to Credit Suisse, which was paid an annual fee of 1.5% of the value of the funds under management. £100,000 out of the £110,137 paid to Credit Suisse was the amount that Sun Life agreed to pay to Credit Suisse resulting from the cancellation of investments under its management as a result of the redress arrangements made in consequence of the PBR.  This sum, which amounts to a payment to Credit Suisse in respect of a possible breach of warranty claim, is accepted not to be recoverable. The remainder represents the cost of data extraction and administration fess incurred by Credit Suisse and their administration services arm ascertaining the proper redress payable to customers. That sum is recoverable. 

Sundry costs 		£20,028
453.	These are sundry items such as copying charges, software licences and stationery billed to Sun Life by MSLPS. The invoices in excess of £500 are attached to Mr Lewis’ first witness statement. I am satisfied that these items are recoverable.
Irrecoverable VAT	£1,127,515
454.	Mr Lewis’ 2nd witness statement explains the position in relation to irrecoverable VAT:
(a)	For the period to 31 May 2002, 24.32% of the VAT charged on invoices was irrecoverable. 
(b)	From 1 June 2002, all VAT charged by suppliers to SLUK was irrecoverable, following an amendment to the basis of partial recovery for SLUK. Whilst SLUK still retained a partially exempt basis, the activities relating to regulatory reviews were not considered to attract this basis.
(c)	After March 2003, MSLPS ceased to charge VAT on its invoices as the nature of the project had changed from a scoping exercise to evaluation and redress, which does not attract VAT.  From this point on, there is therefore no irrecoverable VAT element (because no VAT was added to invoices).
455.	The sum claimed is calculated taking account of the reductions in the principal amount of the claim that have been recognised since it was first put forward.  
Conclusion
456.	Accordingly, had I decided in Sun Life’s favour on liability, I would have awarded a sum calculated in accordance with the detailed conclusions set out above. The aggregate amount of the sums set out in those paragraphs appears to me, subject to any further observations from Counsel in the light of these conclusions, to be the £31,084,426 set out in the Summary attached to Sun Life’s closing submissions less (a) the mark up and overheads on external contractors engaged by MSLPS and (b) such sum as is necessary to ensure that the exchange loss calculation is carried out in accordance with paragraph 429. I would also have invited submissions as to the currency in which judgment should be given.   
457.	As it is I propose, subject to discussion with Counsel as to the precise form of the order, to declare, on the Claim, that the insurers are not liable to Sun Life under the policy and to dismiss the counterclaim.