EDINBURGH, Scotland—A proposed runoff plan for Scottish Lion Insurance Co. Ltd. is in jeopardy after a Scottish court ruled in favor of a group of U.S.-based policyholders opposing the plan.

The move is likely to lend greater bargaining power to other U.S. policyholders involved in so-called solvent schemes of arrangement, in which solvent companies attempt to eliminate some liabilities through runoff, legal experts say.

The Sept. 10 opinion by Lord Glennie comes after the insurers' application to the Scottish Court of Sessions to sanction the plan, which would enable the solvent insurer to shed its liabilities and wind up the company.

Schemes of arrangement are U.K. court-approved mechanisms that have become increasingly popular as part of the insurance runoff and restructuring business, but the approach often is controversial when applied to solvent insurers, legal experts say.

Edinburgh-based Scottish Lion, which has been in runoff since 1994, held a remaining portfolio that contained short- and long-tail policies, including significant asbestos and pollution exposures, according to court documents. The company proposed a scheme of arrangement to its policyholders in October 2008.

But a group of U.S.-based creditors opposed the proposal, arguing it was unfair. The policyholders—including Goodrich Corp., ExxonMobil Corp., Textron Inc., ITT Corp. and Zapata Corp.—all had either general liability or general aviation insurance policies with Scottish Lion, according to Washington-based law firm Covington & Burling L.L.P, which represents the companies.

Under U.K. law, the English Companies Act 1985, scheme of arrangement advisers need the approval of at least 75% of creditors to proceed with the application for sanctioning. U.K. courts so far have sanctioned all but one deal, which involved a proposed solvent scheme of arrangement by British Aviation Insurance Co. Ltd.

But in his 34-page opinion, Lord Glennie said he did not think schemes of arrangement for solvent companies should be sanctioned unless creditors unanimously vote in favor of the proposals.

“In a situation where the company is sound financially, why should one group of creditors who might wish to enter into a commutation agreement with the company be entitled to force other creditors to participate against their will?” Lord Glennie wrote.

An attorney for the opposing creditors said the opinion supported the policyholders' concerns, but noted Lord Glennie's opinion was not yet the final word on the matter. Lord Glennie has scheduled another hearing for October, leaving the parties to “consider the court's opinion,” according to the decision, which leaves the status of the sanction unclear for now.

The opponents had argued that the scheme was fundamentally unfair because it sought to terminate “decades of valuable occurrence coverage under valid and binding contracts in the absence of extraordinary circumstances,” according to court documents.

“Essentially, the scheme, if it were sanctioned, would force the policyholders to accept a complete cancellation of their policy in return for a payment, which might not be adequate to meet their likely future liability risks,” said Ben Lenhart, partner with Covington & Burling.

Dan Schwarzmann, a partner in the London office of PricewaterhouseCoopers L.L.P. and scheme adviser to Scottish Lion, expressed dissatisfaction and said the opinion “results in creditor democracy being replaced by a single creditor veto, which simply cannot be what was intended” by the law. Scottish Lion “intends to appeal” any such final ruling, he said.

Legal experts say the opinion was “significant” because it could set a precedent affecting other schemes in the pipeline.

“There is a lot of divided opinion regarding solvent schemes, but there are certainly some who have been waiting for something like this to happen,” said Robin White, a senior associate in the insurance and reinsurance group of Addleshaw Goddard L.L.P. in London.

U.S. companies face significant long-tail liability exposures, in part because of the litigiousness of the U.S. tort system, and much of the related coverage is written in the London market, observers note.

The ruling likely will give rise to more opposition to solvent schemes by U.S. policyholders, who typically are the most vulnerable, said Julius A. Rousseau III, a partner with Herrick, Feinstein L.L.P in New York. “The concern for U.S. policyholders is really about the long-tail liability claims, and this type of arrangement basically shifts the risk of loss back to the company,” he said.

In an earlier ruling on the Scottish Lion case, a court paved the way for opposing creditors to organize by saying U.K. insurers and reinsurers pursuing a solvent scheme of arrangement must provide creditors with contact information on other creditors of the companies.