HARRISBURG, Pa.-CIGNA Corp. will appeal a Pennsylvania appellate court ruling that vacates the state insurance commissioner's approval of CIGNA's reorganization, orders a trial-like hearing in the case for CIGNA policyholders and unshrouds a closely guarded actuarial report on the company.

But, CIGNA and the commissioner's office maintain the order does not nullify the reorganization. That position promises to muddle CIGNA's coverage litigation with policyholders in which the insurer argues policyholders must seek coverage from CIGNA's new runoff operation and not the CIGNA company that originally wrote the coverage.

Attorneys for CIGNA policyholders call the insurer's and department's interpretation of the Pennsylvania Commonwealth Court's March 5 decision "ludicrous."

Without regulatory approval, CIGNA could not have reorganized into an active operation for in-force business and a separately capitalized runoff facility for most of its liabilities, including 80% of the insurer's asbestos and environmental liabilities, they said.

At the same time, insurers-including American International Group Inc. and The St. Paul Cos. Inc.-that have opposed the restructuring are considering appealing the decision because the court found they have no legal standing in the case.

The insurers opposed the restructuring because of its potential ramifications on their financial interests in business deals with CIGNA.

The only portion of the 5-1 ruling that all sides agree on is that, because of her previous approval of the transaction, Insurance Commissioner Linda S. Kaiser is banned from presiding over new trial-like hearings.

The fallout of the decision for CIGNA on other regulatory and business fronts is mixed.

The decision means CIGNA has 30 days to either make a special as-yet unspecified deposit with Michigan insurance regulators to cover the liabilities of Michigan policyholders transferred to the runoff facility or challenge the order in federal court, said Michigan Insurance Commissioner D. Joseph Olson (BI, June 24, 1996).

The decision also will not deter two North Carolina agencies from their efforts to force CIGNA to allow North Carolina policyholders to decide whether they want their liabilities moved to the runoff facility, said Peter A. Kolbe, general counsel for the state's Insurance Department (BI, March 3).

A.M. Best Co., though, will not reconsider the active operation's A- rating based on the ruling, unless regulatory action is taken to force CIGNA to nullify its restructuring, said John Snyder, a senior vp in Best's property/casualty division. CIGNA restructured largely to obtain that rating so its active operation could attract quality business.

Standard & Poor's Corp. also will not review its BBB rating for CIGNA's domestic property/casualty insurance business at this time. The rating already reflects S&P's conclusion that there is no significant economic split between CIGNA's active and runoff operations because of the reinsurance coverage the active operation provides the runoff facility, said Alan Levin, managing director of S&P's Insurance Rating Service.

The ruling, written by Judge Dan Pellegrini, gives a group of CIGNA policyholders what they have been seeking since shortly after CIGNA announced its restructuring in October 1995: trial-like hearings at which the policyholders may cross-examine CIGNA officials and actuaries.

Perhaps even more important, the ruling also gives the policyholders access to the coveted Tillinghast actuarial report on the strength of the runoff facility's reserves.

CIGNA and the department assert that the report clearly shows that the facility could easily meet its liabilities, even under the most severe of 162 "stress tests" conducted on the facility's reserves and reinsurance agreements with the active operation.

But, they have refused to release the report, contending that it contains proprietary information about CIGNA and that it is part of the confidential materials the department generated during a financial examination of CIGNA.

Policyholders, though, suspect the report contains caveats about the financial strength of the runoff facility's reserves.

The court left the policyholders' most fundamental objection to the restructuring up to the new hearing officer to address. The policyholders contend the transaction constitutes a novation-which insurance regulations nationwide prohibit-because their policies were transferred from the insurer that originally wrote their coverage to two other companies without their permission.

CIGNA contends the policies were moved into the runoff facility through a series of mergers among subsidiaries, which does not require policyholder approval.

In the reorganization, CIGNA used a unique Pennsylvania corporate division law to split its Insurance Co. of North America subsidiary in two. CIGNA then allocated most of INA's liabilities to one segment and merged it and some other small CIGNA units to form a new company, which policyholders and some regulators have maintained was not a licensed insurance company. CIGNA then merged that new company into an existing licensed company in the runoff operation.

The other segment of the divided INA retained the company's 204-year-old name and remained in the active operation.

CIGNA maintains the runoff facility can cover its liabilities three times over. However, there is no parental financial guarantee to keep the runoff facility solvent if the facility's liabilities exhaust that financial protection.

Ms. Kaiser held three public hearings on the reorganization, but she allowed only 15 minutes of prepared testimony from each witness. She did not permit cross-examinations of witnesses. And, though various documents relating to the reorganization were made available to the plan's critics, the Tillinghast report was kept secret.

On appeal, the critics argued that Ms. Kaiser violated the state's Administrative Agency Law by not conducting trial-like hearings and not releasing the Tillinghast report. They also argued she should have recused herself from the case because she is a former senior counsel for CIGNA.

CIGNA and the department argued that the reorganization's critics have no legal standing to appeal Ms. Kaiser's order approving the reorganization. They argued that the order did not pose any immediate harm to the critics, and any future harm was purely speculative. As a result, the order was not an adjudication for the critics. Only parties to an adjudication can appeal it.

CIGNA and the department also maintained that amendments to the corporate division law do not require the department to hold trial-like hearings.

The court largely rejected CIGNA's and the department's arguments.

It ruled that the policyholders do not have to suffer an actual injury to gain legal standing to appeal the commissioner's ruling. That standing was created because the commissioner's order affected the policyholder's financial interests, the court ruled.

"This interest was created because policyholders have a particular interest in assuring that any division of the company with whom they originally obtained insurance will be able to carry out the responsibilities under the policies," Judge Pellegrini wrote.

Because the Insurance Department's decision is an adjudication for the policyholders, the department should have held trial-like hearings, the court ruled. It also should have made the Tillinghast report and other information supporting CIGNA's case available to the policyholders for that hearing, the court ruled.

The court also spelled out how the Insurance Department should have structured the hearing process. It said the department could have conducted public hearings to gather information that a deputy commissioner then could have used to render an initial determination on CIGNA's plan. That decision then could have been appealed to the commissioner, who should have issued a final ruling only after holding a trial-like hearing, the court said.

Without explanation, though, an Insurance Department spokes-woman said the decision "affirmed the appropriateness of the commissioner's substantive review of the transaction."

Indeed, she said the department is "fairly happy" with the order. But, "because of the impact this decision may have on other cases, we are exploring the basis for an appeal."

For the trial-like hearing the court ordered, Ms. Kaiser will have to appoint another adjudicator. The court did not directly address the conflict-of-interest issue created by Ms. Kaiser's previous employment with CIGNA. Instead, the court ruled that because of her earlier approval of CIGNA's reorganization, she "could be considered to have prejudged the matter," making her unsuitable to preside over the new hearings.

In a footnote, though, the court reviewed when adjudicators should recuse themselves from cases to avoid the appearance of impropriety.

Still, the department spokes-woman emphasized that the court did not adopt the CIGNA critics' argument that Ms. Kaiser should have recused herself.

CIGNA's critics will scrutinize the appointment Ms. Kaiser makes.

"I can foresee challenges to the person she selects," said CIGNA policyholder attorney John N. Ellison, a partner with Anderson Kill & Olick P.C. in Philadelphia. "It can't be anyone intimately involved with what has happened."

"The court's opinion was measured but very clear on what constitutes a fair hearing, and the department is as capable of reading those words as we are," said Florence Davis, vp and general counsel for AIG.

But, CIGNA's insurer opponents, which the court classified as reinsurers, do not have standing to appeal Ms. Kaiser's order because they are neither policyholders nor creditors, the court ruled. However, if INA's division harms their contractual rights, the reinsurers could challenge the reorganization in a separate court action, it said.

The insurers, though, say the order gives them an opportunity to jump back into the case because, in many instances, they participated with CIGNA on excess coverages or themselves were reinsured by CIGNA.

The court ordered the new adjudicator to determine whether each critic is a policyholder or a reinsurer.

"I think we're still in the game, but more critically, the policyholders are," Ms. Davis said.

Policyholders likely will not see changes in the company's property/casualty insurance structure anytime soon, which could spark additional litigation.

While the decision is appealed, "it's business as usual," a CIGNA spokesman said. "We'll continue to operate as duly authorized."

He said CIGNA maintains that authority because "what was overturned was the (commissioner's plan approval) order, not the restructuring."

"The court did not order CIGNA to reverse the transaction," the department spokeswoman agreed.

Policyholder attorneys said the ruling clearly reverses CIGNA's reorganization.

"What it vacated was the department's approval of the restructuring application. Without that approval, there is no restructuring," Mr. Ellison said. "This is not like Calculus III. This is like elementary algebra."

For policyholders, the court order "means we're right back to where we were before" CIGNA reorganized, with all policyholders having access to both the active and the runoff operations' assets, said Lawrence T. Hoyle Jr. of Hoyle, Morris & Kerr of Philadelphia. In addition to some CIGNA policyholders, Mr. Hoyle represents some insurers that oppose the restructuring.

The significance of that position will be played out in CIGNA's coverage litigation with policyholders across the country, said CIGNA policyholder attorney Robert L. Byer, a partner with Kirkpatrick & Lockhart L.L.P. in Pittsburgh. "I don't see how INA can get out of any case it was a defendant in" by arguing it has transferred its liabilities to the runoff operation, Mr. Byer said.

"In a coverage matter, I'd continue to go after the company that issued the policy," Mr. Ellison concurred.

Stock analysts in New York were not troubled by the decision.

Merrill Lynch & Co. Senior Vp Michael Frinquelli does not think CIGNA's reorganization will be rejected. Even if it is, CIGNA's improved financial performance over the past year likely would avert a Best downgrade, he said.

At least one broker executive, though, thinks some risk managers may be jittery about placing business with CIGNA if they have any concerns about the decision's potential impact on the company's future ratings. "I have a suspicion it will hurt them to a degree," said Robert Hilb Sr., chairman and chief executive officer of Hilb, Rogal & Hamilton Co. of Glen Allen, Va.