Written by Martin P.J. Kratz, QC
We live in an age of escalating cybersecurity threats. Many intrusion threats are social engineering attacks, which seek to gain entry to an organization's computer systems via its personnel and not a hack to the computer systems. While not technical in nature these attacks can effect substantial harm on an organization and need to be taken as seriously as the technical attacks.
A classic risk mitigation step on every organizations checklist is to implement thoughtful internal controls with appropriate checks and balances to seek to prevent fraud.
Another classic risk mitigation step on every organizations cyber perils checklist is to consider securing adequate insurance to cover the specific kinds of computer security risks. A recent decision of the Alberta Court of Queen's Bench, The Brick Warehouse LP v. Chubb Insurance Company of Canada, 2017 ABQB 413 [The Brick], shows that one has to pay time and attention to what coverage an organization is actually securing and the limits to that coverage.
The facts in The Brick themselves tell a cautionary tale. In this case August 2010, a person made a telephone call to The Brick Warehouse, a furniture retailer, and spoke with the accounts payable department. The person claimed that he was calling from Toshiba and he claimed that he was new to the company, and sought some missing payment details. The Brick staff member, being helpful, sent a fax with the payment documentation to the fax number provided by the caller. A few days later the same person called again with the same story. This time the same Brick employee advised the caller to write to The Brick's lender to "set up address and update Toshiba's email addresses so he would receive electronic notification of payments". A few days later that same month a different Brick staff member in the accounts payable department received an email from a person claiming to be the Toshiba controller and advising that Toshiba had changed its bank from the Bank of Montreal to the Royal Bank. Account details for the new Royal Bank account were provided with the request that payments should now be made to the new account.
A few days later a person called The Brick's accounts payable department and spoke to the employee who had received the email from the "controller" and received confirmation of the transfer of the banking information. Internally Brick staff changed the banking account information for Toshiba in their system so that payments from The Brick's bank would be made to the new Royal Bank account.
The Brick staff merely followed existing protocols for changing account information but never independently verified the instructions with Toshiba either in respect of the request for the internal documentation or in respect of the instructions to change the banks and account details.
The Brick made 10 payments to the Royal Bank account totaling $339,322.22.
A few days later, September 3, 2010, when an individual contacted the accounts payable department claiming to be from Sealy Canada. They gave a story of Sealy changing banks and again provided a Royal Bank account number. However, it was the same account number associated with the "Toshiba" account and so could not be entered into The Brick payment system. A Brick employee followed up with the number in the Toshiba email and was told Toshiba and Sealy had merged.
The fraud was discovered September 10, 2010, when Toshiba followed up on its accounts receivables. An investigation was promptly conducted and no payments went to the "Sealy" Royal Bank account. The police were involved and The Brick was able to recover $113,847.18 of the fraudulently transferred funds.
December 6, 2011, The Brick made a claim under their Funds Transfer Fraud insurance policy to their insurer, Chubb, for the net loss, $224,475.14.
March 15, 2012, Chubb denied the claim on the basis that an authorized Brick staff member had given the instructions to its bank and those instructions were themselves not fraudulent.
The Alberta Court of Queen's Bench heard the case. Chubb's insurance policy provided coverage for "Funds Transfer Fraud by a Third Party" with the following policy language:
"Fund Transfer fraud means the fraudulent written, electronic, telegraphic, cable, teletype or telephone instructions issued to a financial institution directing such institution to transfer, pay or deliver money or securities from any account maintained by an insured at such institution without an insured's knowledge or consent."
The Alberta Court of Queen's Bench interpreted the requirement for coverage under the insurance policy to be for The Brick to prove that The Brick's bank transferred funds from The Brick's account by way of instructions from a third party impersonating The Brick. The Court found that coverage under the specific policy would not be available if The Brick knew or consented to the instructions given to its own bank.
The Alberta Court of Queen's Bench reviewed similar situations in the United States and considered how the U.S. Courts had considered this issue.
In Taylor & Lieberman v. Federal Insurance Company, 2017 WL 929211 (March 9, 2017, 9th Cir.), emails were sent to company staff who acted on them transferring money from the insured's account. The 9th Circuit Court considered fund transfer fraud policy language, similar to that in the instant case of The Brick (as the insurers were related parties). The 9th Circuit found such coverage "is inapplicable because T&L requested and knew about the wire transfers. After receiving the fraudulent emails, T&L directed its client's bank to wire the funds. T&L then sent emails confirming the transfers to its client's email address."
The Alberta Court of Queen's Bench noted in the case of The Brick, that it was plain that the funds had been transferred from The Brick's account and characterized the issue as "whether the funds were transferred under instructions from an employee who did not know about or consent to the fraudulent transactions."
The Alberta Court noted that in the Taylor & Lieberman case, "The emails were fraudulent. The court held that the insurer was not liable because the Taylor & Lieberman employee requested and knew about the transfers. Although the employee did not know that the email instructions were fraudulent, the employee did know about the transfers."
The Alberta Court decision in The Brick aligns with the 9th Circuit decision in Taylor & Lieberman and confirms that the specific policy coverage appears to be available where the instructions to the bank emanate from the third party or themselves are fraudulent and not, in this case, where the insured's instructions to its bank was authorized even though based on mistaken information based on the earlier fraudulent emails.
There are several important lessons from this case.
The Brick decision emphasizes that organizations should re-evaluate and reinforce internal safeguards against social engineering attacks on an organization and its computer systems. In The Brick case it is noteworthy to see how repeated contacts built up a more complete picture of The Brick's operations and procedures. Social engineering attacks of the kind in The Brick and in Taylor & Lieberman are simple attacks that rely on individual trust. Had internal staff been paying attention to the risks of what they were doing, they might have sought to confirm the instructions before a fraud occurred. Not only are thoughtful safeguards and controls important but there should also be effective training (including refresher training) of staff on what to watch for and that one need not fear to ask questions. Internal controls with appropriate checks and balances and training against social engineering attacks would include: not to deliver on requests from strangers; not to give the benefit of the doubt; and to be prepared to verify important instructions directly when given by apparently new contacts.
Another takeaway from these cases is that the insurance coverage in the field of cyber perils is evolving rapidly and careful analysis is required of your policy language and its coverage. The Global Legal post reported July 20, 2017, that Florian Heimann, of AIR Worldwide, speaking at Guernsey Finance's annual ILS Insight event in Zurich noted that insurers are still coming to grips with cyber risk as a relatively new peril and so risk models for these kinds of risk continue to evolve. What that means to policy holders is to carefully review the scope of policy coverage and ask detailed questions to assess if the coverage includes cover for the kinds of risks of concern to the organization. As social engineering attacks continue to grow assessing coverage for such risks should be reviewed with the organization's insurance broker.