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Excess Carriers Have No Payment Obligation Where It Cannot Be Determined That Underlying Carriers Had Exhausted Their Limits of Liability
Kyle P. Barrett, Associate in the New York Office
Excess carriers had no payment obligation where conditions precedent in the excess policies’ attachment provisions had not been met and the underlying policies were not deemed to have been exhausted by full payment of the underlying limits of liability. JP Morgan Chase & Co., et al. v. Indian Harbor Ins. Co., et al., 2012 N.Y. App. Div. LEXIS 4627 (June 12, 2012).
Bank One Corporation (“Bank One”) purchased $175 million in “claims made” bankers professional liability insurance and securities action claim coverage for the period October 1, 2002 to October 1, 2003. The insurance was structured in a program of eight layers, consisting of a primary layer and seven excess layers.
In November 2002, actions were brought against Bank One and its affiliates in connection with their roles as indenture trustee with regard to certain notes issued by NPF XII, Inc. and NPF VI, Inc. (the “NPF Litigation”). JP Morgan Chase & Co. (“JP Morgan”) entities were also named as defendants in the NPF Litigation.
In 2004, while the NPF Litigation was pending, the Bank One entities were merged into the JP Morgan entities. Between February 2006 and March 2008, JP Morgan settled six actions that were part of the NPF Litigation for $718 million and sought coverage under the Bank One tower for the settlement amount. JP Morgan also settled with Federal Insurance Company (“Federal”), the sixth excess carrier providing $10 million excess of $140 million in coverage on the Bank One tower. The $17 million settlement covered Federal’s liability under the Bank One tower as well as claims under separate policies issued by Federal’s affiliate Executive Risk Indemnity under a separate program.
JP Morgan next filed a coverage action (the “Coverage Action”) against the insurers on the Bank One tower and subsequently entered into a $17 million settlement with Zurich Insurance Company (“Zurich,” providing $15 million in excess of $80 million in coverage on the Bank One tower) and its affiliate Steadfast Insurance Company (“Steadfast”). This settlement covered JP Morgan’s $15 million claim under Zurich’s policy as well as a $13.4 million claim against Steadfast under separate insurance covering separate litigation. JP Morgan subsequently dropped Zurich as a defendant from the Coverage Action.
Following the Zurich settlement, Twin City Fire Insurance Company (“Twin City”), the fourth excess carrier on the Bank One tower (providing $15 million in excess of $95 million in coverage) and Lumbermens Mutual Casualty Company (“Lumbermens”), St. Paul Mercury Insurance Company (“St. Paul”) and Arch Insurance Company (“Arch”) (the fifth excess carrier providing $30 million in excess of $110 million in coverage as part of a “quota share” apportionment of $10 million) and Swiss Re International SE (“Swiss Re,” the seventh excess carrier providing $50 million in excess of $150 million in coverage) moved for summary judgment.
Twin City asserted that JP Morgan could not establish the occurrence of express conditions precedent to coverage under Twin City’s policy, specifically, that the underlying policies must be exhausted by payment of loss. Swiss Re, Lumbermens, St. Paul and Arch also moved for summary judgment on similar grounds. In May 2011, the New York Supreme Court, New York County, granted the insurers’ motions. JP Morgan appealed to the New York Supreme Court, Appellate Division (the “Appellate Division”).
Illinois law was applied to the disposition of the summary judgment motions. The Appellate Division focused on the language of the Twin City policy’s attachment provision, which provided that liability “shall attach to [Twin city] only after the Primary and Underlying Excess Insurers shall have duly admitted liability and shall have paid the full amount of their respective liability.” The Appellate Division first noted that the first condition was not met because Zurich, the insurer directly beneath Twin City, did not admit liability when it settled with JP Morgan. Next, it was noted that the second condition of the Twin City’s policy’s attachment provision was not met because there was no allocation of the $17 million settlement between Zurich and Steadfast. Thus, there was no way to determine that Zurich paid the full amount of its policy under the Bank One tower.
The Appellate Division similarly held that the conditions precedent in the attachment provisions of the Lumbermens, St. Paul, Arch and Swiss Re policies had not been met. The Appellate Division relied on Great Am. Ins. Co. v. Bally Total Fitness Holding Corp., 2010 U.S. Dist. LEXIS 61553 (N.D. Ill. June 22, 2010) (excess coverage became available “only after all Underlying Insurance has been exhausted by payment of the total underlying limit of insurance”) and the Fifth Circuit’s reasoning in Citigroup Inc. v. Federal Ins. Co., 649 F.3d 367, 373 (5th Cir. 2011) (“settlement for less than the underlying insurer’s limits of liability does not exhaust the underlying policy”).
Relying on these decisions, the Appellate Division held that summary judgment was properly granted because the combination of JP Morgan’s settlement with Zurich and Steadfast “preclude any determination of whether Zurich’s policy limits were reached as required by the policies issued by Twin City, Lumbermens, St. Paul, Arch and Swiss Re.” The Appellate Division also held that JP Morgan’s settlement with Federal and Executive Risk Indemnity had the same effect on Swiss Re’s liability because there was no allocation of settlement between the two underlying carriers.
The Appellate Division also dismissed JP Morgan’s reliance on the Second Circuit’s decision in Zeig v. Massachusetts Bonding & Ins. Co., 23 F.2d 665 (2d Cir. 1928). The Appellate Division distinguished Zeig stating that the Zeig court had found the attachment provision providing for payment by an excess carrier “only after all other insurance herein referred to shall have been exhausted in the payment of claims to the full amount of the expressed limits of other such insurance” to be ambiguous because “payment” could refer to the satisfaction of a claim by compromise or in other ways. The Appellate Division found the Twin City attachment provision to be distinguishable because of its requirement that the underlying carriers admit liability and pay the full amount of their respective limits of liability. Additionally, the Appellate Division found the other insurers’ policies to be unambiguous.
The Swiss Re policy’s attachment provision was also analyzed. The provision provided that the Swiss Re policy shall “if erosion be partial, pay the excess of the reduced Underlying Limit(s) of the Policy(ies) of the Underlying Insurer(s)[.]” Applying the reasoning of Qualcomm, Inc. v. Certain Underwriters at Lloyd’s, London, 161 Cal. App. 4th 184, 73 Cal. Rptr. 3d 770, 772-73 (Cal. Ct. App. 2008) (rejecting notion that underlying policy is exhausted where underlying insurer settles for amount below primary limits and absorbs resulting gap between settlement and primary limit), the Appellate Division rejected JP Morgan’s argument that the Swiss Re policy exhausted.
The Appellate Division affirmed the ruling of the New York Supreme Court, New York County, granting the summary judgment motions of Arch, St. Paul, Twin City, Lumbermens and Swiss Re and dismissing JP Morgan’s amended complaint against them with prejudice.
Tressler Comments: This case follows a string of cases, including CitiGroup and Qualcomm, which decline to follow Zeig. In Zeig, the Second Circuit interpreted an exhaustion clause to mean that exhaustion of an underlying policy could be accomplished in ways other than by full payment of the policy’s limits. Here, the court found Zeig inapplicable and interpreted the attachment provisions at issue to require the underlying insurance to be exhausted by payment of loss before excess coverage could be triggered.
Appeals Court Finds Dishonest Acts Exclusion Does Not Preclude Coverage for Entire Action; Confirms Professional Liability Policy Does Not Cover Contract Claims
Paul S. White, Partner in the Los Angeles Office
A California Appellate Court addressed whether coverage exists under a professional liability policy for two class actions against health insurer, Health Net, and its various subsidiaries (“Health Net”). The class actions were based upon allegations that Health Net had failed to properly reimburse its insured for medical bills and that it used databases that were systemically flawed to determine the usual, customary and reasonable charges (“UCR”) for out-of-network (“ONET”) services. The Appellate Court reversed and remanded the trial court’s ruling, which had been in favor of Health Net’s four professional liability insurers. Health Net, Inc. v. RLI Ins. Co., et al., 206 Cal. App. 4th 232 (Cal. App. 2d Dist. May 22, 2012)(modified June 12, 2012).
The California Court of Appeal, Second Appellate District, found that Health Net was not entitled to coverage for its own failure to pay claims that it was contractually obligated to pay, due in part to its own dishonest act; nevertheless, the Appellate Court reversed the trial court’s ruling in favor of the insurers and remanded the case, holding that non-contract claims potentially existed and that the dishonest act exclusion did not preclude coverage for the entire action against Health Net. Consequently, the Appellate Court determined that Health Net is entitled to pursue reimbursement for certain, limited claims for defense or indemnity not otherwise precluded from coverage.
Health Net brought suit against its primary insurer, American International Specialty Lines Insurance Company (“AISLIC”), as well as its three excess insurers, Executive Risk Specialty Insurance Company (“Executive Risk”), RLI Insurance Company (“RLI”), and Certain Underwriters At Lloyd’s London (“Lloyds”). Health Net sought a declaration that the insurers were obligated to defend and indemnify it in the underlying class action lawsuits filed against it and certain of its subsidiaries.
The underlying class actions were similar. In one suit, Zev and Linda Wachtel, on behalf of their minor son, Tory (collectively “Wachtel”), alleged that Health Net only reimbursed them for $14,000 for the $42,000 in ONET medical bills that their son had incurred. The plaintiffs further alleged that Health Net used a database to determine UCR charges that was systemically flawed. The plaintiffs asserted causes of action for failure to pay claims owed, breach of fiduciary duty, breach of contract pursuant to Employee Retirement Income Security Act of 1974, and claim adjustment misconduct.
The second class action was brought by Renee McCoy (“McCoy”). McCoy alleged that the Health Net databases for determining UCR charges were systematically flawed for ONET services.
The Wachtel and McCoy class actions were consolidated for trial in New Jersey. In sum, the allegations against Health Net were categorized as: (a) allegations relating to adjustment of out-of-network claims; and (b) allegations relating to ERISA obligations.
After the lawsuits were brought against Health Net, the New Jersey Department of Banking and Insurance conducted an investigation into the allegations against Health Net and concluded that Health Net had used outdated databases and that it concealed its use of these databases from the investigators. Health Net entered into a consent order with the New Jersey Department of Banking and Insurance whereby Health Net agreed to make the necessary repayments relating to claims from July 2001 onward and to pay a $60,000 fine.
After the investigation, the New Jersey federal court held an integrity hearing to evaluate whether Health Net had appropriately complied with its discovery obligations. The New Jersey federal court sanctioned Health Net for its discovery misconduct, and as a sanction deemed these specific facts admitted: (1) Health Net knowingly and willfully used outdated data; (2) Health Net officials took action to hide the full scope of its conduct from the New Jersey Department of Banking and Insurance; and (3) Health Net presented false claims of “recent discovery” of malfeasance in an effort to avoid injunctive relief. The Appellate Court referred to the federal court’s opinion as “blistering,” and quoted extensively from it, noting Health Net’s underlying strategy of a “concerted war to waste huge time and resources of Plaintiffs,” Health Net’s “discovery abuses,” Health Net’s ignorance of court orders, “pattern of delay,” “lack of candor,” and “waste of judicial resources.” 206 Cal. App. 4th at 244, fn. 11.
Following the New Jersey Department of Banking and Insurance investigation and the order from the New Jersey federal court arising from the integrity hearing, Health Net settled the class actions for $215 million, including attorney’s fees.
Before it settled the class actions, Health Net brought a declaratory relief action against its professional liability insurers in California. Health Net sought a declaration that the insurers were obligated to defend and indemnify it in more than 20 underlying actions, including the consolidated class actions.
During the course of the trial court proceedings, Health Net’s professional liability insurer brought a motion for summary judgment based upon a policy exclusion for dishonest acts. The trial court granted summary judgment based upon the application of the dishonest acts exclusion.
The California Court of Appeal, Second Appellate District, subsequently reversed the trial court’s decision and remanded the case for further proceedings. Notwithstanding the reversal, however, the Appellate Court’s opinion is generally in favor of the insurers.
The Appellate Court primarily began its analysis with the simple statement that the professional liability policies covered wrongful acts and excluded dishonest acts. In this context, it then focused on issues related to Health Net’s contractual obligations, the scope and limitations of a professional liability policy’s dishonest acts exclusion, and whether coverage may be based upon a claim for attorney’s fees if there is otherwise not a covered wrongful act under the policy.
In addressing claims for contractual liability, the Appellate Court’s opinion acknowledged that the majority of the claims against Health Net set forth in the class actions were for the recovery of policy benefits. The Appellate Court found that Health Net had a contractual obligation to pay its plan participants the benefits Health Net contracted to pay under their health plans. The Appellate Court held that a claimant’s cause of action to recover such costs cannot be passed on to Health Net’s liability insurers simply because Health Net may have committed a wrongful act in its failure to pay the claims. 206 Cal. App. 4th at 253. The Appellate Court’s analysis states in part:
“[A]n insured’s alleged or actual refusal to make a payment under a contract does not give rise to a loss caused by a wrongful act.” (August Entertainment, Inc. v. Philadelphia Indemnity Ins. Co. (2007) 146 Cal.App.4th 564, 578 [52 Cal.Rptr.3d 908].) “As noted in a leading treatise: ‘professional liability policies often contain an exclusion for “[a]ny ‘claim’ arising out of a breach of contract, or out of liability assumed under any contract or agreement.” Even in the absence of an express exclusion, courts have held that a claim alleging breach of contract is not covered under a professional liability policy because there is no “wrongful act” and no “loss” since the insured is simply being required to pay an amount it agreed to pay.’ [Citation.]” (Id. at p. 579.) That is to say, regardless of whether HN [Health Net] committed any wrongful act in its use of the Ingenix databases, its use of outdated databases, and its non-Ingenix adjustment misconduct, the fact remains that HN was contractually obligated to pay its participants and beneficiaries the full benefits to which they were entitled under their health plans. These costs cannot be passed on to HN’s insurers simply because HN may have committed a wrongful act in its failure to pay them. [fn omitted.] In short, “[p]erformance of a contractual obligation . . . is a debt the [insured] voluntarily accepted. It is not a loss resulting from a wrongful act within the meaning of the policy.” (Id. at pp. 581-582.)
Notwithstanding this conclusion, the Appellate Court recognized that there were allegations which created a potential for coverage outside of a contractual obligation. For example, the Appellate Court, in analyzing the allegations against Health Net, recognized that the breach of contract cause of action sought to recover benefits due under the plan. The Appellate Court agreed that to the extent the cause of action seeks damages, “it largely seeks the benefits due under the plan.” 206 Cal. App. 4th at 254. However, the Appellate Court found that it may seek additional damages and noted there were claims that Health Net should be required to pay a medical provider’s “actual charge,” and that to the extent such damages exceeded the benefits contractually due, such relief is “in excess of contractual damages, which is potentially covered by the policy.” 206 Cal. App. 4th at p. 255. Another example included the Appellate Court’s determination that a cause of action seeking compensatory damages for compensatory damages for “disclosure violations” could potentially fall outside the scope of a contractual obligation and within the scope of coverage. Id. at p. 256.
The Appellate Court found that the trial court erred
in holding that a “Claim” as utilized in the professional liability policy applied to the entire lawsuit against Heath Net. Consequently, the Appellate Court held that the trial court’s conclusion that Health Net’s dishonest acts exclusion precluded Health Net from recovering anything from its professional liability insurers was in error. In sum, the Appellate Court found that the trial court erred in applying the dishonest act exclusion to preclude Health Net’s recovery of defense or indemnity expense which was unrelated to the dishonest acts. The Appellate Court stated “we necessarily conclude that the word ‘Claim’ in the policy refers to a claim for relief in an underlying lawsuit, rather than the entire lawsuit. The Appellate Court further concluded that claims for coverage could not be bootstrapped onto claims for attorney’s fees if the claims for attorney’s fees were premised on uncovered claims. In turn, however, the Appellate Court found that a claim for attorney’s fees could be covered if it otherwise arose from covered wrongful acts.
The Appellate Court also addressed the scope and limitations of the dishonest acts exclusion. The Appellate Court disagreed with the trial court’s conclusion that the dishonest acts exclusion precluded coverage for the claims against Health Net. While the Appellate Court agreed that the dishonest acts exclusion applied to preclude coverage for any defense or indemnity that arose out of the dishonest act, the Court concluded that not all the claims in the consolidated class actions arose out of dishonest acts. Consequently, the Appellate Court held that the dishonest acts exclusion did not preclude coverage for the entirety of the potentially covered claims, and remanded the case to the trial court for further proceeding in which Health Net would be allowed to pursue recovery of defense and indemnity expense for potentially covered claims. While the dishonest act exclusion might preclude coverage for claims relating to Health Net’s willful use of outdated data, the Appellate Court determined that the exclusion did not preclude coverage for other claims alleging systematic flaws in the databases and misconduct unrelated to the databases. As an aside, it is worth noting that the insurance policy included a provision that replaced the duty to defend in the policy with a duty to reimburse provision. Consequently, the Appellate Court held that a finding of a dishonest act would preclude coverage for any Health Net claim for reimbursement of any defense costs to the extent the claim arose out of the dishonest act.
Tressler Comments: The Health Net opinion supports the absence of coverage for breach of contract claims under professional liability policies, irrespective of whether the policy contains a contractual liability exclusion or an exclusion for claims arising out of breach of contract. However, the Appellate Court’s analysis makes fine distinctions in segregating claims for contractual benefits covered under the Health Net policy and claims for recovery of benefits the claimant alleges it is entitled to but that may ultimately not be covered under the Health Net policy.
Similarly, the Appellate Court’s application of the dishonest acts exclusion accepts and applies the exclusion to the specific findings of dishonest acts. Nevertheless, the Appellate Court then evidences a willingness to engage in the segregation of individual acts and the parsing of a lawsuit into discrete Claims. For example, despite allegations that may be related to dishonest acts as a whole, the Appellate Court found that individual acts may potentially include individual actions that have origins outside of Health Net’s dishonest acts and, consequently, form the basis for a separate Claim, notwithstanding the exclusion’s application to any Claim “arising out of or alleging any . . . dishonest or fraudulent act, error or omission of any Insured.”
Insured’s Failure to Comply With Policy Reporting Conditions Precludes Coverage Under E&O Policy
Ashley Conaghan, Associate in the Chicago Office
There was no coverage under an E&O insurance policy for a claim first made prior to the inception of one policy period and the insured failed to report the claim during the earlier policy period, according to a Missouri appellate court. Notice of the plaintiff’s state administrative proceedings constituted a “Claim” under the E&O policy. Lisa Grissom v. First National Insurance Agency, et al., No. SD31400, 2012 Mo. App. LEXIS 683 (Mo. App. May 16, 2012).
The insured, an insurance broker, hired the plaintiff in January of 2005. In July 2005, the plaintiff sent a letter to the insured’s owner and president (hereinafter “the insured”) accusing him of sexual harassment, demanding that his behavior stop, and threatening future litigation. After the insured fired the plaintiff in January 2006, she filed a complaint with the Missouri Commission on Human Rights (MCHR) accusing the president of wrongful discharge and retaliation. MCHR sent the insured notice of the complaint in May 2006. The plaintiff also filed a discrimination charge against the president with the MCHR and the Equal Employment Opportunity Commission (EEOC), and the agencies sent the insured notice of the charges in August 2006.
In October of November 2006, the insured unsuccessfully attempted to settle the matter with the plaintiff. In January 2007, the agencies sent the plaintiff her right to sue letters with a copy to the insured.
After the plaintiff filed suit in April 2007, the insured sought coverage for the suit under an Insurance Professionals Errors and Omissions liability policy. The insurer denied coverage as the claim was first asserted before the renewal policy period (Policy B) and the insured failed to report a claim within 60 days after the initial policy’s expiration (Policy A). After the plaintiff was awarded approximately $215,000 against the president, she filed a garnishment action against the insurer to satisfy the judgment.
The parties cross-moved for summary judgment, and the trial court granted summary judgment in favor of the plaintiff. The trial court held that the MCHR and EEOC charges in 2006 did not constitute a “Claim” that the insured was required to report because no actual findings were made. The trial court reasoned that a lawsuit is a “Claim” and that there was no “Claim” until the plaintiff obtained the right to sue letters.
On appeal, the insurer argued that there was no coverage under Policy B because the president had knowledge of the plaintiff’s claim prior to the inception of the policy. The insured argued that the administrative complaint was not a “Claim” to be reported because no damages were awarded and the agencies did not enter any findings.
The Missouri Appellate Court rejected the insured’s argument. The Missouri Court found that Missouri case law upheld condition precedents which precluded coverage if the insured had some knowledge of a potential claim prior to the inception of the policy period. The Court found that the 2006 notices of discrimination charges filed with the state agencies provided the insured with knowledge of a possible claim and he had that knowledge when he completed the renewal application.
The Appellate Court disagreed with the trial court’s ruling that the notices of the administrative proceedings did not constitute a “Claim.” The Court held that administrative proceedings fell within the policy’s definition of “Claim,” and that this definition included proceedings where the agency did not yet make any fact-findings or award any damages.1 The Court also noted that the process for a discrimination claim starts with an administrative complaint before a lawsuit could even be filed per the state’s employment statute.2 Accordingly, the administrative proceedings in 2006 constituted a “Claim” that the insured was required to report under the notice conditions. Because the “Claim” existed prior to the inception of the policy and the insured failed to timely report the “Claim,” the insured failed to comply with the policy’s conditions and there is no coverage. Therefore, the Court reversed the trial court’s decision and entered summary judgment in favor of the insurer.
1. The insurer’s definition of “Claim” provides, in part:
“Claim” means written or oral notice presented by:
1. Any employee, former employee, leased worker, temporary worker, or applicant for employment by you; or
2. The EEOC or any other federal, state or local administrative or regulatory agency on behalf of such person in
item 1. above;
that the Insured is responsible for damages as a result of injury arising out of any employment practice.
Claim includes “any civil proceeding in which either damages are alleged or fact-finding will take place, when either is the
actual or alleged result of any employment practice to which this insurance applies.”
2. The Court also rejected the insured’s attempt to obtain coverage through the retroactive date. The insured argued that the policy provides coverage for a Claim first reported after the retroactive date. The Court held that the retroactive date provided coverage for claims first made during the policy period based on employment acts which occurred on or after the retroactive date. Thus, the retroactive date applies to employment practices and not to claims.
Tressler Comments: Although complaints filed with administrative agencies may often be precursors to lawsuits, the Missouri Appellate Court focused on the policy’s definition of a “Claim” to analyze whether the insured owed a reporting obligation. The policy’s definition of a “Claim” inherently affects the scope of the notice condition and the claims that the insured would be required to report. When presented with notice or claim-reporting issues, it is crucial to closely analyze the timing of events and the definition of a “Claim” in order to determine whether the insured complied with the notice condition.
No Coverage Under Lawyers Professional Liability Policy Where Insured Attorney Was Not Rendering Services in the Capacity as a Lawyer
Kathryn A. Formeller, Associate in the Chicago Office
There was no duty to defend or indemnify under a lawyers professional liability insurance policy for a complaint that failed to allege that the insured attorney rendered services as an attorney in the sale of real property. Rissman, Barrett, Hurt, Donahue & McClain, P.A., et. al. v. Westport Ins. Corp., 2012 U.S. App. LEXIS 10607 (11th Cir. May 25, 2012).
In July 2009, David Popper (“Popper”) was an attorney employed by Rissman, Barrett, Hurt, Donahue & McLain, P.A. (“Rissman”). Kingsland Land Holdings, LLC (“Kingsland”) filed a complaint against Popper for his participation in the sale of a piece of real property in Kingsland. In its complaint, Kingsland alleged that Popper “was acting as a real estate broker at the time when [he] was not licensed to so act” and that he misrepresented material facts regarding the property. At the time of the alleged misconduct, Rissman had a lawyers professional liability policy issued by Westport Insurance Corp. (“Westport”).
The policy provided that Westport “shall pay on behalf of any INSURED all LOSS in excess of the deductible which any INSURED becomes legally obligated to pay as a result of CLAIMS first made against any INSURED … by reason of any WRONGFUL ACT …” The policy defined “WRONGFUL ACT” as “any act, error, omission, circumstance, PERSONAL INJURY or breach of duty in the rendition of PROFESSIONAL SERVICES for others.” The policy defined the term “PROFESSIONAL SERVICES” as “services rendered to others in the INSURED’S capacity as a lawyer, and arising out of the conduct of the INSURED’S profession as a lawyer …”
In August 2009, Rissman notified Westport of the lawsuit filed against Popper. Westport denied coverage claiming that the suit did not arise out of “Professional Services.” In March 2010, Rissman requested that Westport reconsider but Westport refused. In June 2010, Rissman and Popper filed suit seeking damages for breach of contract as well as declaratory relief. The U.S. District Court for the Middle District of Florida granted summary judgment in favor of Westport, holding that there was no coverage for the underlying lawsuit and no duty to defend.
On appeal, the Eleventh Circuit Court of Appeals affirmed, finding that the allegations in the underlying lawsuit did not arise from “Professional Services” rendered by an attorney, as required to constitute a “Wrongful Act.” The Court pointed out that Count II of the complaint repeatedly identified Popper as an unlicensed real estate broker. Count II also alleged that Popper received a commission for the sale of the property and that at the time that he received the commission, he “was not acting in his professional role as an attorney at law.”
Rissman and Popper argued that the Court should follow the Third Circuit Court of Appeal’s decision in Westport Insurance Corp. v. Bayer, 284 F. 3d 489 (3d Cir. 2002), where the Third Circuit construed a similar policy and found there was coverage. The Court rejected Rissman and Popper’s argument finding that Bayer was distinguishable as the Third Circuit found that the insured in Bayer was “holding himself out as an attorney” when he promoted a fraudulent investment scheme. In this case, the underlying complaint focused on Popper’s alleged decision to act as an unlicensed real estate broker and the misrepresentations he made were in the course of that conduct. Further, the underlying complaint contained no allegations that Popper was acting as an attorney. Accordingly, the Court affirmed the district court’s holding that there was no coverage under the policy.
Tressler Comments: Deciphering allegations in a complaint and determining whether they fall within the scope of professional services, particularly when lawyers are involved, can be tricky. Often, courts find some allegation of conduct, even where dual capacities are alleged, that would constitute legal services and trigger coverage under an LPL policy. Here the allegations were very clearly limited to the attorney’s conduct in serving as an unlicensed real estate broker. The Court made it clear that coverage only extends to actions undertaken in the insured’s capacity as a lawyer, not to actions undertaken in any other capacity.
Broad Application of “Arising Out of Breach of Contract” Exclusion Affirmed Under an E&O Policy
Linda Tai Hoshide, Partner in the Los Angeles Office
A federal appeals court dismissed with prejudice the claims by North Plainfield Board of Education (the “Board”) against an insurer that issued an E&O Policy to the Board, rejecting the Board’s arguments that National Union Fire Insurance Company (“National Union”) was obligated to pay up to an aggregate limit of $100,000 for each of the three underlying actions. The U.S Court of Appeals for the Third Circuit adopted the reasoning set forth in the District Court’s prior opinions in North Plainfield Board of Education v. Zurich American Ins. Co., et al., 2008 U.S. Dist. LEXIS 39555 (May 15, 2008) and North Plainfield Board of Education v. Zurich American Ins. Co., et al., 2011 U.S. Dist. LEXIS 27718 (March 17, 2011.). North Plainfield Board of Education v. Zurich American Ins. Co., et al, 2012 U.S. App. LEXIS 9999 (3d Cir. May 7, 2012).
The Board originally filed a breach of contract action against Zurich American Insurance Company (“Zurich”), which filed a third-party complaint against National Union Fire Ins. Co of Pittsburgh, P.A., seeking a declaration regarding its duty to defend. The Board later amended its complaint to also add National Union as a defendant, seeking a judgment declaring that National Union must: (1) indemnify it against the non-breach of contract claims asserted in two underlying actions; (2) pay unlimited defense fees and costs with respect to the non-breach of contract claims asserted in the two state court actions; and (3) pay defense fees and costs for the breach of contract claims up to an aggregate limit of $100,000 for each separate breach of contract claim.
One of the two underlying actions concerned a breach of contract and fraud dispute between the Board and its contractor involving a construction bid for a $30 million project to renovate and expand five schools. The other underlying action involved a breach of contract, quantum meruit, breach of good faith and fair dealing, and unjust enrichment dispute between the Board and an electrical contractor for the same renovation project. The third underlying action involved a dispute between the surety, which issued post performance and payment bonds for the renovation project, and the Board regarding takeover agreements. This third dispute also alleged breach of contract and breach of the duty of good faith and fair dealing.
The Board filed a summary judgment motion against National Union arguing that National Union wrongfully refused to indemnify the Board against the non-breach of contract claims and that National Union had also wrongfully refused to fully defend by incorrectly alleging that the underlying actions only allege breach of contract. The Board acknowledged that the National Union policy contained an exclusion for claims “arising out of breach of contract.” However, the Board argued that the claims for breach of duty of good faith and fair dealing claims and quantum meruit asserted against the Board in the underlying actions did not arise out of breach of contract.
National Union asserted that the underlying actions all arose out of the contractual or quasi-contractual relationships between the Board and the underlying plaintiffs and therefore the “arising out of breach of contract” exclusion precluded coverage. However, National Union acknowledged that it was required to defend such claims up to an aggregate limit of $100,000. National Union argued that the quantum meruit and breach of the duty of good faith and fair dealing claims were not independent Wrongful Acts, but had a “substantial nexus with the contracts at issue.” Thus, National Union asserted that two of the actions are subject to the total aggregate defense limit of $100,000.
Applying New Jersey law, the District Court agreed with National Union, finding that the “arising out of” language in the breach of contract exclusion was broad and required a “determination of whether, but for the breach of contract, the injury would not have occurred.” The District Court found that the exclusion applied and National Union was not obligated to pay damages resulting from a claim alleging an injury that would not have occurred but for the Board breaching a contract. While the District court found that the underlying actions were separate and distinct claims alleging Wrongful Acts, and therefore separate Claims, the District Court nevertheless agreed with National Union that it was only obligated to pay defense fees and costs up to the “collective or whole sum of $100,000” for all of the actions. Finally, the District Court found that National Union properly reserved its rights to deny indemnity for certain uncovered claims and rejected the Board’s estoppel arguments as to the fraud and intentional conduct causes of actions against the Board.
On appeal, the Third Circuit Court of Appeals affirmed the District Court’s ruling dismissing the Board’s claims against National Union with prejudice. In its opinion, the Third Circuit refrained from setting forth an extensive analysis and essentially adopted the reasons set forth by the District Court in its two prior opinions.
Tressler Comments: The Third Circuit clarified that a “but for” test should be applied to determine whether a breach of contract exclusion applies under an E&O Policy. When evaluating the application of a breach of contract exclusion under New Jersey law, it is important to understand whether a claim would not have occurred but for a breach of contract by the insured. In addition, the Third Circuit clarified that under the terms of the National Union policy, only one aggregate defense limit was available to the insured, irrespective of how many claims or alleged wrongful acts are alleged against an insured.
Mortgage Insurer Not Liable for Allegedly Misleading Statements Regarding Liquidity
Kevin J. Mahoney, Associate in the Chicago Office
A class action lawsuit brought against a private mortgage insurer and its directors was dismissed because the plaintiff’s claims were both factually and legally insufficient under the standards of the Private Securities Litigation Reform Act (“PSLRA”). Fulton County Employees Retirement System v. MGIC Investment Corporation, et al., 675 F.3d 1047 (7th Cir. April 12, 2012).
MGIC Investment Corporation (“MGIC”) offered private mortgage insurance to lenders. While MGIC did not itself participate in the securitization of those loans, it owned 46 percent of a related entity, Credit-Based Asset Servicing and Securitization, LLC (“C-BASS”), which did. The remainder of C-BASS was owned by another private mortgage insurer, Radian Group, Inc., which held 46 percent, and C-BASS’s managers, who held the remaining 8 percent. C-BASS’s financing was largely dependent upon the value of the loans, most of which were subprime mortgages, which it packaged and offered securities in and which collateralized C-BASS’s own debt obligations.
On July 19, 2007, MGIC held a quarterly earnings call and published a press release in connection with that call. The press release stated, in part, that C-BASS had “substantial liquidity” to meet margin calls. Eleven days later, MGIC announced that its 46 percent interest in C-BASS was “materially impaired.” According to the complaint, the statements made on July 19, 2007 regarding C-BASS’s “substantial liquidity” were false.
As the market for subprime mortgages collapsed in 2007, C-BASS’s liquidity had been substantially affected. C-BASS began 2007 with $300 million in cash reserves. It paid out $200 million in margin calls in the first quarter and another $90 million in margin calls in the second quarter. On July 19, 2007, the day of the conference call, C-BASS had $150 million in cash reserves (it had made money on operations in the first two quarters), but it had already paid out $145 million in margin calls between July 1 and July 18. Between July 19 and August 2, 2007, as the crisis in the subprime market worsened, C-BASS received another $470 million in margin calls, some of which it failed to meet, which led to MGIC’s announcement regarding material impairment.
In affirming the dismissal of the complaint, the Seventh Circuit Court of Appeals agreed that the “substantial liquidity” statement made in MGIC’s press release was true – both in the literal and relative sense. The Court noted that “$150 million is a lot of money,” and that C-BASS had already met $435 million in margin calls between January 1 and July 18, 2007. Moreover, MGIC’s press release contained a specific warning that sudden and drastic decreases in the value of the subprime market might lead to higher margin calls than C-BASS would be able to meet. Under the PSLRA, as interpreted by Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308 (2007), the complaint must contain facts rendering an inference of scienter “at least as likely as any plausible opposing inference” – a requirement that the plaintiff had failed to fulfill.
While the plaintiff alleged that MGIC must have been able to foresee the $470 million in margin calls that C-BASS received in the two weeks following the July 19 call, the Court disagreed: “The subprime market had been in decline during the first half of 2007, but that did not necessarily imply a continuing slump, let alone a collapse… The crisis took many experts by surprise.” The Court held that while MGIC had to disclose firm-specific information, it had no duty to disclose industry-wide news. “In July 2007, the whole world knew that firms that had issued, packaged, or insured subprime loans were in distress. Nothing MGIC said, or didn’t say, could conceal that fact.”
The plaintiff also contended that some statements made during the July 19 call were fraudulent. While the statements in question were made by two executives of C-BASS, the plaintiff sought to hold MGIC vicariously liable under § 20(a) of the Securities Echange Act of 1934 with the theory that C-BASS was either directly or indirectly under MGIC’s control because of MGIC’s 46 percent ownership interest. In rejecting that theory, the Court noted that, while in some cases a significant bloc of shares short of a majority might create control, that logic only applied when “other investments are widely distributed.” Because MGIC held the same 46 percent position as Radian Group, with whom it had no affiliation, MGIC did not have unilateral control over C-BASS or its officers.
The plaintiff also argued that MGIC and its three managers named as defendants were directly liable because by inviting C-BASS’s officers to speak on the conference call, the defendants had effectively “made” the statements themselves. The Court disagreed, noting that under Janus Capital Group, Inc. v. First Derivative Traders, 131 S.Ct. 2296 (2011), the “maker” of a statement is the person with ultimate authority over the language and reiterating that MGIC did not have ultimate authority over C-BASS because of Radian’s equal ownership interest. Finally, the plaintiff argued that MGIC had a duty to correct any misleading statements that C-BASS officers made during the call. The Court disagreed, noting that no statute or rule created such a duty.
Tressler Comments: The Seventh Circuit’s holding with regards to pleading requirements imposed on a plaintiff by the PSLRA is a helpful illustration of what defenses corporate officers and directors have available at the motion to dismiss stage. While the plaintiff’s complaint alleged that MGIC surely must have anticipated the $490 million in margin calls that C-BASS received in the two weeks following its July 19 conference call, the Seventh Circuit reinforced the notion that MGIC had “no duty to foresee the future.” The more broadly applicable portion of the opinion, however, may be the Court’s holding with respect to vicarious liability.
While the Seventh Circuit has held that a significant bloc of shares, while short of a majority, might constitute control over an affiliated company, the Court opined that this would not be the case when another unaffiliated entity or individual owns an equally significant bloc of shares. Moreover, the defendants have no duty to correct potentially misleading statements of third parties whom they do not control – even if those statements are made in connection with a communication by the defendant.
A Professional Liability Policy’s Broad Antitrust Exclusion Barred Coverage As to the Entirety of the Claim
Jill A. Ellman, Associate in the New York Office
Often an insured may be confounded as to why its professional liability policy may not cover certain lawsuits directed at the insured’s core business when the insured may think that such a policy would protect it for that very purpose. In The Saint Consulting Group, Inc. v. Endurance American Specialty Insurance Co., C.A. No. 11-11379 (D. Mass. March 30, 2012), the U.S. District Court for the District of Massachusetts found that a professional liability policy’s broad antitrust exclusion barred coverage as to the entirety of the claim, notwithstanding the insured’s own interpretation of the policy.
The insured, Saint Consulting Group Inc. (“Saint Consulting”), a Massachusetts consulting firm specializing in zoning and land use issues, caters to companies seeking to prevent their competitors from opening businesses in their market area. Saint Consulting’s role in this process includes the organization of campaigns and the participation in administrative, judicial and zoning actions. In June 2010, Saint Consulting, along with one of its clients, was sued by real estate developers for delaying the development of Wal-Mart stores in Illinois. The plaintiffs in that action alleged that Saint Consulting engaged in a “racketeering enterprise and conspiracy” involving fraud, wire fraud, and other illegal activities to delay shopping center developments with planned Wal-Mart stores, including the plaintiffs’ stores.
The plaintiffs in the underlying action asserted causes of action alleging violation of the Racketeer-Influenced and Corrupt Organizations Act, the Sherman Antitrust Act, the Illinois Antitrust Act, conspiracy, and other counts.
Saint Consulting submitted the underlying lawsuit to its professional liability carrier, Endurance American Specialty Insurance Company (“Endurance”), seeking indemnification and defense. Endurance disclaimed coverage based on an antitrust exclusion1 and an unfair business practices exclusion with a “personal and advertising injury” carve-out2 in the policy. Saint Consulting brought a declaratory action requesting defense and indemnification from Endurance with respect to the underlying lawsuit. Saint Consulting also asserted additional claims, including breach of contract, negligence and breach of covenant of good faith and fair dealing. Endurance moved to dismiss the action.
Saint Consulting’s policy provides coverage for claims against the insured for wrongful acts for failure to perform Professional Services, which are defined to include: “analysis, strategic planning, research, recommendations, recruiting, organizing, support management and media communication.” Saint Consulting argued that Endurance was not entitled to rely on the above exclusions because it had allegedly induced Saint Consulting into believing that there was coverage for claims in its core business activities. Saint Consulting explained that when it sought coverage, it provided Endurance with information relating to its business practices. Saint Consulting believed that this policy would insure it in potential litigation brought by real-estate developers and retail companies.
The District Court quickly determined that the antitrust exclusion bars coverage for the action. The District Court held that the broad language of the exclusion, which also excludes coverage for claims alleging price-fixing, restraint of trade, monopolization or unfair trade practices, served to knock out the remainder of claims arising out of Saint Consulting’s alleged knowingly and willfully restraint of trade.
Endurance also asserted that the policy excluded the claim based on an unfair business practices exclusion. Saint Consulting countered that a “personal and advertising injury” carve-out applied to allegations in the underlying complaint. Saint Consulting argued that the allegations regarding its alleged disparagement in connection with the opening of Wal-Mart stores to the public fell within the definition of “personal and advertising injury.” “Personal and advertising injury” in the policy is defined to include media communications or advertisements of the insured. Endurance argued that the “personal and advertising injury” carve-out did not apply because Saint Consulting allegedly distributed data secretly, rather than publically. The District Court did not need to entertain whether the unfair business practices exclusion or its “personal and advertising injury” carve-out applied, however, because it believed that the antitrust exclusion unambiguously precluded coverage for the underlying action.
The District Court also examined the other allegations brought by Saint Consulting but concluded that none were pled sufficiently to survive a motion to dismiss. In particular, the District Court found Saint Consulting’s estoppel claim to be meritless on the grounds that its inducement allegations were too general. The District Court concluded that Saint Consulting merely purchased a policy for insurance without a special type of relationship that would oblige Endurance to be a guardian of Saint’s interests. The District Court also found Saint Consulting’s breach of the covenant of good faith and fair dealing claim to be baseless since it found that Endurance was merely interpreting the policy’s contract provisions in its denial of coverage.
1. Exclusion N of the policy excludes coverage for “any Claim based upon or arising out of any actual or alleged price fixing, restraint of trade, monopolization or unfair trade practices including actual or alleged violations of the Sherman Anti-Trust Act, the Clayton Act, or any similar provision or any state, federal or local statutory law or common law anywhere in the world.”
2. Exclusion Q of the policy excludes coverage resulting from “false, deceptive or unfair business practices, violation of consumer protection laws, or false or deceptive Advertisements other than Personal and Advertising Injury.”
Tressler Comments: Throughout the decision, the District Court reaffirmed that the insurer was merely performing its job by interpreting the policy’s contractual provisions. Saint Consulting serves as a cautionary tale of the limitations in any liability insurance policy. While the insured may enter into a contract covering its professional services because of exclusions and other contractual limitations, it does not necessarily follow that there will be coverage for all claims arising from the rendering of or failure to render those professional services.
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