Navigating a Crisis: Bankruptcy and Other Governmental Interference with Contracts

California Supreme Court finds that notice-prejudice rule is a fundamental public policy that can override policy’s choice of law clause …

Public policy overrides contractual choice of New York law if California has a materially greater interest in the determination of the coverage issue.

Pitzer College v. Indian Harbor Ins. Co., 447 P.3d 669 (Cal. 2019).
Pitzer College v. Indian Harbor Ins. Co., 779 Fed.Appx. 495 (9th Cir. October 11, 2019).

The “notice-prejudice rule” is a California common law doctrine that “generally allows insureds to proceed with their insurance policy claims even if they give their insurer late notice of a claim, provided that the late notice does not substantially prejudice the insurer.” This distinguishes California law from other states that have adopted a “no prejudice” rule, which conclusively presumes that late notice prejudices the insurer and precludes coverage.

In Pitzer, the Ninth Circuit Court of Appeals certified questions to the California Supreme Court seeking guidance on two issues: (1) whether the notice-prejudice rule is a fundamental public policy of the state that overrides an insurance policy’s designation of the law of another state that does not follow the rule; and (2) whether the rule applies to a provision in a pollution policy requiring the insurer’s consent before the insured incurs remediation expenses.

As to the first question, the California Supreme Court held that the notice-prejudice rule is a fundamental public policy of California law. The rule overrides principles of freedom of contract by favoring “compensation of insureds over technical forfeiture,” and “protect[ing] the public from bearing the costs of harm that an insurance policy purports to cover.” Accordingly, under California choice-of-law principles, a court must disregard an insurance policy’s choice-of-law provision if the designated law does not apply the notice-prejudice rule and California has a “materially greater interest in the determination of the issue than the contractually chosen state.”

With respect to the second question, the Court held that the notice-prejudice rule applies to the insured’s failure to comply with a policy provision requiring it to obtain the insurer’s consent before incurring pollution-related expenses covered by the policy. As with other notice requirements, the failure to obtain consent will excuse coverage if it prejudices the insurer by “meaningfully increas[ing]” remediation costs or hampering the insurer’s subrogation rights.” But the insurer is precluded from obtaining what the Court deemed a windfall in the event the insured’s failure to obtain consent causes no harm to the insurer. The Court noted an important limitation on the rule, however. With respect to third-party policies, prejudice is presumed because consent is necessary to protect the insurer’s “paramount” right to control the defense and settlement of claims.

The dispute in this case arose under an insurance policy that Pitzer College purchased from Indian Harbor covering legal and remediation expenses resulting from pollution conditions discovered during the policy period. The policy contained two relevant provisions implicating the questions certified by the Ninth Circuit: (i) a provision requiring Pitzer to obtain Indian Harbor’s consent before incurring any pollution-related expenses; and (ii) a choice-of-law clause providing that New York law governed any dispute concerning coverage. While New York has a statutory notice-prejudice rule (N.Y. Ins. L. 3420(a)(5)), it only applies to policies issued or delivered in New York. As Pitzer’s policy was neither issued nor delivered in New York, the policy was governed by New York common law, which imposes a strict no-prejudice rule, setting up a conflict between New York and California law.

While the California Supreme Court’s answers to the certified questions may seem straightforward, their application to these facts was not. Indian Harbor argued that prejudice was presumed because the policy provided third-party coverage, given that remediation expenses are a form of legal liability under environmental laws. Pitzer, on the other hand, argued that it provided first-party coverage because coverage is triggered by the insured’s own discovery of the happening of an event, rather than a claim by a third party. The California Supreme Court left it to the Ninth Circuit to apply the answers it provided to the certified questions applied to these facts.

The Ninth Circuit, in turn, remanded to the district court to determine: (1) whether California had a materially greater interest than New York in determining the coverage issue, in which case California’s notice-prejudice rule would apply; (2) if California law applied, whether the policy provided first- or third-party coverage; and (3) if the policy provided first-party coverage, whether the insurer suffered any prejudice from Pitzer’s delayed notice, which would justify the denial of coverage.

Read the court’s full decision here.

Delaware Supreme Court finds that a “Securities Claim” must involve a statute, rule, or regulation specifically directed toward securities …

“Securities Claim” does not include claims for breach of fiduciary duty, unlawful payment of dividends, or fraudulent transfer.

In re Verizon Ins. Coverage Appeals, — A.3d –, 2019 WL 5616263 (Del. Oct. 31, 2019).

In Verizon, the Delaware Supreme Court addressed whether claims by a spun-off corporate subsidiary against its director and its former parent company for breach of fiduciary duty, unlawful payment of dividends, and fraudulent transfer were covered “Securities Claims” under an executive and organizational liability policy.

The underlying claims at issue arose following Verizon’s divestiture and spinoff of certain businesses into a company called Idearc. After Idearc entered bankruptcy, its trustee sued Verizon and Idearc’s director, alleging violations of fraudulent transfer statutes, payment of unlawful dividends in violation of Delaware General Corporation Law, and common-law claims for breach of fiduciary duty and promoter liability. Although Verizon and the director prevailed in the litigation, Verizon incurred $48 million in defense costs defending itself and the director. Verizon sought coverage for these defense costs.

The policy defined “Securities Claims” as those “[a]lleging a violation of any federal, state, local or foreign regulation, rule or statute regulating securities (including, but not limited to, the purchase or sale or offer or solicitation of an offer to purchase or sell securities).” The Court held that, as a matter of law, the claims at issue did not fall within the definition of “Securities Claims.” Such claims were limited to those alleging violations of laws, rules, or regulations specifically directed toward securities.

None of the claims at issue met that test. The fiduciary duty claims involved common-law duties rather than regulations, rules, or statutes specifically focused on actions involving securities. The claims for unlawful distribution of dividends involved statutes regulating the payment of dividends to protect against the payments resulting in insolvency. The fraudulent transfer statutes were designed to prevent debtors from moving assets (whether or not securities) beyond the reach of creditors. Because these claims were not “Securities Claims,” the policies did not cover Verizon’s defense costs.

Read the court’s full decision here.

Connecticut Supreme Court holds occupational disease exclusion is not limited to claims brought by the insured’s employees …

Exclusion barred all claims for asbestos exposure in the course of employment, regardless of whether claimant was employed by the insured.

R.T. Vanderbilt Co., Inc. v. Hartford Accident & Indem. Co., 216 A.3d 629 (Conn. 2019).

In a decision addressing a “question of first impression nationally,” the Connecticut Supreme Court decided whether a policy exclusion barring liability coverage for “occupational diseases” precludes coverage claims for injury arising from exposure to asbestos in talc and silica products in the course of employment if the claimant was not employed by the insured.

The insured, R.T. Vanderbilt Company, mined and sold talc and silica. Thousands of individuals sued Vanderbilt for injuries allegedly caused by exposure to asbestos in Vanderbilt’s talc and silica between 1948 and 2008. Vanderbilt sought coverage from its primary and excess CGL carriers who issued policies during the period of exposure.

Two of Vanderbilt’s policies, to which several other policies followed form, contained an exclusion for liability arising from “occupational diseases.” Neither policy defined the term “occupational disease.”

Relying on workers compensation statutes, Vanderbilt argued that ‘“occupational disease’ is a term of art that refers only to disputes between [the] employer and [the] employee or to statutory compensation plans for employees.” According to Vanderbilt, the exclusion therefore did not bar claims by individuals who suffered occupational diseases while working for other employers. Although the trial court agreed, the appellate court reversed. The Supreme Court affirmed.

The Court held that the term “occupational disease” had to be given its ordinary meaning, as reflected in dictionaries contemporary to the 1970s and 1980s when the policies were issued. Per these sources, the ordinary meaning of “occupational disease” was an injury sustained in the course of employment and caused by factors arising from the employment. While the term may have also had a meaning in the workers compensation context, it was not devoid of meaning outside that context, and the exclusions here did not reflect an intent to limit their application to the workers compensation context. On the other hand, the inclusion of other policy exclusions for workers compensation claims and employer’s liability demonstrated that “when the drafters of the policy desired to limit the application of an exclusion to a certain group of individuals, they did so.” This rendered “all the more unambiguous the lack of any such express limitation in the occupational disease exclusions.” Although the exclusion was broad, “the breadth of” the exclusions did not render them “any less clear and unambiguous.”

Read the court’s full decision here.

Illinois Supreme Court holds “malicious prosecution” coverage is triggered at time of the wrongful conduct resulting in prosecution …

Only policy in place at the time of the wrongful conduct is triggered, even if the tort of malicious prosecution is completed during the period of a later policy in place when the claimant is ultimately exonerated.

Sanders v. Illinois Union Ins. Co., — N.E.3d –, 2019 IL 124565 (Ill. Nov. 21, 2019).

Sanders was convicted of murder in 1995 based on evidence doctored by Chicago Heights police officers in 1994. In 2011, his conviction was overturned. Sanders’s 2013 retrial ended in a mistrial, and he was acquitted after a third trial in 2014. Sanders settled his malicious prosecution case against Chicago Heights with the city and its insurer under its policy covering 1994. The city and its prior insurer paid $5 million, and the city assigned Sanders its rights under the Illinois Union policies in place from 2011 through 2014.

Illinois Union denied Sanders’s claim for coverage, taking the position that the malicious prosecution did not trigger its policies because it occurred prior to the policy period. The trial court granted Illinois Union’s motion to dismiss, but the appellate court reversed. The Illinois Supreme Court reversed, reinstating the trial court’s decision.

Illinois Union’s policies covered “a Claim arising out of an Occurrence happening during the Policy Period … for … Personal Injury … taking place during the Policy Period” (emphasis in original). The policy defined “Personal Injury” as one or more “offenses,” including “malicious prosecution.” The policy also provided that “[a]ll damages arising out of substantially the same Personal Injury regardless of frequency, repetition, the number or kind of offenses, or number of claimants, will be considered as arising out of one Occurrence.”

The Court held, as a matter of law, that for purposes of coverage under the policy the “offense” of malicious prosecution occurred when the wrongful conduct underlying the claim took place. In Sanders’s case, the offensive conduct was the Chicago Heights police doctoring evidence to incriminate him, before his initial trial. The Court differentiated the “offense” of malicious prosecution under the policy from the tort of malicious prosecution, which is not completed until the victim is ultimately exonerated. The Court found that reference to the tort law definition of malicious prosecution was inconsistent with the policy language and structure. The occurrence-based coverage provided under the policies was not intended to cover acts committed years before the policies commenced.

The Court also rejected Sanders’s argument that his two later trials constituted separate offenses triggering coverage under the later polices. Under the policies’ noncumulation clause, all three trials constituted part of the same “personal injury” because they all arose from the city’s initial doctoring of the evidence. Accordingly, there was only one “occurrence,” which took place at the time of the offense in 1994, prior to the Illinois Union policy periods.

Read the court’s full decision here.

Fifth Circuit holds that “conformity to statute” provision does not incorporate state anti-arbitration statute because the New York Convention preempts it …

On an issue that may find its way to the US Supreme Court for final resolution, the Fifth Circuit holds that the New York Convention is an international treaty rather than an “Act of Congress” and is therefore not reverse preempted under McCarran-Ferguson by state law prohibiting arbitration of insurance disputes.

McDonnel Group, L.L.C. v. Great Lakes Ins. SE, UK Branch, 923 F.3d 427 (5th Cir. 2019)

The McCarran-Ferguson Act preserves the state system of insurance regulation.  Its key provision states:  “No Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance . . . unless such Act specifically relates to the business of insurance.”  15 U.S.C. § 1012(b).  In Volume 4, we reported on the Eastern District of Missouri’s decision in Foresight Energy, LLC v. Certain London Market Insurance Companies (2018 WL 1942222), which held that a Missouri law prohibiting arbitration of insurance disputes reverse preempted Chapter 2 of the Federal Arbitration Act (FAA), which implements the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (New York Convention) governing international arbitration agreements.  In so holding, the Foresight court relied on the Second Circuit’s decision in Stephens v. American International Insurance Co., 66 F.3d 41 (2d Cir. 1995).

In McDonnel, the Fifth Circuit reaffirmed its 2009 decision in Safety Nat’l Cas. Corp. v. Certain Underwriters at Lloyd’s (587 F.3d 714) holding the opposite – McCarran-Ferguson notwithstanding, the New York Convention preempts state laws invalidating arbitration clauses in insurance policies issued by foreign insurers.

The policyholder in McDonnel purchased a builder’s risk insurance policy from a group of foreign insurers, covering a construction project in Louisiana.  After the insurers denied its claim for coverage, the policyholder sued.  The insurers moved to dismiss, invoking the policy’s arbitration provision.

The policyholder argued that the policy’s “conformity to statute” provision amended the arbitration clause out of the contract.  The provision stated, “[i]n the event any terms of this Policy are in conflict with the statutes of the jurisdiction where the Insured Property is located, such terms are amended to conform to such statutes.”  The policyholder claimed that the policy’s arbitration clause conflicted with a Louisiana statute that prohibits arbitration agreements in insurance contracts covering property located in the state.  La. Rev. Stat. § 22:868(A).

The court rejected the policyholder’s argument, holding that the Louisiana statute did not conflict with the policy because it was preempted by the New York Convention.  Accordingly, the statute was inapplicable for purposes of the “conformity to statute” provision.  In so holding, the court rejected the policyholder’s argument that Louisiana’s anti-arbitration law reverse-preempted the New York Convention under the McCarran-Ferguson Act.  McCarran-Ferguson only bars an “Act of Congress” from preempting state insurance law, and the Convention is an international treaty, not an “Act of Congress.”  Accordingly, McCarran-Ferguson did not apply.

Read the court’s full decision here.

Is the phrase “occurrence not covered by” ambiguous? Northern District of New York says “No” — and then “Yes” …

Twice this year, the NDNY ruled on whether the phrase “occurrence not covered by” in reinsured umbrella policies covered expenses in excess of liability limits for occurrences for which the primary policy coverage was exhausted. The court gave inconsistent answers

Utica Mut. Ins. Co. v. Munich Reins. Am., Inc., 381 F. Supp. 3d 185 (N.D.N.Y. 2019); Utica Mut. Ins. Co. v. Clearwater Ins. Co., 6:13-cv-1178 (GLS/TWD), 2019 WL 3340644 (N.D.N.Y. July 25, 2019).

In the 1990s, Goulds Pumps, Inc. faced mounting personal injury liabilities from alleged exposure to asbestos in its products.  Goulds sought defense and indemnity coverage for these liabilities under various primary and umbrella policies Utica Mutual Insurance Company issued to Goulds between 1955 and 1986.  In 2007, Utica reached a settlement with Goulds, agreeing to pay in excess of $300 million for Goulds’s asbestos liabilities and related defense expenses.  Utica allocated defense and indemnity for each claim to its policies on a pro rata basis.  Litigation between Utica and its reinsurers over facultative coverage for losses allocated to several of its Goulds umbrella policies ensued.

Utica Mut. Ins. Co. v. Munich Reins. Am., Inc., 381 F. Supp. 3d 185 (N.D.N.Y. 2019), concerned Munich facultative certificates covering Utica’s umbrella policies for the 1973 and 1977 policy years.  The parties’ disputed whether Munich was also obligated to pay a share of the defense and loss adjustment expenses Utica allocated to these policies in excess of the certificates’ liability limits.  Following a ten-day bench trial, the court found that Munich was not obligated to pay these expenses under the 1973 certificate, but it was also not entitled to reimbursement of expenses it voluntarily paid under the 1977 certificate.

The umbrella policies provided that “[w]ith respect to any occurrence not covered by the underlying policy(ies) of insurance . . . but covered by terms and conditions of this policy,” Utica shall pay Goulds’s defense expenses “in addition to the applicable limit of liability of this policy.”  The court’s decision with respect to the 1973 certificate turned on the interpretation of the phrase “occurrence not covered by.”  Notably, the court found that the facultative certificates did not contain a follow-the-settlements obligation, and that none could be implied.  Therefore, Utica’s interpretation of the “occurrence not covered by” language did not bind Munich.

On summary judgment, the court found the “occurrence not covered by” language ambiguous.  Following the trial, however, the court reconsidered its prior determination, and found that it was unambiguous.  It did not refer, as Utica contended, to occurrences that the primary policy no longer covered because its limits had been exhausted.  Rather, an “occurrence not covered by” the primary policy could only mean an occurrence that was altogether outside the scope of coverage provided by the underlying policies.  Here, the primary policy covered the asbestos losses.  Accordingly, the umbrella policy, and therefore the facultative certificate, did not cover defense expenses related to those losses outside the liability limits.

On the other hand, the court held that the voluntary payment doctrine barred Munich’s claim for reimbursement of the expenses in excess of limits it had previously paid under the 1977 facultative certificate.  That doctrine “precludes a plaintiff from recovering payments ‘made with full knowledge of the facts’ and with a ‘lack of diligence’ in determining his contractual rights and obligations.”  The court found that Munich had previously paid Utica’s billing for defense expenses under the 1977 certificate, despite knowing that “none of the documentation Utica had sent revealed any language indicating that the 1977 Umbrella [policy] was expense-supplemental.”

Utica Mut. Ins. Co. v. Clearwater Ins. Co., 6:13-cv-1178 (GLS/TWD), 2019 WL 3340644 (N.D.N.Y. July 25, 2019), concerned Utica’s reinsurance coverage for the Goulds asbestos settlement under facultative certificates issued by Clearwater covering the 1978-81 Utica umbrella policies.  This time, a different judge in the Northern District of New York found the phrase “occurrence not covered by” ambiguous.

The court had previously granted Clearwater’s motion for partial summary judgment, finding that the liability limits in the facultative certificates capped Clearwater’s obligations for both liability and expenses.  In September 2018, the Second Circuit reversed and remanded, finding that, pursuant to the facultative certificates’ follow-the-form clause, “[b]ecause the underlying policies are expense-supplemental, the Clearwater certificates are likewise expense-supplemental.”  906 F.3d 12.  The Second Circuit also found that the facultative certificates did not contain a follow-the-settlements clause.  It therefore remanded the matter to the district court to determine whether the reinsured umbrella policies covered expenses in addition to liability limits.  As in Munich, coverage under the facultative certificates depended on the interpretation of the “occurrence not covered by” language in the umbrella policies.

On remand, the district court found that the language “does not unambiguously state whether it is referring to compensation that does not occur because it is outside the scope of the underling primary policies’ coverage grant or because the underlying policy has been exhausted.”  Rather, the court held, “it appears that this provision could apply to either or both situations.”  The court therefore ordered the parties to trial to resolve this ambiguity.

In refusing to follow the Munich court’s holding that the language was unambiguous, the court noted that that court had initially found the language ambiguous at summary judgment, and only determined that the language was unambiguous after a ten-day trial.  The court also found that the 1973 umbrella policy at issue in Munich contained “materially different language” from the 1978-81 umbrella policies at issue in this case.  While not specifically identifying this different language, the court found that it “changes the context of the agreement as a whole.”

Read the court’s full decision on Utica Mut. Ins. Co. v. Munich Reins. Am., Inc. here.

Read the court’s full decision on Utica Mut. Ins. Co. v. Clearwater Ins. Co. here.

Federal court reverses its own decision to find that firearms exclusion in CGL policy unambiguously bars coverage …

Federal court admits it was wrong to rewrite policy to create coverage. On reconsideration of its own decision, the court applied the policy’s broad and unambiguous firearm exclusion.

Hudson Specialty Ins. Co. v. Snappy Slappy LLC, No. 18-cv-104-TES, 2019 WL 1938801 (M.D. Ga. May 1, 2019).

A patron’s estate sued a bar owner for wrongful death after the patron was shot on its premises.  The bar owner sought coverage under its commercial general liability policy.  The insurer denied coverage based on the policy’s “Firearms Exclusion.”  The provision excluded coverage for bodily injury “arising out of the manufacture, importation, sales, distribution, gunsmithing, ownership, maintenance, or use of firearms or weapons.”

The policyholder argued that the exclusion could not bar coverage because it was ambiguous.  The court initially agreed, finding that the exclusion was ambiguous because it “does not limit or specify to whom it applies.”  However, following the insurer’s motion for reconsideration, the court reversed course, and entered judgment for the insurer.

On reconsideration, the court held that the exclusion was unambiguous because it permitted only one reasonable interpretation.  The initial order “effectively changed the language of the Firearms Exclusion and inserted modifying language not otherwise present in the exclusion agreed upon by the parties.”  The insurer’s “decision not to limit the word ‘use’ to certain persons means that it applies to anyone’s use of a firearm.”   While the exclusion was broad, “breadth does not equate to ambiguity.”

Read the court’s full decision here.