Policyholder Perspective

Obtaining Coverage By Stepping Outside The Box

Noel Paul — Fri, 01 Mar 2013 14:02:17 -0800

Every lawyer likes to believe that he or she thinks outside the box. In the law, that can mean different things to different people. For me, it means finding paths that are not immediately apparent in striving to meet the client’s objectives. Many times, insurance recovery lawyers see an insurance company’s reservation of rights or denial of coverage listing three reasons for denial, and then proceed to research and advocate on those three issues. In doing so, lawyers can miss opportunities for success.

The requirements of statutes and public policy, as well as various legal doctrines (waiver, estoppel, "mend the hold," the made-whole doctrine, the anti-subrogation rule) can be put to good use. Insurance recovery lawyers should also consider whether the loss may be covered by someone else’s insurance. If the client is an additional insured on someone else’s policy, or perhaps falls within the vendor’s coverage, there may be coverage under that policy. Another way to step outside the box is to think about other insurance policies owned by your client that may provide coverage. In pursuing that line of inquiry, I think about Time, Topic, and Tower.

Time. Insurance policies are “triggered” at certain points in time. Claims-made policies are typically triggered when the claim is made. Liability policies are typically triggered when the property damage or bodily injury is suffered. Sometimes the covered bodily injury or property damage was suffered over the course of years, leading to the triggering of many policies. Class actions often allege damages suffered over the course of several years, for example. In many states, policyholders can “pick and choose” which of the triggered policies is to respond, allowing policyholders to maximize recovery.

Topic. Maybe that loss that you thought was covered by a directors and officers policy is really covered by a separate professional liability policy. Is it possible that the property insurance claim you are working on actually falls under a separate boiler & machinery policy? The lines between different types of insurance policy can be fuzzy. A single loss can be covered by more than one type of policy.

Tower. Many corporate policyholders have a tower of coverage including primary insurance, followed by umbrella insurance, and perhaps additional excess insurance at the top of the tower. Umbrella insurance policies typically have two coverage features. The first feature, which it shares with all excess insurance, is to pay loss or liability in excess of underlying primary insurance. Another feature of umbrella coverage is to pay claims that are within the coverage of the umbrella insurance and not collectible from the underlying insurance. In that instance, the umbrella insurance will “drop down” and provide primary insurance. Looking to the potentially broader umbrella coverage can be shortcut to recovery. You don’t like that exclusion that the primary carrier has asserted? Well, maybe it is not in the umbrella policy.

Sometimes, the key to victory is changing the game.

Insurance Coverage for Violations of the Privacy Right of Seclusion

Noel Paul — Thu, 12 Jul 2012 06:28:18 -0800

By Timothy P. Law

The scope of insurance coverage for publication of material that violates a person’s right of privacy is a hotly debated issue nationwide. A decision earlier this week by the Court of Appeals of Wisconsin squarely addresses a key facet of this debate: coverage available for violations of the Telephone Consumer Protection Act (“TCPA”).

In Sawyer v. West Bend Mutual Insurance Co., decided on July 10, 2012, the Wisconsin Court of Appeals ruled that liability coverage for publication of material that violates a person’s right of privacy applies both to the privacy right of secrecy and to the privacy right of seclusion.

Given that standard general liability insurance policies contain no explicit distinction between secrecy and seclusion, this would seem to be an obvious conclusion, but a minority of courts (most notably, the Court of Appeals for the Seventh Circuit) have inferred such a distinction in cases involving the TCPA.

In finding coverage for a TCPA claim, the Wisconsin Court of Appeals followed the Illinois Supreme Court’s decision in Valley Forge Insurance Co. v. Swiderski Electronics, Inc., 860 N.E.2d 307 (Ill. 2006). The court noted that the faxed advertisement transmitted printed material and communicated information to the public, so it was a publication. The material transmitted was an unsolicited fax advertisement, which violated the TCPA. That material violated the recipient’s right to be left alone, i.e., his right to seclusion. Therefore, there was the publication of material that violated a person’s right of privacy.

This is the majority rule nationwide. The supreme courts in Florida, Massachusetts, and Illinois have all adopted this interpretation, as have the federal Eighth Circuit, Tenth Circuit, and Eleventh Circuit courts of appeals.

The insurance industry has responded to the spate of TCPA and privacy claims by issuing exclusions for liability under particular privacy statutes, including the TCPA. Given the majority rule and the wide availability of form exclusions specifically addressing coverage for TCPA liabilities, an insurance company should provide coverage without dispute where standard-form coverage language is employed and no TCPA exclusion was issued.

The attorneys in Reed Smith's Insurance Recovery Group have extensive experience advising clients on issues relating to coverage for violations of the TCPA and other issues relating to coverage for violations of privacy.

Don't Forget About D&O Insurance When The Government Subpoena Arrives

Noel Paul — Wed, 21 Mar 2012 06:10:14 -0800

By Paul E. Breene and Mark S. Hersh

When an investigation is commenced by a federal or state government entity, whether by service of a subpoena or by less formal means, a company should have two standard operating procedures: first, hire excellent and experienced counsel to respond to the investigation or subpoena, and second, determine whether insurance coverage may be available to pay for what are frequently significant defense costs that may be incurred in connection with the investigation.

Securing insurance coverage for subpoenas and informal investigations, both civil and criminal, can be an arduous process, but policyholders who plan ahead and know the pitfalls can give themselves a significant advantage in securing timely coverage. Significantly, failing to secure coverage for an investigation can mean that there will be no coverage if the investigation leads to lawsuits or other legal proceedings. The attorneys in Reed Smith's Insurance Recovery Group have extensive experience advising clients on these and related issues.

Prompt Notice

The most common pitfall is failing to give prompt notice to your insurance company. At the first indication of a government investigation, a company should consider whether it needs to give notice to its Directors’ & Officers’ (“D&O”) insurance carrier. This is generally done through a broker. Failing to give prompt notice, which usually occurs because no one realized that government investigations might be covered by insurance, is the most frequent mistake policyholders make and it could be fatal to obtaining coverage. In some states, late notice is a complete defense to coverage even if the insurer has suffered no prejudice as a result. And if late notice blows coverage for an investigation, it likely will also blow coverage for any lawsuits or other legal proceedings that may follow.

The question of whether insurance coverage is available for fees and costs incurred in connection with responding to subpoenas and informal investigations depends in large part on the language of their D&O insurance policy and the specific facts and circumstances surrounding the subpoena or investigation.

Is The Investigation a “Claim”

The starting point for the analysis is whether or not the subpoena or investigation fits within the D&O policy’s definition of the term “Claim.”

There are several different definitions that appear in D&O policies, a typical definition defines “Claim” as:

(a) any civil proceeding in a court of law or equity including any mediationor alternative dispute resolution ordered orsponsored by such court;

(b) any criminal proceedingin a court of law; and

(c) any administrativeor regulatory proceeding commenced by the filing of a notice of charges, formal investigative order, orsimilar document.”

Another definition of “Claim” includes “formal and informal government investigations.” Several courts also have held that a Subpoena can be a Claim. In determining whether a Suboena constitutes a “Claim,” courts have looked to the nature of the particular subpoena in light of the policy language. Thus, an SEC “Order Directing Private Investigation and designating Officers to Take Testimony” has been held to be a Claim for the purpose of coverage under a D&O policy. Where a subpoena is merely served on a policyholder in its capacity as a “custodian of records,” however, it is unlikely to qualify as a Claim that would trigger payment of defense costs.

In a recent case, MBIA Inc. v. Federal Ins. Co., et al, No. 08 CIV 4313, slip op. (S.D.N.Y. Dec. 30, 2009) (“MBIA”), the MBIA was hit with “inquiries” and subpoenas by the New York State Attorney General and the SEC. The definition of Claim in MBIA’s D&O policy included “a formal or informal administrative or regulatory proceeding or inquiry commenced by the filing of a notice of charges, formal or informal investigative order or similar document” that arose from the purchase or sale of securities. The court held that the subpoenas and inquiries fit within the definition of Claim in the policies and, therefore, the defense costs incurreed in responding to them were covered.

Is the Claim Covered Under The Policy

In addition to the definition of the term “Claim,” the investigation must also relate to something that is covered under the policy. The typical D&O policy provides coverage for loss arising from a “Claim” based on an “actual or alleged Wrongful Act.” Thus, whether or not a subpoena represents a “Claim,” there may still be a question whether an actual or alleged Wrongful Act is involved.

An insurance company may argue that there are no allegations of any Wrongful Act in the subpoena, thus negating the duty to defend. Most subpoenas and government investigations, however, have either explicit or implicit suggestions of wrongdoing that should satisfy this requirement, at least where the company or its directors or officers are a target of the investigation. The insurance company may also contend that so called “personal conduct” exclusions relating to fraud, illegal profits, and intentional violations of law, may preclude coverage. Such exclusions should not, however, deprive the policyholder of its right to a defense since in most D&O policies, they are only triggered by a “final adjudication” of the wrongful conduct. The policy language may allow the insurance company to seek reimbursement of the amounts paid toward the defense if one of the exclusions is triggered, at least the policyholder will have been able to mount a proper defense to the charges with the insurance company paying the bill in the first instance.

Reporting Potential Claims

Even if a subpoena or government investigation does not qualify as a Claim under the policy, a Company may still want to report it to its D&O insurer. D&O policies almost always give the insured the option of reporting potential claims – normally called “circumstances that may give rise to a claim” – in order to secure coverage for the potential claim within the policy period in effect when the potential claim is reported. So if the investigation is reported as a potential claim in policy period A, but does not blossom into a Claim (e.g. a lawsuit) until policy period B, it will be covered under policy period A. The main caveat is that policies normally require potential claims to be reported with a great deal of specificity, so attention must be paid to this requirement.

One reason to report an investigation as a potential claim is that the company may be required to disclose the investigation anyway in connection with an application for new insurance, because non-disclosure may carry the risk that the carrier later will try to rescind the policy. But disclosing potential claims in connection with new insurance runs the risk that the investigation and any resulting claims will be excluded from coverage under the new insurance, so it is important to secure coverage under the expiring policy instead. Reporting potential claims also may have the advantage of parking claims in an expiring policy period and leaving the new policy untouched for fresh potential claims (D&O policies typically have one-year policy periods).

A Note on E&O Insurance

In some cases, a government investigation might be covered under a company’s Errors & Omissions (“E&O”) insurance policy rather than its D&O policy. For example, if a company is being investigated in connection with professional services it has provided to the government pursuant to a government contract, the E&O policy may be implicated (and the matter may be excluded from coverage under the D&O policy). Issues regarding notice under an E&O policy are very similar to notice issues under a D&O policy. If it is unclear whether an investigation will be covered under a company’s E&O or D&O policy, notice may be given under both.

Conclusion

Government investigations can be both time consuming and hugely expensive. A target of such an investigation that has purchased D&O or E&O coverage, may, depending on the wording of the policy and the type and tenor of the investigation, have coverage to pay for the defense and cost of responding to such an investigation. Policyholders should think of insurance when the investigation begins, analyze their potential coverage with assistance of an attorney, and give prompt notice of any potentially covered claim.

Getting the Corporate Deal Done: A Little Insurance Knowledge Goes a Long Way

Noel Paul — Fri, 09 Mar 2012 13:55:54 -0800

By Laura Geiger and John Vishneski

A company’s insurance program is an asset that is often ignored during corporate transactions. This is a mistake. Understanding the insurance assets available and how to maximize insurance assets during a corporate transaction will give companies an advantage at the negotiating table. Failing to maximize coverage during a corporate transaction can have disastrous results. The attorneys in Reed Smith's Insurance Recovery Group can counsel companies engaging in corporate transactions on these complicated issues. Good insurance counsel make the transaction process easier and ensure that insurance asset value is maximized.

Step 1 - Understand the value of the insurance at this moment in time. Your company pays a premium for its insurance. Why? Because the insurance you purchase provides value to your company. When purchasing insurance, your counsel, risk manager and broker analyze the historical, current and potential liabilities and both the scope of the current insurance policies in place and the historical coverage in an effort to maximize the value of your company’s insurance. When you engage in a corporate transaction, the same analysis should be made regarding the other company’s liabilities and insurance. Get those policies out of the file cabinet and have your insurance counsel look at them. And remember that even “old” insurance, including general liability (GL) policies from decades earlier, may have current value if it covers long-tail liabilities such as asbestos and environmental liabilities. For this reason it is important to search for historical coverage (especially GL) going back as far as possible for all parties engaged in the corporate transaction. This should be done during due diligence while long-time employees are still around to help, since many such employees are often let go in a corporate combination.

Step 2 - Maximize the value of the insurance into the future. In an ideal world, insurance for specific liabilities would automatically flow with those liabilities. We do not live in an ideal world, and liabilities can be separated for a variety of reasons from the insurance originally purchased to cover those liabilities. When engaging in a transaction, care should be taken to ensure that coverage is maintained. During due diligence, an attorney understanding the applicable law should analyze the insurance policy language regarding corporate succession. Then the companies involved in the transaction should take the necessary steps to ensure that the corporate transaction documents comply with the law and the policies in order to properly maximize coverage.

Step 3 - Consider coverage for certain aspects of the corporate transaction. It is possible to procure transaction insurance that will help facilitate a transaction. For example, representations and warranties insurance (RWI) can provide coverage for indemnification obligations arising out of a breach of the representations and warranties in the transaction documents. RWI, new environmental insurance and historical insurance can all help in striking the balance of how much escrow may be needed for carry-over liabilities and how long the escrow will be available. For example, a seller may insist on a two-year window for claims covered by purchase money set aside as an escrow. RWI, historical insurance and environmental policies can all extend the window of protection and replace or supplement assets otherwise tied up in an escrow. Other types of transaction insurance can reduce specific risks associated with the corporate transaction. Ask your counsel, risk manager and broker, if there are options that would benefit your company.

Step 4 - Make sure your directors and officers are properly covered during the transaction. Often corporate transaction documents contain requirements regarding insurance coverage for directors and officers (D&O insurance) during and following the transaction. The language of such provisions can vary dramatically, and the impact on your directors and officers can be great. If you want excellent leadership, you must protect your directors and officers. Again, consult, your counsel, risk manager and broker to make sure the insurance provides ample protection.

To understand how these issues fit together, let’s look at two fact scenarios.

First, assume for a moment that you sit on the board of directors of Company A. Company A then merges with Company B to form Company C, where you continue to act as a director. The following day you learn that a product produced by Company B has a deadly design flaw and the product has already caused extensive property damage and bodily injury, including the deaths of multiple persons. The effect of this product liability on Company C will differ dramatically based the insurance due diligence conducted prior to acquisition. If, prior to the acquisition, your due diligence team included a lawyer that analyzed Company B’s insurance, provided you with an analysis of the value of the policies, and helped craft terms in the transaction documents to make sure the historical insurance will be available to Company C post-acquisition, you will be in a much better position than if you have no idea whatsoever about Company B’s insurance. Similarly, your response to the news of this product liability will be different if Company B made representations and warranties about the condition of its products and RWI was purchased prior to the transaction. If, however, the insurance aspects of the transaction were given only cursory review, as a director of Company A and then Company C, you may be greatly concerned about whether adequate D&O insurance was procured or whether you will face any personal liability if stockholders come forward to complain about errors and omissions in the transaction process.

Second, assume you sit on the board of Company A, but this time, following the merger all proceeds smoothly until two years after the transaction when an environmental problem is discovered at a property formerly owned by Company B. The terms of the RWI purchased for the transaction the escrow period have ended. Your reaction as a board member of Company C in this situation will depend on the due diligence you did before the transaction. If Company A and Company B were both mined for historical policy information—while their respective long-term employees were present and able to piece together the histories—you are in a much better position to recover the insurance proceeds from any historical insurance. Alternatively, if you entered into the transaction knowing that Company B had already sold back all its historical insurance to capitalize on those assets, then you knew the risk at the time of the transaction and were able to price that into the transaction. However, if you never looked for that information before the transaction, trying to put that information together now, without the benefit of Company B’s employees’ knowledge, will require more effort, may be less effective and may result in a large financial loss to Company B.

To ensure that your company maximizes the available insurance assets it is important to have insurance counsel, like Laura and John, as a part of your deal team. During negotiations, you do not want to leave cash on the table, and that means you cannot leave the insurance assets in the file cabinet.

Coverage For Construction Defects

Noel Paul — Wed, 15 Feb 2012 08:36:48 -0800

By Paul Walker-Bright

A hypothetical: The roof of a parking garage that is part of a condominium development partially collapses, destroying landscaping over the collapsed section of the roof and the floors underneath the collapsed section. The roof had been fully installed and the parking garage was being used at the time of the collapse, but work continued on the landscaping and the condominium units. The cause of the collapse is traced to roof beams not strong enough to withstand the load of the landscaping. The design of the parking garage called for weaker roof beams. The roof beams cannot be replaced, and consequently the landscaping over the rest of the roof must be removed and replaced with lighter materials to prevent further collapses.

This hypothetical, which is not an outlandish scenario in the construction business, raises a myriad of coverage issues under several different types of policies, including first party property, builder’s risk, general liability and professional liability policies. The attorneys in Reed Smith's Insurance Recovery Group have extensive experience advising policyholders and engaging in litigation regarding these types of coverage issues.

Back to the hypothetical: Insurers can be expected to contest coverage for the collapsed parking garage roof on a number of grounds. One perennially hot topic is whether construction defects involve an “occurrence” as that term is used in policies. Insurers argue that damages from construction defects are not covered “occurrences” because they stem from foreseeable business risks rather than fortuitous accidents; insurance policies are not performance bonds. However, there is nothing expected or intended about a roof collapse, even one due to defective materials or faulty work, and policyholders expect to be covered for such accidents. Courts have been split on this issue, and lately several state legislatures have stepped in with laws intended to clarify the situation (with mixed results).

Another common issue is which type of policy applies to a loss. Builder’s risk policies are intended to cover structures undergoing construction or renovation, but usually are limited to specific projects and time periods. General liability policies, by contrast, may exclude damage from “ongoing operations” but insure damage included in the “completed operations hazard.” Both builder’s risk and general liability policies may exclude professional negligence (e.g., the architect’s mistake in designing a roof with weak beams). The damage in that case may be covered by the architect’s professional liability policy.

General liability policies often attempt to exclude damage caused by “faulty workmanship,” and damage to the policyholder’s “work” or “products,” but then give back much of the coverage in the form of confusing and overlapping exceptions to the exclusions. For example, damage may not be excluded where the work is performed on behalf of the named insured by subcontractors. Ensuing loss to other property caused by defective work or products also is typically not excluded. Paul specializes in threading ways through the arcane policy language applicable to construction defects.

A commonly overlooked source of coverage is additional insured coverage under someone else’s policy. General contractors often require that subcontractors name them as additional insureds under the subcontractors’ policies, but fail to ensure this is done, or do not timely notify the subcontractors’ insurers of an accident. Additional insured coverage can be vital because additional insureds are often exempt from many exclusions applicable to the named insured, resulting in coverage that in many cases is broader for the additional insured than the named insured. Paul can assist policyholders in crafting contract language to obtain maximum additional insured protection under business partners’ policies.

Answers To The Most Common And Perplexing Questions About Professional Liability Coverage

Noel Paul — Wed, 01 Feb 2012 11:56:31 -0800

Reed Smith partner Tom Marrinson, resident in the firm’s Chicago office, has been advising policyholders about their insurance coverage, and representing them in coverage litigation, for more than 20 years. While Tom’s experience ranges widely, he has literally written the book on insurance coverage for professionals and companies that employ them

Professional Liability Insurance, published by Law Journal Press, is written to appeal to both the neophyte and those with considerable experience in the area of professional liability insurance. The book begins with some of the basics of professional liability insurance (such as, who is a "professional" and what types of services are considered "professional services") and how a professional liability insurance policy is put together, in an attempt to provide a basic background for the more in-depth look that the book takes at some of the other issues confronting those involved in professional liability insurance disputes.

Many of the topics covered in depth are similar to those that would be encountered in other types of insurance contexts. For example, the book contains a discussion of notice issues (although with a keener focus on claims-made policies than might be the case in a more general insurance treatise), rescission, the duty-to-defend, and exclusions that are found in both professional liability and other types of policies.

In treating these issues, however, the book attempts to focus on cases involving professional liability insurance and to focus on those aspects of the issues that have not necessarily been detailed in other insurance treatises. For example, in handling the duty-to-defend discussion, Tom has attempted to place the book’s focus less on the well-established and already well-known principles governing the duty to defend and more on the types of "in the trenches" issues faced in attorneys’ day-to-day practice, such as what standards are used to determine reasonableness of defense costs, how courts have handled recoverability of Westlaw charges and travel expenses, etc.

Other topics covered by the book that might be of more general interest but that the book attempts to handle in more practical detail than might be the case with other insurance treatises are allocation of loss between covered and non-covered claims, control of settlement, and insurer recoupment of defense costs or settlements paid with reservation of rights.

The book also contains several sections that are specific to insurance issues that face specific professions (for example, doctors or lawyers) or that involve issues that tend to arise repeatedly and in a very specific way in the context of professional liability insurance. For example, "innocent insured" issues (both with respect to rescission claims and application of conduct-based exclusions) tend to involve recurring fact patterns in the professional liability insurance area, as do issues involving prior knowledge exclusions (i.e., exclusions for claims resulting from acts or omissions which the insured reasonably expected to give rise to a claim prior to policy issuance).

Insurance Coverage Legal Audits are Not a Luxury

Doug Widin — Tue, 26 Jan 2010 12:43:49 -0800

This post was written for Boardmember.com

Most executives view insurance with disdain, because it makes no immediate contribution to production, research and development or marketing. Ordinarily, insurance has no tangible results and does not improve the balance sheet. It does not increase stock value. Generally, insurance represents a pure expense detracting from the bottom line. Few officers and directors truly appreciate insurance and even fewer actually understand it. Properly assessed insurance, however, can be one of the best investments the corporation will hopefully never use.

Insurance protects directors’ and officers’ personal assets if the corporation runs into problems. Officers and directors wear many hats today, and their actions are scrutinized more than ever before. Serving as trustee for an employee health or welfare plan, or on the board of a subsidiary or other corporation can present personal liabilities. Litigation arising from employee workforce decisions may come home to roost with directors and officers. If the company’s financial projections founder, or unforeseen economic circumstances such as the subprime mortgage crisis affect the corporation, directors and officers may be targeted in class action investor lawsuits. Proper directors and officers insurance can protect against personal economic effects from these risks, as well as protect the company.

And what about protecting the company assets, both financial and physical? Physical plants and equipment, whether bricks and mortar production facilities or technological, can be wiped out by catastrophes. The wide-spread effects of the World Trade Center attacks and Hurricane Katrina illustrate the potential devastation. Proper property insurance, including different types of business interruption coverage, is an absolute necessity. Separate flood or earthquake policies may be required. Fidelity insurance protecting against theft and other dishonesty can be critical.

Liability insurance, in its myriad forms, is necessary. Insurers have trimmed the scope of formerly standard general liability insurance, so they can sell additional specialized coverage for increased premiums. Negotiated enhancements to today’s standard policies must be explored. Product liability, professional liability, media liability, personal injury liability, and product recall coverages are just a few of the additional types of liability insurance that must be considered. Your corporation’s needs may require tailored manuscript policies. In day-to-day operations, these coverages may make no difference. But nothing teaches their value better than an uncovered liability, once it happens. Worry about insurance then comes too late; survival of the company may, instead, be the issue.

If a cataclysmic event –whether natural disaster, economic downturn, or potential liability –shakes the company’s financial foundations because proper insurance was not in place, shareholders and others will look to the officers and directors for an explanation. Assuring there is proper insurance means more than just buying standard insurance offerings in the marketplace. Assuring proper insurance health requires a check-up in the form of an insurance coverage legal audit. These audits require engaging lawyers working for policyholders and schooled in the arcane and nuanced law of insurance coverage. Policyholder insurance coverage lawyers are independent of the insurance industry and, through a coverage audit, can assess the quality of your coverages, gaps in your coverages, potential enhancements to your insurance program, and wording in your phone-book-thick policies ripe with the potential for denied claims or litigation by your insurers.

An insurance coverage legal audit assesses your needs and identifies potential problems with your coverage before a loss or claim happens. This allows you to negotiate around the pitfalls or buy additional needed coverages. The time to do an audit is now. Once a loss or claim happens, it is too late to ask the insurer to clarify or broaden the coverage terms. For better or worse, the battle lines are then already drawn.

If they want to sleep well at night, directors and officers should view an insurance coverage legal audit as an absolute necessity. It is an ounce of prevention against potential financial catastrophe for which no pound of cure may well exist.

Bond Insurer FGIC Ordered To Stop Writing Policies and To Cease Paying Claims; ISDA Announces FGIC 'Failure to Pay' Credit Event

Ann Kramer — Fri, 11 Dec 2009 12:15:22 -0800

This post was written by David Schlecker and Andrea Pincus.

3rd Quarter Financials Lead to Action By NYS Superintendant of Insurance and ISDA

On November 24, 2009, Financial Guaranty Insurance Company ("FGIC"), a New York- domiciled monoline financial guaranty insurer, was ordered by New York's Superintendent of Insurance to cease writing any new policies and to suspend payment of all claims. The Superintendent's order follows FGIC's Quarterly Statement for the third quarter of 2009, in which FGIC reported that as of September 30, 2009, it suffered an impairment of its required minimum surplus to policyholders of $932,234,577.

FGIC presented the Insurance Department with a proposed "Surplus Restoration Plan" intended to remediate its exposure to certain residential mortgage-backed securities ("RMBS") and collateralized debt obligations of asset-backed securities ("ABS CDOs"). Under the plan, FGIC proposes to take the following steps:

1.      Commence a tender offer for the acquisition or exchange of certain RMBS guaranteed by FGIC;

2.      Continue to pursue commutations with the holders of ABS CDOs; and

3.      Commute, terminate or restructure FGIC's exposure with respect to other obligations for which it had established statutory loss reserves.

Under the Superintendent's order, FGIC has until January 5, 2010 to submit a detailed and final proposed Surplus Restoration Plan to the Insurance Department. If the plan is not submitted by that date, the Superintendent will seek an order of rehabilitation or liquidation, in essence commencing an insurance company insolvency proceeding. Any liquidation or rehabilitation would be conducted pursuant to New York insurance law since insurance companies are not eligible to be debtors under the United States bankruptcy laws. The Superintendent would serve as a rehabilitator or liquidator in any such state court proceeding.

FGIC also has been ordered to bring its minimum policyholder surplus into compliance with New York's surplus and capital requirements by March 25, 2010, unless the Superintendent gives it additional time. Until such time as FGIC is in compliance with the New York surplus and capital requirements, it is limited to operating only in the ordinary course of business and to effectuating the Surplus Restoration Plan. Further, the Superintendent retains the right to seek an order of liquidation or rehabilitation against FGIC at any time, so long as it is not in compliance with these capital and surplus requirements.

On December 3, the International Swaps and Derivatives Association, Inc. ("ISDA") announced that a "failure to pay credit event" occurred with respect to FGIC as a reference entity for credit default swaps ("CDS"), triggering the termination and settlement of these over-the- counter derivatives. ISDA's America's Credit Derivatives Determinations Committee also voted to hold an auction to determine the cash settlement price of these CDS transactions, and will be publishing auction terms in due course.

What Does This Mean For You?

FGIC Policyholders, creditors of FGIC, parties to swap agreements with FGIC, and parties to CDS contracts which reference FGIC or securities issued by FGIC each need to review their respective agreements and assess carefully their potential exposure and rights in light of these developments. Although the actions by the Insurance Department are just the beginning of a process that may lead to full-blown insurance company insolvency proceedings, these developments also may have an immediate and tangible effect on clients' insurance coverage, payment of claims and contractual rights under financial guaranty policies and derivatives contracts. Further, for counterparties to derivatives contracts with either FGIC or referencing FGIC securities, termination, closeout and netting rights may have been triggered and must be reviewed as soon as possible to maximize your position and minimize losses. Reed Smith can assist you in this process and help you to preserve and assert your rights now, as well as during and after an insolvency proceeding, should that occur.

Pushing Back on Insurance Coverage Denials for Sexual Abuse Claims

Ann Kramer — Mon, 16 Nov 2009 07:19:16 -0800

This post was written by John B. Berringer

It has become routine in the past ten years or so for liability insurance companies to deny insurance coverage for sexual abuse claims, often on the theory that sexual abuse is intentional in nature. Many liability insurance policies commonly adopt the definition of “occurrence” which requires that a claim must arise from an “accident.” Under these policies, whether allegations of sexual abuse are encompassed by the term “accident” will determine whether the abuse claims are covered.

Until recently, the law in New York and elsewhere appeared settled that sexual assault could never be an “accident.” The courts’ reasoning was that allegations of sexual assault involve intentional acts which cannot be deemed an “accident” for purposes of triggering occurrence-based coverage. Under this line of cases, injuries caused by an assault were not caused by a covered, triggering “occurrence.” See e.g., Green Chimneys School for Little Folk v. Nat’l Union Fire Ins. Co. of Pittsburgh, PA, 244 A.D.2d 386, 664 N.Y.S.2d 320 (1^st Dep’t 1997); Public Mutual Ins. Co. v. Camp Raleigh, Inc. 233 A.D.2d 273, 650 N.Y.S.2d 136 (1^st Dept. 1996) (“the inclusion in the underlying complaint of causes of action sounding in negligent hiring and supervision does not alter the fact that “the operative acts giving rise to any recover are the intentional sexual assaults’.”); but see Public Service Mut. Ins. Co. v. Goldfarb, 53 N.Y.2d 392, 399, 425 N.E.2d 810, 442 N.Y.S.2d 422, (N.Y., 1981) (holding that “[w]hether [coverage for underlying sexual abuse] is permissible depends upon whether the insured, in committing his criminal act, intended to cause injury”).

In recent years, however, the New York Court of Appeals has called into question the holding in those cases. See RJC Realty Holding Corp. v. Republic Franklin Ins. Co., 2 N.Y.3d 158, 777 N.Y.S.2d 4 (2004) (“RJC”). In RJC, the insurer of a health spa was denied coverage for an action in which a customer of the spa alleged a sexual assault by a masseur. The policyholder in RJC sought insurance coverage for claims by the customer against the spa including, among others, negligent hiring, supervision and retention of the masseuse.

Considering the issue of “whether a liability insurer is obligated to defend and indemnify its insured . in an action brought against the insured based on an alleged sexual assault by the insured’s employee,” the court reversed the Second Department’s denial of coverage. The Court of Appeals reasoned that because, pursuant to its decision in Judith M. v. Sisters of Charity Hosp., 93 N.Y.2d 932, 693 N.Y.S.2d 67 (1999), the masseur’s alleged intentional assault could not be attributed to the spa on the basis of respondeat superior, the assault was an “accident”

from the spa’s standpoint.

The parties here agreed that the policy would cover only an “accident” and would not apply to certain acts “expected or intended” by RJC. When they did so, they could reasonably have anticipated that the rules of respondeat superior would govern the question of when a corporate entity is deemed to expect or intend its employee’s actions. Since the masseur’s actions here were not RJC’s actions for purposes of the respondeat superior doctrine, they were “unexpected, unusual or intended” by RJC. Accordingly, they were an “accident” within the coverage of the policy, and were not excluded by the “expected or intended” clause.

RJC, 2 N.Y.3d at 164-65.

Since the Court’s ruling in RJC, a number of New York courts have adopted the Court of Appeal’s reasoning as to coverage for claims arising from underlying acts of sexual abuse. See e.g., ACE Fire Underwriter’s Ins. Co. v. Orange Ulster Bd. Of Cooperative Educational Services, 8 A.D.3d 593, 779 N.Y.S.2d 545 (2d Dept. 2004); NYAT Operating Corp. v. Gan National Ins. Co., 8 Misc.3d 975, 977-79, 900 N.Y.S.2d 272 (N.Y. Sup. Ct. 2005) (“where an employee departs from his or her duties for solely personal motives unrelated to the furtherance of the business, the doctrine of respondeat superior does not apply.”); NWL Holdings, Inc. v. Discover Property & Cas. Ins. Co., 480 F.Supp.2d 655 (E.D.N.Y. March 20, 2007); see also Sweet Home Central School District v. Aetna Commercial Ins. Co., 263 A.D.2d 949, 951-52, 695 N.Y.S.2d 445 (4^th Dept. 1999) (dissent) (arguing that “where the gravaman of the complaint against Sweet Home is negligence . . . “ the “expected or intended” exclusion for bodily injury damages does not apply “[b]ecause no evidence was presented that Sweet Home expected or intended the acts upon which the underlying complaint is based [sexual abuse]”).

These decisions are consistent with decisions by New York courts which have found the term “accident” in liability policies to be ambiguous. Citing multiple New York cases, the First Department in Tortoso v. MetLife Auto & Home Ins. Co., 21 A.D.3d 276, 799 N.Y.S.2d 506, (1^st Dept. 2005) explained that when analyzing coverage for “accidents,” a greater degree of importance must be placed upon the expected or intended nature of the offense as opposed to blanket offense-specific exclusions.

The policy requires that Metropolitan provide a defense where there has been an occurrence, i.e., an accident that results in bodily injury. Exactly what constitutes an accident is not defined in the policy. However, an accident may be considered “an event which is unanticipated and the product of thoughtlessness rather than willfulness.” McGroarty v. Great Am. Ins. Co., 36 N.Y.2d 358, 363, 368 N.Y.S.2d 485, 329 N.E.2d 172 (N.Y. 1975). Indeed, “No all-inclusive definition of ‘accident’ is possible, nor any formulation of a test applicable in every case, for the word has been employed in a number of senses and given varying meanings depending upon the relevant context.” Matter of Croshier v. Levitt, 5 N.Y.2d 259, 262, 184 N.Y.S.2d 321, 157 N.E.2d 486 (N.Y. 1959).

An intentional act may, but need not necessarily, result in intended consequences. “Clearly more than a casual connection between the intentional act and the resultant harm is required to prove that the harm was intended.” Allstate Ins. Co. v. Mugavero, 79 N.Y.2d 153, 160, 581 N.Y.S.2d 142, 589 N.E.2d 365 (N.Y. 1992).

Tortoso, 21 A.D.3d at 278-279, 799 N.Y.S.2d at 509 (1^st Dept. 2005).

Thus, it is possible that coverage may exist for sexual abuse and other intentional torts even when a policy’s definition of “occurrence” requires an “accident.” Don’t take no for an answer, push back.

Predictable Responses to Benmosche Leak

Ann Kramer — Wed, 11 Nov 2009 11:17:32 -0800

This morning’s WSJ report that Robert Benmosche, recently appointed CEO of AIG, is unhappy with government pay restrictions, has elicited predictable, less than sympathetic responses. “Tiny Violins” is the headline from the Daily Beast. New York Magazine’s Daily Intel responded with sarcasm:

Apparently, someone told Robert Benmosche that running the world's largest and most [expletive withheld] insurer was going to be a cakewalk, because three months into the job and two months after returning from a vacation at his Croatian villa, the CEO is considering throwing in the towel, owing to the restrictions placed on him by the company's new owners, the good old United States government.

… But wait: Didn't he know that when he took the job? We'd assumed he was like the David Blaine of CEOs; you know, that he liked putting himself into impossible situations and getting out against all odds, but apparently, Benmosche was on a media blackout for 2008-2009 and had no idea what he was getting into. What did the board tell him, we wonder? That he was being hired to run an insurance company?

Clusterstock goes with outrage:

Robert Benmosche should not be given the opportunity to step down as the chief executive of AIG. He should be fired immediately.
The scope and scale of the arrogance of Benmosche is almost stunning. Except that we've become so accustomed to financial big shots acting like they were divinely anointed that we hardly notice.

If this kind of PR ploy actually works with Ken Feinberg, well …; more likely, it will just continue to backfire. In any event, the parlor game of predicting Benmosche’s successor has begun.

Feinberg’s letter to AIG can be found HERE.

UPDATE: In response to the uproar (e.g. "AIG's Benmosche is a drama queen") created by the WSJ story, Benmosche has sent a letter to AIG employess saying he's "totally committed" to the job.

NY High Court Holds that "Self-Serving" Testimony from Underwriter is Insufficient for Rescission

Ann Kramer — Tue, 27 Oct 2009 11:57:34 -0800

This post was written by J. Andrew Moss

The New York Court of Appeals rejected an effort by Continental Casualty Company (CNA) to rescind an excess professional liability (E&O) policy issued to the law firm Pepper Hamilton LLP, in a decision under Pennsylvania law that also affirmed summary judgment in favor of two of the firm’s other excess E&O insurers based on the application of a “prior knowledge” exclusion in their policies. Executive Risk Indemnity Inc. v. Pepper Hamilton LLP, No. 130 (N.Y. Oct. 20, 2009).

The dispute centered on Pepper Hamilton’s work on behalf of the now-defunct Student Finance Corporation, which eventually led to significant litigation against Pepper Hamilton. According to the opinion, in March 2002 Pepper Hamilton and one of its partners learned that SFC and its principal (the now twice convicted Andrew Yao),

had engaged in securities fraud in connection with SFC’s securitization of student loans. The firm terminated its representation of SFC one month later and in June SFC was forced into involuntary bankruptcy. Pepper Hamilton’s professional liability (or E&O) insurance came up for renewal the following October. In connection with its renewal process, the firm’s general counsel asked all its attorneys whether any were aware of any fact or circumstance, act, error, omission or personal injury that might be expected to be the basis for a professional liability claim. In early August, the partner who was aware of the SFC fraud advised the firm accordingly, but the application submitted by the firm in September did not disclose any information concerning SFC. In April 2004, a new bankruptcy trustee proposed that Pepper Hamilton enter into a tolling agreement with respect to potential claims against the firm by the estate and its creditors. At that point, the firm gave notice to its insurance companies. Lawsuits were filed against the firm in early 2005 and the firm’s primary insurer, Westport, defended the claims.

The Pepper Hamilton ruling on rescission is instructive. CNA had submitted an affidavit from its underwriter stating that he would have treated the application differently had the information been disclosed. The court concluded that CNA failed as a matter of law to meet its high burden, which requires proof by “clear and convincing evidence,” for rescission:

[E]ven if the law firm defendants' omission of the SFC incident is a known false statement, [CNA] failed to establish as a matter of law that the false statement was material to the reinsurance [sic] determination and that the false statement was made in bad faith. Here, the self-serving affidavit of [CNA's] underwriter -- that Pepper Hamilton's renewal application would have been treated differently had it disclosed the underlying circumstances which led to the denial of coverage -- is insufficient to meet the insurer's heightened burden of proof.

On the “prior knowledge” exclusions, the court reversed the pro-policyholder ruling of the intermediate appellate court. Rather than the First Department’s requirement that the insurer had to prove knowledge of "wrongful conduct on the part of the insured" (Executive Risk Indem. Inc. v Pepper Hamilton LLP, 56 AD3d 196, 204 [1st Dept]), the New York high court held that the prior knowledge exclusion

excludes coverage of "any act, error, omission, circumstance ... occurring prior to the effective date of the [policy] if any [insured] at the effective date knew or could have reasonably foreseen that such act, error, omission, circumstance … might be the basis of a [claim]."

On the basis of this stricter standard, the court granted summary judgment to the two excess insurance companies with policies containing this exclusion.

UK's Solvent Schemes Dealt Another Blow: Hopefully, the Coup de Grâce

Ann Kramer — Mon, 19 Oct 2009 09:21:34 -0800

The travesty that is the Solvent Scheme of Arrangement has been dealt another blow; one hopes a fatal one. A month after issuing a blistering attack on the practice, Lord Glennie entered final judgment this week refusing to sanction the Scottish Lion scheme. It is worth taking a long look at Lord Glennie’s lengthy opinion.

The issue, succinctly stated by the court, was: “Can it ever be fair to sanction a ‘solvent’ scheme of arrangement in the face of continuing creditor opposition to having their occurrence cover compulsorily terminated?” The court’s answer was, Probably Not.

Under UK law, an insurance company can wind up its operations under either an Insolvent Scheme of Arrangement or a Solvent Scheme of Arrangement. An Insolvent Scheme has US equivalents in our state-run insurance liquidation processes. However, Solvent Schemes are unique to the UK. They allow an otherwise solvent insurance company, including companies that sold occurrence policies for which the company has largely unquantifiable continuing obligations to its policyholders, to wind up operations by forcing policyholders to accept policy commutations.

Solvent Schemes are governed by Section 899 of the Companies Act 2006 (although they have been around longer). The act requires 75% of the value of each class of creditors to approve the Scheme. The attacks on the British Aviation Insurance Scheme led to the current requirement that creditors with IBNR (Incurred But Not Reported) claims be treated separately from those with existing claims, with separate meetings and votes.

The valuation of IBNR claims by Scheme administrators have led to numerous attacks. Those valuations are critical to the voting, since they determine the weight of each creditor’s vote. Objectors usually are US policyholders with IBNR long-tail claims under occurrence policies, usually environmental, product liability and toxic tort claims. That was the case in Scottish Lion as well. Whatever the merits of “actuarial science” in the context of liability coverage may be, it is certain that the projected value of the IBNR claims will be wrong, whether too high or too low. These valuations also determine the amount paid in the eventual commutation, once the Scheme is sanctioned.

The objections to Solvent Schemes can be summarized as follows:

Policyholders paid substantial premiums for occurrence-trigger policies, which are valuable and now irreplaceable assets
No amount of money paid in commutation will allow a policyholder to replace this coverage.
Unless the policyholder is in need of short-term cash, there is no benefit to these commutations for policyholders; all of the benefit goes to the insurance company and its owners and managers.
Nothing prevents a policyholder which wants a commutation from seeking one; there is no reason to force unwilling policyholders to do so.

In the end, the court agreed, following the reasoning of the court which refused to approve the British Aviation scheme in 2006:

"If individual policyholders wish to compound the company's contingent liabilities to them, and to accept payment in full of an estimate of their claims, there is nothing to stop them doing so. But to compel dissentients to do so would ... require them to do that which it is unreasonable to require them to do."

That unreasonableness seems to me to stem from the fact that where the company is solvent it is unnecessary for the body of creditors or class of creditors to as a whole that there should be any scheme, still less a scheme forced upon unwilling participants. I respectfully agree with that reasoning.

The Court of Session is Scotland’s supreme civil court. The case may eventually end up before the new Supreme Court of the United Kingdom which opened on October first.

--------------------

UPDATE [November 3, 2009]: PricewaterhouseCoopers, Scheme Advisors to Scottish Lion and many other effective and proposed solvent schemes has announced their intent to appeal Lord Glennie's decision.

Delaware Chancery Court Opens the Door to "All Sums" Allocation in New York

Ann Kramer — Fri, 16 Oct 2009 14:37:02 -0800

On October 14^th, Vice Chancellor Leo E. Strine, Jr. of the Delaware Court of Chancery blew some much needed fresh air into New York allocation jurisprudence. The Viking Pump consolidated cases, C.A. 1465-VCS, have already yielded very interesting and thoughtful rulings on the transfer of insurance in connection with complicated corporate transactions. Viking Pump, Inc. v. Liberty Mutual Insurance Company and Warren Pumps LLC, 2007 WL 2752912 (Del. Ch. Apr. 2, 2007 (unpublished opinion).

The latest decision, the first nearly fifty pages of which is also devoted to corporate transaction issues, then spends the next 40 pages [yes, it is 88 pages long] delving into the arcana of allocation law.

Viking Pump and another formerly related entity, Warren Pumps, are on the receiving end of asbestos personal injury claims. The policies that cover these entities were issued to their former parent, Houdaille Industries, formerly headquartered in New York. The primary and first layer umbrella policies, sold by Liberty Mutual were exhausted, thus, the issue before the court was allocation of liability for the asbestos claims among the excess insurance companies. The excess argued that under controlling New York precedent – Con Edison v. Allstate Ins. Co., 774 N.E.2d 208 (NY 2002) – there must be a pro rata allocation.

After pointing out that New York had not taken a public policy position on allocation (unlike, for example, New Jersey) but instead looks to the policy language, the court nodded to the Court of Appeals reliance on the “during the policy period” phrase in its Con Ed decision and took a swipe at the Second Circuit’s approach in Olin. Because of New York’s policy language-centered approach to allocation, Vice Chancellor Strine wrote: “the fact that one decision held that a particular policy embraced the pro rata approach does not make New York a ‘pro rata state.’” [p. 68]

The court then turned to the impact of non-cumulation and prior insurance clauses that appear in many excess policies. The non-cumulation clauses appeared in the Houdaille excess program courtesy of follow-form endorsements; the excess policies following to Liberty Mutual forms. Liberty Mutual, thanks to Gilbert Bean, was the only insurance company to come to grips with the consequences of gradual injury claims under the new “occurrence” form in 1966-67. Liberty incorporated either “deemer” or “non-cumulation” clauses into nearly all of its policies in order to prevent “stacking of limits.

The court found that these non-cumulation and prior insurance clauses “unambiguously provide for all sums allocation.” [p. 68] and “cannot sensibly be applied within a pro rata allocation scheme.” [p. 71]. In this, the court was not breaking new ground. See Spaulding Composites (NJ), Outboard Marine (IL), Dow Corning (MI), Liberty Mutual (PA), and Hercules (DE).

Helpfully, the insurance companies could not agree amongst themselves how to sensibly marry pro rata allocation relying on “during the policy period” with their non-cumulation and prior insurance clauses (footnote 170 is illuminating). Vice Chancellor Strine concludes with brio:

It is a fundamental New York rule of contract interpretation that a court should read a contract in order to give full effect to every term therein. The Excess Insurers would have me interpret the Houdaille Policies as embracing the pro rata method of allocation by having me jettison explicitly bargained-for provisions of those Policies that benefit them, and therefore reconciling the evident conflict between explicit provisions of the Policies and the pro rata method the Excess Insurers say is implicitly called for by the Policies. In other words, the Excess Insurers would have me elevate their self-interested policy preference over the only method of allocation that permits the sensible operation of all of the Houdaille Policies’ material terms. New York law does not permit such a result but instead requires giving effect to the parties’ contractual choice.

***

Most important, the contractual language only works if all sums is the approach. The Excess Insurers bargained for an all sums method of allocation greatly tempered by exposure-reducing Non-Cumulation and Prior Insurance Provisions. They cannot now prospect for more by having a court substitute a different allocation method for that which best fits with all of the terms of the relevant Policies.

Id. at 80-81.

Stay tuned for the New York courts’ reaction to Vice Chancellor Strine.

Insurance Company Pays Up, Resolving Unallocated Settlement and Defense Costs

Ann Kramer — Wed, 26 Aug 2009 07:39:48 -0800

This post was written by John Ellison and Luke Debevec.

On August 13, 2009, the City of Sterling Heights, Michigan received a check from United National Insurance Company for over $15.4 million, satisfying a judgment awarded by the federal district court for the Eastern District of Michigan and upheld on appeal by the Court of Appeals for the Sixth Circuit. Apart from this payment, United National and Sterling Heights will continue to litigate the amount of additional damages that the Sixth Circuit determined to be due to the City.

In 2003, after several years of litigation, the City settled for $31 million various civil rights and defamation claims brought against it by Hillside Productions, Inc., the owners and operators of the Freedom Hill Amphitheatre located in Sterling Heights. Since then, the City sought to recover this payment, as well as the costs of defending the Hillside claims, from its various insurance companies. Once the Sterling Heights’ litigation with Hillside ended, it found itself in a new lawsuit with its insurance companies, none of whom wanted to pay for the Hillside litigation. In 2005 and 2006, two of the City’s insurers settled with the City for $18.75 million, leaving only United National.

Throughout its dispute with the City, United National had contended that it was only responsible for defamation-related allegations, which the insurer argued represented only a small fraction of the total value of the City’s global settlement with Hillside. In addition to defamation, that settlement had also resolved numerous claims that the trial court determined were not covered by United National’s insurance policies, such as violations of Hillside’s civil rights. In 2006, the trial court ruled that at least one-third of the total value of the City’s settlement, defense costs, and consequential damages should be United National’s responsibility, using a pro rata time-on-the-risk formula, given that it was one of three insurance companies that provided insurance for claims that had been settled. In 2007, the City was awarded a judgment against United National that was worth in excess of $14.6 million.

United National appealed the City’s judgment, arguing among other things that the defamation-related claims could not reasonably represent one-third of the City’s settlement with Hillside. United National protested that allocation was not appropriate to resolving an insurer’s liability for an unallocated global settlement of several types of covered and uncovered claims. On March 31, 2009, the Sixth Circuit ruled handing a complete victory for Sterling Heights. The Sixth Circuit held that the one-third allocation was an appropriate means of estimating those damages relating to covered defamation allegations. The Court accepted the City’s arguments that pro rata allocation was “fair” due to the indivisibility of harm alleged by the underlying plaintiffs flowing from both uncovered and covered causes of action, the failure of the insurance company to participate meaningfully in the settlement process, as well as the “impossibility” of requiring the City to prove the value of its covered causes of action after the fact.

The City will now pursue an additional $875,000 in damages because the appeals court also accepted the City’s arguments that the trial court significantly undervalued the City’s consequential damages. The Court of Appeals agreed with the City that it should be entitled to consequential damages from the date United National breached its insurance policy, not the later date originally selected by the district court.

Insurers Denied De Facto Win After Losing Daubert Motion

Ann Kramer — Wed, 26 Aug 2009 07:08:43 -0800

This post was written by John B. Berringer and Michael N. DiCanio.

In a recent decision Magistrate Judge David A. Baker rejected insurance company Daubert motion to exclude the expert testimony of an architect, a structural engineer, and an accountant designated in an insurance coverage case. Bray & Gillespie v. Hartford et al, Case No. 6:07-cv-00326 –DAB (M.D. Fla. April 20, 2009).

The defendants’ had moved to exclude the testimony of B&G’s accountant and his conclusions regarding the amount of business interruption loss suffered. They did not challenge the methodology of his calculations, but rather took issue with the fact that he allegedly used the wrong numbers and did not provide a period of restoration. Denying the motion, Judge Baker held that this was not a proper ground for excluding the testimony under Daubert, see Quiet Technology, 326 F.3d at 1345-46 (using incorrect numbers in a reliable formula is not grounds for exclusion), and held that the particular issue of limiting the damage calculation with respect to a period of restoration is a matter of factual and legal dispute in this case.

The defendants’ also attacked the proposed testimony of B&G’s architect as unreliable, alleging that he misapplied the pertinent development codes. The court denied the motion, holding:

Interpreting code requirements and estimating building damage and repair or rebuild costs is exactly the sort of thing architects do, well within an architect’s expertise for Daubert purposes. To the extent Defendants disagree with his analysis or find it factually unsupportable, they can challenge these conclusions by cross examination or offer the testimony of their own expert witness, and the jury can decide the matter by weighing the testimony of the competing experts.

Finally, the defendants argued that B&G’s engineering expert could not testify as to the existence of mold and asbestos in a building, could not rely upon second-hand knowledge to make conclusions and should have performed all testing personally. Denying these arguments, Judge Baker found that a professional engineer is qualified to testify as to a generally accepted proposition such as the existence of mold and asbestos in a building. In addition, the court held that defendants’ remaining arguments regarding the expert’s first hand knowledge were not a proper Daubert challenge:

There is no requirement that an expert has to have first hand information as to all relevant facts and verify same; nor is there a requirement that the expert must perform all testing personally. Just as a physician may reliably interpret an X-ray taken by a technician, a Professional Engineer is qualified, by training and experience, to review the work of others and opine to matters within his expertise. To the extent Defendants find fault with the assumptions underlying the opinions, that is not an attack on the methodology, but on the application of an established methodology to a disputed set of facts.

Trial is scheduled for September 14, 2009.

A Flush Beats a Straight and Excess Other Insurance Beats Pro Rata Other Insurance

Dan Winters — Wed, 29 Jul 2009 08:58:16 -0800

W9/PHC Real Estate LP and Grubb & Ellis Management Services, Inc. v. Farm Family Casualty Insurance Co., N.J. App. Div. May 20, 2009

In a declaratory judgment action presented to the New Jersey Appellate Division, defendant Farm Family Casualty Insurance Company (Farm Family) appealed from an order directing it to reimburse W9/PHC Real Estate LP and Grubb & Ellis Management Services, Inc. for half of the defense costs and indemnification of a slip-and-fall suit for damages. Crabtree Landscaping and Turf Management, LLC (Crabtree), a company hired by plaintiffs to remove snow from their property, was also a defendant in that action. W9/PHC sought coverage as additional insureds under Crabtrees’s liability insurance policy with Farm Family.

In its opinion, the appellate division succinctly described the issue before it as follows:

This appeal presents the issue of the obligation to pay for a liability insurance claim and counsel fees where two insurers have conflicting “other insurance” clauses, one providing for “pro rata” payment, and the other for payment only when the other insurer’s limit is exhausted.

The W9/PHC maintained insurance with Zurich North American. The Zurich policy contained an other insurance clause that provided for contribution by equal shares if another policy also covered the risk, or contribution by limits if the other insurance did not permit contribution by equal shares. This is commonly referred to as a pro rata provision.

W9/PHC was an additional insured under the Farm Family policy, which contained an other insurance clause that provided for contribution only in excess of the amount covered by other insurance, whether collectible or not.

Following a slip and fall accident at W9/PHC building, W9/PHC sought coverage from Zurich and Farm Family. Farm Family denied coverage in part based on the assertion that it was excess to Zurich. In a declaratory judgment action, the trial judge ruled that the two other insurance clauses essentially cancelled each other out and both insurers had to contribute equally.

Farm Family appealed, causing the appellate division to weigh the other insurance clauses to determine if one clause was superior.

As the court explained, “other insurance” clauses generally fall into three categories: pro-rata, excess and escape. The court noted that where two carriers have responsibility for a claim, the other-insurance clause of each policy must be examined to determine whether there exists language which may govern the contribution each party should make. Universal Underwriters Ins. Co., v. CNA Ins. Co., 308 N.J. Super. 415, 417 (App. Div. 1998).

First, the court noted that, in New Jersey, where the two policies in question each have an other-insurance clause stating that it is excess over any other policy, the provisions are “mutually repugnant,” and are disregarded. Cosmopolitan Mut. Ins. Co. v. Cont’l Cas. Co., 28 N.J. 554, 562 (1959).

In the event the other-insurance clause of each policy contains a pro-rata provision stipulating that each shall bear a proportion of the loss to the extent of the applicable insurance, then under New Jersey law, the policies are not mutually repugnant and each carrier must bear its respective proportionate share of the loss.

Lastly, as to the specific issue before the court in this matter, allocating loss among insurers where one policy has an other-insurance clause calling for a pro-rata sharing of the loss, while the other policy has an other insurance clause providing for excess coverage, the court held such a determination was essentially an issue of first impression in New Jersey.

The court began its analysis by noting that other jurisdictions had considered the issue of conflicting pro rata and excess other-insurance clauses. From that analysis, the court concluded that cases from other jurisdictions generally fell into two types. In the first type, the pro rata clause in one policy and the excess clause in the other are not held mutually repugnant and the policy containing the pro-rata provision must be exhausted first up to the policy limits. The court found this to be the majority rule. In the second type or minority view, commonly referred to as the Lamb-Weston rule (because it was developed in Lamb-Weston, Inc. v. Oregon Auto. Ins. Co., 341 p.2d 110 (Or. Ct. App. 1959)), all other-insurance clauses, escape, excess or pro rata, are treated the same. Thus, any conflict between such clauses is considered to be mutually repugnant and the loss is apportioned according to the limits of each policy. This approach has been deemed the minority view.

The New Jersey Appellate Division then decided to adopt the majority rule. In doing so the court held that, “In the absence of controlling precedent, the specific language of the policies should be applied, and given its ordinary meaning.” (citing Universal Underwriters Ins. Co. surpa, 308 N.J. Super. at 419).

As a result of that decision, the appellate court overturned the trial judge here who had ordered that Farm Family contribute an equal amount to the $115,000 settlement.

While arguments can certainly be made in favor of either the majority view or the minority view, the real benefit of this ruling is the clarity it brings to assessing the impact of dueling other-insurance clauses. Competing excess clause are “mutually repugnant” and therefore disregard. Two pro-rata clauses are enforceable and each carrier responds in accordance with its share. Finally, when faced with excess and pro-rata clauses, the excess trumps the pro-rata and the pro-rata policy must be exhausted first. Before going all in at a poker game, it helps to know if your hand is likely to be stronger than the other players. Likewise, a policyholder dealt coverage under multiple policies now knows how to play its hand when facing other-insurance clauses.

When will the chickens come home to roost? Insurers Use Reserve Releases to Buff Up Underwhelming Financials

Ann Kramer — Wed, 08 Jul 2009 08:04:23 -0800

Releasing reserves based on early developments is an optimist’s view, [Evan Greenberg, chairman and chief executive officer of ACE Limited] said. “Good news comes early in the casualty business. The bad news always comes late,” he said.

“I do think some companies have released reserves early in an effort to goose earnings,” he said. “It may come back to bite them.”

Link to entire story Here.

As discussed in my prior post P&C fundamentals are pretty bad. According to reports, the only way that insurers showed profits in recent periods was by playing games with their reserves. That is, they revised downward their view of prospective losses to allow them to release reserves, improving the bottom line (on paper, anyway). Such releases covered up “a multitude of sins.”

A report of a Standard & Poor’s June conference on the subject is enlightening and alarming:

… insurers will likely face “temptation to help earnings by underreserving,” particularly if there isn’t a strong recovery. “And we’re not expecting that either,” [John Iten, a Standard & Poor’s credit analyst] said. “We think that any hardening of the cycle will be fairly modest over the next couple years.”

The trend in the industry of releasing reserves possibly prematurely raises questions on reserve adequacy for the future. “Currently, we are witnessing a healthy amount of reserve releases for recent accident years, with a particular focus on longer-tail, commercial product lines,” Mr. Gross said. In 2008, prior-year commercial line reserve releases nearly doubled to approximately $11 billion in 2008 from $5.7 billion in 2007.”

D&O line reserves are of particular concern according to Michael Angelina, Chief Risk Officer and Chief Actuary at Endurance Specialty Holdings Ltd..

"Now is not the time to be releasing reserves," he said. "It's a little premature to be taking good news on that business." At the same time, he said insurers are celebrating that rate decreases have declined, which is not a sign of a hard market. Also, in the 2007-2008 period, given the credit crisis and the associated exposure to directors' and officers' (D&O) liability for financial institutions of a number of commercial lines writers, he said it's unclear whether insurers have underreserved. Many market observers expect a $6 billion-$10 billion reserve need for the D&O product line.

This week, alarm bells have gone off concerning Chubb, a major D&O writer:

The investor report released Monday by Barclays Capital, a unit of London-based Barclays Bank P.L.C., said D&O insurer losses could reach as high as $10 billion, which “implies up to a $2 billion loss (over several years) at (Chubb) based on its market share.”

Barclay's said, “given a potential for a wave of D&O litigation, Chubb does not appear appropriately reserved because its 2008 U.S. D&O loss ratio (estimate) of 78% is mostly in line with its median developed loss ratio over the past 10 years, despite D&O prices declining 50% from the peak in 2002.”

Michael Gross, an S&P analyst said:

“Predicting future claims is key to profitability and financial strength,” … “The question for me is why are they emptying their tanks?”

The answer is obvious, to make abysmal quarterly financials look better. As the Wall Street Journal reported in April:

At Travelers, 34% of net income came from reserve releases in 2008, up from 7.6% in 2007. For Chubb, 31.3% of net income in 2008 was due to reserve releases, compared with 16.2% in 2007.

But this “buffing” cannot go on forever.

"You just won't be able to keep your combineds low based on reserve releases, the way you could in '07 and '08," says [Adam Klauber, director of U.S. equity research for Fox-Pitt Kelton Cochran Caronia Waller].

Earlier this spring, Moody's issued a report estimating that, of the $5 billion to $12 billion in excess loss reserves the industry had at the start of 2008, about $9 billion had been depleted in the first nine months, with estimates rising to $14 billion for the entire year. Moody's Vice President Paul Bauer says he believes the industry has exhausted its cushion, portending dipping profits for 2009.

"In addition, the decline in reserve adequacy implies a further weakening of balance sheet strength in what is already a difficult market environment," he says.

Link to full story Here.

Eventually, analysts will sit up and take notice, as S&P did last month and Barclay’s did this month. After those flares have gone up, soon-to-be-released second quarter reports should be interesting. Stay tuned.

Insurers Wait for a Hard Market: If Only Wishing Could Make It So

Ann Kramer — Wed, 08 Jul 2009 07:35:27 -0800

P&C insurance companies are in a tough spot right now. According to a recently released Insurance Services Offices report, their margins have dropped below break-even. Investment income has fallen through the floor, and the commercial mortgage backed securities market hasn’t even begun to take the hit that analysts predict it will. On top of that, premiums are shrinking, not rising. Not only are rates still dropping but so are the sales and payroll numbers on which the premium rates are computed. As reported in BestWire

… the recession has left commercial insurance buyers with fewer employees and fewer risks to insure. "Our customers are smaller than they were a year before," [Mario P. Vitale, chief executive officer of global corporate for Zurich Financial Services] said.

How does the shrinking customer impact rates? As succinctly explained by Steve Tuckey:

Any serious decline in exposure units, whether it is employees, fleet vehicles or buildings, will make raising prices more difficult because more capacity is chasing fewer such units. And it will also make year-over-year numbers less than impressive even if prices do rise …

Link to full story Here.

This makes infinitely more sense than Marsh’s Brian Duperreault who, along with other industry cheerleaders, has discovered an “invisible hard market”:

But other factors are at work, he added, combining to undermine any positive impact. Thus, he said he coined the phrase “‘invisible hard market,’ because we cannot see its normally positive effects for the industry.”

With available exposures to insure on a steep decline during a deepening recession, he said, “that means no dramatic change in the top line—which, combined with falling investment income, means no dramatic impact on the bottom line, either.” As a result, he observed, “the instant gratification that usually comes from a hard market won’t be available this time around.”

Still, for the moment at least, “[insurance] supply has gone down more swiftly than demand,” due to “staggering investment losses” for many carriers, he observed, prompting insurers to raise prices to compensate.

Link to full story Here.

Small problem, however, is that, talk of underwriting discipline notwithstanding, rates aren’t rising; they are just falling more slowly than before. This focus on first and second derivatives, often decried by blogger Felix Salmon, seems designed to make everyone feel better about dismal statistics. There are exceptions (e.g. financial industry D&O cover) but they won’t carry the whole industry.

These falling rates are below levels analysts deemed inadequate before 2009 began. According to MarketScout:

“At the end of every year we calculate the rate adequacy of the property and casualty industry,” said Mr. Kerr, “According to our calculations, the property and casualty rate index fell [7 percent] below ‘rate adequacy’ in the fourth quarter of 2008.”

Link to full story Here.

In January, MarketScout declared the beginning of the end of the soft market but hedged its bet: “It may take as much as a year for rates to actually start increasing but the soft market trend has turned.” In other words, rates should rise, they just aren’t.

If only wishing could make it so.

Travelers v. Bailey

Ann Kramer — Fri, 19 Jun 2009 12:50:48 -0800

Yesterday, the United States Supreme Court handed a win to Travelers (and indirectly to chapter 11 debtors using insurance proceeds to fund bodily injury trusts), getting Travelers out of further liability arising from its actions “related to” its role as the primary insurer of Johns-Manville. These were not suits seeking proceeds of the insurance policies issued by Travelers to Johns-Manville, but suits alleging that Travelers had an independent duty to claimants arising from its knowledge of the dangers of asbestos.

Resting on res judicata and the finality of settlements and judgments, the Court refused to address whether the Bankruptcy Court’s 1986 Orders had exceeded its authority. That time, according to the Court, had long passed:

Almost a quarter-century after the 1986 Orders were entered, the time to prune them is over.

The Court reserved for another day (never?) the question of the proper scope of Bankruptcy Court authority in these matters:

Our holding is narrow. We do not resolve whether a bankruptcy court, in 1986 or today, could properly enjoin claims against nondebtor insurers that are not derivative of the debtor’s wrongdoing.

Of interest to me is the Court’s commentary on the wording of the Insurance Settlement Order, which will be familiar to anyone who is a student of insurance policy exclusions and insurance company releases. As described by the Court:

The December 18, 1986, order of the Bankruptcy Court approving the insurance settlement agreements (Insurance Settlement Order) provides that, upon the insurers’ payment of the settlement funds to the Trust, “all Persons are permanently restrained and enjoined from commencing and/or continuing any suit, arbitration or other proceeding of any type or nature for Policy Claims against any or all members of the Settling Insurer Group.” The Insurance Settlement Order goes on to provide that the insurers are “released from any and all Policy Claims,” which are to be channeled to the Trust. The order defines “Policy Claims” as “any and all claims, demands, allegations, duties, liabilities and obligations (whether or not presently known) which have been, or could have been, or might be, asserted by any Person against … any or all members of the Settling Insurer Group based upon, arising out of or relating to any or all of the Policies.”

Citations omitted, emphasis added. The Respondents had argued that the scope of these orders was limited to “actions against insurers seeking to recover derivatively for Manville’s wrongdoing.” Not so, said the Court, even if that was the intent of some of the parties to the settlement on which these orders were based.

The Court addressed the phrase that strikes fear in the heart of every contract and insurance recovery lawyer: “based upon, arising out of or relating to.” In the apt words of one former client: “What the hell does that mean? What doesn’t it include?” The Court, with a slight nod to its absurdity, ducked the question:

These actions so clearly involve “claims” (and, all the more so, “allegations”) “based upon, arising out of or relating to” Travelers’ insurance coverage of Manville, that we have no need here to stake out the ultimate bounds of the injunction. There is, of course, a cutoff at some point, where the connection between the insurer’s action complained of and the insurance coverage would be thin to the point of absurd. See California Div. of Labor Standards Enforcement v. Dillingham Constr., N.A., Inc., 519 U.S. 316, 335 (1997) (Scalia, J., concurring) (“[A]pplying the ‘relate to’ provision according to its terms was a project doomed to failure, since, as many a curbstone philosopher has observed, everything is related to everything else”); New York State Conference of Blue Cross & Blue Shield Plans v. Travelers Ins. Co., 514 U.S. 645, 655 (1995). But the detailed findings of the Bankruptcy Court place the Direct Actions within the terms of the 1986 Orders without pushing the limits.

I, for one am interested in those “ultimate bounds” and how “thin” the “point of absurd” actually is.

Latching on to this point, Justice Stevens in dissent argued (in a passage that will warm the heart of many a policyholder lawyer) that the term “Policy Claims” is “not amenable to a purely literal construction [so] the Court must look beyond the four corners of the Insurance Settlement Order to ascertain its meaning.” The dissent looked to then-existing and subsequent bankruptcy law, as well as to Travelers’ subsequent behavior, for a better understanding of what the 1986 Orders meant. In a particularly trenchant passage, Justice Stevens wrote:

… it is worth asking why Travelers paid more than $400 million in 2004 to three new settlement funds in exchange for the Bankruptcy Court’s order “clarifying” that the independent actions “are—and always have been—permanently barred” by the 1986 injunction. If the 1986 injunction were as clear as the Court assumes, surely Travelers would not have paid $445 million—more than five times the amount of its initial contribution to the Manville Trust—to obtain a redundant piece of paper.

Citations omitted.

Finally, the Court remanded to the Second Circuit the very interesting Due Process question of who is bound by these broad Bankruptcy Court orders:

Chubb … has maintained that it was not given constitutionally sufficient notice of the 1986 Orders, so that due process absolves it from following them, whatever their scope. The District Court rejected this argument, but the Court of Appeals did not reach it. On remand, the Court of Appeals can take up this objection and any others that respondents have preserved.

Citations omitted. Thus, the semi-amusing grudge match between lawyers for Travelers and Chubb can continue.

Have NJ Court Rules, Will Travel: NJ Court Holds Insurer Must Pay Counsel Fees Incurred in Illinois Declaratory Judgment Action

Dan Winters — Fri, 19 Jun 2009 08:45:24 -0800

On June 5, 2009, in response to the appeal filed by Myron Corporation, a New Jersey appellate court held that Atlantic Mutual Insurance Corp. was responsible for Myron’s counsel fees incurred in fending off Atlantic’s Illinois declaratory judgment action pursuant to NJ Rule 4:42-9(a)(6). The coverage dispute centered on defense coverage for numerous cases filed against Myron, alleging that junk faxes sent by Myron violated the Telephone Consumer Protection Act (“TCPA”). Atlantic defended Myron in the cases under a reservation of rights. After the Seventh Circuit ruled that insurance coverage was not available for TCPA claims in an unrelated case [Am. States Ins. Co. v. Capital Assoc. of Jackson County, Inc.], Atlantic decided it was a good time to file a DJ action against Myron in Illinois federal court.

The problem with this brilliant strategy was that, as the Illinois court wrote, dismissing the case: “a New Jersey court has the greatest interest in resolving an insurance coverage dispute arising from policies which appear to have been issued in New Jersey to a New Jersey corporation with its principal place of business in New Jersey.” Once in the hands of a New Jersey court, Atlantic lost. The court held that Atlantic owed a defense to Myron for the TCPA cases. The parties then settled, except on the issue of whether Myron was entitled to counsel fees for both the New Jersey and Illinois insurance coverage litigations under NJ Rule 4:42-9(a)(6).

Things didn’t improve for Atlantic on appeal:

We agree with Myron that, unless the insured can recover its counsel fees for out-of-state litigation in this situation, an insurer could wear down the insured financially through forum-shopping. In this case, there is no doubt that Atlantic filed its action in Illinois to take advantage of a favorable Seventh Circuit ruling on coverage. While this may have been good legal strategy from Atlantic's point of view, it imposed costs on Myron to fight its way out of what the Illinois court found was an inappropriate forum, and to get the case back into an appropriate venue.

Myron v. Atlantic Mutual, ___ N.J.Super. ____, slip op. at pp. 12-13 (App. Div. June 5, 2009). Myron sought approximately $160,000 in legal fees and costs it incurred in defending against Atlantic’s Illinois federal court declaratory judgment actions, which had been denied by the NJ trial judge.

In its reversal of the trial court, the Appellate Division cited with approval the prior decision in Liberty Village Associates v. West American Insurance Co., 308 N.J. Super. 393. 406 (App. Div.), cert. denied, 154 N.J. 609 (1988), which held:

The theory is that one covered by a policy is entitled to the full protection provided by the coverage, and that benefit should not be diluted by the insured’s need to pay counsel fees in order to secure its rights under the policy. Under New Jersey jurisprudence, even if an insurer files a declaratory judgment action in good faith to contest its obligation to cover a claim, it must pay the insured’s legal fees if it loses.

The court then expanded its holding by finding that, “In addition to harming the insured, an insurer’s refusal to provide liability coverage may also, as a practical matter, preclude an innocent injured party from being able to recover for the injury. Hence, third-party beneficiaries may also sue an insurer to establish coverage and may recover counsel fees if successful.”

The appellate court noted that after successfully fending off Atlantic’s effort to litigate the coverage issue in Illinois federal court, Myron litigated the merits of the coverage issue in New Jersey and obtained a favorable result. Its right to counsel fees, according to the court, therefore stemmed from its success in the New Jersey litigation. Finally, the court addressed Atlantic’s claim that Myron was not a “successful claimant” under the rule. According to the Appellate Division, once the insured obtained a favorable determination on the coverage issue, it was entitled to recover its counsel fees, wherever those fees were incurred.

It is not uncommon for corporations headquartered in one state to face law suits filed in multiple jurisdictions throughout the United States, and to have insurance with a company headquartered in another state. As such, it is not uncommon for coverage actions to begin with a race to the courthouse as the parties seek the most favorable forum. Thanks to the New Jersey Appellate Division, however, insurers can no longer rest assured that such a strategy is without a significant down-side. New Jersey enacted Court Rule 4:42-9(a)(6) to ensure that policyholders received the full benefit of the bargain, and that insurers could not simply wear down the insured. The Myron decision serves those laudable goals well.