Insurance Recovery Law - August 2015 #2

by Manatt, Phelps & Phillips, LLP
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In This Issue:

  • Good News for Corporate Policyholders: Insurer Cannot Refuse Coverage Based on Insured's Assignment of Rights Under Policies After Loss Has Occurred
  • Insurer Must Defend Asbestos Exposure Lawsuit, California Court Rules
  • Insurer Required to Cover Costs Its Insured Has Incurred or Will Incur to Remediate Coal Pollution
  • Based on the Plain Language of the Policy, the Insured v. Insured Exclusion Barred Coverage for FDIC Receiver
  • Under Limited Circumstances Insurer Has a Right to Sue Independent or Cumis Counsel Directly for Reimbursement of Defense Costs

Good News for Corporate Policyholders: Insurer Cannot Refuse Coverage Based on Insured's Assignment of Rights Under Policies After Loss Has Occurred

Why it matters: Reversing its holding in a 2003 case, the Supreme Court of California recently ruled that notwithstanding the presence of a consent-to-assignment clause in a liability policy, an insured may legally transfer its insurance after a loss has taken place. The court based its decision in large part on Insurance Code Section 520, which states: "[a]n agreement not to transfer the claim of the insured against the insurer after a loss has happened is void if made before the loss." The court rejected the insurer's argument that the phrase "after a loss has happened" necessarily means the period after the insured has incurred a direct loss by virtue of the entry of a judgment, or finalization of a settlement, fixing a sum of money due on a claim, or that there needed to be a "perfected" and discrete claim.

The court's decision brings California into line with the vast majority of decisions nationwide holding that an insurer may not block assignment of coverage under liability policies once a covered loss has occurred. This is good news for policyholders because it removes a significant and widely criticized legal impediment to mergers and acquisitions and facilitates the transfer of assets and liabilities to between business entities without fear of jeopardizing already-triggered insurance coverage.

Detailed discussion: The case involved a dispute between Fluor Corp. and Hartford Accident & Indemnity Company ("Hartford") arising from a 2000 corporate restructuring in which Fluor split itself into two companies.

Fluor purchased numerous comprehensive general liability policies from mid-1971 to mid-1986 from, among others, Hartford. The policies contained a consent-to-assignment clause that stated "[a]n assignment of interest under this policy shall not bind the Company until its consent is endorsed hereon."

Commencing in the mid-1980s, various Fluor entities were sued in numerous lawsuits alleging liability for personal injury caused by exposure to asbestos. Fluor tendered these lawsuits to Hartford. For many years Hartford defended and settled those actions.

In 2001, Fluor notified Hartford of a reverse spin-off in which Fluor was separated into two publicly traded companies. Hartford continued to provide coverage to Fluor under its predecessor's policies.

In 2009, in subsequent coverage litigation, Hartford sought to avoid its coverage obligations, asserting for the first time that the reverse spin-off reflected a purported assignment of insurance rights which was done without Hartford's consent, thereby rendering the assignment void.

Hartford argued that it had no obligation to defend or indemnify the entity which was the subject of the asbestos lawsuits, even though it was a continuation of the original Fluor Corporation whose operations were at issue in those suits.

The trial court agreed with Fluor, holding that the California Supreme Court had addressed the issue in its 2003 decision Henkel Corporation v. Hartford Accident and Indemnity Company. Fluor subsequently appealed and again lost, leading Fluor to appeal to the California Supreme Court.

In Henkel, the California Supreme Court issued a decision that limited the ability of corporate successors to obtain coverage under predecessors' policies on a contract theory. The court ruled that if the predecessor company's policy contains a consent-to-assignment clause, any assignment of insurance policy benefits to a successor corporation required the insurer's consent. The court stated that policy benefits are not transferable choses in action unless at the time of corporate transfer they could be reduced to a monetary sum certain.

But the court overruled that result in Fluor, noting that the Henkel decision failed to account for Insurance Code Section 520.

Section 520 provides that "[a]n agreement not to transfer the claim of the insured against the insurer after a loss has happened is void if made before the loss."

After a lengthy review of the legislative history of the statute and case law throughout the United States, the Fluor court rejected the argument that the phrase "after a loss has happened" necessarily means the period after the insured has incurred a direct loss by virtue of the entry of a judgment, or finalization of a settlement, fixing a sum of money due on a claim, or that there needed to be a "perfected" and discrete claim.

The court reasoned that "the rule embodied in section 520 is consistent with the overwhelming majority of cases decided before and since Henkel." The principle reflected in those cases—precluding an insurer, after a loss has occurred, from refusing to honor an insured's assignment of the right to invoke policy coverage for such a loss—has been described as a venerable one, borne of experience and practice, facilitating the productive transformation of corporate entities, and thereby fostering economic activity."

While consent-to-assignment clauses are a recognized means of protecting an insurer from having to bear a greater risk than what it agreed to undertake when it issued the policy, the court further explained, Section 520's "post-loss exception" is an essential aspect of modern commerce, with its constant mergers, acquisitions, and asset sales.

The court concluded "that the phrase 'after a loss has happened' in section 520 should be interpreted as referring to a loss sustained by a third party that is covered by the insured's policy, and for which the insured may be liable." The court further explained that "the statutory phrase does not contemplate that there need have been a money judgment or approved settlement before such a claim concerning that loss may be assigned without the insurer's consent."

"This result obtains even without consent by the insurer—and even though the dollar amount of the loss remains unknown or undetermined until established later by a judgment or approved settlement. Our contrary conclusion announced in Henkel Corp. v. Hartford Accident & Indemnity Co. is overruled to the extent it conflicts with this controlling statute and this opinion's analysis."

The case was sent back to the Court of Appeal for reconsideration.

To read the decision in Fluor Corp. v. Superior Court, click here.

Insurer Must Defend Asbestos Exposure Lawsuit, California Court Rules

Why it matters: A California federal judge has ruled that an insurer had a duty to defend an apartment owner and its construction contractor in connection with a suit brought by tenants who allege they were exposed to asbestos. Although the policy contained an exclusion for injuries that "related in any way" to asbestos, the underlying allegations included potentially covered claims, such as wrongful entry into the tenants' unit. As such, the insurer was obligated to defend the entire suit. The insurer asserted that the asbestos exclusion still applied to those allegations because the insured's employees made multiple entries into the building to abate the asbestos. But the court disagreed, finding that argument to be baseless, pointing out that the tenants did not claim in their suit that asbestos abatement was the reason for the alleged wrongful entries. Emphasizing that the test to prove a duty to defend is extremely lenient, the court explained that "even if one such entry could properly be excluded under the asbestos exclusion, [the insurer] has not established that there was no potential for coverage for the other alleged entries."

Detailed discussion: In 2012, tenants of Parklyn Bay brought suit against the apartment owner and its contractor Oliver & Co., alleging, among other things, that they knowingly or negligently exposed the tenants to asbestos during a construction project.

The complaint also contained allegations that were unrelated to asbestos. For example, one of the allegations stated: "During the time that plaintiffs were out of their unit, defendants and/or workers employed by defendants made multiple entries into the Premises without prior notice, and without the consent of plaintiffs."

Parklyn turned to Liberty for coverage. Pointing to an asbestos exclusion, Liberty denied the request, arguing that all of the allegations in the complaint arose out of and related to asbestos. The insurer eventually settled the tenants' action and then filed suit against Liberty.

Granting Parklyn Bay's motion for summary judgment, the court explained that an insurer owed a broad duty to defend its insured against claims that create even a potential for indemnity. "Because the allegations in the [tenants'] complaint clearly created a 'potential for indemnity' not excludable under any policy term, Liberty had a duty to defend both Parklyn Bay and Oliver," the court stated.

The test for an insured to prove that it was owed a duty is extremely lenient, the court noted. "Perhaps for this reason, the California Supreme Court has advised insurers that 'to avoid any possibility that a refusal to defend may subject it to eventual liability for bad faith, the insurer is well advised to seek a judicial determination that it owes no defense' before it refuses to defend a tendered claim," the court reasoned. "Liberty did not heed the Supreme Court's wisdom. . . . [T]his was a mistake."

The court found a duty to defend based solely on the allegations of paragraph 18 of the tenants' complaint. The policy provided coverage for "personal and advertising injury" defined to include "[t]he wrongful eviction from, wrongful entry into, or invasion of the right of private occupancy or a room, dwelling or premises that a person occupies, committed by or on behalf of its owner, landlord, or lessor."

"Quite plainly, the allegations in Paragraph 18—that Parklyn Bay or its employees made 'multiple entries' into the Tenants' apartment without prior notice or consent—raise at least the 'potential for coverage' under the 'personal and advertising injury' Policy provision; that provision expressly covers injuries 'arising out of … [the] wrongful entry into, or invasion of the right of private occupancy or a room,' " the court stated.

Liberty contended that the reason Parklyn Bay and its employees allegedly made multiple entries into the tenants' apartment was "to abate the asbestos." But the court disagreed; the complaint itself made absolutely no allegations for the reasons behind the alleged entries.

To read the order in Parklyn Bay Company v. Liberty Insurance Corp., click here.

Insurer Required to Cover Costs Its Insured Has Incurred or Will Incur to Remediate Coal Pollution

Why it matters: A Louisiana federal court held that a general liability insurer must indemnify its policyholder for costs incurred to address violations of the Clean Air Act when the costs at issue are aimed at reducing future air emissions, rather than remediating emissions that have already occurred. The EPA filed suit alleging the insured company's coal-fired electric generation units emitted excessive amounts of regulated pollutants into the air. The action was resolved by a consent decree with the company agreeing to install certain emission controls and implement environmental projects at a cost in excess of $30 million. The company's insurer denied coverage on the basis that the terms "mitigate" and "abate" have special meaning in the environmental context, and are understood by industry as limited to CERCLA cleanups, rather than addressing violations of permitting and compliance statutes like the Clean Air Act. The court disagreed and sided with the insured, applying the plain meaning of the words "mitigate," "abate," and "remediation costs," rather than an industry-specific meaning that the insurer had argued. Under the plain dictionary meaning of these words, the measures the company was required to take under the consent decree were all covered remediation costs under the policy.

Detailed discussion: At the heart of the coverage dispute between Louisiana Generating and Illinois Union Insurance was the application of an insurance policy to a consent decree between LA Gen and environmental authorities.

The Environmental Protection Agency (EPA) and the Louisiana Department of Environmental Quality (LDEQ) sued LA Gen over violations of the Clean Air Act (CAA) and state regulations at an LA Gen power plant. While the action was pending, LA Gen sought a defense from Illinois Union. The insurer denied coverage. In a prior decision, the federal court found that Illinois Union had a duty to defend LA Gen, a ruling that was affirmed by the Fifth Circuit Court of Appeals.

LA Gen reached an agreement with the EPA and LDEQ in 2012. The company agreed to pay $3.5 million as well as perform three specific actions: install Selective Non-Catalytic Reduction (SNCR) technology at three units; permanently surrender its emissions allowances for nitrogen oxide and sulfur dioxide; and undertake various "Mitigation Projects."

Arguing that the actions were not covered by the policy, Illinois Union pointed to the definition of "remediation costs," defined by the policy as "reasonable expenses incurred to investigate, quantify, monitor, mitigate, abate, remove, dispose, treat, neutralize, or immobilize 'pollution conditions' to the extent required by 'environmental law.' "

Illinois Union asserted that those expenditures were not covered because they are not "remediation costs" addressing a "pollution condition." The installation of pollution control technology and forfeiture of emissions credits only address future emissions, and the mitigation projects have nothing to do with addressing a specific pollution condition previously created by LA Gen, the insurer argued.

The court began its analysis with an interpretation of the terms "mitigate" and "abate." The court rejected Illinois Union's contention that the words should be understood as terms of art relating to violations of the Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA).

Instead, the court embraced the policyholder's position that the terms should be read with their "common meaning," and that ambiguous terms should be interpreted against insurers. "Consequently, 'mitigate' and 'abate' are to be given a construction congruent with their plain meaning and the expectations of a reasonable insured," the court ruled.

"Based on a plain reading of 'mitigate,' 'abate,' and 'remediation costs,' coupled with the extrinsic evidence available, the installation on unit 3 qualifies under the policy," the court ruled. "As LA Gen points out, Illinois Union wrote the policy; narrower language exists, of which Illinois Union was presumably aware, yet they chose to write the policy without using that language."

LA Gen's trade-off with the EPA—agreeing to undertake additional remediation efforts by reducing emissions from unit 3 in lieu of getting units 1 and 2 into full compliance—did not transform the trade-offs into compliance measures, the court added, as "the EPA found this satisfactory and accepted."

Of the several mitigation projects agreed to by LA Gen, Illinois Union asserted that they lacked a sufficient connection to the excessive emissions that triggered the underlying enforcement action to deserve coverage. The court disagreed.

"Illinois Union lacks support for their assertion that such a strong nexus is required," the court stated. "The plain language, again, does not support holding LA Gen to such a stringent standard; the policy does not indicate that its use of 'remediation' or 'mitigate' or 'abate' is intended to reflect a stricter standard than the ordinary meaning of each word." Again, the court noted that the "EPA accepted this project, supporting LA Gen's position that these chemicals are related."

Finally, the court considered the surrender of emission allowances. The permanent agreement indicated that the emission allowances were not about mitigation, the insurer argued, and suggested ongoing compliance. But the court said Illinois Union's reading of "remediation" was too narrow.

Having concluded that LA Gen was entitled to coverage, the court was not persuaded by Illinois Union's concerns that a moral hazard existed because insureds could simply "pollute at will" and then have insurers cover their expenses.

"Illinois Union's arguments ignore that it has the power to write its policy more narrowly or to determine that a potential insured is too big of a risk before insuring them," the court stated. "As LA Gen points out, Illinois Union had the opportunity to evaluate LA Gen as a client, presumably did so (or should have), and decided to provide coverage. They accepted the premiums and, as a result, accepted the risk."

To read the decision in Louisiana Generating LLC v. Illinois Union Insurance Co., click here.

Based on the Plain Language of the Policy, the Insured v. Insured Exclusion Barred Coverage for FDIC Receiver

Why it matters: In a recent decision, the Tenth Circuit Court of Appeals held that claims by the Federal Deposit Insurance Corporation (FDIC) in its capacity as receiver of a failed bank against the bank's former directors and officers were excluded by the "insured v. insured" exclusion in the bank's directors and officers (D&O) policy. The court relied on the plain language of the exclusion that unambiguously barred coverage by the FDIC receiver against director-defendants. The court also rejected the FDIC's contention that the presence of a shareholder's derivative suit exception to the insured v. insured exclusion rendered the exclusion ambiguous. Other courts have held insured v. insured exclusions to be ambiguous with regard to claims brought by the FDIC and thus not valid. However, in this case, the insurance company clarified any purported ambiguity by carefully drafting the insured v. insured exclusion to apply to "any Claim made against the Insured Persons by another Insured Person, the Company, or any successor, trustee, assignee or receiver of the Company."

Detailed discussion: Columbian Bank and Trust and its parent company Columbian Financial Corp. (CBT) purchased a D&O policy with BancInsure that covered them from 2007 to 2010.

In 2008, the Kansas bank commissioner declared CBT insolvent and the FDIC became the bank's receiver.

In 2011, the FDIC as receiver brought claims of negligence and breach of fiduciary duty against several former CBT directors and officers. Around the same time, BancInsure filed suit in Kansas state court seeking a declaratory judgment that it did not have to cover the directors for the FDIC claims. The FDIC removed the action to federal court.

Two exclusions were relevant—an "insured v. insured" exclusion and a "regulatory" exclusion. The insured v. insured exclusion excluded coverage for any Claim made against the Insured Persons by another Insured Person, the Company, or any successor, trustee, assignee or receiver of the Company.

The regulatory exclusion excluded coverage for actions brought by federal or state agencies. The regulatory exclusion didn't apply because of a regulatory exclusion endorsement which effectively deleted the exclusion.

The directors and the FDIC argued that because the policy allows for shareholder derivative actions, and the FDIC action is similar to one of those, the insured v. insured provision is at least ambiguous.

The court noted a split of authority on the issue of whether "insured v. insured" exclusions in D&O policies can apply to claims by the FDIC. The majority view holds that coverage exists for FDIC claims, even though the FDIC steps into the shoes of a failed bank (in other words, the FDIC is considered to be an "insured" under certain D&O policies).

The problem for the insureds in this case, though, was that here (unlike in the cases making up the majority view), the policy specifically excluded coverage for claims made against an Insured Person by "a receiver" of the bank. This is the very language that other courts have noted insurers could have included in their policies to clear up the ambiguity but did not.

To read the decision in BancInsure Inc. v. FDIC, click here.

Under Limited Circumstances Insurer Has a Right to Sue Independent or Cumis Counsel Directly for Reimbursement of Defense Costs

Why it matters: An insurer that is compelled to pay the fees of its insured's independent counsel or Cumis counsel may seek reimbursement of unreasonable or excessive fees directly from those lawyers, the California Supreme Court recently ruled. Reversing the lower courts, the court rejected the argument that independent counsel was merely an incidental beneficiary of the insurer's preexisting responsibility to pay the costs of defending covered claims against its insureds. The court based its decision on the fact that in an earlier proceeding the insurer was ordered to provide independent counsel and part of the order specifically preserved the insurer's right to seek a subsequent recovery of any "unreasonable and unnecessary" fees. The court reasoned that the insured's obligation to pay for Cumis counsel was not unlimited and did not extend beyond the duty to pay reasonable fees and costs. While the court emphasized that its conclusion "hinges on the particular facts and procedural history of this litigation," and should be construed narrowly, insureds should be wary of insurers trying to use this decision to further exert influence over, or otherwise interfere with, the relationship between an insured and its independent counsel.

Detailed discussion: In September 2005, a lawsuit was filed against J.R. Marketing, LLC (J.R. Marketing) and several of its employees. J.R. Marketing immediately tendered the claim to its carrier Hartford Casualty Insurance Company (Hartford). Hartford rejected the tender.

Following Hartford's denial of a defense, J.R. Marketing retained the law firm of Squire Sanders LLP to defend it in the underlying lawsuit and to file a bad faith lawsuit against Hartford for denying coverage.

In the bad faith action, the trial court ordered Hartford to pay all past and future defense costs. Per the order, Hartford reserved the right to challenge fees and costs as being unreasonable or unnecessary and that it may do so by way of reimbursement after resolution of the underlying matter.

After the underlying litigation concluded, Hartford sought to recoup over $13 million in legal fees it paid to Squire Sanders, but which Hartford claimed were excessive and unreasonable. Affirming a dismissal of Hartford's claim by the trial court, the California Court of Appeal concluded that Hartford's claim for reimbursement, if any, was from its insureds, not directly from Squire Sanders.

The California Supreme Court reversed, holding that under the facts of the case, Hartford could maintain an action for reimbursement directly against Squire Sanders. The court reasoned that it was Squire Sanders (and not the insureds) that would be unjustly enriched if allowed to retain payments that were unreasonable and unnecessary for the insureds' defense:

"We conclude that under the circumstances of this case, the insurer may seek reimbursement directly from Cumis counsel," the court ruled. "If Cumis counsel, operating under a court order that expressly provided that the insurer would be able to recover payments of excessive fees, sought and received from the insurer payment for time and costs that were fraudulent, or were otherwise manifestly and objectively useless and wasteful when incurred, Cumis counsel have been unjustly enriched at the insurer's expense."

The Supreme Court also rejected Squire Sanders' argument that Cumis counsel's independence would be compromised if it had to defend an insurer's lawsuit challenging the reasonableness of its efforts in hindsight. The independence required for Cumis counsel "is not inconsistent with an obligation of counsel to justify their fees," the court explained, and attorneys in numerous settings in the legal system are required to justify their fees to a third party.

A concurring opinion added some details about what happens next. On remand, Hartford—having breached its duty to defend—should be required "to overcome a presumption that any fees billed by Squire Sanders—even fees later found to be unreasonable—were incurred primarily for the benefit of J.R. Marketing."

To read the opinion in Hartford Casualty Insurance Co. v. J.R. Marketing, click here.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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