Insurance Recovery Law -- Sep 19, 2013

by Manatt, Phelps & Phillips, LLP

In This Issue:

Pollution Claims–Apparently Here to Stay

With the advent of the “absolute” pollution exclusion in commercial general liability (“CGL”) policies in the mid-1980s, many in the insurance industry predicted that pollution-related insurance claims soon would be a thing of the past. But as three of our stories this week demonstrate, pollution claims–as well as coverage disputes involving such claims–continue to be prominent today. There are numerous reasons why these claims persist. Older CGL policies continue to provide coverage for pollution-related claims as long as the triggering “occurrence” at issue predates the mid-1980s. Moreover, since pollution coverage became more limited under CGL policies, insurers have marketed (and continue to market) all manner of specialty pollution coverages. In addition, courts interpreting the “absolute” pollution exclusion have recognized numerous exceptions. For all these reasons, policyholders need to be particularly diligent about evaluating their policies for coverage of environmental damage claims.

The policyholders in the cases discussed this week faced some common scenarios. For instance, decisions from both the Eighth and Ninth Circuits held that so-called “PRP letters” from the Environmental Protection Agency (“EPA”) pursuant to the Comprehensive Environmental Response, Compensation, and Liability Act (“CERCLA”) were covered “suits” under standard-form CGL policies. In the Eighth Circuit case, this typically policyholder-friendly position actually worked against the policyholder because it had waited eight years to challenge the insurer’s denial of coverage, and therefore lost the case on a statute of limitations defense. The plaintiff in the Ninth Circuit case fared better, winning a defense from its insurer under Oregon law.

In the third case, a Texas appellate court also weighed in on pollution-related issues, determining that specific exclusions for pollution and mold did not apply to releases of allegedly toxic chemicals from a well because the exclusions conflicted with an endorsement providing “blowout” coverage.

Finally, in a departure from the pollution theme, a decision from a trial court in New York held that the attorney work product doctrine, the attorney-client privilege, and the common interest privilege do not apply to reports prepared by outside counsel regarding investigation of a claim or determination of coverage. As to attorney work product and common interest privilege, the court held that a “firm decision” to deny coverage was required before either may apply. As to attorney-client privilege, the court emphasized that the reports at issue are part of an insurance company’s regular business activities and therefore not privileged.

PRP Letter Triggered Coverage–But Delay Precludes Claim Against Insurers

A letter sent by the EPA in 2001 pursuant to CERCLA warning Land O’Lakes that it could be a potentially responsible party (“PRP”) for cleanup of an old refinery site triggered Land O’Lakes’ insurers’ duty to defend, the Eighth Circuit Court of Appeals recently held. This is consistent with the majority rule nationally, and typically is the position advocated by policyholders. In the case of Land O’Lakes, however, this unfortunately meant that the statute of limitations applicable to breach of contract had run as a result of Land O’Lakes’ seven-year delay in challenging its insurers’ denials of coverage.

In 2001 the EPA sent a Special Notice Letter (or “PRP Letter”) to notify Land O’Lakes that the agency considered Land O’Lakes to be a PRP under CERCLA for an oil refinery acquired by Land O’Lakes and later declared a Superfund site. The PRP Letter demanded that Land O’Lakes reimburse the EPA for $8.9 million that it had spent cleaning up the site, and encouraged Land O’Lakes to enter into negotiations with the EPA regarding additional cleanup.

Land O’Lakes denied any responsibility, arguing that a prior owner of the refinery site legally was responsible for the costs. But Land O’Lakes notified two of its insurers, Employers Mutual Liability Insurance Company of Wausau and The Travelers Indemnity Company, about the PRP Letter and requested coverage under historical CGL policies they had issued to Land O’Lakes. Both insurers declined to defend Land O’Lakes.

Over the next several years, Land O’Lakes continued to take no part in cleanup activities at the site and declined to negotiate with the EPA as to its liability for cleanup costs. Then, in 2008, the EPA sent Land O’Lakes a second PRP Letter, again encouraging Land O’Lakes to work with the EPA on the cleanup and resolve Land O’Lakes’ alleged liability at the site. In 2009 Land O’Lakes capitulated and agreed to work with the EPA.

Land O’Lakes then filed a breach of contract action against both insurers, seeking indemnification for its cleanup costs and reimbursement of its legal costs for defending against EPA. The district court held that the action was barred by Minnesota’s six-year statute of limitations applicable to breach of contract claims. According to the district court, the statute began to run when the insurers breached their duty to defend upon notice of the 2001 PRP Letter, and Land O’Lakes failed to bring a breach of contract action until 2009.

The Eighth Circuit agreed. In particular, it rejected Land O’Lakes’ contention (contrary to its initial position) that the 2001 PRP Letter was simply an “invitation to participate in an investigation” and did not constitute a demand for potentially covered damages. Indeed, according to the court, “[t]he 2001 PRP Letter marked the beginning of an adversarial administrative process that ultimately sought to impose liability upon Land O’Lakes for remediation costs associated with the refinery site.” Moreover, the 2001 PRP Letter notified Land O’Lakes of its potential liability and cautioned that an administrative order or civil litigation could be forthcoming for a failure to finance the necessary cleanup costs. The 2001 PRP Letter also noted that fines of up to $27,500 per day were possible under CERCLA for Land O’Lakes’ failure to comply. “Taken as a whole, the information relayed in the 2001 PRP Letter alerted Land O’Lakes that a suit for arguably-covered damages had commenced,” the court concluded.

Land O’Lakes argued that the 2008 PRP Letter commenced a new and distinct enforcement action by the EPA, triggering coverage for a second time. The court rejected this argument as well, concluding that “the 2008 PRP Letter was ‘simply a continuation of the claims made by the EPA in the 2001 PRP [L]etter.’ ”

The court further found that the so-called “owned-property exclusion” applied to coverage for cleanup costs at the refinery site. Specifically, the court held, “Land O’Lakes’ costs to remediate the refinery site fall within the owned-property exclusion because Land O’Lakes has not established that (1) third-party property had been contaminated by hazardous materials from the refinery site; (2) that same third-party property remained contaminated at the time the EPA ordered Land O’Lakes to clean up the refinery site; (3) the hazardous materials from the refinery site posed a continuing threat of contamination to that same third-party property; and (4) the EPA-mandated cleanup of the refinery site was designed to protect that same piece of third-party property from further contamination by hazardous materials from the refinery site.”

To read the decision in Land O’Lakes v. Employers Insurance Co. of Wausau, click here.

Why it matters: Land O’Lakes learned a tough lesson in this case. While it fought the EPA for years over responsibility for cleanup of the polluted refinery site, Land O’Lakes failed to pursue its insurers for eight years after they denied coverage for the EPA’s claims. This passivity forced Land O’Lakes to take a position contrary to most policyholders on this issue (and contrary to its own prior position) that a PRP demand letter from the EPA constitutes a “suit” seeking “damages.” Ultimately, this position was rejected. Because denials of coverage often trigger statutes of limitation applicable to breach of contract, policyholders would be well-served to be more proactive when their insurers deny coverage for a claim.

PRP Letters Are Covered “Suits” Under Oregon Law

A pair of letters from the EPA notifying an insured of its potential liability under CERCLA constituted “suits,” for purposes of standard-form CGL policies, requiring an insurer to provide a defense, the Ninth Circuit Court of Appeals recently ruled. In so ruling, the Ninthh Circuit interpreted Oregon law to be consistent with the majority position on this issue (including the Land O’Lakes decision, discussed above).

Anderson Brothers, Inc., received two letters from EPA, pursuant to CERCLA, notifying Anderson Brothers of its potential liability for a Superfund site at Portland Harbor in Oregon. One letter posited 82 questions to Anderson Brothers, seeking detailed information about past activities at its properties, accompanied by a threat of civil penalties of $32,000 per day for failure to comply. The second letter was a formal “PRP Letter,” informing Anderson Brothers of its potential responsibility for cleanup at the Portland Harbor site and encouraging it to participate in settlement negotiations with other PRPs.

St. Paul Fire and Marine Insurance Co. provided two CGL policies to Anderson Brothers. Anderson Brothers provided notice to St. Paul of the EPA letters under these policies. St. Paul declined coverage on the grounds that they were not “suits” (i.e., they were not actions filed in a court of law).

The Ninth Circuit disagreed, holding that St. Paul had a duty to defend Anderson Brothers. In particular, the court emphasized that a “huge majority” of courts to consider whether a PRP Letter constitutes a “suit” have found that it does. Discussing Oregon law specifically, the court noted that the Oregon Environmental Cleanup Assistance Act defines the term “suit” to include “[a]ny action or agreement by. . .[the EPA] against or with an insured in which [the EPA] in writing directs, requests or agrees that an insured take action with respect to contamination within the State of Oregon.” The court further noted that the standard-form CGL policies St. Paul issued to Anderson Brothers do not define the term “suit,” and do not otherwise demonstrate any intent contrary to Oregon’s statutory definition of that term.

The court further opined that both letters satisfied the Oregon statutory definition of “suit,” as both were attempts by the EPA “to gain an end by a[] legal process.” The questionnaire in the first letter “compelled Anderson [Brothers] to respond to an intrusive questionnaire the answers to which exposed it to extensive liability – plainly an end obtained through legal process.” Likewise, the second letter specifically alleged that the EPA believed Anderson Brothers was a PRP, leaving “little doubt that the EPA was seeking to obtain Anderson’s cooperation through the legal process of identifying Anderson as a PRP.” Thus, the court concluded, “[i]n light of the unique role settlement and coercive information demands play in CERCLA, there is little doubt that each letter was an attempt to gain an end through legal process.”

The court further rejected an argument by St. Paul that equating the EPA letters with “suits” impermissibly ignores the distinction between the terms “suit” and “claim” under its policies. Specifically, St. Paul argued, equating the EPA letters with “suits” and not “claims” rendered the term “claim” meaningless in the policy, which is contrary to basic principles of contract interpretation. The Ninth Circuit disagreed. While it acknowledged that a normal demand letter would indeed constitute a “claim,” it opined that the EPA letters were “not normal demand letters,” but rather were “formal steps in a legal process administered by the EPA that inexorably leads to the EPA seeking to hold property owners strictly liable for environmental contamination.”

To read the decision in Anderson Brothers, Inc. v. State of Oregon, click here.

Why it matters: The Ninth Circuit noted that whether so-called “PRP Letters” constitute a “suit” under standard-form CGL policies has been widely litigated in both state and federal courts. The Ninth Circuit added its voice to the majority position, which, according to the court, includes 11 state supreme courts (against just 3 ruling to the contrary).

Texas Court: Policy Endorsement Expanded, Not Limited, Coverage

A “Blowout and Cratering Coverage Endorsement” did not limit coverage for blowouts but actually expanded it, the Texas Court of Appeals opined, finding that an insurer had a duty to defend third-party lawsuits alleging damage as a result of substances being released from the insured’s disposal operations.

DeLoach Oil and Gas operated a waste disposal well in Daisetta, Texas. A sinkhole formed near DeLoach’s operations, damaging the well and allegedly causing the release of toxic substances from the well onto properties owned by third parties. The third parties brought four separate lawsuits against DeLoach, alleging that the substances released from the well resulted in damage to their property, diminution in value of their property, loss of vegetation and aesthetic value of property, trespass, and loss of use and enjoyment of their property.

DeLoach tendered the suits to its CGL insurer, Century Surety Company. Century declined coverage, relying on the Total Pollution Exclusion and the Oil and Gas Endorsement in its policy. The Pollution Exclusion stated that the policy did not apply to property damage that would not have occurred but for the discharge of “pollutants,” defined as contaminants, chemicals, and waste. The Oil and Gas Endorsement included an exclusion for mold, fungi, virus, bacteria, air quality, contaminants, mineral or other harmful materials, and specifically excluded property damage caused by toxic or hazardous properties of minerals or other substances.

DeLoach argued that application of these exclusions would render coverage under a separate Blowout and Cratering Coverage Endorsement illusory. This endorsement provided coverage for “the ‘blowout & cratering hazard’ arising out of the operations performed by you or on your behalf.” Century, on the other hand, argued that the Blowout and Cratering Endorsement actually limited coverage because DeLoach did not pay any additional premium for the endorsement, and the coverage provided by the endorsement was subject to additional exclusions.

The court agreed with DeLoach, concluding that “the Blowout Endorsement expands coverage rather than limits an existing coverage” as “the express language in the Blowout Endorsement indicated that the purpose of the endorsement was to add coverage for a blowout and cratering hazard.” Further, the court agreed with DeLoach that the Blowout Endorsement conflicted with the Pollution Exclusion. “We do not believe that an occurrence covered under the Blowout Endorsement could necessarily arise in the absence of pollution, which the Pollution Exclusion excludes from coverage,” the court opined. “Thus, the Pollution Exclusion renders the Blowout Endorsement meaningless.” The court came to the same conclusion with respect to the Mold Exclusion. Thus, the court held, Century had a duty to defend DeLoach against the four underlying lawsuits.

To read the decision in Century Surety Co. v. DeLoach, click here.

Why it matters: This case illustrates an important principle: even where an exclusion (or coverage-precluding condition) in a policy seems unambiguously to apply, prudent policyholders will read their entire policy to determine whether the problematic exclusion or condition may be inconsistent with other provisions of the policy. This is particularly true where the policy contains nonstandard endorsements such as the Blowout Endorsement in this case. Because ambiguities in policy language and conflicting policy language typically will be resolved in favor of the insured, failure to read the entire policy may result in loss of coverage for otherwise covered claims.

Insurer Investigative Reports Not Protected By Privilege, New York Judge Rules

Reports and related materials prepared by outside counsel for their insurer clients in investigation of a claim or determination of coverage are not protected by the attorney work product doctrine, the attorney-client privilege, or the common interest privilege, a New York trial court recently held.

The insured, TransCanada, maintained a steam turbine power generating facility in Queens, New York. When one of the generators cracked and had to be shut down for several months, TransCanada filed claims for repair costs and business interruption losses with four of its property insurers (collectively part of a “quota share” program). Working together, the insurers hired experts – including attorneys and adjustors – to investigate the claim and determine the extent of coverage. All of the insurers ultimately denied coverage and jointly filed a declaratory judgment action against TransCanada.

TransCanada then sought to obtain reports and related materials prepared by the insurers prior to their denial of coverage. The insurers objected, arguing that the documents were protected by the attorney work product doctrine, the attorney-client privilege, and the common interest privilege. After an in camera review, a special referee ruled that the reports must be produced. The insurers appealed to the trial court.

As to the attorney work product doctrine, the court noted that the doctrine applies only to documents prepared in anticipation of litigation. Most of the reports the insurers sought to protect, the court opined, were prepared prior to any “firm decision” by the insurers to deny coverage, and therefore could not have been prepared in anticipation of litigation. Indeed, the evidence demonstrated that the insurers were considering coverage until just before they issued their denial and filed their declaratory judgment action. Moreover, the court held, the insurers bore the burden of proof on the timing of the “firm decision.”

As to the common interest privilege, the court held that this privilege also does not apply until there has been a “firm decision” by the insurer regarding the extent of coverage.

As to the attorney-client privilege, the court noted that attorneys supervised, coordinated, and directed investigation of the TransCanada’s claims, and then summarized the findings in reports. However, the court opined, the mere use of attorneys to generate the reports did not render them protected by the attorney-client privilege. Indeed, “[t]he attorneys were primarily working to determine whether to deny coverage, an ordinary business activity for an insurance company,” the court held, as opposed to providing legal advice to their clients. Because “[i]nsurance companies investigate claims and decide whether to accept or deny coverage as part of their regular business activities,” the court held, “courts have consistently held that the use of attorneys to perform such work does not cloak the documents in privilege.”

The court did note, however, that a handful of the materials at issue contained legal advice, and certain draft denial letters constituted attorney work product because the decision to deny coverage had been made prior to their creation. These materials, the court held, would not have to be produced.

To read the opinion in National Union Fire Ins. Co. of Pittsburgh v. TransCanada Energy USA, click here.

Why it matters: The issue of whether materials related to an insurer’s claim investigation and coverage determination are protected from discovery is litigated frequently. This decision has a lot to like for policyholders. Drawing a bright line, the court ruled that insurance companies must make a “firm decision” to deny coverage before they can invoke the attorney work product doctrine (or the common interest privilege), and the insurer bears the burden of proof on the timing of the decision. Application of the attorney-client privilege turns on whether the materials at issue were prepared as part of an insurer’s ordinary course of business. Because investigating claims and making coverage determinations are part of an insurer’s ordinary course of business, they were held not to be privileged.

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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