Policy Observer - March 2014

by Orrick, Herrington & Sutcliffe LLP

D&O Coverage for Subpoena Response Costs: An Emerging Consensus?

Responding to a subpoena can be an expensive proposition. Fortunately, in many instances, a company can call upon its D&O insurer to help defray the significant costs, although coverage is often not obtained without some wrangling. This article discusses the main roadblocks that D&O insurers erect to avoid covering subpoena response costs and examines whether and how policyholders can overcome them. It also discusses how to maximize coverage by assessing which response-related costs are covered, including indirect costs.

Please click here to read the full article.

News Briefs

New York High Court Holds Policy’s Two-Year Limitation Period is Unreasonable and Unenforceable

The New York Court of Appeals recently held that the contractual limitations period in a first-party property policy—which required any action against the insurer to be brought within two years after the loss—was unenforceable because the damaged property could not reasonably be replaced within two years. In Executive Plaza, LLC v. Peerless Insurance Company, 2014 N.Y. Lexis 1651 (N.Y. Feb. 13, 2014), the policyholder’s property policy provided a choice between actual cash value and replacement cost coverage. The policy required, however, that all repairs be completed before replacement cost benefits were paid. After a fire damaged its building, the policyholder worked diligently to repair it, but did not complete the repairs until more than two years after the fire. The insurer denied coverage for the replacement costs, and then successfully moved to dismiss the coverage action based on the policy’s two-year limitation provision. Answering a certified question from the Second Circuit, the New York Court of Appeals held that, although a limitations period of two years was not per se unreasonable, as applied in the current situation, it was unreasonable and therefore unenforceable: “It is neither fair nor reasonable to require a suit within two years from the date of the loss, while imposing a condition precedent to suit—in this case, completion of replacement of the property—that cannot be met within that two-year period. A ‘limitation period’ that expires before suit can be brought is not really a limitation period at all, but simply a nullification of the claim.”

Massachusetts Law Requires Joint and Several Allocation of Defense Costs, According to New York Federal District Court

In a victory for policyholders, a federal district court has held that Massachusetts law requires defense costs to be allocated jointly and severally when environmental damage occurs over multiple insurers’ policy periods. In The Narragansett Electric Co. v. American Home Assurance Co., No. 11 Civ. 08299 (S.D.N.Y. Feb. 14, 2014), the policyholder energy company sought coverage for cleanup costs related to historic environmental liabilities. The insurer denied coverage and contended that it should only be responsible for its pro rata share of the loss suffered during the policy period, allocating the rest of the loss to insurers that provided coverage in other policy periods. The insurer cited the Massachusetts Supreme Judicial Court’s holding in Boston Gas Co. v. Century Indemnity Co., 454 Mass. 337 (2009), which held that indemnification costs should be allocated on a pro rata basis. The New York district court disagreed with the insurer, recognizing that the Boston Gas case did not address allocation of defense costs, and that an insurer’s duty to defend is broader than the duty to indemnify. It held that the joint and several allocation method, which requires the insurer to pay all defense costs and then seek contribution from other insurers, is consistent with the insurer’s duty to defend. By contrast, a pro rata allocation of defense costs would “undermine the basic principle of contract law because an insurer would be obligated to pay for the entire cost of defense if it honored its duty to defend, but could reduce that obligation to its pro rata share if it breached the duty.” 

New York High Court Vacates Prior Ruling, Holds Insurers May Invoke Exclusions to Escape Duty to Indemnify After Denying Duty to Defend

On February 18, 2014, the New York Court of Appeals vacated its prior decision that an insurer that breaches the duty to defend may not later rely on policy exclusions to escape the duty to indemnify. K2 Investment Group, LLC v. Am. Guarantee & Liab. Ins. Co.,---- N.E.2d ----, 2014 WL 590662, 2014 (N.Y. Feb. 18, 2014). On reargument, the court was persuaded that its initial decision (“K2-I”) would have overruled its precedent in Servidone Construction Corp. v. Security Insurance Co. of Hartford, 64 N.Y.2d 419 (1985), which held that where an insurer breaches its duty to defend its insured in a personal injury action, and the insured thereafter concludes a reasonable settlement with the insured party, the insurer is not necessarily liable to indemnify the insured if ultimate coverage issues are in dispute. The court noted that, although several other states follow the K2-I approach (including Hawaii and Massachusetts), the majority of jurisdictions follow the Servidone rule. Id. at 6. The court further noted that “plaintiffs had not presented any indication that the Servidone rule has proved unworkable, or caused significant injustice or hardship . . . .” In a dissenting opinion, Judge Graffeo distinguished Servidone as dealing only with an insurer’s attempt to rely upon “noncoverage” (as opposed to exclusions), and also stood by the K2-I rule as “provid[ing] an insurer with an incentive to appear on behalf of the policyholder in the underlying lawsuit.

Federal Court Finds Maryland’s Horizontal Exhaustion Rule Does Not Bar Excess Coverage In Particular Policy Years

According to the U.S. District Court for the District of Maryland, Maryland’s rule of horizontal exhaustion does not necessarily require exhaustion of all triggered primary insurance before an excess policy may be required to pay in a particular policy year. National Union Fire Ins. Co. of Pittsburgh, Pa. v. Porter Hayden Co., Civ. No. CCB-03-3414 (D.Md. Jan. 2, 2014). Porter Hayden involved liabilities arising from over 58,000 individual asbestos claims. Some of the triggered primary policies were potentially subject to aggregate limits, while others were not. Citing Mayor & City Council of Baltimore v. Utica Mutual Insurance Co., 145 Md. App. 256, 803 A.2d 1070 (2002), the excess insurers argued that Maryland’s rule of horizontal exhaustion required all triggered primary coverage to be exhausted before any excess insurer could be called upon to indemnify the insured. The court rejected that argument, underscoring its implication that “excess insurance may never be available” where the absence of aggregate limits precludes exhaustion in a particular policy year. The court explained that Utica Mutual “recognized that ‘some primary policies that provide less coverage will be exhausted sooner than others, and their excess insurers, if any, would accordingly have to respond at an earlier point.”  The court ruled that, in the absence of contrary policy language, if primary insurance in a particular year has been exhausted, then the excess policy in that same year must pay its pro rata share.

Sixth Circuit Rejects Insurer’s Argument that Settlement of Antitrust Wage Action is Uninsurable as “Disgorgement”

The U.S. Court of Appeals for the Sixth Circuit held in an unpublished opinion that a policyholder hospital was entitled to coverage for a settlement of an antitrust action alleging that certain hospitals conspired to depress nurses’ wages. William Beaumont Hospital v. Federal Ins. Co., No. 13-1468 (6th Cir. Jan. 16, 2014) (unpublished). The insurer contended that the settlement constituted “disgorgement” of the hospital’s savings from underpaying the nurses, which was not covered by the policy. The Sixth Circuit rejected this argument, and affirmed the district court’s holding that disgorgement is a specific remedy distinct from the compensatory damages sought by the nurses in their complaint. Disgorgement is the remedy for “money wrongfully acquired,” which is distinct from restitution, which is the remedy for “money unlawfully retained.” The Court held that the settlement was for the compensatory restitution the nurses sought, and thus covered by the policy. The Court also held that coverage was not contrary to Michigan’s public policy against allowing an insured to profit from its own wrongdoing, which relates only to intentional tortious or criminal acts.

Fourth Circuit Holds Policyholders Can Recover for “Aggravation and Inconvenience” Damages for Insurer’s Breach of Duty to Defend

The U.S. Court of Appeals for the Fourth Circuit has held in an unpublished opinion that policyholders are entitled to pursue “aggravation and inconvenience” damages, in addition to other consequential damages, against a liability insurer that denies the duty to defend. In Robert E. Graham v. National Union Fire Insurance Company of Pittsburgh, Pa., No. 13-1517, (4th Cir. Feb. 3, 2014) (unpublished), the policyholder was the director of two non-profit corporations who had been sued over alleged improper use of state funds. His insurer denied coverage and the director paid for his own defense until the case was dismissed as moot. He prevailed in his coverage action and was awarded his attorney’s fees in pursuing coverage, but the district court rejected his request for extra-contractual damages for the “aggravation and inconvenience” he suffered as a result of the insurer’s denial of coverage, finding that such damages previously had been awarded only against first-party insurers. The Fourth Circuit disagreed, concluding that there was no reason why a policyholder under a third-party policy should not also be entitled to “aggravation and inconvenience” damages against its liability insurer.

Indemnity Insurance Corporation, RRG, Placed in Rehabilitation

By order dated November 7, 2013, the Delaware Chancery Court placed Indemnity Insurance Corporation, RRG (“IICRRG”) into receivership for purposes of rehabilitation. IICRRG, a primarily commercial liability insurance carrier issuing policies for the hospitality and entertainment industries in over 30 states and the District of Columbia, consented to the receivership. The Delaware Insurance Commissioner is the receiver.

March 31, 2014 Claim Filing Deadline for Statewide Insurance Company

The second deadline to file claims against Statewide Insurance Company is March 31, 2014. Claimants have the opportunity to submit additional claims to be paid with the remaining assets. Statewide was placed into rehabilitation in 2004, and the first filing deadline was in January 2005.

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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