Policyholder’s Bad Faith Claim Against Cyber-Insurer Survives Summary Judgment

by Traub Lieberman Straus & Shrewsberry LLP

In follow up on an older entry, the Court in Travelers Prop. Cas. Co. of Am. V. Fed. Recovery Servs., recently issued another order granting partial summary judgment in favor of a cyber-insurer, but also allowed the bad faith allegation against the insurer to survive.

Travelers issued a CyberFirst Technology Errors and Omissions Liability Form Policy to Federal Recovery Services, Inc. and Federal Recovery Acceptance, Inc. (“Federal”) which is in the business of providing processing, storage, transmission, and other handling of electronic data for its customers. Global Fitness Holdings, LLC, a fitness center operator, sued Global claiming the policyholder “retained possession of member accounts data and interfered with its business dealings.”

Federal notified Travelers of the suit one month after the action was filed. Travelers purportedly advised Federal’s broker to wait to file the claim with Travelers until the suit papers were actually served on the insureds. The broker allegedly did not file the claim with Travelers until roughly five months later.

Travelers denied any defense obligation to Federal on two separate occasions. After Travelers filed a declaratory action against Federal seeking a declaration that it had no duty to defend, the insurer agreed to defend Federal under a complete reservation of rights. Federal then filed a motion for partial summary judgment seeking a finding that Travelers, in fact, owed a duty to defend. The court denied the motion and found that Travelers owed no duty to defend Federal against the Global Fitness claims. Thereafter, Travelers moved for summary judgment on Federal’s counterclaims for (1) breach of contract, (2) breach of implied covenant of good faith and fair dealing and (3) breach of fiduciary duty.

The Court first addressed Federal’s breach of contract argument, which the Court likened to a re-litigation of its prior ruling denying that Travelers owed a duty to defend the Global Fitness complaint. Federal contended that the Court was permitted to consider extrinsic evidence outside the eight corners of the policy and the complaint in its assessment of the defense obligation. Global Fitness’s complaint alleged that the Federal “knowingly withheld information and refused to turn it over until Global Fitness met certain demands.” The Court found that the Travelers policy only provided coverage for “errors, omissions, and negligent act,” and that the claims against the insureds allege knowledge, willfulness and malice, which is outside the policy’s coverage.

The Court held that certain policy language could support the consideration of extrinsic evidence in the duty to defend analysis (e.g., policy language stating “we will defend an insured against any covered claim or suit,” which permits extrinsic evidence to determine whether the claim or suit was actually “covered” by the policy), but the language in the Travelers policy (for claims or suit seeking damages for loss to which the insurance provides coverage) did not support the use of extrinsic facts. For this reason, the court granted Travelers’ motion for summary judgment on the breach of contract claim.

The Court similarly disposed of the Breach of Fiduciary Duty cause of action on the same basis.

However, the Court denied Travelers’ application on the cause of action against the insurer for Breach of the Implied Covenant of Good Faith and Fair Dealing.  Federal alleged that Travelers “(1) inappropriately required [Federal] to first receive suit papers before initiating a claim and (2) failed to ‘diligently investigate, fairly evaluate, and promptly and reasonably communicate with [Federal] since the claim was initially tendered”.  Federal proffered expert testimony that Travelers was dilatory in its investigation of the claim when it was initially tendered, which resulted in financial consequences for the policyholder. The Travelers’ policy language obligated Travelers to investigate any claim asserted against the insureds, notwithstanding the existence of a formal “suit.” The Court found that these allegations raised issues of fact that precluded summary judgment.

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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