Delaware Supreme Court Considers Exhaustion of Underlying Coverage

In its recent decision in Intel Corp. v. American Guarantee & Liability Insurance Co., 2012 Del. LEXIS 480 (Del. Sept. 7, 2012), the Supreme Court of Delaware, in a case involving application of California law, had occasion to consider whether an insured’s out-of-pocket payment of defense costs count toward exhaustion of policy limits for the purpose of triggering an excess policy.

The Intel decision is yet the latest decision in a complicated coverage case that has proceeded in both Delaware state court and California federal court.  The coverage litigation arises out of several class action antitrust lawsuits filed against Intel.  In the relevant policy year, Intel had a primary general liability policy issued by Old Republic with limits of liability of $5 million, and an excess policy issued by XL Insurance Company with limits of liability of $50 million.  Immediately excess to the XL policy was a follow form excess liability policy issued by American Guarantee & Liability Insurance Co. (“AGLI”).  As a result of coverage litigation between XL and Intel, XL paid to Intel $27.5 million of its $50 million policy limits.  Intel continued to pay defense costs out-of-pocket following this settlement. Intel claimed that AGLI’s policy was triggered as a result of its payment of sufficient defense costs.  AGLI, however, contended that the XL policy could only be exhausted as a result of payments made by XL.

Complicating the court’s analysis was the fact that the AGLI policy contained two provisions concerning when AGLI’s coverage obligations were triggered.  After determining which provision controlled, the court considered the intent of that provision’s language, which stated:

C.  Nothing contained in this Endorsement shall obligate us to provide a duty to defend any claim or suit before the Underlying Insurance Limits shown in Item 6 of the Declarations are exhausted by payment of judgments or settlements.  (Emphasis supplied.)

The court concluded that under California law, the phrase “payments of judgments or settlements” could not be interpreted to include payments by the insured.  “Judgments,” the court explained, refers to a decision by an adjudicative body, whereas “settlements” refers to agreements between parties to a dispute.  Intel’s payment of its own defense costs, reasoned the court, were payment of neither judgments nor settlements.  As the court explained:

California law does not provide a definitive interpretation of the phrase “payment of judgments or settlements.”  Although not dispositive of our holding, we note that California courts general have construed the phrase to exclude cases where the insured “credits” the underlying insurance carrier with the remaining policy limits.  That is, courts have required the actual payment of the full underlying limits.  The requirement of actual payment supports our plain meaning interpretation of “judgments or settlements” to exclude Intel’s direct payment of defense costs, and require actual payment by the insurer.

In reaching this holding, the Delaware Supreme Court relied on the California Court of Appeals decision in Qualcomm, Inc. v. Certain Underwriters At Lloyd’s London, 73 Cal.Rptr.3d 770 (Cal. Ct. App. 2008).  The Qualcomm court held that an insured could not trigger its excess policy by paying the gap created when it settled with its primary insurer for less than full policy limits. The Delaware Supreme Court acknowledged that the exhaustion language in the policy in Qualcomm was slightly different than that contained in the AGLI policy, but it nevertheless found a general rule that “[p]lain policy language on exhaustion, such as that contained in Paragraph C [of the AGLI policy], will control despite competing public policy concerns.”  Moreover, the court rejected Intel’s reliance on the Second Circuit decision in Zeig v. Massachusetts Bonding & Insurance Co., 23 F.2d 665 (2d Cir. 1928), which held that an insured can properly exhaust a policy by out-of-pocket payments.  Zeig, noted the Delaware court, had been rejected by the Qualcomm court and courts in other jurisdictions as well.