Texas Court Holds Suit Under D&O Policy Not Ripe for Declaratory Judgment

In its recent decision in American Construction Benefits Group, LLC v. Zurich Am. Ins. Co., 2014 U.S. Dist. LEXIS 5147 (N.D. Tex. Jan. 15, 2014), the United States District Court for the Northern District of Texas had occasion to consider whether a D&O insurer’s coverage obligations were triggered by a threatened, but not yet filed, derivative action lawsuit.

Zurich insured ACBG under a directors and officers policy. ACBG procured reinsurance for its member company, J.D. Abrams, L.P., through a third company.  While negotiating a renewal of the reinsurance, ACBG’s president agreed to an exclusion for a specific medical procedure that had been performed on a child of an Abrams employee.  The reinsurer subsequently denied coverage for the $1.2 million in costs associated with the procedure.  ACBG later sought coverage for this amount from Zurich, claiming that its president committed a wrongful act when it agreed to the exclusion in the reinsurance contract.  While Zurich acknowledged ACBG’s claim, it never formally asserted a coverage position. 

ACBG members later filed a declaratory judgment action against Zurich.  Zurich, in turn, moved to dismiss the complaint, asserting that the suit was premature since no claim had yet been asserted against ACBG that could trigger Zurich’s duties to defend or indemnify.  In response, ACBG members acknowledged that while no derivative suit had yet been filed, they were contemplating one and it therefore was imminent.

The court observed that the existence of an underlying pleading is a prerequisite under Texas’ “eight corner rule” for determining a duty to defend.   As such, and because ACBG’s members had not yet filed their allegedly imminent derivative action, the court determined that the duty to defend question was not ripe for judicial consideration.  The court ruled similarly with respect to Zurich’s potential duty to indemnify, noting that under Texas law, an insured cannot obtain a ruling on a duty to indemnify absent a judgment or settlement of an active litigation.  In passing, the court noted that:

ACBG's complaint is devoid of any allegation that it will be harmed if this court withholds declaratory relief. Because there is no underlying suit, ACBG faces no immediate risk that it will be forced to contribute to a settlement agreement or face a bad-faith suit. And ACBG does not allege that its members have threatened to sue unless ACBG relinquishes its rights.

The court also rejected ACBG’s claim against Zurich for violation of Texas’ claims handling statute based on Zurich’s failure to promptly affirm or deny coverage.  Because there was no underlying suit that could trigger Zurich’s duty to defend or indemnify, explained the court, it necessarily followed that it could not be held to have improperly delayed its decision with respect to such duties.

Texas Court Predicts Accrual Date for Prompt Payment of Claims Act

In its recent decision in Cox Operating v. St. Paul Surplus Lines Ins. Co., 2014 U.S. Dist. LEXIS 3140 (S.D. Tex. Jan. 10, 2014), the United States District Court for the Southern District of Texas had occasion to consider when the statutory interest penalty begins accruing for the purpose of Texas’ Prompt Payment of Claims Act (“TPPCA”) TEX. INS. CODE § 542.051, et seq.

St. Paul was the excess pollution liability insurer of Cox, and was found to have breached its coverage obligations following a lengthy jury trial.  Among other things, the jury determined that St. Paul violated the TPPCA by not requesting information from Cox in a timely fashion.  Following the jury verdict, the court assessed a statutory penalty against St. Paul for its violation of the TPPCA, running from October 16, 2006, which the court determined was seventy-five (75) days after July 31, 2006, the date on which the jury concluded that St. Paul was provided with all of the information necessary to make payment on Cox’s claim.  On motion for reconsideration, Cox argued that the statutory penalty should have begun running from an earlier date.  Specifically, Cox argued that the statutory penalty should have begun running from November 17, 2005, which is the date on which the jury determined that St. Paul was in violation of § 542.055 of the Texas Insurance Law, concerning an insurer’s duty to acknowledge and investigate a claim.  Thus, Cox argued that statutory interest period should run from the date that St. Paul breached its duty to investigate rather than the date that it breached its duty to pay.

The court acknowledged that there was little “definitive guidance” on the issue, observing that neither Texas’ Supreme Court nor the Fifth Circuit had considered the accrual date for statutory penalty interest under the TPPCA.  The court nevertheless found guidance from the statutory scheme itself.  § 542.055 states that within fifteen (15) days for admitted insurers, or thirty (30) days for surplus lines insurers such as St. Paul:

… the insurer shall: (1) acknowledge receipt of the claim; (2) commence any investigation of the claim; and (3) request from the claimant all items, statements, and forms that the insurer reasonably believes, at that time, will be required from the claimant.

Further, § 542.058 states that:

… if an insurer, after receiving all items, statements, and forms reasonably requested and required under Section 542.055 delays payment of the claim for more than 60 days, then the "insurer shall pay damages and other items as provided by Section 542.060.

§ 542.060, in turn, sets forth the statutory penalty interest rate at 18% per year.

In considering these statutory provisions in connection with Cox’s insurance claim, the court observed that Cox provided its initial proof of loss on October 17, 2005, but that St. Paul failed to request information from Cox pursuant to § 542.055 within the thirty-day period.  As such, St. Paul was deemed for the purposes of the accrual date of the statutory interest period to have signaled to Cox as October 17, 2005 “it [had] all the information that it reasonably believes will be required from the insured.”  The court so concluded notwithstanding the fact that St. Paul did not actually have all information necessary to evaluate Cox’s claim and that this information was not, in reality, provided for another year:

While St. Paul may not have been in a position to evaluate the claim on December 16, 2005, that resulted from its failure to meet its claim handling deadline [under § 542.055]. St. Paul cannot avoid statutory penalty interest when it was St. Paul's failure to commence an investigation and request documents that hindered the process under the TPPCA. Under Section 542.058, St. Paul was given 60 days to pay the claim after requesting all information needed from the insured. However, because St. Paul failed to meet its initial obligation to request all items, statements, and forms from Cox in a timely manner after notice of the claim, it relinquished its ability to do so under that statute …

The court, therefore, determined that the proper accrual date for the sixty-day payment window under § 542.058 was October 17, 2005, meaning that payment was due on December 16, 2005, and that interest should be calculated from that date.

New York Court Holds UST Sublimit Applicable to Underlying Loss

In its recent decision in Two Farms, Inc. v. Greenwich Ins. Co., 2014 U.S. Dist. LEXIS 1629 (S.D.N.Y. Jan. 7, 2014), the United States District Court for the Southern District of New York had occasion to consider the whether the phrase “underground storage tank(s) and associated piping” as used in a pollution liability policy was ambiguous.

Greenwich insured Two Farms under a Pollution and Remediation Legal Liability Policy with limits of liability of $5 million per pollution condition. The policy contained an exclusion applicable to claims “based upon or arising out of the existence of any underground storage tank(s) and associated piping.”  The exclusion, however, had an exception for tanks identified in an “Underground Storage Tank(s) and Associated Piping Schedule, if any.”  The Two Farms policy, in fact, contained such a schedule as an endorsement which identified the underground storage tank (“UST”) and piping at the insured’s facility.  Notably, the policy also contained an endorsement titled “Dedicated UST Sublimit Endorsement,” which set forth a sublimit of liability of $1 million applicable to loss or remediation costs applicable to “all Underground Storage Tanks and Associated Piping scheduled to [the] Policy.”

During the policy period, Greenwich discovered that thousands of gallons of gasoline had been discharged into the soils of its facility.  It was later determined that the source of the leak was a defective “O-Ring,” which is a component of a pump that drew gas from the insured UST.  The gas leaked into a containment sump, but ultimately was discharged directly into the ground.  The remediation costs associated with the leak were alleged to exceed $5 million.  Greenwich paid $1 million toward the loss, asserting that this was the maximum recovery permitted under the policy as a result of the UST sublimit. 

While Two Farms agreed that the phrase “underground storage tanks and associated piping” as used in the exclusion and exception to the exclusion was unambiguous, it contended that the phrase as used in the sublimit endorsement was ambiguous since it could have two meanings.  Specifically, Two Farms argued that

… the term "underground storage tanks and associated piping" can refer either to underground storage tanks and associated piping alone, or to underground storage tanks, associated piping, and other equipment that comprises the UST system. Two Farms therefore argues that the term "underground storage tanks and associated piping" is ambiguous as used in the UST Sublimit, and concludes that this ambiguity must be construed against Greenwich, the insurer.

Two Farms argued that because the sublimit endorsement was ambiguous, the $1 million sublimit set forth therein should not apply to the underlying loss.  Rather, it claimed entitlement to remediation cost coverage up to the policy’s $5 million limit of liability.

While the loss occurred in Maryland, the court applied New York law in light of the policy’s express New York choice of law provision.  The court agreed that under New York law regarding the phrase “arising out of,” the UST exclusion applied to the underlying loss since the discharge of gasoline would not have happened but for the existence of a UST and its associated piping.  As the court explained, “[t]he equipment that caused the Discharge would be entirely unnecessary if Two Farms did not have the underground storage tank and associated piping to which that equipment was attached.”  The court further agreed, however, that because the UST was scheduled in the Underground Storage Tank(s) and Associated Piping Schedule, the exception to the exclusion applied.   In so concluding, the court found no ambiguity in the phrase “underground storage tank and associated piping,” finding the phrase to have a “definite and precise meaning.”  As such, the court rejected Two Farms argument that this phrase could be ambiguous when used in the sublimit endorsement, explaining:

The term "underground storage tanks and associated piping" must be interpreted broadly in order to effectuate the parties' intent that Two Farms receive coverage for losses incurred because of the Discharge; namely, losses that result from defects in the UST system. This interpretation of the term "underground storage tanks and associated piping" is appropriately applied across provisions of the Policy because "a word used by the parties in one sense will be given the same meaning throughout the contract in the absence of countervailing reasons," and no countervailing reasons are apparent in this case.

Notably, the court found no indication that the parties intended the phrase “underground storage tanks and associated piping” to have different meanings in different sections of the policy.  It therefore concluded that Two Farm’s arguments concerning ambiguity unduly strained the policy language beyond its reasonable and ordinary meaning.  While the court found the language plain and unambiguous, it noted in passing that extrinsic evidence, including testimony of the insured’s broker, supported the conclusion that the sublimit was intended to apply to all USTs on the schedule.

Seventh Circuit Addresses Coverage Under Workers’ Comp Policy

In its recent decision in YKK USA, Inc., v. Safety Nat’l Cas. Corp., 727 F.3d 782 (7th. Cir. 2013), the United States Court of Appeals for the Seventh Circuit had occasion to consider whether an employee’s common law claim for negligence against its employer qualified as a claim under “Employers’ Liability Laws” in order to satisfy an excess workers’ compensation policy’s insuring agreement.

TKK USA was named as a defendant in an underlying suit alleging negligence brought on behalf of a former employee who became ill and eventually died from mesothelioma. TKK gave timely notice of the lawsuit to its excess workers’ compensation carrier, Safety National. TKK retained primary responsibility for defending, settling, or paying claims up to $275,000 per occurrence. TKK incurred more than $400,000 in legal fees before it settled with the plaintiff in the underlying suit. Safety National denied coverage to TKK, taking the position that the claim of negligence in the underlying suit was not brought under “Workers’ Compensation or Employers’ Liability Laws,” but instead was a common law claim not covered under its policy.

The Safety National policy covered excess “Loss” sustained by TKK. The policy provided:

“Loss”—shall mean actual payments legally made by the EMPLOYER to Employees and their dependents in satisfaction of: (a) statutory benefits, (b) settlements of suits and claims, and (c) awards and judgments. “Loss” shall also include Claim Expenses, paid by the EMPLOYERS, as defined in Paragraph (2) of this section.”

“Claim Expenses” were central to the Court’s determination, and was defined as:

Interest upon awards and judgments and the reasonable costs of investigation, adjustment, defense, and appeal…of claims, suits or other proceedings brought against the EMPLOYER under the Workers’ Compensation or Employers’ Liability Laws [of Illinois] … for bodily injury or occupational disease … even though such claims, suits, proceedings or demands are wholly groundless, false, or fraudulent … .

The Safety National policy did not define the phrase “Workers’ Compensation or Employers’ Liability Laws”. Also relevant to the issue before the Court was the Illinois Workers’ Occupational Disease Act (“ODA”), a statute that provides the exclusive remedy for employees who contract workplace diseases (or suffered workplace injury), but bars common law claims. The ODA thus provided a complete defense for the common law negligence claims by the plaintiff.  For reasons unknown, TKK failed to assert the affirmative defense in response to the claim.

Safety National argued that because the ODA provided the only form of recovery for the claims in the underlying lawsuit, and the lawsuit did not request relief under the ODA, the costs of defending and settling the lawsuit did not qualify as a “Loss sustained by the EMPLOYER because of liability imposed on upon the EMPLOYER by the Workers’ Compensation or Employers’ Liability Laws” of Illinois. TKK countered that the underlying claims for loss fit within the coverage grant for claims under “Workers’ Compensation or Employers’ Liability Laws.” TKK argued further that the fact that it had an affirmative defense available did not have an effect on coverage under the Safety National policy because the policy provided coverage for “claims, suits, proceedings or demands” that were “wholly groundless, false, or fraudulent.”

Thus, whether a common law claim for negligence fell within the meaning of “Employers’ Liability Laws” was central to the Court’s analysis. The Seventh Circuit recognized that the ODA did not cover all potential common law claims. Because of these gaps, the Court concluded that “Employers’ Liability Laws” should not be restricted solely to statutory claims under the ODA. The Court noted also that to interpret the policy term “Employers’ Liability Laws” so that it only applied to statutes was too narrow of a construction absent language in the policy suggesting that the definition was intended to be limited in such a way. Therefore, the Court affirmed the determinations of the district court, holding that “Employers’ Liability Laws” was broad enough to include claims brought under common law, even “groundless claims” for which the employer appeared to have an affirmative defense.

Illinois Court Holds Auto Exclusion Applicable To Underlying Loss

In its recent decision in Cincinnati Ins. Co. v. William F. Braun Milk Hauling, Inc., 2013 U.S. Dist. LEXIS 150665 (S.D. Ill. Oct. 21, 2013), the United States District Court for the Southern District of Illinois had occasion to consider whether there was coverage under a commercial general liability policy for injuries that arose out of the use of an auto.

Cincinnati’s insured, Braun Milk, was a freight shipping and trucking company. One of its trucks was involved in an automobile accident that caused a fuel spill. Braun Milk was ordered by the Environmental Protection Agency to clean the spill, so it hired a contractor, which in turn subcontracted another company to handle those duties.

Braun Milk was sued by an employee of the subcontractor, Amy Fasig, in an underlying suit for its alleged negligence that resulted in Fasig’s left arm being amputated. Stephen Braun, an employee of Braun Milk, hit Fasig while driving a Braun Milk semi-tractor at the clean-up site. Fasig filed a complaint against Braun Milk and Stephen Braun that contained ten separate causes of action based in negligence and violations of the Road Construction Act. At the time of the injury to Fasig, Braun Milk had an automobile liability insurance policy issued by Northland and a commercial general liability policy issued by Cincinnati. The Cincinnati policy contained an automobile exclusion that provided:

2. Exclusions. This insurance does not apply to:

            …

“Bodily injury” or “property damage” arising out of the ownership, maintenance, use or entrustment to others of any aircraft, “auto” or watercraft owned or operate by or rented or loaned to any insured.

This exclusion applies even if the claims against any insured allege negligence or other wrongdoing in the supervision, hiring, employment, training or monitoring of others by that insured, if the “occurrence” which caused the “bodily injury” or “property damage” involved the ownership, maintenance, use or entrustment to others of any aircraft, “auto” or watercraft that is owned or operated by or rented or loaned to any insured.

Northland agreed to defend Braun Milk and Stephen Braun against four of Fasig’s claims. Braun Milk and Stephen Braun tendered its defense for counts three and four of Fasig’s complaint to Cincinnati; counts three and four alleged that Braun Milk was negligent in handling the clean-up and that Braun Milk violated the Road Construction Injuries Act. Cincinnati filed a declaratory judgment action and a subsequent motion for summary judgment seeking a declaration that it had no duty to defend or indemnify Braun Milk or Stephen Braun.

Relying on Northbrook Prop. And Cas. Co. v. Transp. Joint Agreement, 194 Ill. 2d.96 (Ill. 2000), Cincinnati argued that auto exclusion barred coverage because claims three and four did not arise from events wholly independent of Stephen Braun’s negligent driving. Cincinnati argued that the claims were “inextricably intertwined” with excluded claims. Braun Milk and Stephen Braun argued that there was coverage because counts three and four arose out of a “separate and distinct occurrence of alleged negligence”, relying on Louis Marsch, Inc. v. Pekin Ins. Co., 140 Ill. App. 3d 1079 (1985) and State Farm v. Abesamis, 2012 IL App (1st) 120541-U (2012).

The Court granted Cincinnati’s motion for summary judgment, holding that the claims arose from an excluded injury. The Court declined to follow Marsch’s reasoning as it related to the argument that Fasig’s injuries could have arisen from causes other than Stephen Braun’s use of the truck. The Court noted that the Seventh Circuit considered the issues presented in Marsch when it analyzed Northbrook in Nautilus Ins. Co. v. 1452-4 N. Milwaukee Avenue, LLC, 562 F.3d 818 (7th Cir. 2009). The Court concluded that Northbrook and Nautilus “provide the indication that the Illinois Supreme Court may decide the issues in Marsch differently.” The Court noted, referring to claims three and four: “While these are different theories of recover [sic], the fact remains that the bodily injury arose from Braun Milk’s use of an automobile which is clearly excluded from coverage.” Consequently, Cincinnati owed no duty to defend or indemnify Braun Milk or Stephen Braun.

Sixth Circuit Holds Faulty Workmanship Is Not An Occurrence

In its recent decision in Liberty Mutual Fire Ins. Co. v. Kay & Kay Contracting LLC, 2013 U.S. Dist. LEXIS 23587 (6th Cir. Nov. 19, 2013), the United States Court of Appeals for the Sixth Circuit, applying Kentucky law, had occasion to consider whether a subcontractor’s allegedly faulty preparation of a building pad, and the resulting settling and structural damages to the building constructed on the building pad, constitutes an “occurrence.”

Liberty Mutual issued a CGL insurance policy to Kay & Kay as the named insured and included MW Builders as an additional insured (“the contractors”). Wal-Mart contracted with MW Builders as a general contractor to build a new Wal-Mart store. MW Builders in turn subcontracted with Kay & Kay to perform site preparation work and construct the building pad for the new store. After Kay & Kay completed the building pad and constructed the building, Wal-Mart notified MW Builders that there were cracks in the building’s wall. Wal-Mart demanded that MW Builders remedy these issues and fix the resulting damage. MW Builders in turn demanded that Kay & Kay remedy these issues and indemnify MW Builders from Wal-Mart’s claim. MW Builders and Kay & Kay reached an agreement and executed a new and separate contract under which Kay & Kay agreed to perform the remedial work demanded by Wal-Mart. Meanwhile, Liberty Mutual filed a complaint seeking a declaratory judgment against the contractors alleging that their claims were not covered under the CGL policy, in relevant part, because there was no “occurrence” alleged.

The CGL policy at issue contained the standard coverage language found in a standard Insurance Services Office form.  The policy provided: “This insurance applies to ‘bodily injury’ and ‘property damage’ only if…[t]he ‘bodily injury’ or property damage’ is caused by an ‘occurrence’ that takes place in the ‘coverage territory’… .” The policy defined “occurrence” to mean “an accident, including continuous or repeated exposure to substantially the same general harmful conditions.” The policy did not define the term “accident.”

The parties filed cross-motions for summary judgment on the limited issue of whether there was an “occurrence” alleged in the claim. After a hearing, the district court denied Liberty Mutual’s motion for summary judgment and granted the contractors’ motion. Liberty Mutual appealed.

Relying on Cincinnati Ins. Co. v. Motorists Mut. Ins. Co., 306 S.W. 3d 69, 73 (Ky. 2010), the court noted that, standing alone, claims of faulty workmanship are not “occurrences” under CGL policies. The contractors argued that the damage was not Kay & Kay’s allegedly defective building pad (the work product itself), but was instead the collateral damage to the building (other property), which was the work of third-party contractors. The Court recognized that in order for there to have been an “occurrence”, there had to have been an “accident.” Following Cincinnati, the court concluded that the plain meaning of the term accident implicated the doctrine of fortuity, and it recognized that fortuity consists of intent and control.

After a careful examination of Cincinnati, the Court held that the facts of the case did not present an “accident” that would trigger coverage as an “occurrence” under the CGL policy issued by Liberty Mutual. The Court emphasized the importance the Cincinnati court put on “control” in analyzing the question of fortuity, and noted that the damages that occurred in this case were within the control of Kay & Kay; Kay & Kay was hired to prevent the settling and resultant structural damage that occurred. “In other words, the possibility of the type of damage in this case was exactly what Kay & Kay was hired to control.” The Court reversed the judgment of the district court and remanded the case with instructions to grant judgment for Liberty Mutual.

Insured’s Settlement Without Consent Bars Coverage Under An OCIP

In its recent decision in Perini/Tompkins Joint Venture v. Ace Am. Ins. Co., 2013 U.S. App. LEXIS 24865 (4^th Cir. Dec. 16, 2013), the United States Court of Appeals for the Fourth Circuit, considering both Maryland and Tennessee law, had occasion to consider whether an insured’s settlement of an underlying construction defect claim, without its insurer’s consent, precluded its right to indemnification.

Perini/Tompkins Joint Venture (“PTJV”) qualified as a named insured under a primary and excess layer owner controlled insurance program (“OCIP”) issued by ACE American Insurance Company with respect to the construction of a $900 million hotel and convention center in Oxon Hill, Maryland.  A collapse of the hotel’s atrium during the construction process resulted in significant property delays.  Following completion of the project, PTJV sued the owner on various theories for approximately $80 million in unpaid work, and the owner brought a separate suit against PTJV based on various theories of negligence in connection with its construction management activities.  The owner’s sought damages in the amount of $65 million.  PTJV did not notify ACE of the countersuit, but later settled the litigation.  Pursuant to the settlement, the owner paid PTJV approximately $42 million and PTJV credited $26 million back to the owner.

Some six months after the settlement, PTJV demanded that ACE pay the $26 million shortfall.  ACE issued a reservation of rights on several grounds, including breach of the policies’ prohibition on settlements without ACE’s consent.  Specifically, the policies contained clauses stating that “No insured will, except at that insured's own cost, voluntarily make a payment, assume any obligation, or incur any expense, other than for first aid, without our consent.”  In the ensuing coverage litigation, the United States District Court for the District of Maryland granted summary judgment in ACE’s favor on the issue of voluntary payment. 

On appeal, PTJV noted that under Maryland law (which it argued governed the policies), Section 19-110 of the Maryland Code states that an insurer’s disclaimer of coverage based on an insured’s breach of a cooperation clause or notice clause will not be permitted unless the insured can demonstrate actual prejudice.  PTJV argued that ACE’s disclaimer of coverage based on a voluntary payment was tantamount to a disclaimer based on late notice, and that as such, ACE was required to demonstrate actual prejudice.  ACE, on the other hand, argued that its disclaimer of coverage was not based on untimely notice, but instead based on breach of the policies’ voluntary payment clause.  ACE argued that it would be unfair to require it to demonstrate prejudice, since having been shut out of the settlement negotiations, it would be “placed in the impossible situation of having to prove a negative.”

The Fourth Circuit agreed that "[t]he central issue in this appeal is whether the insured . . . can unilaterally settle a construction defect case . . . , present the settlement to its liability insurer as a fait accompli, and obtain indemnification despite its blatant breach of clear and unambiguous policy provisions.”  Looking to a Maryland state appellate court decision on the issue in Phillips Way, Inc. v. American Equity Insurance Co., 795 A.2d 216 (Md. Ct. Spec. App. 2002), the court concluded that Section 19-110 of the Maryland Code did not control the issue, and that ACE was not statutorily required to demonstrate prejudice in order to succeed on its motion for summary judgment.

The court also entertained PTJV’s alternative argument that prejudice must be demonstrated as a matter of common law.  In analyzing the question, the court looked to Maryland law, which is where the underlying events took place, and to Tennessee law, which is where the project owner resided and where the policies were issued.   The court found no precedent under Maryland law for the proposition that an insurer is required to demonstrate prejudice when an insured breaches a voluntary payment clause.  The court nevertheless observed that even if prejudice was a consideration, ACE was necessarily prejudiced by not having been afforded an opportunity to participate in the settlement discussions and by having been deprived of its opportunity to investigate, defend, control or settle the underlying suit.  Looking to Tennessee law, the court found no controlling authority from Tennessee’s Supreme Court on the issue, but nevertheless predicted based on lower court decisions that prejudice would not be a consideration, at least for settlements entered into prior to first notice to the insurer.