Lawyers and insurance companies are forever reserving their rights.  Sometimes I think it’s a reflex action against ever being forced to take an actual position.  But in the world of insurance coverage, “reservation of rights” letters do serve a function. Insurance companies fear that if they undertake the investigation or defense of a claim, for example, the policyholder may later argue that the carrier has waived its right to deny coverage for that claim.  It’s common practice, therefore, for an insurance company to send what’s known as a “reservation of rights letter,” preserving the right to deny coverage later if circumstances warrant. And, in fact, the law in New Jersey is fairly clear: “Unreasonable delay in disclaiming coverage, or in giving notice of the possibility of such a disclaimer, even before assuming actual control of a case or a defense of an action, can estop an insurer from later repudiating responsibility under the insurance policy.”  Griggs v. Bertram, 88 N.J. 347, 357 (1982).

I’ve been involved in more than a few arguments over the years about whether particular reservation of rights letters are actually proper or effective.  Recently, the Eleventh Circuit had a lot to say on that subject, in a (somewhat convoluted) case captioned Wellons Inc. v. Lexington Insurance Company.

Boiled down to its essence, here’s what happened: Wellons installs capital equipment for the forest product industry. Wellons entered into two contracts with Langboard, agreeing to provide systems to produce energy for the production of “oriented strand board” (“OSB,” which is basically particleboard) for use in home construction and flooring. Wellons also agreed to erect and install the energy system.

The Wellons system didn’t work properly; beyond that, a portion of the system collapsed, causing extensive property damage.  Two separate lawsuits resulted. After the first suit was filed (for property damage) but before the second suit was filed (for replacement of the system), Lexington reserved its rights. As an example, Lexington wrote: “Lexington continues to reserve all of its rights in connection with this claim and failure to set forth any policy provision that may be applicable is not intended to constitute a waiver of any of Lexington’s rights to rely on any applicable policy provisions or law.”  But Lexington never reserved its rights in writing with respect to the second suit. 

Lexington eventually settled the first suit (for property damage caused by the collapse of part of the system).

The dispute in the coverage case involved the second suit, in which Langboard argued that the energy system never worked properly, because the system was not able to meet emissions requirements or produce sufficient heat. Lexington’s claim person orally advised Wellons that Lexington would provide a defense under a reservation of rights. And Lexington retained counsel to do so, but later denied coverage on the ground that the facts developed during discovery did not meet the definition of either “occurrence” or “property damage” under the CGL policy. According to Lexington, discovery showed only “that the superheaters never operated as expected and the only damages are for less production of OSB than expected as well as lack of energy for cogeneration purposes.” Although Lexington denied coverage, it continued the defense.  (Why?  Not clear.) The jury awarded Langboard over $8 million.

Wellons argued that Lexington had not adequately reserved its rights, and was estopped from asserting coverage defenses under its primary and umbrella coverage.

The Court was unimpressed with Wellons’ position, writing:  “By permitting Lexington to go forward with Wellons’ defense in [the second suit] with no objection, Wellons implicitly consented not only to a defense under a reservation of rights but also to the terms of the reservation, including the nonwaiver clause contained in the [earlier reservation of rights letters]…Lexington’s oral and unambiguous reservation of rights in November 2007, coupled with the nonwaiver clauses in the March and April 2007 letters, satisfied [the] law as to a reservation on [the second suit].”

The balance of the opinion contains an interesting logical conflict.  Lexington was both the primary and umbrella carrier on the claims. Lexington argued that Wellons had not given proper notice of the second lawsuit under the umbrella policy.  The Court agreed:  “Wellons does not contest in its brief that it never provided Lexington with a formal notice of claim under the Umbrella Policy, but suggests…that Wellons’ mention of the Policy in [letters] to Lexington put Lexington on notice of a claim under the Umbrella Policy. Even if we assume that Wellons’ February 2009 mention of the Umbrella Policy constituted notice, we nonetheless conclude this notice was not timely.…A delay of over one year does not constitute ‘immediate’ notification as required by the Umbrella Policy. Further, Wellons cites no Georgia authority suggesting Lexington had an obligation to presume notice under the Umbrella Policy simply because Lexington was the issuer of both the CGL and Umbrella Policies.”

So: The appeals court first ruled that a general reservation of rights letter was sufficient to encompass a later-filed lawsuit, which involved a different claim. In other words, the appeals court gave the benefit of the doubt to the carrier. But with respect to notice, the appeals court said that notice of the first claim was not sufficient to encompass the second claim. In other words, on the notice issue, the appeals court refused to give the benefit of the doubt to the policyholder.

Here are some takeaways from this case.  First, if I advised carriers (which I don’t), I would tell them never to issue an “oral” reservation of rights. The carrier got away with it here, but in some courts, I’m sure that wouldn’t be the case. Conversely, if you’re a policyholder, always document all conversations with the insurance company (“this will confirm our telephone conversation of today, in which you told me…”). I’ve been doing this job long enough to know that if something isn’t in writing, it doesn’t exist. Second, I think many courts would have given Wellons the benefit of the doubt on the question of notice under the umbrella policy, especially since Lexington was both the primary and umbrella carrier. But again, if it isn’t in writing, it doesn’t exist. It’s very important to follow the notice requirements of all of your policies, to the letter, so you don’t have to fight this fight later. And finally, in this case, Wellons essentially conceded that there was no coverage, and argued only that Lexington failed to reserve its rights properly. Courts don’t like forfeiture, and don’t like technicalities. If estoppel is the only argument you’re proceeding upon, the ice can be mighty thin indeed.