In Continental Casualty Co. v. Law Offices of Melbourne Mills, Jr., PLLC, the Sixth Circuit has just ruled that a lawyer’s failure to disclose an ongoing state bar association investigation against him constituted a material representation justifying the rescission of his malpractice insurance.

The defendant was one of three attorneys who represented a class of Kentucky plaintiffs in a product liability lawsuit over the diet drug fen phen. The case was settled for $200 million in 2001 and the defendant received $23 million as his fee. Class members later accused the lawyers of cheating them and a state judge ordered the lawyers to repay $62.1 million in settlement funds and interest.

The defendant sought coverage of legal malpractice claims arising from the fen phen matter under a policy sold by Continental. Continental sued to rescind the policy based on the defendant’s failure to disclose the state bar investigation in his policy application.

The Court wrote:  “This is ‘precisely the kind of information that Continental [sought and] would need to evaluate its potential for current and future risk.’ In this case, that risk was amplified by the enormity of the $200 million class action settlement. [The defendant] had a duty to disclose this information … and when he did not, he affected Continental’s opportunity to consider and weigh its options when issuing the policy.”

In the alternative, the court concluded that the Kentucky Supreme Court’s decision to disbar the defendant in 2010 served as a sufficient basis for precluding coverage under the policy’s dishonesty exclusion clause.

This case obviously involved some serious malfeasance, but the point needs to be made:  Check your application CAREFULLY before submitting it.  If you’re faced with a serious claim of some sort, you don’t want to fight the rescission battle. 

Here’s a fairly frequent scenario in the insurance world.  The carrier takes a “no- pay” position on a liability claim.  The policyholder settles the case and then seeks reimbursement from the carrier in a coverage suit.  What exactly does the policyholder have to prove in order to get paid?  

In Fireman’s Fund v. Security Ins. Co., 72 N.J. 63, 71 (1976), the New Jersey Supremes long ago set forth the general rule, writing:  “Where an insurer wrongfully refuses coverage and a defense to its insured, so that the insured is obliged to defend himself in an action later held to be covered by the policy, the insurer is liable for the amount of the judgment obtained against the insured or of the settlement made by him…The only qualifications to this rule are that the amount paid in settlement be reasonable, and that the payment be made in good faith.” 

A couple of weeks ago, this issue again came up, this time before the Appellate Division in GAF v. Allstate, 2012 N.J. Super. LEXIS 35.  A class of homeowners filed a class action lawsuit against GAF, alleging that GAF’s roofing shingles were defective because they began to deteriorate “only a few years after installation.”  National Union denied coverage for the suit, in part based on an “own product” exclusion, and GAF eventually settled the case on its own for $63 million.

In the subsequent coverage suit, GAF argued that the underlying claimants had alleged that there had been damage to items other than GAF’s shingles (GAF’s own product), such as other parts of the homeowners’ roofs.  GAF contended that that was enough to trigger coverage for the settlement, without GAF having to prove that, in fact, items other than the GAF shingles had been damaged.

Following 12 years of expensive litigation and a 23-day jury trial, the jury came back with a no-cause against GAF, now affirmed by the Appellate Division.

The Appellate Division wrote: “It is incumbent upon the insured to articulate to a reasonable degree of certainty what portion of its overall damages constitute a covered loss. This can be accomplished either by direct evidence of payment for third-party damages or by competent testimony demonstrating that third-party losses were a reasonably likely consequence of damages to the insured’s product.”  It’s somewhat difficult to understand where this ruling leaves policyholders in complex coverage litigation involving multiple underlying claimants, such as in a class-action setting.  Assume, for example, that GAF had put up an expert to say that “third-party losses were a reasonably likely consequence of disintegration of the shingles.”  The carrier would likely have argued (A) that this testimony was impermissibly speculative and (B) that GAF had to prove third-party damage with respect to each individual class member.  In other words, the carrier will almost certainly attempt to make the bar in such a coverage dispute unreachable, and we really don’t know how a trial court will respond. 

The unreachable and ever-moving bar seems to be contrary to the New Jersey Supreme Court’s public-policy based ruling in Owens-Illinois v. United Ins. Co., 138 N.J. 437 (1994).  There, the Court stated that in complex coverage litigation, a “rough measure” was all that was needed to establish coverage, writing:         “Because the defendants refused to involve themselves in the defense of the claims as presented, they should be bound by the facts set forth in the plaintiff’s own records with respect to the dates of exposure and with respect to the amounts of settlements and defense costs. Those losses for indemnity and defense costs should be allocated promptly among the companies in accordance with [a] mathematical model developed, subject to policy limits and exclusions. We stress that there can be no relitigation of those settled claims…Available data should enable the master to grasp the generality of the underlying claims and the exposures involved.”  (Emphasis added.)

We almost certainly have not heard the end of this issue.  The one seemingly certain thing is that policyholders can’t enforce coverage for underlying settlements simply because the underlying claimants alleged covered damage.  At the very least, in the class action product-liability property damage context, the Court will likely require an expert to review a statistically significant portion of the underlying claims and opine that, in the words of the GAF court, “third-party losses were a reasonably likely consequence of damages to the insured’s product.”   (Isn’t insurance law fun?)

In State Automobile Mutual Ins. Co. v. Flexdar, the Indiana Supreme Court has just held that the so-called “absolute” pollution exclusion contained in general liability insurance policies from 1986 forward is ambiguous and unenforceable.  The Court basically found that the exclusion does not define “pollutant” with sufficient specificity, and that, read literally, the exclusion would apply to any substance introduced into the environment.  (The Flexdar case itself dealt with TCE.)

The Court wrote:  “Applying basic contract principles, our decisions have consistently held that the insurer can (and should) specify what falls within its pollution exclusion. In fact, State Auto has over the years promulgated an Indiana ‘business operations’ endorsement…and an Indiana endorsement defining ‘pollutant’…Where an insurer’s failure to be more specific renders its policy ambiguous, we construe the policy in favor of coverage. Our cases avoid both the sometimes untenable results produced by the literal approach and the constant judicial substance-by-substance analysis necessitated by the situational approach. In Indiana, whether the TCE contamination in this case would ‘ordinarily be characterized as pollution’ [as argued by the insurance company] is, in our view, beside the point. The question is whether the language in State Auto’s policy is sufficiently unambiguous to identify TCE as a pollutant. We are compelled to conclude that it is not.”

New Jersey hasn’t gone quite this far (yet), although in Nav-Its v. Selective, our Supremes ruled that the APE did not apply to toxic fumes from a floor sealant, and that the APE only applied to “traditional environmental pollution,” whatever that means. 

Spring is a time of rebirth and hope, especially for baseball fans.  No matter how badly your team played last year, when March rolls around, you’re tied for first!  That is, unless (like me) you’re a fan of the woeful New York Mets.  After just a few weeks of spring training, their third baseman already has a rib injury; their first baseman (who missed most of last year after spraining his ankle by tripping over his own feet) has come down with some sort of weird desert fever; and one of their key relief pitchers is out for at least six weeks with a torn meniscus.  Oh, I almost forgot, their All-Star shortstop now plays for someone else.  

Can it get any worse?  When it comes to the Mets, yes, of course it can! There’s the little matter of Bernie Madoff.  Mets ownership has now been ordered to return $83 million to Madoff’s victims. 

Leaving the Mets and my baseball misery to one side, the Madoff situation in general has given rise to some interesting insurance coverage questions.  Recently, in Jacobson Family Investments v. National Union, a New York state court judge rejected efforts by carriers to lump named insureds together for the purpose of showing that on the whole, they were “net winners” in the Madoff fraud and therefore not entitled to insurance recovery for their losses from the Ponzi scheme.  The case involved a fidelity-type bond or policy, in part covering damages caused by “outside investment advisors.”  

The plaintiff-policyholders were investment vehicles set up by the heirs to the founders of industrial equipment supplier MSC Industrial Direct Co. Inc. and affiliated with Jacobson Family Investments, Inc.  The carriers argued that, because the investment vehicles were all listed in the policy under the heading “Complete Named Insured,” they were in essence one policyholder, and their net wins and losses had to be aggregated.  Because the aggregate amount of all of the policyholders’ net account balances with Madoff actually made them a “net” equity winner (together, they had withdrawn $5.9 million more than they invested with Madoff), the argument was that there was no compensable loss for insurance purposes.  

Based upon the clear terms of the policy, the judge wasn’t buying it.  The Court stated that the named insured rider “does not provide that [the] entities’ net wins and losses should be aggregated…it is [simply] an informational declaration of all the entities and individuals who may draw from the bond.”  

The carriers also tried to rely upon the “Single Loss” provision of the policy, which states:  “Subject to the Aggregate Limit of Liability, the Underwriter’s liability for each Single Loss shall not exceed the applicable Single Loss Limit of Liability…If a Single Loss is covered under more than one Insuring Agreement or Coverage, the maximum payable shall not exceed the largest applicable Single Loss Limit of Liability.”  “Single Loss” was defined as “all covered loss” resulting from a fraud.  Therefore, the carriers again argued, all of the policyholders’ wins and losses had to be aggregated to determine whether there was a compensable “Single Loss.”  

Again, the Court wasn’t buying.  First, the Court held that the purpose of the “Single Loss” provision was simply “to limit [the primary carrier’s] liability, under the Bond, for separate acts of malfeasance,” not to require aggregation of wins and losses.  Second, the Court held that a “Single Loss” was defined as “all covered losses, not all covered net losses.”  The Court stated:  “Courts should be extremely reluctant to interpret an agreement as impliedly stating something which the parties have neglected to specifically include.”  

Finally, the carriers cited a “Joint Insured Provision” in an effort to support the argument that all of the named insureds’ wins and loses had to be aggregated together.  The “Joint Insured Provision” states, in part:  “If two or more Insureds are covered under this bond, the first named Insured shall act for all Insureds.  Payment by the Underwriter to the first named Insured of loss sustained by any Insured shall fully release the Underwriter on the account of such loss…The liability of the Underwriter for loss or losses sustained by all Insureds shall not exceed the amount for which the underwriter would have been liable had all such loss or losses been sustained by one Insured.”  

The Court shot that argument down as well, writing:  “It is clear from the cited language that the main purpose of this Provision was to create an organized procedure to make claims under the Bond.  There are over 160 entities or individuals covered under this Bond…and if each entity had a claim…the insurance company would be processing significant amounts of paperwork.  Assigning one of the Insureds the power to act for others covered under the Bond resolves this issue.”  

This decision shows that, even in cases involving so-called “sophisticated” policyholders, some Courts will still apply strict rules of construction against carriers.  Interestingly, at no point did the Court say that the policy was ambiguous.  Rather, the Court essentially said that the carriers were attempting to engraft terms upon the policy that did not actually exist.  This is known in our business as “post-loss underwriting.”  

The excellent policyholder attorney Robin Cohen and her great team at Kasowitz Benson handled this case for the policyholders. 

Every once in awhile, we come across a case that calls to mind the formal legal term:  “Eeeeww.”  Here’s one that’s now before the New Jersey Supremes, and that (if you can get past the ghoulishness) involves two important questions:  

(1)  When does an “occurrence” take place under a liability policy? 

(2)  Can a court look past the pleadings to determine whether the duty to defend exists?

Robert and Stephanie Samanns  sued Adams-Stiefel Funeral Home, Inc., contending that the body of Robert’s deceased father had been subjected to an illegal scheme of human tissue harvesting that came to light through an investigation in New York State in 2006.  The Samannses alleged that the funeral home had “negligently and carelessly cared for, disposed of, and/or prepared the corpse… for cremation.”  According to the Samannses, the funeral home had entrusted the corpse to a cut-rate cremation service, which had allowed unsavory types to dismember the corpse.  The Samannses contended that they had suffered emotional injury as a result of the harm done to the body.

The funeral home’s general liability policies provided the standard coverage for “bodily injury” or “property damage,” but also contained an exclusion for “improper handling”, defined to encompass such acts as “[d]isarticulation of any part or parts of a ‘deceased human body’ by any insured or anyone for whom the insured is legally responsible.”

The funeral home tried to get around the “improper handling” exclusion by arguing that the allegations in the Samanns complaint really pertained to conduct by the cremation service, for which the funeral home was not “legally responsible.”  The insurance companies responded that “whether [the funeral home was] responsible for the actions of [the cremation service] ” did not matter because there were “allegations that [the funeral home]… is legally responsible…. The ultimate facts and the truth of whether they’re responsible doesn’t matter. It’s the allegations that count here and that’s why there’s no duty to defend.”  The trial court agreed with the carrier, granting summary judgment.

Under New Jersey law, the carriers’ statement of the law relating to the duty-to-defend point (and the trial court’s adoption of it) was breathtakingly wrong.  The New Jersey Supreme Court has pointedly held:  “Insureds expect their coverage and defense benefits to be determined by the nature of the claim against them, not by the fortuity of how the plaintiff, a third party, chooses to phrase the complaint against the insured.  To allow the insurance company ‘to construct a formal fortress of the third party’s pleadings and to retreat behind its walls, thereby successfully ignoring true but unpleaded facts within its knowledge that require it, under the insurance policy, to conduct the putative insured’s defense’ would not be fair.”  SL Industries v. American Motorists, 128 N.J. 188, 198-99 (1992) (citations omitted).  Therefore, if the policyholder could point to actual facts outside the pleadings that potentially brought the claim within coverage, the duty to defend existed.

The Appellate Division ignored the question of whether unpleaded  facts could trigger the duty-to-defend, instead writing:  “The allegations of…negligence vis-a-vis [the cremation service] fall squarely within the exclusion of coverage for bodily injury… arising out of the [f]ailure to… properly dispose of a deceased human body. When the negligence allegations against [the funeral home] are compared to the policy, the proper conclusion is that those claims originated from, grew out of, or have a substantial nexus to the failure to… properly dispose of decedent’s body. This exclusion is specific, plain, clear and prominent.”

The Appellate Division’s ruling disregarded the exception to the exclusion, which stated that the exclusion could only be applied when “the insured or anyone for whom the insured is legally responsible” committed the wrongdoing.  Why would the funeral home be “legally responsible” for criminal acts committed by the cremation service?

The next question was when the “occurrence” under the policy took place.   The Samannses’ claim was primarily for emotional distress.    The timing issue was important, because one of the carriers argued that any “damage” took place outside of its policy period, and therefore was not covered. 

The appeals court wrote:  “It is well-established that ‘the time of the ‘occurrence’ of an accident within the meaning of an indemnity policy is not the time the wrongful act was committed but the time when the complaining party was actually damaged…the important time factor, in determining insurance coverage where the basis of the claim is negligence, is the time when the damage has been suffered. Here, the ‘damage’ occurred in October 2006, when Samanns first learned of the illegal tissue harvesting from decedent’s body. The Assurance policy was in effect from December 2004 to December 2005.”

The main question for the Supremes is when the “occurrences” took place – at the time the body parts were allegedly taken, or when the families learned about the theft a few years later.  The policyholder’s attorney (George Dougherty of Katz & Dougherty in Lawrenceville) argued to the Court that the situation was analogous to that of a homeowner whose homeowner’s policy is almost ready to expire, and is asked by a neighbor going on vacation to watch over some childhood memorabilia with little or no intrinsic value but a great deal of sentimental value.  A fire in the kitchen destroys the memorabilia right before the property expires, but the neighbor does not return from vacation and discover the loss until after the policy has expired.  “The fire in the kitchen took place during the policy period,” argued Dougherty.

The problem is that the claim here isn’t really for damage to the body; it’s for the resulting emotional distress.  (Justice Albin seemed to be focused on this issue when he asked Mr. Dougherty whether a dead body has any intrinsic value.)  Can it be said that, for insurance purposes, the claim for emotional distress accrued when the body was dismembered, even though the Samannses did not know of the dismemberment until later? Stay tuned.

 

In ethics or metaphysics, the “law of unintended consequences” states that, for any willed action, there are consequences that occur which are not intended.  The concept has long existed, but was named and popularized in the 20th century by American sociologist Robert K. Merton.

Merton would have been fascinated by laws that were intended to protect policyholders (like ERISA) that often have the opposite effect.

Consider bad faith law in New Jersey.  One of the important cases regarding the insurance company’s duty of good faith and fair dealing is Pickett v. Lloyd’s, 131 N.J. 457 (1993).  In Pickett, the New Jersey Supreme Court crystallized the issue as follows:

“An insurance company may be held liable to a policyholder for bad faith in the context of paying benefits under a policy. The scope of that duty is not to be equated with simple negligence.  In the case of denial of benefits, bad faith is established by showing that no debatable reasons existed for denial of the benefits.  In the case of processing delay, bad faith is established by showing that no valid reasons existed to delay processing the claim and the insurance company knew or recklessly disregarded the fact that no valid reasons supported the delay.”

Bad faith liability exposes the insurance company to extracontractual damages, such as (under Pickett) “consequential economic losses that are fairly within the contemplation of the insurance company.”  Extracontractual damages can also include punitive damages.  Insurance company bean counters can’t set proper reserves on a claim when the possibility of extracontractual damages exists.  Insurance companies therefore hate bad faith liability the way Ohio State hates Michigan.

Leave it to insurance companies to find the gap in the armor, though.  In Pickett, the Court unfortunately commented:  “Perhaps [the] rule is easiest to understand in the context of the denial of benefits on the basis of noncoverage, such as for experimental surgery under a medical-insurance policy.  Under the ‘fairly debatable’ standard,  a claimant who could not have established as a matter of law a right to summary judgment on the substantive claim would not be entitled to assert a claim for the insurer’s bad-faith refusal to pay the claim.”

Note that, in its comment, the Pickett court gave the example of experimental surgery, which would generally not be covered.  Insurance companies and their lawyers, however, have twisted this passage to mean that if they deny coverage under any policy on any basis, and if the policyholder later is unable to obtain summary judgment against the carrier in a coverage lawsuit, there’s no bad faith liability.  And, a number of carrier-friendly judges have bought into that rationale.  The cynic in me thinks that some of these judges may want to make coverage cases settle by removing the policyholder’s biggest hammer.  In business coverage cases, also, I suspect that some judges figure that all’s fair as long as no one’s dying.  

Now, New Jersey state senator Nicholas Scutari, a plaintiff’s personal injury lawyer by trade, has attempted to plug some of the holes in the state’s bad faith law through a new bill, S-766.  The bill would create a private right of action against an insurer “arising from the insurer’s breach of its duty of good faith and fair dealing, which breach shall include the insurer’s failure to attempt in good faith to effectuate a prompt, fair and equitable settlement of a claim in which liability has become reasonably clear.”  To recover damages, the claimant must “prove that the insurer acted unreasonably in the investigation, evaluation, processing, payment or settlement of the claimant’s claim for coverage under the policy or without a reasonable basis for denying coverage.”

While perhaps a laudable effort, the Scutari bill falls many miles short in a number of major respects.  First, a private right of action for bad faith already exists, as shown under Pickett.  I think the bill meant to create a private right of action under the Unfair Claims Settlement Practices Act, codified in New Jersey at N.J.S.A. 17:29B-4(9), which some states permit, but New Jersey does not.  Second, what does it mean that liability must be “reasonably clear”?  Are we back to the standard enunciated by the Pickett-twisters,  that is to say, no liability exists unless the policyholder can prevail on summary judgment on the coverage issues? Third, what does it mean that the carrier acted “unreasonably”?  Carriers will argue that as long as they deny coverage on a basis that gets past the red-face test, no matter how tenuous, they’re in the clear – and if past performance is a predictor of future events, many judges are apt to agree.  Fourth, under the bill, claims of bad faith are to be determined solely by a judge, not a jury.  At the risk of going out on a limb here, jurors are much more likely than judges to be attuned to the real-world problems caused by carrier recalcitrance, and the threat of a jury verdict is much more likely to serve as a deterrent to insurance company bad behavior. 

Finally, the bill allows a wronged policyholder to recover damages in excess of policy limits, such as punitive damages, prejudgment interest, reasonable attorneys’ fees, and reasonable litigation expenses. But all of the damages enunciated by bill are already allowed under Pickett, with one notable exception.  Due to a quirk in the New Jersey Court Rules [R. 4:42-9(a)(6)], attorneys’ fees are only recoverable by a successful claimant in a liability coverage case.  The Rules do not permit a policyholder in a first-party case to recover fees (and they should). 

If I were King for a Day, I would scuttle S-766.  (My guess is that it will be dead on arrival anyway.)  It doesn’t add anything that really helps policyholders, and in fact, takes some valuable rights away.               

Good stuff over at Amy Stewart’s blog on the issue of who gets to pick counsel – the policyholder or the carrier.  Naturally, this depends on the policy language…unless the carrier reserves its rights, in which case the interests of the policyholder and carrier may be in conflict.  The flip-side, of course, is if the carrier lets the policyholder select counsel, it’s going to be subject to the carrier’s often bargain-basement rates.  

I’m getting ready to participate in a panel discussion at the New Jersey Institute for Continuing Legal Education with some of my friends from both sides of the bar (policyholder and carrier).  I’ll be discussing the rules of construction in insurance policies, particularly as they relate to ambiguity, so I’m re-reading some of the more recent and significant “ambiguity” cases.  

One thing’s for certain: as construed by many courts, the term “ambiguity” is itself ambiguous.  When determining whether ambiguity exists in insurance policies, many courts seem to follow the late Justice Potter Stewart’s method of determining pornography:  “I know it when I see it.” 

To advise clients properly, and to do adequate risk assessment when involved in coverage litigation, we need a more workable definition.  Travelers’ Liability Coverage Manual from September 1983, for example, contains a succinct definition of “ambiguity”: 

“Ambiguity:  This means that the words are capable of being understood in two or more reasonably logical ways. Ambiguity should be resolved in favor of the insured.” 

In contrast to the 1983 Travelers definition, in Zacarias v. Allstate Ins. Co., 168 N.J. 590, 604 (2001) the New Jersey Supremes ruled that ambiguous policies are those that are “overly complicated, unclear, or written as a trap for the unguarded consumer.”  That’s a pretty murky test. 

One of the more interesting recent New Jersey cases involving ambiguity is  Flomerfelt v. Cardiello, 202 N.J. 423 (2010), the facts of which can be best summarized as:   “When the cat’s away, the mice will play.”  In Flomerfelt, mom and dad went away for a few days.  Their 20-year-old live-in son (Cardiello) decided to throw a party.  Instead of playing dominoes or watching old F-Troop episodes on Hulu, though, the party guests broke out the alcohol, marijuana, opiates and cocaine. 21-year-old Wendy Flomerfelt partook of the refreshments, resulting in liver and kidney damage, and permanent hearing loss.  All of the previously-mentioned substances were later found in her system at the hospital.  Flomerfelt sued Cardiello, on the theory that he negligently delayed in getting medical attention for her because he didn’t want mom and dad to know about the party.  

The homeowner’s policy in Flomerfelt excludes coverage for claims “arising out of the use…transfer or possession of controlled dangerous substances.”  The question for decision was:  What does “arising out of” mean?  The policyholder argued that the term “arising out of” was ambiguous, and that the insurance company was required to provide a defense “unless and until it could be proven that alcohol [which is not a “controlled dangerous substance”] was neither the sole nor a contributing cause.”

The carrier, on the other hand, argued that “arising out of” simply means “incident to” or “in connection with.”  Under the carrier’s interpretation, if narcotics had anything to do with the injury, no coverage existed.

The New Jersey Supreme Court agreed with the policyholder, writing:  “The insurer’s proposed construction…would expand the phrase ‘arising out of’ to mean that the injury is connected in any fashion, however remote or tangential, to the excluded act, rather than one that ‘originates in,’ ‘grows out of,’ or has a ‘substantial nexus’ to the excluded act.”

The Court further wrote:  “The insurer’s use of the phrase with no clarification of its intended meaning in circumstances arising from potentially concurrent clauses makes the phrase ambiguous, calling for an interpretation consistent with the reasonable expectations of the insured.”

In Flomerfelt, then, the Supremes seemed to use the 1983 Travelers definition of ambiguity:  namely, a term is ambiguous if it’s capable of being understood in two or more reasonably logical ways. Keep in mind that Flomerfelt was a personal lines case, and that, as a practical matter, it can be harder for business policyholders to convince courts that policy terms are ambiguous.

In no particular order, the three areas of liability claim that seem to make carriers the most unhappy (or suspicious) are (1) employment claims; (2) environmental claims; and (3) “Coverage B”-type claims (intellectual property, false advertising, etc.).  The Great Pomegranate Wars fall into category (3).  (I should note for accuracy that “Coverage B” is a general liability policy term, and the case discussed below deals with an errors and omissions-type policy.)

According to the Pomegranate Council (and yes, there is a Pomegranate Council):  “Pomegranates are royalty amongst fruit.  They are symbolic of prosperity and abundance in virtually every civilization.”  (Me, I don’t like the seeds.)

Seeking such prosperity and abundance, Welch Foods manufactures and sells fruit juice containing what it describes as “White Grape and Pomegranate” juice. The label on the juice prominently pictures pomegranates when – the horror! – the primary ingredients are actually white grape and apple juice. A competitor, POM Wonderful, LLC, which produces its own blended pomegranate juices, sued Welch in 2009 for false and misleading advertising.  Then a class of disaffected consumers also brought suit against Welch for false advertising and deceptive labeling.

National Union sold Welch a liability policy covering Welch’s loss “arising from a Claim … for any  actual of alleged Wrongful Act of [Welch].”  It defined “[w]rongful act” as  “any breach of duty, neglect, error, misstatement, misleading statement, omission or act by [or on behalf of the Organization].”

The broad coverage grant in the policy quoted above seems to include claims of false or misleading advertising, and the trial court agreed.  The coverage issue, however, was beclouded by a policy exclusion reading as follows:

 

“ANTITRUST EXCLUSION

The Insurer shall not be made liable to make any payment for Loss in connection with a Claim made against the insured…alleging, arising out  of, based upon or attributable to, or in any way involving either directly or indirectly, antitrust violations, price fixing, price discriminations, unfair competition, deceptive trade practices and/or monopolies, including actions, proceedings, claims or investigations related thereto…”

 

By its title, the “antitrust exclusion” seems to deal with antitrust-type claims rather than false advertising claims.  But the trial court felt otherwise, writing:

“While the exclusion at issue is entitled ‘[a]ntitrust exclusion,’ its scope is not so limited. Indeed, the very next exclusion in the contract, Exclusion 19, states that ‘[t]he headings in this policy are there purely for the convenience of the parties and they form no part of the definition of the scope of the coverage provided.’ Moreover, the plain language of the exclusion is broad enough to include a variety of anti-competitive behavior. Nothing in the text of the exclusion limits it solely to antitrust claims. To the contrary, the fact that it includes a range of anti-competitive conduct suggests that its scope is broader than antitrust claims… Since the exclusion applies, National Union has no duty to defend, and no duty to advance defense costs.”

Bad rulings are what appeals courts are for, right?  Umm…not in this case.  The United States Court of Appeals for the First Circuit has now issued a decision affirming the trial court, writing:

“No definition was provided in the policy for the terms ‘unfair competition’ or ‘deceptive trade practice’…Although Exclusion 4(c) bears the label ’Antitrust Exclusion,’ and several of the descriptions of covered claims refer to ‘antitrust’ or typical antitrust claims such as ‘monopolies,’ the plain language of the other excluded claims – particularly ‘unfair competition’ and ‘deceptive trade practices’ – is far broader and not so limited.”

(Here’s a question for the First Circuit.  If ‘false advertising’ and ‘unfair competition’ mean the same thing, then why have they been historically separately referenced in commercial general liability policies?)

Some thoughts on the implications of this decision.  First, a wise person once said that the only justice in the halls of justice is usually in the halls.  The reversal rate in the federal appeals court is about 14%.  So, if you can do a deal, do it.  Second, it’s important to have specific coverages for specific exposures. “General” coverages (such as the one involved in the Welch decision) contain so many carveouts and exclusions that they can often be worthless when trouble strikes.  So, if your business may have an advertising liability exposure, review it with your broker or risk management consultant and make sure that you’re properly protected.  And third, while businesses need a comprehensive coverage program, never count on insurance.  Proper operational controls are paramount.  “Insurance” often simply means the right to sue a carrier.

The First Circuit citation is Welch Foods, Inc. v. National Union Fire Ins. Co., No. 10-2261 (1st Cir. Oct. 24, 2011).

In my experience, there are three main reasons why companies delay in giving notice to their carriers of potentially covered claims.  First, the underlying suit is an “oddball,” such as an intellectual property claim, that the risk manager thinks isn’t covered.  Second, the company is worried that its premiums will rise.  Third, the person responsible for reporting (and following up on) claims is very busy, and the problem drifts to the bottom of the pile. 

Commercial insurance claims are complicated enough.  The last thing you want to do is give the carrier an unexpected gift, namely, another possible ground upon which to deny coverage.  Late notice qualifies as such a gift.

The recent Second Circuit decision affirming the trial court in Rockland Exposition, Inc. v. Great American Ins. Co., No. 10-4276-cv, seems to have involved some or all of the three reasons I listed above.  (The trial court decision is reported at 746 F. Supp. 2d 528, 2010 U.S. Dist. LEXIS 103267.) I should note that the Rockland case was decided under New York’s old, draconian late notice law (under which even very brief delays in giving notice can result in a forfeiture of coverage, regardless of whether the carrier was actually prejudiced).  In July 2008, N.Y. Ins. Law §3420 was amended to prohibit insurance companies from denying claims as untimely unless the policyholder’s failure to provide timely notice actually prejudiced the insurance company.  The amendment applies only to policies sold after January 17, 2009, so if you’re dealing with a delayed-manifestation claim of some type under New York law, you may still have to wrestle with the old requirements. 

Most states (including New Jersey) follow the “prejudice” rule with respect to occurrence-based policies, meaning that the insurance company has to show it was harmed by the late notice before it can be relieved of its coverage obligations.  The Reminger law firm, based in Ohio and Kentucky, has compiled a helpful chart showing which states follow the “prejudice” rule and which do not. 

And now, back to Rockland.  The case involved an underlying trademark infringement suit against the policyholder in federal court in New Jersey, relating to competing trade shows (note Reason No. 1 for not giving notice, above).  The policy required written notice of claim to the carrier “as soon as practicable.”  The policyholder delayed almost three months in giving written notice to the carrier, and the appeals court held that coverage was precluded because of the delay.  

The excuses given by the policyholder for providing late notice (each rejected by the court) were as follows: 

1. Only a month after receiving the summons and complaint, the policyholder told its broker (orally) about the suit.  Not good enough, said the trial court (affirmed by the Second Circuit): “An insurance broker is the agent of the insured, not the insurance company, and notice to an insurance broker, absent exceptional circumstances, is not notice to the insurer.”  The court added:  “Where, as here, an insurance policy requires written notice of a claim, oral notice is of no legal significance.” 

2. The policyholder argued that oral notice to an “agent” of the carrier was sufficient, because the policy contained an endorsement reading:  “Notice given by or on behalf of the insured, or written notice by or on behalf of the injured person or any other claimant, to any agent of ours in New York State, with particulars sufficient to identify the insured, shall be considered to be notice to us.”  The policyholder contended that because the first clause omitted the word “written,” written notice was not required.  The trial court disagreed, writing:  “Here, it is difficult to believe that by adding  provision 2.e — the main goal of which was obviously to allow notice to agents, as an alternative to notice to the insurer — the Parties also intended to surreptitiously repeal two explicit provisions requiring written notice.”  Not that this would have mattered, because the court also concluded that there was no evidence that the broker (Marshall & Sterling) was an agent of the carrier.  There was, for example, no written agency agreement.

3. The policyholder argued that it delayed in giving notice because it did not realize that it had insurance coverage for intellectual property lawsuits.  The trial court again disagreed, stating:  “Where coverage is unclear, reasonable insurance-holders give notice.”   

Even if you’re in a state that requires the carrier to show prejudice, late notice is an expensive battle that you don’t want to fight.  Give notice early and often, and strictly follow the policy requirements when doing so.  If you ask your broker to give notice, make the request in writing and make sure you get a copy of the actual notice letter.