Apr 09, 2014
Why it mattersA Kentucky federal court held that the claimed impact in a suit brought by the West Virginia Attorney General – alleging that the insured pharmaceutical drug distributor was a “pill mill” and played a role in creating widespread drug addiction in the state – was outside of the policyholder’s control and therefore the actions of the insured were accidental, not intentional. The AG’s complaint included causes of action for both negligent and intentional conduct, which required a defense under the insured’s policy. The court declined to rule on the issue of indemnification, however, finding that if the policyholder’s conduct was determined to be intentional or illegal then the insurer would have no duty to indemnify. The Kentucky court’s decision puts another clear stamp on the rule that the duty to defend is broader than the duty to indemnify and attaches regardless of the ultimate outcome of the dispute.
Detailed DiscussionIn 2012, the West Virginia Attorney General sued 13 pharmaceutical drug distributors, claiming they were an integral part of the “pill mills” in the state by supplying physicians and drugstores with drug quantities in excess of legitimate need, leading to high rates of drug addiction.
The complaint alleged eight causes of action, including a negligence claim for breach of the duty to exercise reasonable care in the marketing, promotion, and distribution of controlled substances, as well as a claim that the defendants “willfully turned a blind eye” toward the rising drug abuse by regularly distributing large quantities of controlled substances to customers.
Defendant Richie Enterprises sought coverage from insurer Cincinnati Insurance Company, which refused to provide a defense. According to the insurer, the AG’s complaint did not allege an “occurrence” or “bodily injury” pursuant to the policy; Cincinnati alternatively relied upon a policy exclusion for intentional and criminal acts.
U.S. District Court Judge Joseph H. McKinley, Jr., sided with Richie. The prescription drug abuse alleged by the AG could be deemed “accidental” and therefore an “occurrence” under the policy “since Richie did not intend for the alleged drug addiction to occur,” he wrote.
“While Cincinnati correctly points out that the underlying complaint also contains allegations of intentional conduct, Cincinnati seems to overlook that the complaint also contains allegations of negligent conduct,” the court said, listing multiple allegations of negligence from the complaint. “Moreover, the court agrees with Richie that the allegations of negligence in the AG’s complaint are, in essence, allegations that Richie did not intentionally cause the alleged harm.”
The creation of widespread drug abuse was beyond Richie’s control, Judge McKinley said. “The pharmacies in West Virginia dispensed the prescription drugs to people who presented seemingly valid prescriptions. There is no allegation that Richie ‘controlled’ the pharmacies – let alone to whom the pharmacies dispensed the drugs,” he wrote. “Likewise, physicians wrote the prescriptions for the end-users of the drugs.”
Bodily injury was alleged in the underlying complaint, the court added, because in addition to damages for economic harm, the AG included a claim for the costs of a medical monitoring program. Such a program constitutes the recovery of damages on behalf of its citizens for bodily injury, the court said.
Cincinnati then tried to hang its hat on a policy exclusion for intentional and criminal acts. But Judge McKinley, while recognizing that allegations of such behavior appeared in the complaint, said the argument was without merit.
“[T]he conduct of distributing prescription drugs based upon orders placed by pharmacies is not, in and of itself, illegal and the violation of laws cannot be reasonably anticipated,” he wrote, again characterizing the insured’s acts as accidental.
On the issue of indemnification, the court denied summary judgment for both parties, finding the issue premature. The judgment in the underlying action – whether or not it is based on intentional or illegal behavior on the part of Richie – will determine the issue of indemnification, the court said.
To read the decision in Cincinnati Insurance Co. v. Richie Enterprises LLC, click here.
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Why it mattersIn another dispute involving underlying litigation initiated by a state attorney general, the title and escrow company faced charges of taking part in a scam targeting distressed homeowners that resulted in alleged ill-gotten gains. The insurance company successfully argued in the district court that because ill-gotten gains were expressly excluded, it had no duty to defend. The Fourth Circuit reversed, clarifying that the mere allegation of “ill-gotten” gains did not trigger the exclusion unless the policyholder itself obtained the improperly received monies. That distinction is an important refinement to arguments that insurance policies generally do not apply to ill-gotten gain, disgorgement, or other similar claims. As here, if the policyholder itself did not obtain the improper gain then a defense is.
Detailed DiscussionA scam targeting distressed homeowners was the basis for a lawsuit filed by the Maryland Attorney General in 2008. The AG named 11 parties to the suit, including Cornerstone Title & Escrow. According to the complaint, the defendants induced homeowners facing foreclosure to enter into a sale-leaseback agreement and then pocketed any equity in the home while renting it back to the homeowners.
Cornerstone was the settlement agent for the deals, the AG said, and failed to deliver the homeowners their checks, instead sending them to the other defendants. The suit also alleged that all of the defendants were jointly and severally liable for the conduct of the others. Because of the allegations and the AG’s joint and several claim – which encompassed the intentional, fraudulent actions of the other defendants – Cornerstone’s insurer Evanston Insurance Company denied any duty to defend.
Cornerstone eventually agreed to a $100,000 settlement with the AG.
The insured filed a breach of contract suit and a federal district court judge granted summary judgment for Evanston. But the Fourth Circuit reversed.
Finding that the “Service and Technical Professional Liability Insurance” policy applied, the federal appellate panel considered Evanston’s argument that the Maryland AG’s case implicated two of the policy’s exclusions: Exclusion (n), which applied to claims based on Cornerstone “gaining any profit or advantage” to which it was not legally entitled, and Exclusion (x), for theft or conversion.
The court dismissed Exclusion (n), as Cornerstone may have collected the settlement proceeds, but did not retain them. “The Attorney General’s complaint did not allege that any particular ‘profit’ or ‘advantage’ inured to Cornerstone’s benefit, as exclusion (n) requires,” the panel wrote. “To the contrary, the complaint alleged that all the relevant benefits and funds went” to the other defendants. As the settlement agent, Cornerstone was required to collect the settlement proceeds, but “those assets went to parties other than ‘the Insured’ under the terms of Cornerstone’s policy with Evanston,” the court said. And the complaint made no allegations that Cornerstone overcharged or failed to provide bona fide settlement services. “Under the plain terms of exclusion (n), Cornerstone’s receipt of legally justified funds does not defeat policy coverage.”
Turning to Exclusion (x), Evanston told the court that Cornerstone committed conversion by delivering the checks to the other defendants and not the homeowners. Even assuming an improper delivery, the insured’s actions did not amount to conversion under Maryland law, the court explained. To commit conversion in the state, the payee of the check – in this case, the homeowner – must first receive the check before he or she can bring a conversion action based on a misuse or improper delivery of it. Because the checks never went to the homeowners, a necessary element of conversion was not met.
Two additional exclusions – Exclusion (a), for “dishonest, deliberately fraudulent, malicious, willful or knowingly wrongful acts or omissions,” and Exclusion (cc), eliminating coverage for violations of the Real Estate Settlement Procedures Act or analogous state law – were raised by Evanston. As the federal district court did not consider the application of these provisions, the Fourth Circuit did not address them, but remanded the case for it to do so.
To read the order in Cornerstone Title & Escrow Inc. v. Evanston Ins. Co., click here.
Why it mattersThe Eighth U.S. Circuit Court of Appeals found that a manufacturer of dried milk was entitled to defense and indemnification after facing a lawsuit from a purchaser that recalled its products out of fear of tainted milk. The federal appellate panel determined that the sale of the milk was an “accident” under the policy and the “Your Product” exclusion the insurer relied upon was inapplicable. The court concluded that the property damage claimed in the underlying suit occurred to a purchaser’s product, not the milk itself. The importance of this decision is the confirmation that the “your product” exclusion only applies to damage to the product itself and not to damage to a third party’s product.
Detailed DiscussionMain Street Ingredients purchased dried milk products from Plainview Milk Cooperative in 2007 and, in turn, sold the products to Malt-O-Meal. Malt-O-Meal then incorporated the dried milk into its instant oatmeal products.
In 2009, the Food and Drug Administration found salmonella bacteria on food-contact surfaces and in areas used to manufacture dried milk products in Plainview’s plant. In response, Plainview issued a voluntary recall notice of dried milk produced from 2007 to 2009, stating that it had “the potential to be contaminated with salmonella.”
Malt-O-Meal recalled its instant oatmeal as a result and then filed suit against both Main Street and Plainview. Main Street and Malt-O-Meal reached a deal to settle the suit for $1.4 million.
Main Street’s insurer The Netherlands Insurance Company provided a defense with a reservation of rights but sought a declaration that it had no duty to defend or indemnify the insured for the settlement.
The Eighth Circuit reached the opposite conclusion, ruling that Malt-O-Meal’s complaint triggered both a duty to defend and indemnify. Although the settlement deal did not include a finding of liability, the court said it was enough for Main Street to establish a finding of potential liability in the underlying litigation.
Netherlands argued that no property damage actually occurred in the underlying case because there was no factual finding that either the dried milk or the instant oatmeal contained salmonella. But the three-judge panel said the FDA’s findings included 13 instances of unsanitary conditions, including salmonella, and testimony from Plainview’s general manager established that some of those conditions dated back to 2007.
“[T]he dried milk was ‘prepared, packed, or held under insanitary conditions whereby it may have become contaminated with filth, or whereby it may have been rendered injurious to health,’ and was therefore ‘adulterated,’ whether or not it contained salmonella, so too was the instant oatmeal,” the court explained, quoting the FDA’s letter. Whether or not the oatmeal could be safely consumed, it could not be sold lawfully.
“According to Minnesota law, this constitutes physical ‘property damage’ to the instant oatmeal and Main Street has ‘show[n] it could have been liable under the facts shown,” the panel said. The court further found that an “occurrence” existed under the policy. “Because Main Street did not intentionally sell to Malt-O-Meal FDA-condemnable dried milk, the sale of FDA-condemnable dried milk was an ‘accident’ that constituted an ‘occurrence’ under the policy,” the court said.
Policy exclusions put forth by Netherlands failed to change the court’s mind. The “Your Product” exclusion was inapplicable because Main Street sought indemnity not for damage to its milk, but for damage to the Malt-O-Meal oatmeal caused by the inclusion of the milk.
“Main Street did not seek indemnification for property damage to its dried milk, but for property damage to Malt-O-Meal’s instant oatmeal, that is, the product liability settlement amount with Malt-O-Meal,” the panel said. “Malt-O-Meal manufactured a new product that included Main Street’s product as an inseparable ingredient such that the damage was to Malt-O-Meal’s entire product, which could not be alleviated by repair or replacement of Main Street’s product. The dried milk, once incorporated, could not be separated from the other ingredients in the instant oatmeal.”
The tainted milk did not fall under an exclusion for impaired property because it could not “be restored to use,” the court added, while a recall exclusion did not apply because Main Street’s claim was not for its recall expenses but Malt-O-Meal’s property damages.
To read the decision in The Netherlands Ins. Co. v. Main Street Ingredients, click here.
Why it mattersJoining the recent trend of recognizing coverage for construction companies under a commercial general liability policy for suits filed by homeowners, the Alabama Supreme Court reversed itself, ordering an insurer to pay a $600,000 arbitrator’s award against a policyholder. Clarifying state law, the court held that damages as a result of damage beyond the insured’s own work constituted a covered occurrence. The only costs not covered were those solely related to the cost of repair or replacement of the actual damage arising from the poor construction itself. To explain its decision, the court framed the distinction by analogizing to a construction company that negligently constructed a roof, resulting in water damage to a home. In a suit by a homeowner, the cost of repairing the defective roof is not covered while the monies spent repairing the remainder of the home damaged by the water would be.
Detailed DiscussionA couple contracted with Jim Carr Homebuilder (JCH), agreeing to pay $1.2 million for a new home. But within a year, the couple noted water damage due to leaks in the roofs, walls, and floors of their new home. The couple sued JCH and an arbitrator ultimately awarded them $600,000.
JCH held a commercial general liability (CGL) policy with Owners Insurance Company and filed a timely claim. Owners provided a defense while reserving its rights, filing a declaratory judgment action to determine the scope of its obligations.
Last September, the Alabama Supreme Court affirmed summary judgment for Owners, finding that it owed JCH no duty to defend or indemnify the contractor for the arbitrator’s award.
But the court then reversed itself, clarifying the scope of coverage under CGL policies for insured contractors.
Owners took the position that the property damage and bodily injury upon which the award was based were not the result of an “occurrence” under the policy, defined as “an accident, including continuous or repeated exposure to substantially the same general harmful conditions.” The insurers argued an occurrence required damage to property that is not part of the project itself, the insurer told the court.
While the court agreed that faulty workmanship itself is not an occurrence, it held that faulty workmanship could lead to an occurrence if it subjects the property to “continuous or repeated exposure” to some other “general harmful conditions.”
“Indeed, to read into the term ‘occurrence’ the limitations urged by Owners would mean that, in a case like this one, where the insured contractor is engaged in constructing an entirely new building, or in a case where the insured contractor is completely renovating a building, coverage for accidents resulting from some generally harmful condition would be illusory,” the court wrote. “There would be no portion of the project that, if damaged as a result of exposure to such a condition arising out of faulty workmanship of the insured, would be covered under the policy.”
Finding that the homeowners’ claims triggered coverage, the court then rejected Owners’ reliance upon the “Your Work” exclusion, which included the products-completed hazard. [cite] JCH purchased supplemental coverage – a total of $4 million – for its completed operations, and “that coverage applies to [the homeowners’] claims and, pursuant to the terms of the Owners policy, Owners must indemnify JCH for the judgment entered against it.” The “your work” exclusion applies narrowly and does not exclude coverage for property damage to other parts of the project.
To read the decision in Owners Insurance Co. v. Jim Carr Homebuilder LLC, click here.
Why it mattersCourts across the country are tackling the first wave of the insurance disputes arising out of Telephone Consumer Protection Act lawsuits. Recently, the Missouri Supreme Court held that the purpose of the statute is remedial and not punitive, making damages for the suits insurable, while a federal court in Illinois concluded that a policyholder was entitled to indemnification for a $5.8 million settlement. As coverage litigation over the TCPA continues, new decisions emerge in this very unsettled atmosphere. Under the facts it reviewed, a New York federal court found that allegations in a TCPA complaint alleging a consumer protection violation, rather than a privacy violation, were expressly excluded. The court noted that TCPA allegations in and of themselves were not automatically excluded by the policy but, rather, the allegations at issue were excluded by the specific exclusion for the claims alleged violations of consumer protection laws. Court will continue to grapple with TCPA claim on a case-by-case basis.
Detailed DiscussionConvergys Corporation was named as a defendant in a Telephone Consumer Protection Act suit filed in Illinois federal court by Nicholas Martin. The class action charged that Convergys and a second defendant violated the statute by sending unsolicited autodialed calls to the class members’ cell phones.
A federal district court judge granted preliminary approval to a settlement in January.
Meanwhile, Convergys sought a defense from insurer Beazley, a syndicate of Lloyd’s, London. Beazley initially denied coverage but relented, providing a defense with a reservation of rights. The insurer subsequently filed a declaratory action in New York federal court and filed a motion for summary judgment.
Beazley argues that exclusion K barred coverage for claims “arising out of or resulting from any actual or alleged . . . violation of consumer protection laws (except for consumer privacy protection laws under Insuring Clause I.C.).”
Convergys pointed to the exclusion’s exception under Insuring Clause I.C.2(c)(iii), characterizing the underlying suit as a violation of the class members’ privacy rights.
But U.S. District Court Judge Claire R. Kelly concluded that the exclusion – and not the exception to the exclusion – was in force.
“By its plain terms, Exclusion K bars coverage for the Martin action,” she wrote. The class action, “which sought recovery under the TCPA, was a claim ‘[f]or, arising out of or resulting from any actual or alleged . . . violation of consumer protection laws,’ ” as it alleged a violation of the TCPA and sought redress for violation of the statute. “[T]here can be no reasonable difference of opinion that the Martin action was a claim for a violation of a consumer protection law,” the court added.
Convergys’ attempt to rely upon the Insuring Clause exception was unavailing. Although the court noted that the “TCPA can reasonably be viewed as both a consumer protection law and consumer privacy protection law under the policy’s language,” the exception to the exclusion did not apply to the underlying complaint.
To read the decision in Certain Underwriters at Lloyd’s v. Convergys Corp., click here.
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