California Supreme Court Overrules Henkel and Holds Insurer Consent Is Not Required For Policy Assignment After Coverage-Triggering Event Has Occurred

The California Supreme Court held that, regardless of a policy’s consent-to-assignment provision, an insurer’s consent is not required for a valid assignment of a liability insurance policy after a loss has happened. Its holding is based on rarely-cited Insurance Code section 520 (“Section 520”) which states: “[a]n agreement not to transfer the claim of the insured against the insurer after a loss has happened, is void if made before the loss.” Further, the Court concluded a loss “happens” when an event giving rise to potentially covered liability takes place, not when a claim is reduced to a fixed sum due. In so holding, the Court overruled Henkel Corp. v. Hartford Accident & Indemnity Co. (2003) 29 Cal.4th 934, which reached a contrary conclusion but did not consider the effect of Section 520.

Hartford issued a series of liability policies to Fluor Corporation, an engineering and construction company. The policies, in effect from 1971 to 1986, contained a consent-to-assignment clause that stated an “[a]ssignment of interest under this policy shall not bind the Company until its consent is endorsed hereon.” Beginning in the mid-1980s, various Fluor entities were sued in numerous lawsuits alleging injuries caused by exposure to asbestos. Hartford defended and settled lawsuits against Fluor over a 25-year period.

In the 1980s, Fluor acquired a mining business, A.T. Massey. But in 2000, Fluor chose to refocus on its core businesses and underwent a corporate restructuring known as a “reverse spinoff.” Fluor created a new subsidiary (“Fluor-2”), with the original Fluor becoming Massey Energy. Under a Distribution Agreement, Fluor transferred its rights and obligations to Fluor-2. Those “rights” encompassed all of Fluor’s assets, including the Hartford policies. Fluor-2 notified Hartford of the restructuring. Hartford did not object and continued to defend Fluor-2 against asbestos lawsuits for another seven years.

In 2006, Fluor-2 filed a coverage action against Hartford regarding issues unrelated to Fluor’s assignment. In a 2009 cross-complaint, Hartford for the first time alleged the purported assignment of its policies to Fluor-2 was invalid without Hartford’s consent. Hartford sought reimbursement of defense and indemnity paid on Fluor-2’s behalf.

Fluor-2 moved for summary adjudication that Section 520 bars enforcement of Hartford’s consent-to-assignment clause “after a loss has happened.” Fluor-2 asserted the underlying asbestos suits alleged exposure while Hartford’s policies were in effect. Thus, the “loss” triggering its duty to defend and indemnify already happened, so claims under the policy were assignable without Hartford’s consent. Hartford argued the Court was duty-bound to follow Henkel, which held an assignment is valid only after a loss has been reduced to a “chose in action” – that is, a fixed sum of money due or to become due.

The trial court agreed with Hartford. Fluor-2 filed a writ which the Court of Appeal denied, concluding Henkel controls. The Court of Appeal also concluded Section 520 only applies to first-party insurance policies, since liability insurance “did not even exist” when the predecessor to Section 520 was enacted in 1872. The Supreme Court granted review to consider the effect of Section 520 on the purported assignment.

The Supreme Court first recounted the history of Section 520 in detail. In 1935, when the Insurance Code was created, third-party liability policies were becoming more common, and Section 520 was included in a “General Rules” section of the Code with other sections defining and applying to liability insurance. Section 520 was modified in 1947 to exclude two specific classes of insurance (life and disability, not liability). The Supreme Court disagreed with the Court of Appeal and concluded Section 520 applies to both first-party and third-party insurance policies.

The Court then considered how Section 520 applies in the liability insurance context. The issue turns on the meaning of the phrase “after a loss has happened,” which the Court concluded is ambiguous. Fluor-2 asserted a loss “happened” when a claimant was exposed to asbestos while the Hartford policies were in effect, so Fluor’s assignment of its rights under the policies to Fluor-2 in 2000 was valid. In contrast, Hartford asserted a loss happens when the insured incurs a direct loss by judgment or settlement fixing a sum of money due. The Court concluded that both interpretations are reasonable.

However, the Court reasoned that the legislative history of Section 520, as well as early cases addressing assignment of policies, favor Fluor-2’s view. Early cases distinguish an insured’s inability to assign a policy as to future events (substituting another insured for the risk the insurer evaluated) from an insured’s right to assign a claim after a loss. Regarding the timing of loss, the Court concluded an insurer’s contingent liability to its insured becomes “fixed” when an accident or event takes place for which the insured may be responsible. A claim need not be reduced to a discrete sum for a loss to have occurred.

The Court stated this is the majority view across the country and was expressed in case law decided before the 1947 amendment of Section 520, so the rule was part of the “legal landscape” at that time. The Court also reasoned the notion that loss “happens” at the time of the injury during the policy period is consistent with its holdings in Montrose Chemical Corp. v. Admiral Ins. Co. (1995) 10 Cal.4th 645 and State of California v. Continental Ins. Co. (2012) 55 Cal.4th 186, in which the Court equated “loss” with bodily injury and property damage, rather than a money judgment or settlement.

The Court rejected various arguments by Hartford, including that the Court is bound to follow Henkel and that its reliance on a relatively obscure statute is misplaced. The Court overruled Henkel to the extent it is inconsistent.

Click here for the opinion.

This opinion is not final. It may be modified on rehearing or review may be granted by the United States Supreme Court. These events would render the opinion unavailable for use as legal authority.

Insurer May Seek Reimbursement from Independent Counsel of Excessive Defense Expenses Given Trial Court’s Duty to Defend Order

Hartford Cas. Ins. Co. v. J.R. Marketing, L.L.C. (2015) ___ Cal. ___.

The California Supreme Court held an insurer can recover allegedly excessive and unnecessary defense expenses directly from its insureds’ independent counsel. The Court reversed a Court of Appeal decision affirming the trial court’s grant of a demurrer. The trial court had concluded the insurer’s right to reimbursement, if any, was from its insureds, not their independent counsel. The Supreme Court disagreed. The insurer was obligated under an enforcement order to pay the insureds’ defense expenses subject to a right to seek reimbursement for “unreasonable and unnecessary” charges after the fact. On the particular facts, and based on principles of restitution and unjust enrichment, the Court concluded the insurer could pursue reimbursement from the law firm.

Hartford Casualty Insurance Company provided liability insurance to J.R. Marketing, L.L.C. and Noble Locks Enterprises, Inc. covering business-related defamation and disparagement claims, among other risks. In 2005, the insureds were named as defendants in lawsuits in California and elsewhere based on alleged defamation and interference with business relationships. The insureds tendered the California action to Hartford, which refused to defend.

After the insureds (through their counsel, Squire Sanders) filed a coverage action against Hartford, Hartford agreed to defend the California action subject to a reservation of rights. Hartford declined to pay already-incurred defense expenses or provide independent counsel under San Diego Federal Credit Union v. Cumis Ins. Society, Inc. (1984) 162 Cal.App.3d 358 (codified at Civil Code section 2860). But the trial court in the coverage action granted the insureds summary adjudication that Hartford owed a duty to defend from the date of tender. The court also concluded Hartford was obligated to provide independent counsel, and the insureds retained Squire Sanders.

The trial court in the coverage action subsequently issued an enforcement order (which Squire Sanders drafted) stating Hartford had breached its duty to defend by failing to pay defense invoices in a timely fashion. The enforcement order precluded Hartford from invoking the rate limitations in Civil Code section 2860, and required Hartford to pay submitted expenses subject to a right to seek reimbursement at the end of the California action of any “unreasonable or unnecessary” expenses.

The California action was resolved in 2009, and Hartford filed a cross-complaint in the coverage action. On a theory of unjust enrichment, Hartford asserted a right to recoup a significant portion of roughly $13.5 million paid to Squire Sanders under the enforcement order. The trial court sustained Squire Sanders’ demurrer to Hartford’s cross-complaint, concluding Hartford only could seek reimbursement from its insureds, not their independent counsel. The Court of Appeal affirmed.

The California Supreme Court granted review to address the narrow question whether an insurer can seek reimbursement of defense expenses directly from independent counsel where the insurer has paid expenses under a court order expressly preserving the insurer’s post-litigation right to recoup “unreasonable and unnecessary” amounts charged.

The Court began with an analysis of its holding in Buss v. Superior Court (1997) 16 Cal.4th 35, which requires an insurer to provide a complete defense to a lawsuit alleging both covered and non-covered claims, subject to the insurer’s right to seek reimbursement of expenses solely allocable to non-covered claims. In such a case, the insured would be unjustly enriched if the insurer had no reimbursement right. But Buss did not consider who is unjustly enriched if independent counsel is allowed to retain payments that were unreasonable or unnecessary to the insureds’ defense.

The Court concluded that, in light of the trial court’s enforcement order, Hartford could pursue Squire Sanders for reimbursement. Assuming Hartford’s position has merit, the firm is the unjust beneficiary of the disputed sums. Nevertheless, the Court emphasized that its conclusion is limited to the unusual facts at issue.

Squire Sanders asserted various objections based on contract law principles, public policy and procedure, all of which the Court rejected. The Court concluded Squire Sanders is not an incidental beneficiary of Hartford’s duty to defend its insureds, with no duty to make restitution. Hartford’s obligation under the enforcement order Squire Sanders prepared was to pay reasonable expenses, subject to an express right to seek reimbursement of unreasonable expenses later. Hartford never agreed to pay whatever Squire Sanders billed, no matter how excessive.

The Court concluded Hartford’s unjust enrichment claim did not interfere with the attorney-client privilege between the insureds and its independent counsel, or with counsel’s right to control the defense. Civil Code section 2860 contemplates that independent counsel will be called upon to justify their fees, and privileged information can be redacted. The Court also rejected the notion that, rather than seeking reimbursement from independent counsel, Hartford should pursue its unsophisticated insureds for allegedly failing to monitor and control their counsel’s fees.

Nor would an unjust enrichment claim against independent counsel violate California’s prohibition against assignment of legal malpractice claims. Hartford seeks to recover overpayments for allegedly excessive and unnecessary work by Squire Sanders, not damages due to the firm’s alleged breach of any duty owed to the insureds.

Click here for the opinion.

This opinion is not final. It may be modified on rehearing or review may be granted by the United States Supreme Court. These events would render the opinion unavailable for use as legal authority.

Pennsylvania Superior Court Issues Critical Ruling on Statute of Limitations for Declaratory Judgment Actions

A recent decision by the Pennsylvania Superior Court clarifies when the four-year statute of limitations begins to run on an insurer’s ability to bring a declaratory judgment action against its insured. In Selective Way Insurance Co. v. Hospital Group Services, Inc., 2015 PA Super 146 (2015), the Superior Court ruled that the statute begins to run when an insurer has a sufficient factual basis to support its contentions that it has no duty to defend and/or indemnify the insured.

The litigation in Selective Way arose out of a 2006 automobile accident which resulted in the death of an intoxicated 17-year old driver. The driver was found to have a .14 BAC at the time of his death, and the plaintiffs alleged that he drank alcohol while working a lengthy shift at a Ramada Inn hotel. After his family sued the hotel’s management company for various negligence claims, the management company tendered the claim to its insurer, Selective Way Insurance Company (“Selective”). Selective defended under a reservation of rights, but almost five years later, it filed a declaratory judgment action seeking a declaration of no coverage.

The trial court eventually granted summary judgment in favor of the plaintiff and insured, holding that the statute of limitations had already run because the statutory period commenced when the insurer received the complaint relating to the underlying litigation. Under that analysis, the trial court dismissed the action because Selective waited almost five years to file for declaratory judgment.

On appeal, the Superior Court reversed and held that the statute of limitations begins to run only when an insurer has the factual basis to believe that there could be a dispute as to coverage. The court noted that more generally, under Pennsylvania law, a statute of limitations begins to run from the date on which the cause of action arises, and a cause of action arises on the date on which a plaintiff could first maintain an action to a successful conclusion. The court reasoned that until the insurer actually has a factual basis for denying coverage, which it will not always have simply from reading the complaint, there is no controversy or corresponding cause of action. In other words, until the insurer has reason to deny coverage, there is no dispute which a court could resolve. Thus, when the insurer can determine from the face of the complaint that there will be coverage issues, the statute of limitations begins to run when the insurer receives the complaint. But when the insurer cannot tell if there will be coverage issues until the case has progressed and the exact legal issues involved are clearer, the statute of limitations does not run until the insurer has the factual basis to conclude that coverage may not exist.

The Superior Court’s ruling is important because it gives insurers more leeway to conduct thorough coverage investigations without the need to file a Declaratory Judgment Action solely to protect the statute of limitations. This leeway, in theory, should limit the unnecessary Declaratory Judgment Action and the bad faith counterclaims that come with it. However, these cases could open the door to additional discovery against insurers as to precisely when an insurer became aware of facts which could negate coverage.

New Jersey Federal Court Permits Reformation Over Additional Insured’s Objection

The United States District Court for the District of New Jersey recently granted summary judgment to an insurer seeking to reform an aircraft fleet insurance policy based on mutual mistake of the parties to the contract.  Illinois National Insurance Company v. Wyndham Worldwide Operations, Inc., 2015 U.S. Dist. LEXIS 9468 (D.N.J. Jan. 28, 2015).

Illinois National issued a series of policies to an aircraft management company, Jet Aviation International, Inc., from 2004 to 2008.  Jet managed and operated Wyndham’s aircraft fleet and provided flight planning, staffing, and maintenance.  Under its agreement with Wyndham, Jet would arrange for a substitute airplane from its own fleet if necessary for a particular flight.  Jet also promised to maintain insurance covering Wyndham’s aircraft.

INS BLOG_jet aviationThe Illinois National policies afforded blanket coverage for aircraft operated by or used at the direction of Jet.  From 2004 to 2007, the policies included a “non-owned” aircraft exclusion which meant that Wyndham could not seek coverage for damages in connection with an aircraft it did not own, and where Jet had no involvement.  In 2008, Jet requested a small modification to the policy which had the unintended effect of expanding coverage to apply to Wyndham’s “non-owned” aircraft, even without a connection to Jet.

Two Wyndham employees were killed in a 2008 accident involving a rented airplane, neither owned by Wyndham nor operated by Jet under the management agreement.  Wyndham maintained separate insurance covering its use of non-owned aircraft without Jet’s involvement, and that insurer defended and settled the claims arising from the accident.  Nevertheless, Wyndham contended that the 2008 Illinois National policy also applied based on its terms.  Illinois National filed this coverage action seeking a declaration of no coverage or, in the alternative, equitable reformation based on mutual mistake.

The court initially granted a motion to dismiss Illinois National’s complaint, but the Third Circuit reversed.  On remand (and before a different judge), the court considered the issues through cross-motions for summary judgment.  To justify reformation, Illinois National had to demonstrate: (1) at the time of the 2008 modification, Jet did not intend to grant Wyndham coverage for non-owned aircraft unrelated to Jet; (2) Illinois National shared this intent; and (3) the 2008 policy did not reflect their agreement.

The court weighed various factors to determine whether a shared intent existed.  These factors included evidence of the reason for the change, prior policy terms, Wyndham’s reasonable expectations, the substance of the Jet/Wyndham agreement, the amount of premium, and the alleged absurdity of Wyndham’s interpretation.  The court noted that Wyndham’s interpretation of the exclusion would render it meaningless.  Thus, on balance, the factors reflected a shared intent which the 2008 policy did not express.  The court rejected Wyndham’s attempt, as an interloper, to dictate the contracting parties’ intent.

Finally, the court concluded negligence, even gross negligence, of Illinois National or Jet did not bar reformation where there was a meeting of the minds not expressed in the policy.  Nor did the fact that the accident had already occurred preclude post-loss reformation absent a showing of any prejudice.

Gordon & Rees Partner Matt Foy Appointed Vice Chair of DRI Insurance Law Committee

DRI – The Voice of the Defense Bar, the leading organization of defense attorneys and in-house counsel, has appointed Gordon & Rees San Francisco partner Matthew S. Foy as vice chair of DRI’s Insurance Law Committee.

In a Sept. 11 letter to Foy announcing his vice chair appointment, DRI president-elect John Parker Sweeney noted the appointment is for a one-year term, effective at the conclusion of DRI’s Oct. 22-26 Annual Meeting, held at the San Francisco Marriott Marquis.  The appointment paves the way for Foy’s selection as chair of the Insurance Law Committee in 2016.  In addition to the Insurance Law Committee, Foy is a member of DRI’s Commercial Litigation, Intellectual Property Litigation and Steering Committees.

Foy is the co-national practice group leader for the firm’s property and casualty insurance practice as well as the practice group leader of the San Francisco insurance group. He has more than 15 years of experience representing national insurers at the claims stage, in trial and on appeal. Foy’s practice focuses on insurance coverage and bad-faith litigation and advice involving primary and excess liability policies with an emphasis on complex personal and advertising injury, cyber-liability, environmental, asbestos, other mass torts, and construction defect matters. He also handles all aspects of insurance cases involving professional liability insurance, inland marine, first-party property, and life, health, and disability matters. He assists clients with drafting policy language and claims manuals and provides in-house client seminars on coverage and claims handling issues, as well as litigation planning. In addition to his insurance practice, Foy represents corporate clients in connection with contract negotiation, dispute resolute, and related litigation.

Foy is a frequent speaker on issues confronting the insurance industry and he recently contributed a chapter in DRI’s 2014 “Coverage B: Personal and Advertising Injury Compendium.”

ERP Exclusion Bars Coverage For Alleged False Imprisonment And Invasive Inspections Of Employees

In Jon Davler, Inc. v. Arch Insurance Company, Case No. B252830 (2014 Cal. App. LEXIS 837), the California Court of Appeal, Second Appellate District, affirmed dismissal of the insured’s coverage action, holding that an Employment-Related Practices (ERP) exclusion in a CGL policy barred coverage for employees’ claims against their employer that a supervisor falsely imprisoned them in a workplace bathroom for invasive inspection purposes under threat of termination.

The complaint alleged that three female employees were forced to enter a workplace restroom and have their undergarments inspected to determine whether they had left a sanitary napkin next to the women’s toilet.  They sued their employer John Davler, Inc. (JDI) and the involved supervisor for false imprisonment and other causes of action.

INSBlog_prisonbarsJDI’s insurer, Arch, declined to defend under a CGL policy which included an ERP exclusion.  The exclusion listed a number of “employment-related” practices, but it did not mention false imprisonment.  JDI filed suit against Arch based on the coverage denial.  The trial court sustained a demurrer by Arch without leave to amend, and this appeal followed.

The Court of Appeal rejected JDI’s arguments that the phrases “such as” and “arising out of” in the ERP exclusion are ambiguous.  “Such as” is not exhaustive, and the court concluded the allegations clearly “arose out of” employment.  The employees allegedly were detained because they were employees, they were following their supervisor’s directive at their place of employment, and she threatened loss of their jobs if they did not comply.

The court also rejected JDI’s argument that there was a structural ambiguity because the policy’s insuring agreement specifically provided coverage for false imprisonment while the ERP exclusion did not explicitly exclude such claims.  The Court of Appeal based its decision on Frank and Freedus v. Allstate Ins. Co. (1996) 45 Cal.App.4th 461 which held a similar exclusion was unambiguous and applied to defamation even though “employment-related practices” were not defined and the insuring agreement explicitly provided coverage for defamation claims.

The Court of Appeal declined to follow Zurich Ins. Co. v. Smart & Final, Inc. (C.D. Cal. 1998) 996 F.Supp. 979, in which the court held a reference to false imprisonment in the insuring agreement but not in the ERP exclusion did create an ambiguity.  The court also concluded Zurich v. Smart & Final is factually distinguishable as the conduct alleged there (interrogation and false imprisonment as a loss prevention tactic) was not clearly employment related.

Insurer Not Obligated to Defend Underlying Action Seeking Only Injunctive Relief Even Though Amendment Added Damage Claim

California has long recognized a liability insurer has no duty to defend lawsuits that seek nonmonetary relief such as injunctive relief actions.  The trickier aspect is what happens if a damage claim is later sought? Does that mean the insurer had a duty to defend from the outset because a damage claim could be stated? The California Court of Appeal, Fourth Appellate District, says no.

In San Miguel Community Association, et al. v. State Farm General Insurance Co. (2013) 220 Cal.App.4th 798, the underlying action against the insured initially sought only injunctive relief.  State Farm agreed to defend after the underlying plaintiffs amended their complaint to seek “damages.”  The insured argued State Farm had a duty to defend from the outset because the original complaint implied a claim for “damages.”  The trial court said no and the Court of Appeal affirmed adopting the simple test that, whether the underlying plaintiffs had sustained “damages” prior to the plaintiffs’ amendment was irrelevant because the earlier complaint did not seek recovery of “damages.”

The underlying lawsuit against the insured, San Miguel, involved a dispute over enforcement of parking restrictions in a condominium community.  The underlying plaintiffs began complaining at board meetings that San Miguel was not enforcing the restrictions.  They initially claimed distress, adverse effect on property values, and nominal out-of-pocket costs (such as for copying).  San Miguel demanded mediation.

The underlying plaintiffs subsequently filed suit against San Miguel for injunctive relief.  Neither the original nor the first amended complaint sought “damages” (although the plaintiffs requested punitive damages).  State Farm denied coverage with respect to both complaints.  The court allowed the plaintiffs to file a second amended complaint in which the underlying plaintiffs alleged – for the first time – that they sustained actual monetary “damages.”  State Farm initially denied coverage for the second amended complaint but, after speaking with the underlying plaintiffs’ counsel, agreed to provide San Miguel with a defense.

Coverage litigation followed.  San Miguel alleged State Farm breached the insurance contract and the covenant of good faith and fair dealing in declining to pay for the defense of the underlying claim prior to the second amended complaint.  San Miguel also contended that State Farm misrepresented its conversations with the underlying plaintiffs’ counsel in an effort to avoid coverage.  State Farm successfully moved for summary judgment, and San Miguel appealed.

On appeal, San Miguel did not dispute that State Farm’s policy required a claim for covered “damages” to trigger a duty to defend.  But, despite the lack of an explicit claim for “damages,” San Miguel argued the earlier allegations gave rise to the implication of “damages,” which triggered a defense obligation.  The Court of Appeal disagreed, noting that an insurer cannot deny a defense merely because the allegations against the insured are not phrased in the precise language of the policy.  However, this rule against strictly construing the underlying allegations does not mean the insurer must infer that other allegations exist where they are clearly not pleaded.

On Oct. 1, 2013, the Court of Appeal found the specific allegations in the earlier versions of the complaint were inconsistent with an implication that the underlying plaintiffs sought to recover money “damages.”  The court also rejected San Miguel’s argument that the request for punitive damages implied a claim for consequential “damages.”  Even assuming the punitive damages claim was flawed (due to the absence of a “damages” claim), the court observed that there would be no need for demurrers if courts and other parties were required to infer the existence of missing allegations.  The testimony of the underlying plaintiffs’ counsel also was consistent with State Farm’s view that San Miguel did not seek recovery of “damages” until its second amended complaint.

As to the allegation that State Farm fabricated a conversation with counsel for the underlying plaintiffs, the court found no evidence of misrepresentation or any reason State Farm would have reached a different conclusion about coverage had it handled the investigation differently.  Finally, the court rejected San Miguel’s bad-faith claim based on the contention that State Farm manufactured evidence.  Absent any right to recover additional benefits under the policy, San Miguel had no viable claim of bad faith.

Click here for the opinion.