New Case Continues Trend Determining D&O Policies Offer Broad Coverage
New Case Continues Trend Determining D&O Policies Offer Broad Coverage
By David A. Gauntlett*
Introduction
Most policyholders, and even general counsel, underestimate the scope of coverage available under a Directors & Officers (“D&O”) policy. This blog examines the latest case expansively interpreting the coverage available under such policies and addresses some of the many others claims that such policies can cover. Recognizing this trend, insurers have recently begun trying to reduce coverage when policyholders renew, but there are ways experienced coverage counsel can guide companies through the renewal process to avoid or at least mitigate those reductions.
E.D.N.Y. Concludes FCA Litigation Defense Costs Fully Covered
In North. Metro. Found. for Healthcare, Inc. v. RSUI Indem. Co.,[1] the policyholder owned and operated adult healthcare centers in Brooklyn, New York. It sought coverage under its D&O policy for defense costs for a relator’s qui tam action alleging that the insured defrauded the federal and New York state governments in submitting claims for reimbursement. The lawsuit was dismissed after the government chose not to intervene. The policy’s “Government Funding Defense Expense Coverage” provision contained language excluding “the return of funds which were received from any federal, state, or local government agency” from the policy’s definition of “Loss.” A further limitation removed coverage for “any Claim arising out of the return, or request to return, such funds.”[2]
The insurer argued that the Government Funding provision barred coverage for the underlying qui tam action on the ground that the FCA causes of action included a “request to return. . . funds.” The district court disagreed:
That definition does not encompass the relators’ qui tam claims, which sought to do more than put the government “back to or in a former position.” . . . . [T]he relators explicitly requested “treble the United States’ damages,” plus “an $11,000 penalty for each and every false or fraudulent claim,” accompanied by attorney's fees and the “relator's share” . . . .
And it goes without saying that the relators themselves — the claimants here — were never in the “former position” of possessing any of the money for which they sued. If the word “return” contemplates a transfer back to the property's original “owner,” as discussed above, then it might be natural to conclude that an FCA suit by the federal government was a claim for the return of funds. Here, however, the federal and state governments declined to intervene, and thus made no claim of any kind. In those circumstances, it would strain the language of RSUI's endorsement to say that the qui tam relators’ claims in this court arose out of a request to “return” funds.[3]
In reaching this conclusion, the district court held that its interpretation was the only reasonable interpretation of the language in question, but it went on to state that even if the Government Funding provision were ambiguous, it would not preclude coverage because any ambiguity must be construed in favor of the insured in accordance with basic insurance policy interpretation principles. Based on this analysis, the court confirmed that coverage for defense costs incurred in the underlying FCA qui tam action was not limited by the Government Funding provision.
D&O Coverage May Extend to a Variety of Claims
In addition to the FCA litigation at issue in North Metro., D&O coverage extends to other government actions and investigations. As a matter of public policy, coverage for fraudulent acts, typically associated with government investigations, are considered uninsurable claims in many forums.[4] Those jurisdictions limit coverage contractually where public policy statutes are absent or may not address what rights an insured has to secure investigation costs or defense fees in a formal proceeding. D&O policies typically include a “Profit/Fraud” exclusion that bars coverage for losses “based upon, arising out of or attributed to… any deliberately …fraudulent act.”
The Delaware Supreme Court, in RSUI Indem. Co. v. Murdock,[5] recently held that coverage for alleged fraud claims though an adjudication of liability was available. It reasoned that because the plain meaning of the Profit/Fraud exclusion required a “final and nonappealable adjudication” and no adjudication addressed the alleged fraudulent conduct, to read such language to bar coverage for the alleged fraud claims would not be in accord with the Insured’s reasonable expectations. As the court explained:
Insurance contracts should be interpreted as providing broad coverage to align with the insured’s reasonable expectations… [such that it’s] the insurer’s burden to establish that a claim is specifically excluded. Courts will interpret exclusionary clauses with a ‘strict and narrow construction… [and] give effect to such exclusionary language [only] where it is found to be “specific,” “clear,” [and] “plain.”[6]
Following this rationale, absent an adjudication, policyholders can potentially secure coverage for government investigations issued for alleged fraudulent conduct, like that in Guaranteed Rate, under a D&O policy avoiding the Profit/Fraud exclusion.
Similarly, in AR Capital, LLC v. XL Specialty Ins. Co.,[7] a subpoena issued to a corporate officer led the court to hold that an SEC investigation is sufficient to evidence a “Claim,” but the launch of an internal audit was insufficient. A subsequently filed class action case asserted conduct issuing “a federal investigation for violations of the securities laws by misleading investors in the filing of fraudulent financial statements.”[8]
Previous blogs have also addressed potential D&O coverage for IP claims[9] and Mergers & Acquisitions.[10]
Insurers May Try to Reduce Coverage During Renewal
When the time comes to renew a policy, the insurer may propose switching to a newer Primary D&O form. Unsurprisingly, this rarely intended to benefit the policyholder, despite how it may be framed. Though the basic policy may contain similar coverage provisions, the actual scope of the policy can be drastically altered by endorsements. A recent trend has seen insurers attempting to limit their exposure for defense fees in mixed actions after a number of decisions have determined the traditional D&O policy provisions led to reimbursement of 100% of defense fees.[11]
The first method of maintaining previous coverage is to request a “liberalization” endorsement. This endorsement, also referred to as a “no less favorable than expiring” endorsement, ensures that the new policy will not reduce any coverage offered by the expiring one. This is typically a stop-gap measure, and insurers will not allow the endorsement to remain for any subsequent renewals.
The more permanent solution involves a line-by-line analysis of both policies to compare what coverages are removed and drafting a detailed list of amendments that will ensure any coverage necessary for your business will remain in the new policy. This step should not be handled by even sophisticated business professionals without the guidance of experienced coverage counsel. This process is a negotiation, and it will take time. It is best to begin at least six months before a policy’s expiration date. This should allow enough time to negotiate the best available deal and, if it is unacceptable, investigate alternative coverage options from other carriers.
Conclusion
D&O policies are a versatile tool and an essential part of a prudent company’s coverage plan. From government regulatory actions to IP disputes, many claims incorporate allegations the implicate liability for a company’s Directors and Officers. Experienced coverage counsel can then leverage those aspects of a claim to maximize coverage. They can also be consulted during the renewal process to make sure necessary coverages are maintained in the transition to a new policy.
*David A. Gauntlett is a principal of Gauntlett & Associates and represents policyholders in insurance coverage disputes regarding intellectual property, antitrust, and business tort claims, as well as in the underlying actions. Mr. Gauntlett can be reached at (949) 553-1010 by voicemail or dag@gauntlettlaw.com. For more information, visit Gauntlett & Associates at www.gauntlettlaw.com.
[1] N. Metro. Found. for Healthcare, Inc. v. RSUI Indem. Co., No. 20-CV-2224(EK)(JAM), 2024 WL 4266007 (E.D.N.Y. Sept. 23, 2024).
[2] The modern trend of interpretation would mitigate the impact of this provision as “arising out of” is narrowly construed when used in a limitation on coverage. See My Choice Software, LLC v. Travelers Cas. Ins. Co. of Am., 823 F. App'x 510, 512 (9th Cir. (Cal.) 2020) (“Applying the ‘arising out of’ exclusionary language to the allegations asserted in the Trusted Tech cross-complaint runs counter to the principle that ‘insurance coverage is interpreted broadly so as to afford the greatest possible protection to the insured, [whereas] ... exclusionary clauses are interpreted narrowly against the insurer.’”)
[3] Id. at *4.
[4] See, e.g., California Insurance Code 533 (bars indemnification of willful acts defined to include as actions undertaken with an intent to harm).
[5] RSUI Indem. Co. v. Murdock, 248 A.3d 887 (Del. 2021).
[6] Id. at 906.
[7] AR Capital, LLC v. XL Specialty Ins. Co., No. CVN16C04154WCCCCLD, 2018 WL 6601184 (Del. Super. Ct. – New Castle County Dec. 12, 2018).
[8] Id. at *13–14.
[9] David A. Gauntlett, Insurance Coverage for Intellectual Property Risks, https://www.gauntlettlaw.com/news/insurance-coverage-for-intellectual-property-risks-1 (July 15, 2021).
[10] David A. Gauntlett, Insurance Coverage During Mergers & Acquisitions, https://www.gauntlettlaw.com/news/insurance-coverage-during-mergers-amp-acquisitions (Feb. 9, 2023).
[11] David A. Gauntlett, Requiring Insurers to Protect Policyholders in “Mixed Action” Cases as They Head to Trial, https://www.gauntlettlaw.com/news/requiring-insurers-to-protect-policyholders-in-mixed-action-cases-as-they-head-to-trial (Jan. 20, 2022).