When insurers deny a defense and the law changes, or is clarified in a way that is contrary to positions insurers relied upon in denying a defense, the opportunity arises to revisit coverage denials. Many policyholders and their counsel overlook this readily available source of funding for ongoing litigation or settlements. We refer to this as “buried treasure.”
Exemplifying such a change in law, the ruling in Pitzer Coll. v. Indian Harbor Ins. Co., 8 Cal. 5th 93, 107 (2019) left open the door to securing the application of the more generous “notice prejudice” rule. This is significant for many Directors & Officers, Employment Practices Liability and Errors and Omissions policies. That is because where a policyholder is entitled to select its own independent counsel at its insurer’s expense due to a conflict of interest created by the insurer’s reservation of rights when agreeing to provide a defense, there is no right to insurer control of the lawsuit. The California Supreme Court held in Pitzer that an insurer must establish prejudice to enforce a failure to provide timely notice under a “claims made and reported policy” for a first party claim.
Equally salient was its discussion of why a different rule applies to third party claims. In articulating why this was true, the court emphasized that this was due to the insurer’s right to control the defense in a legal proceeding. By this reasoning, the court implicitly acknowledged that absent insurer control of the lawsuit, the application of the “notice prejudice” rule would be appropriate. The court’s recognition that the rationale behind the inapplicability of the “notice prejudice” rule to a third party claim was the insurer’s control, supports the conclusion that where independent counsel is mandated, the “notice prejudice” rule should apply. Applying that logic is consistent with the Supreme Court’s dicta which is considered persuasive authority under applicable law.
The five circumstances addressed below highlight why revisiting insurance coverage denials make sense.
First, out of sight, out of mind.
Case law that is favorable to policyholders is not disseminated with appropriate instruction to inform claims personnel to its significance. But, opportunities for coverage may arise from a change in the law.
Second, what kind of claims must be the subject of prompt notice to an insurer?
In an otherwise potentially covered copyright/trademark infringement suit, Frankenmuth Mut. Ins. Co. v. Hockey Cup, LLC, No. 18 C 8142, 2019 U.S. Dist. LEXIS 160278 (N.D. Ill. Sep. 20, 2019), the failure to tender a “cease and desist” letter precluded any possibility of coverage even though the insurer was immediately notified of the lawsuit. The court explained, “[w]hile it is true that the March 2017 email stops short of threatening legal action, it leaves no doubt that the NHL intended to enforce its trademark rights against A&R.” Id. at *9.
While such a letter may not trigger the duty to defend under a CGL policy, which often requires a “suit,” it might be sufficient to compel an insurer to consider a settlement within policy limits. California authority suggests a different result might attend where an insurer’s duty in United States Fire Ins. Co., v. Button Transp., Inc., No. A108419, 2006 Cal. App. Unpub. LEXIS 3472, at *33 (Apr. 26, 2006):
Thus, the implied covenant of good faith and fair dealing requires an insurer to settle a covered claim rather than simply wait to see if a lawsuit is filed[.]
The critical point is that notice before a settlement, which is essential to bar application of the “voluntary payments” provision, may otherwise bar a policyholder from securing any policy benefits.
Third, look at the big picture.
Insurers narrowly analyze facts. This can lead to an under-assessment of potential coverage for “offense” based claims. Intellectual property lawsuits offer especially favorable forums for this kind of review as they often proceed under a bewildering variety of causes of action, including a mix of disparate facts that may reveal the potential for insurance coverage.
This follows because:
“[T]he duty to defend exists regardless of the merits of the underlying claims.” Wooddale Builders, Inc. v. Maryland Casualty Co., 722 N.W.2d 283 (Minn. 2006);
“The scope of the duty does not depend on the labels given to the causes of action in the third party complaint; instead it rests on whether the alleged facts or known extrinsic facts reveal a possibility that the claim may be covered by the policy.” (italics in original)). Atlantic Mut. Ins. Co. v. J. Lamb, Inc., 100 Cal. App. 4th 1017, 1034 (2002);
(“[A]n insurer that wishes to rely on an exclusion has the burden of proving, through conclusive evidence, that the exclusion applies in all possible worlds.” J. Lamb, Inc., 100 Cal. App. 4th at 1039.
Fourth, lack of notice to an insurer of a claim need not be fatal if it is likely that the insurer will deny a defense, regardless
If no notice has yet been provided to an insurer in a claim/suit still pending, it may not be too late as insurers inclined to deny may, by that denial, evidence that there was “no harm, no foul” arising from late notice.
An insurer’s denial in such circumstances may preclude the insurer from claiming that late notice was problematic. It would have, in any event, denied a defense if earlier notice had been provided. This principal is recognized in Nutmeg Ins. Co. v. Employers Ins. Co. of Wausau, No. Civ.A. 3:04-CV-1762B, 2006 WL 453235, at *46 (N.D. Tex. Feb. 24, 2006) (applying Texas law) and Keenan Hopkins Schmidt & Stowell Contractors, Inc. v. Continental Cas. Co., 653 F. Supp. 2d 1255, 1263 (M.D. Fla. 2009) (applying Florida law). Another potential pathway to coverage may arise if the facts evidence constructive notice. See, Notice to the Insurance Brokers of A Lawsuit, 47-MAY Orange County Law. 46 (David Gauntlett, May 2005).
Fifth, extrinsic evidence (available for use in many jurisdictions) may answer questions raised by the policy that the complaint does not answer.
Fact developments in an underlying suit can enhance prospects for securing coverage. In most forums, an insurer’s defense obligation can be established not only by the pleaded fact allegations, but also by the inferences which emanate from those allegations, and those inferences need not be in evidence.See,Anthem Electronics, Inc. v. Pacific Employers Ins. Co., 302 F.3d 1049, 1058 (9th Cir. (Cal.) 2002).“If the parties dispute whether the insured’s alleged misconduct is potentially within the policy coverage and if the evidence submitted does not permit the court to eliminate either party’s view, . . . ‘the duty to defend is then established . . . .’ ” American Cyanamid Co. v. American Home Assur. Co., 35 Cal. Rptr. 2d 920, 923 (Ct. App. 1994).But care must be taken to promptly advise insurers of developing facts as some courts may limit recoverable fees to those that post-date when the extrinsic evidence is made known to an insurer.“‘[T]he insurer [must] provide a defense when it has actual knowledge of facts establishing a reasonable possibility of coverage.’”High Point Design, LLC v. LM Ins. Corp., 911 F.3d 89 (2d Cir. 2018).