As part of our beat here at The D&O Diary, we read a lot of judicial opinions. We like nothing better than to read an appellate opinion where a dissenting justice and the majority really mix thing up. For that reason alone, we read the recent insurance coverage decision out of the Montana Supreme Court with great interest. But regardless of how you feel about spirited dissents, if you find the Court’s majority’s conclusion that a management liability insurer’s duty to defend appropriately may be determined without reference to the allegations in the underling complaint or to the terms of policy as surprising as we do, read on.
The Montana Supreme Court’s August 1, 2014 opinion in the Tidyman’s Management Services, Inc. v. Davis case can be found here.
The dispute underlying this insurance coverage action arises out of a merger between Tidyman’s Management Services, Inc. (TMSI) and SuperValu, which created Tidyman’s LLC. Employee shareholders own TMSI. In January 2007, certain of the employee shareholders filed a federal court lawsuit alleging that in connection with the merger the TMSI directors and officers had breached their duties under ERISA. They also alleged that the individual defendants had breached their corporate fiduciary duties. The plaintiffs eventually settled with all of the individual defendants except Michael A. Davis and John Maxwell. After the settlements, the federal court judge dismissed the federal court action without prejudice after declining to exercise supplemental jurisdiction.
The plaintiffs then filed a separate action in Montana state court against Davis and Maxwell. In their state court complaint, the plaintiffs added TMSI as a party plaintiff and filed their action against the two individuals in their capacities as directors and officers of the LLC – of which TMSI was a member. As the dissenting opinion later summarized with respect to the insurance coverage implications of this state court complaint, “(1) five of the plaintiffs here are directors of the insured (Tidyman’s LLC) and they have sued defendants Davis and Maxwell, who are also directors of the LLC; and (2) plaintiff TMSI, as a 60 percent security holder of the LCC, brought this lawsuit against two directors of the LLC (Davis and Maxwell) with the assistance of other insureds (five plaintiffs who are also directors of the LLC).”
The relevant directors and officers insurance policy had been issued to Tidyman’s LLC in 2006. During the pendency of the federal court litigation, the insurer funded the defense of Davis and Maxwell under the policy. On August 5, 2010, after the state court litigation commenced, a claims representative for the insurer sent counsel for Davis and Maxwell a letter stating that in light of the policy’s Insured v. Insured exclusion, the state court complaint “does not implicate the policy.” On August 12, 2010, after counsel for Davis and Maxwell received the coverage letter, the plaintiffs amended their complaint in the state court action and added the insurer as a defendant, seeking a declaratory judgment that the state court claims against Davis and Maxwell are covered under the policy. In September 2010, the insurer moved to dismiss the claim that had been filed against it.
During the fall of 2010, counsel for Davis and Maxwell made several attempt to reach the insurer to clarify whether or not the insurer would continue to find the defense for the two individuals. On October 28, 2010, a representative for the insurer advised counsel that “since there is no coverage, [the insurer] is not going to continue to pay the costs of defense in this matter.”
The individual defendants entered a stipulation reciting the insurer’s refusal to defend, specifying the $29 million in damages sought in the state court lawsuit, assigning the individual defendants’ rights under the policy to the plaintiffs, and agreeing that the plaintiffs would not seek to execute any judgment against the assets of the two individual defendants. After the first of the two stipulations had been reached, a representative of the insurer sent the defense counsel a letter referring to “changes” in the insurer’s position, and stating that the insurer would continue to advance defense costs subject to a reservation of rights. The insurer later claimed that at no time did it actually withhold payment of the individuals’ defense expenses.
The plaintiffs then moved for summary judgment against the insurer, alleging that the insurer had breached its duty to defend and therefore was liable for the full amount of the stipulated settlement. The insurer filed a motion for summary judgment on the grounds that the plaintiffs’ claims were not covered under the policy and that the plaintiffs lacked standing. On January 4, 2013, the trial court judge granted the plaintiffs’ motion for summary judgment and entered judgment in the full amount of the stipulated settlement, and awarded prejudgment interest. The insurer appealed.
The August 1, 2014 Opinion
In an August 1, 2014 majority opinion written by Justice Michael E. Wheat, the Montana Supreme Court affirmed the trial court’s grant of summary judgment on the issue of whether or not the insurer had breached its duty to defend, but reversed and remanded the case on the issue of the reasonableness of the amount of the judgment. Justice Laurie McKinnon concurred with respect to the majority’s rulings on choice of law and prejudgment interest issues, but dissented from the court’s rulings on the duty to defend and part of the court’s rulings on the amount of the judgment.
The insurer had argued on appeal that the trial court erred in concluding that the insurer had breached its duty to defend without analyzing policy coverage. As the majority opinion put it, the insurer “attempts to persuade us to impose a requirement that a district court must analyze policy coverage before finding breach of a duty to defend,” noting that the dissent would accept that argument. The Court said that “our case law, however, makes it clear that the threshold question, instead, is whether the complaint against the insured alleges facts that, if proven, would trigger coverage.”
It doesn’t matter, the court said, that whether the claims against Davis and Maxwell were the same in the state and federal lawsuits, “all that matters is whether [the insurer] was on notice that the Policy was potentially implicated.” The Court concluded that the “facts” show that the insurer was on notice that the policy was potentially implicated. The “facts” that the Court cited were that the insurer had defended the two individuals in the federal court lawsuit; that the insurer had sent a letter after the state court lawsuit was filed that “there is no longer coverage under the Policy” (which the Court read to mean that there had been coverage before); and that the carrier later withdrew its coverage denial and agreed to defend under a reservation of rights. The Court noted that “where the insurer itself recognized the complaint potentially implicated the Policy and required it to provide a defense, we can see no need for further analysis to conclude that the duty to defend was invoked.’
In explaining its ruling, the Supreme Court said “if we were to hold the District Court in error for failing to analyze coverage, as the Dissent urges, we would be providing insurers with an avenue to circumvent the clear requirement imposed by our precedent that where the insurer believes a policy exclusion applies, it should defend under a reservation of rights and seek a determination of coverage through a declaratory judgment action.” The carrier “took its chances” by refusing to defend the individuals and cannot avoid liability for the stipulated settlement “by attempting to convince this Court it was necessary to analyze coverage under the Policy before determining it had breached its duty to defend,” when the proper approach is to defend under a reservation and filed a declaratory judgment action. Since the carrier “unjustifiably refuse to defend, it is now estopped from denying coverage.”
The majority did agree with the insurer that the trial court had improperly refused to hold an evidentiary hearing on the reasonableness of the amount of the $29 million stipulated settlement. The appellate court remanded the case for further consideration of the reasonableness of the settlement amount. However, the majority rejected the insurer’s argument that the evidentiary hearing should also address the issue of whether the settlement was collusive. Finally, the majority also concluded that the trial court had not properly calculated the application of prejudgment interest.
The starting point for the dissent was that the majority had “failed, in a fundamental respect, to appreciate the difference” between the type of reimbursement insurance policy involved here and the “more common form of casualty insurance,’ such as automobile or homeowners insurance. This error caused the Court to disregard Montana precedent and to hold that the carrier had a duty to defend “without examining whether the plaintiffs’ complaint alleged facts representing a risk covered by the terms of the Policy.” In essence, the dissent said, the court denied “the insurer the right to contest a duty to defend in these proceedings by holding that the insurer should have brought a separate action to determine coverage.” We thus, the dissent said, “foreclose the insurer from having a judicial determination of the existence of a duty to defend, which is distinct from a duty to indemnify, based on an actual examination of the allegations of the complaint and the terms of the Policy.”
The majority, the dissent said, found “without any examination of the Policy or the instant complaint” that the insurer had a duty to defend because the complaint “potentially implicated” the Policy. The dissent said, “I disagree that with what appears to be a new standard for determining the existence of a duty to defend when we previously have been clear that a duty to defend may be found only after examining the allegations of the particular complaint to determine whether facts have been alleged representing a risk covered by the terms of the insurance policy.”
The “crux’ of the majority’s confusion is the “false notion” that the pleadings in the subsequent state court lawsuit were the same as in the federal court lawsuit. The dissent showed by its analysis of the allegations in the state court complaint (which I recited above) that the state court complaint appeared to involve allegations of insured persons against insured persons, in apparent contravention of the Policy’s insured vs. insured exclusion. “We cannot” the dissent said, “hold the insurer liable for the stipulated judgment in the absence of some examination of the Policy and of the complaint.”
The dissent then noted that even if there were a duty to defend here, there is a substantial factual question about whether the duty was in fact breached. The dissent cited evidence that the insurer had presented showing that the insurer had continued to pay the defense expenses throughout the proceedings. The dissent argued that there were at least sufficient disputed facts to preclude summary judgment. The dissent said that the majority had instead chosen to credit only the plaintiffs’ allegations. The Court’s approach, the dissent said, was “clearly in error,” adding that “it is inappropriate for a court deciding a motion for summary judgment to weigh evidence, to choose one disputed fact over another, or to assess the credibility of witnesses.”
Finally, the dissent disagreed that the facts as alleged by the insurer did not create a genuine issue of material fact on the issue whether the stipulated settlement was collusive. The dissent added that “I find it truly a sad day for justice in this State and very likely a huge blow for the public’s belief that the courts provide fair resolution of disputes, when this Court dismissively says ‘so what’ to a stipulated judgment that allegedly was obtained by collusion.” The dissent finished by adding that “Courts exist to administer justice fairly, regardless of whom and what a particular party represents. In my opinion, there is never a place for collusion in the administration of justice.”
There is no doubt that the insurer mismanaged its communications during the period after the state court complaint was filed, and that the mismanagement occasioned some of the problems that followed for the insurer. (And in fairness, for blogging purposes I have compressed the retelling of events, which arguably may have the effect of oversimplifying). But all of that said, it is a surprising proposition that a court might appropriately determine that a carrier has a duty to defend a lawsuit without either reviewing the allegations in the lawsuit or the provisions of the policy. The majority’s idea that somehow the insurer was obligated to defend the state court lawsuit — without any reference to what the state court lawsuit alleged — because the insurer had defended the prior federal court lawsuit is a truly odd proposition.
Based only on the appellate opinions, I have no way of knowing for sure whether or not the carrier was correct in disputing coverage for this claim. But based on the recitation of the facts in the dissenting opinion, there certainly does seem to be a sufficient basis upon which the question of coverage appropriately might be raised. The rather nonsensical effect of the majority opinion’s ruling is that it is entirely possible that the court has concluded that the insurer has breached a duty to defend in connection with a claim for which there is no coverage under the policy. The majority seems to think that this doesn’t matter.
The real problem I have with the majority’s conclusion is that it seemingly flies in the face of the usual “eight corners” analysis by which the insurer’s duty to defend is to be determined. Under this approach, the duty to defend is determined by looking within the four corners of the complaint and the four corners of the policy. Even in those jurisdictions that do not follow the eight corners rule because they require insurers to consider factors still considered critical to the analysis. The majority here seems to suggest that what is within the eight corners may not even be relevant to the analysis, which is a surprising conclusion, to say the least. The majority opinion’s analysis also seems to fly in the fact of the usual rule that coverage cannot be created by estoppel.
The insurer did at least win the right to try to challenge the reasonableness of the amount of the stipulated settlement. However, I am troubled by the dissent’s comments about the refusal of the majority to allow the insurer to argue that the settlement was collusive. I do not know what the actual facts are here and I have no basis on which to suggest that any of the parties acted collusively. However, I have seen enough of these kinds of deals in my life and I share enough of the same concerns of the dissent that I completely agree that the factual issue of whether or not there was collusion should be subject to an evidentiary review.
While I think the majority here is confused in general, I also agree with the dissent that the majority was specifically confused about the differences between the type of management liability policy here –where the carrier reimburses the policyholder for the costs of defense –and the typical policy liability policy, where the insurer has the duty to provide the actual defense. This distinction mattered in this case. If the insurer continued to fund the defense throughout these proceedings, then there was no breach of the insurer’s defense duties, regardless of what the carrier said in its various communications. The dissent appears to be correct by saying that the insurer has raised a genuine issue of material fact on this issue.
Whatever else might be said about this decision, I know for sure that insurers doing business in Montana are going to struggle with the “potentially implicated” standard for the duty to defend, particularly if the question whether or not the standard has been met can (as apparently seems to be the case) be decided without reference either to the allegations in the complaint or the terms of the Policy. I am sure that hands will be smacking foreheads in insurers’ claims department around the country about this decision.
Time for Nominations to the ABA Journal’s Annual Blawg 100: It is once again time for nominations to the ABA Journal’s annual list of the top 100 law blogs. Everyone should take a moment to nominate their favorite law blogs for inclusion in the list. I would be humbled and grateful if any reader would be willing to nominate my blog. Nominations can be made here. Don’t delay, nominations are due by 5:00 pm EDT on Friday August 8, 2014.