A standard D&O insurance policy provision specifies that the term “Claim” means, in part, a “written demand for monetary damages or non-monetary relief.” A recurring question that arises under this language is: what exactly is “non-monetary relief”? In a recent case, an Ohio intermediate appellate court considered the question whether a demand for a software audit from a software industry group alleging unauthorized software copying constituted a written demand for non-monetary relief; the court concluded that it did and that it therefore that the demand represented a claim under the applicable D&O policy. The court also considered the applicability of the policy intellectual property (IP) infringement exclusion. A copy of the Ohio Court of Appeals, Third Appellate District’s October 11, 2016 opinion can be found here.
Eighth Floor Promotions manufactures and sells sports awards and business promotion items. On May 11, 2011, the company received a letter from the Business Software Alliance (BSA), an industry group representing 17 software companies. The letter asserted that the company had unlicensed or unauthorized copies of certain business software on its computers. The letter threatened litigation but offered in lieu of litigation an opportunity for the company to self-audit its computers and software licenses. The letter demanded that the company preserve the software on its computers as evidence, and threatened that if the company failed to complete the audit it (BSA) would file a lawsuit.
Eighth Floor hired counsel to conduct a software audit. After producing the results of the audit to BSA, BSA sent a written settlement demand in which BSA proposed to release the company and its directors and officers from any potential copyright infringement claims in exchange for the company’s agreement to pay about $180,000 and adopt certain remedial and prophylactic measures. The parties ultimately entered the proposed settlement agreement.
When Eighth Floor received the initial demand letter, it submitted the letter to its D&O insurer. The D&O insurer took the position that the initial demand letter was not a claim, but the insurer agreed to treat the letter as a notice of circumstances that might later give rise to a claim. The insurer denied that at that point it had any duty to defend.
When Eighth Floor received the settlement demand, it also tendered the demand to its insurer. The insurer recognized the settlement demand as a claim, but said that the claim was precluded from coverage under the policy’s IP infringement exclusion.
Eighth Floor filed an action in Ohio state court seeking a judicial declaration that the initial demand letter represented a claim under the policy triggering the insurer’s duty to defend; and that coverage for the claim and the subsequent settlement was not precluded by the IP infringement exclusion. The trial court rejected these arguments and granted the D&O insurer’s motion for summary judgment. Eighth Floor appealed.
The policy’s definition of claim provides in pertinent part that the term “Claim” means “a written demand for monetary damages or non-monetary relief.”
The policy’s IP exclusion provides that the insurer is “not liable to pay, indemnify or defend any claim … based upon, arising out of, or in consequence of or in any way involving actual or alleged infringement of copyright, patent, trademark, trade secrets or other intellectual property rights; provided, however, this exclusion shall not apply to any ‘claim’ against any ‘individual insureds.’”
The October 11, 2016 Opinion
In an October 11, 2016 opinion by Judge Richard M. Rogers written for a unanimous three-judge panel, the Ohio intermediate appellate court reversed the trial court’s conclusion that the initial demand letter was not a claim, but affirmed the trial court’s conclusion that the IP exclusion precluded coverage for the settlement. The appellate court remanded the case for the trial court to consider whether the IP exclusion precluded coverage for the initial demand.
In concluding that the initial demand letter represented a written demand for non-monetary relief, and therefore represented a claim within the meaning of the policy, the appellate court considered the specifics of the letter itself.
The court found that in the letter, the BSA was not suggesting that the company may have copies software; rather, the letter stated that the company did have copies. The letter also stated that the software on the company’s computers was evidence, not that it may be evidence. The letter demanded the software audit to determine the extent of the violations, not whether nor not violations had occurred.
The measures BSA was demanding were, the court said, “means of enforcing a right” and “preventing a wrong,” within the plain and ordinary meaning of the term “remedy.” Because the letter demanded the remedy of the software audit for the asserted software copying violations, the letter represented a demand for non-monetary relief and therefore constituted a claim.
The court also concluded that the policy’s IP infringement exclusion precluded coverage for the subsequent settlement. The court rejected the argument that Eighth Floor tried to make, based on its assertion that the liability resolved in the settlement essentially was just vicarious liability of the company for the misconduct of its officials and therefore that the exclusion’s coverage carve-back for claims against individual insureds preserved coverage for the claim.
The court said that notwithstanding the fact that the settlement agreement included a release of company’s directors and officers, the settlement demand was directed only to the company; the settlement demand had not asserted any demand or claim against the individuals. The court rejected the argument that the mere possibility that the BSA might have asserted claims against the directors and officers was enough to preserve coverage.
Because the trial court had concluded that the initial demand was not a claim, it had not considered the question of the applicability of the IP infringement exclusion to the initial demand letter, so the appellate court remanded the case to consider those issues.
To be fair, I can certainly see how a claims representative might conclude that the letter merely represented a notice of circumstances rather than a claim; the letter did in fact threaten a future lawsuit. For that reason, the appellate court’s analysis of and conclusions regarding the question whether the initial demand letter was a claim presents something of a precautionary tale for D&O insurance claims adjusters on the need to fully consider all of the relevant circumstances.
The appellate court’s analysis of the letter underscores the fact that in determining whether or not a demand letter is a “demand for non-monetary relief” within the meaning of the policy, it is important to consider what is asserted and what action is demanded.
Here, the initial demand letter, the court found, asserted actual violations, not potential alleged violations. The letter demanded the audit to determine the extent of the violations, not to determine whether there were violations. The letter, the court found, asserted wrongdoing and demanded relief – therefore, it represented a claim and not merely a notice of circumstances that might give rise to a claim.
The lesson for D&O claims representatives in considering whether or not a particular items represents a “written demand for non-monetary relief” is that it is important to consider what is demanded and why. Does the demand assert allegations or violations? What is the nature of the relief demanded – does it seek relief from or a remedy for the violations asserted?
Even with the benefit of this court’s analysis, I suspect many D&O claims representatives will still struggle with questions whether a particular set of circumstances does or does not represent a demand for non-monetary relief within the meaning of the policy. In that regard, one thing this court’s analysis does make clear is that the question of whether or not a particular set of circumstances represents a demand for non-monetary relief is a very fact-specific inquiry.
The fact that these questions are so fact-specific and may present interpretive challenges is a problem for policyholders as well as for claims representatives. The danger for policyholders is that because of these interpretive difficulties, a policyholder may not recognize that a given set of circumstances represents a claim and therefore that the policyholder’s notice of claim obligations have been triggered. This is one of the many reasons why I think D&O insurers should not treat the notice requirement as a technical trap to separate policyholders from the insurance coverage for which they have paid.
If trained and experienced D&O claims representatives may have difficulties recognizing whether or not a set of circumstances is a claim, why should policyholders with no experience or training forfeit their coverage for delayed notice in the absence of prejudice merely because they did not understand that a given circumstance represented a claim under the policy?
The Traub, Lieberman, Straus & Shrewsberry law firm’s October 18, 2016 memo discussing the Ohio appellate court’s decision can be found here.
An Approaching Perfect Storm of Securities Class Action Lawsuit Filings?: As Doug Greene notes in his October 17, 2016 post on his D&O Discourse blog (here), over the course of the past, securities litigation has come in waves involving periodic outbreaks of filings involving certain kinds of cases or issues (think, for example, of the IPO laddering cases or the stock option backdating cases).
Greene suggests that we may be in for yet another of these kinds of securities litigation waves.
In his blog post, Greene suggests that we are about to experience a “storm of securities class actions” as a result of a “convergence of factors.” These factors include: “an increasing number of SEC whistleblower tips, a drumbeat for more aggressive securities regulation, a stock market poised for a drop, and an expanded group of plaintiffs’ firms that initiate securities class actions.”
We have certainly seen increasing whistleblower activity (refer here); the SEC has recently noted that it filed record numbers of enforcement actions in the most recent fiscal year, yet still faces increased pressure to more actively protect investors (refer here); and the increased involvement of smaller plaintiffs’ securities law firms and the impact these firms’ are having on the number of filings is well-documented (refer here). So, while it remains to be seen whether or not these factors will result in an increase of securities litigation, it is hard to dispute Greene’s premises. The way to monitor the storm warning is to watch the developments involving the factors he cites.
Public Service Announcement: To those baseball fans in Chicago and Los Angeles wondering who their teams will face in the World Series if they win the National League Pennant, it will be the Cleveland Indians. Just in case you were wondering.