In a unpublished August 30, 2017 opinion (here), the Ninth Circuit affirmed a district court ruling that a trial court verdict that a hospital system had violated the antitrust laws was not an adjudication sufficient to trigger the improper profit exclusion in the hospital system’s D&O insurance policy, and therefore that the hospital system was entitled to reimbursement of its expenses incurred in defending the antitrust suit. The decision provides a useful illustration of the way that the final adjudication provisions found in the conduct exclusions of most current D&O insurance policy operates. The Wiley Rein law firm’s Executive Summary Blog’s September 5, 2017 post discussing the Ninth Circuit opinion can be found here.
St. Luke’s Health System operates a hospital system in Idaho. A competitor sued St. Luke’s alleging that St. Luke’s acquisition of another business (the Saltzer Group) violated the Clayton Act and a similar provision of Idaho law. Following trial, the district court ruled that St. Luke’s had violated the Clayton Act and the Idaho provision, as well. The Ninth Circuit affirmed the district court’s ruling.
St. Luke’s submitted the antitrust lawsuit to its D&O insurance carrier and sought coverage for the fees it incurred in defending the suit. The insurer reimbursed St. Luke’s for the fees subject to a reservation of rights. Following the trial court verdict, the insurer sought to recoup the fees. St. Luke’s responded by filing an action in federal district court seeking a judicial declaration that the policy covered the defense expenses. The parties moved for judgment on the pleadings.
In denying coverage and in its motion for judgment on the pleadings, the insurer relied on the improper profit exclusion in the policy, which provides bars coverage for any loss in connection with any claim “arising out of, based upon, or attributable to the gaining of any profit or financial advantage or improper or illegal remuneration by [St. Luke’s], if a final judgment or adjudication establishes that [St. Luke’s was not legally entitled to such profit or advantage or that such remuneration was improper or illegal.”
The District Court Opinion
In his ruling in the coverage lawsuit, Judge Winmill noted that in the antitrust suit, he had held that St. Luke’s “was not legally entitled the bargaining leverage it obtained by purchasing Salzer,” a ruling that the Ninth Circuit affirmed. However, he noted, he had “made no finding that St. Luke’s used bargaining leverage to actually obtain monetary or financial gain.” In the antitrust lawsuit, he noted, the Court “did not award any damages or order St. Luke’s to disgorge any profits or financial gain.”
In light of the absence of these rulings or determinations, “there was no ‘final judgment or adjudication’ that St. Luke’s was ‘not legally entitled to such profit or advantage or that such remuneration was improper or illegal.’” That lack of any such finding renders the exclusion “inapplicable.”
The insurer had sought to argue that the illegal profit exclusion should be interpreted to include bargaining leverage. “Of course,” Judge Winmill noted, “it would have been easy for [the insurer] as the drafter to define financial advantage to include bargaining leverage. But it did not do so.” The Court, Judge Winmilll said, would not “interpret” the policy to “add words to avoid liability.”
Judge Winmill went on to note that “bargaining leverage is to financial advantage what education is to employment – a means to an end.” Bargaining leverage is “a means of obtaining a financial advantage.” The insurer, Judge Winmill said, “conflates the means with the end.” Just as the word education cannot be used interchangeably with the word employment, so too financial advantage is not interchangeable with bargaining leverage.”
Under Idaho law, in order for an insurer to be able to enforce a policy exclusion, the insurer must use “clear and precise language.” There is, Judge Winmill concluded, “no ‘clear and precise language’ … alerting St. Luke’s that a finding of bargaining leverage without a finding of any accompanying monetary or financial gain would result in an exclusion of coverage.” The insurer appealed.
The Ninth Circuit’s Opinion
In its August 30, 2017 unpublished opinion, a three-judge panel of the Ninth Circuit affirmed the district court’s ruling. The appellate court noted that the insurer’s argument that the exclusion precluded coverage “hinges on the notion that a finding that a merger is anti-competitive under Section 7 of the Clayton Act is equivalent to the insured having ‘gain[ed] a financial advantage” under the exclusion. Citing Idaho law that exclusions are to be strictly construed against the insurer, and the exclusion must use clear and precise language to be enforced, the Ninth Circuit affirmed.
The conduct exclusions in most current D&O insurance policies have adjudication requirements similar to the one in improper profit exclusion at issue here. Because of these adjudication requirements, the conduct exclusions only rarely come into play. The simple fact is that in the current litigation environment most claims settle; the rarely actually go to trial. Because of the infrequency of trials, the exclusions are rarely triggered.
This case presents the unusual circumstance where there actually was an adjudication. The district court’s and the appellate court’s rulings underscore the fact that an adjudication alone is not sufficient to trigger the exclusion. As the district court held and the Ninth Circuit affirmed, in order for the exclusion to be triggered, there not only must be an adjudication, but the adjudication must represent a determination that the precluded conduct has taken place.
As Judge Winmill held, the trial court verdict in the underlying antitrust lawsuit represented a determination that by its acquisition of the Saltzer Group, St. Luke’s had obtained bargaining leverage. However, bargaining leverage is not the same as monetary or other financial gain. There was no adjudication in which it was determined that St. Luke’s had obtained monetary or other financial gain, and therefore the policy exclusion did not apply to preclude coverage for the defense fees that St. Luke’s had incurred in defending the antitrust lawsuit.
Judge Winmill’s unwillingness to “interpret” the phrase “financial advantage” in the exclusion to include bargaining leverage, and his insistence as required under Idaho law to strictly construe the policy wording, underscores the specifics of the misconduct that must have been adjudicated in order for the exclusion’s preclusive effect to apply. That is, it is not enough that there has been an adjudication; in order for the exclusion to apply, there must be an adjudication that the specific precluded conduct has taken place. In the absence of an adjudication that the specific precluded conduct has taken place, the exclusion is not triggered and does not apply to exclude coverage.