As I have frequently noted, a recurring and vexing D&O insurance issue is the question of relatedness between different claims. Another frequent D&O insurance coverage issue is the question of the applicability of a special event or prior litigation exclusion. A recent Southern District of Indiana decision, applying Indiana law, addressed both of these issues in the course of determining that a Special Event Exclusion in Emmis Communications Corp.’s D&O insurance policy did not preclude coverage for the defense costs the company incurred in defending a shareholder suit relating to the company’s preferred stock. The decision is very fact specific, but because of the range of issues involved, the opinion is interesting and it also underscores the critical importance of the precise wording used in exclusionary clauses. The March 21, 2018 opinion can be found here.
The factual background to this insurance coverage dispute is intricate but worth reviewing in detail in order to understand the specifics of the insurance dispute and of the court’s analysis in the coverage ruling.
In 2010, Jeffrey Smulyan, Emmis’s CEO and largest shareholder, launched a bid to take Emmis private (the “2010 Go Private Attempt). To effect the transaction, Smulyan organized an acquisition entity, JS Acquisition (“JSA”). The go private bid was to be financed by Alden, an investment fund and also a preferred shareholder of Emmis. As part of the effort to take the company private, JSA and Smulyan sought to renegotiate the terms of the company’s preferred stock. The 2010 Go Private Attempt ultimately failed after Alden withdrew its financing commitment.
The 2010 Go Private Attempt led to two sets of lawsuits. First, Emmis shareholders filed seven different lawsuits (the Shareholder Lawsuits) against the company, Smulyan, and the company’s board, alleging that the proposed buyout was undervalued and coercive to preferred shareholders. The shareholders also alleged that the company’s board violated their fiduciary duties in connection with the proposed transaction. The Shareholder Lawsuits were voluntarily dismissed after the failure of the 2010 Go Private Attempt.
After the 2010 Go Private Attempt fell apart, JSA sued Alden for breach of contract for withdrawing its financing commitment (the JSA Litigation). Alden in turn sued Emmis’s board for breach of fiduciary duty for agreeing to finance JSA’s suits against Alden (the Alden Litigation).
In 2011, Emmis came up with a complex plan to repurchase the company’s preferred stock. In November 2011, in settlement of the JSA Litigation, Alden agreed to the terms of the preferred stock repurchase.
In early 2012, Emmis’s board voted to create an employee benefit plan trust, which was to receive 400,000 preferred shares. In connection with creating the plan trust, the company’s board also voted to modify the terms of the preferred shares (for example, eliminating cumulative dividend rights).
In April 2012, several preferred shareholders filed an action in the Southern District of Indiana (the COF Lawsuit, so called because of the name of the lead plaintiff) against the company and certain of its directors and officers, alleging that the terms of the trust and the provisions relating to the preferred shares violated federal and Indiana securities laws.
Among other things, the original complaint and the first amended complaint in the COF Action refer to acts and circumstances surrounding the 2010 Go Private Attempt, the JSA Lawsuit, and the Alden Lawsuit. The plaintiffs alleged that, frustrated by the failure of the 2010 Go Private Attempt, Smulyan “hatched a brazen scheme” to eliminate the preferred stock rights.
Emmis submitted the COF lawsuit to its D&O insurance carrier as a claim. Emmis also submitted the COF Lawsuit as a claim to its predecessor carrier, which had issued the policies in force at the time of the prior litigation. Emmis’s current carrier denied coverage for the claim in reliance on the Special Events Exclusion in its policy. The predecessor carrier denied coverage for the claim on the grounds that the COF lawsuit was not interrelated with the prior lawsuits.
Emmis proceeded to defend the COF Lawsuit at its own expense, incurring approximately $4.1 in defense costs (or $3.1 million in excess of the policy’s $1 million retention).
Emmis sued the D&O insurance carrier whose policy was in force at the time the COF lawsuit was filed, alleging breach of contract and bad faith. The parties filed cross-motions for summary judgment.
Relevant Policy Terms
The defendant insurer’s D&O insurance policy’s Special Event exclusion provided that:
Insurer shall not be liable to make any payment of Loss in connection with: (i) any of the Claim(s), notices, events, investigations, or actions listed under EVENT(S) below (hereinafter “Event(s)”); or (ii) the prosecution, adjudication, settlement, disposition, resolution or defense of: (a) Event(s); or (b) and Claim(s) arising from the Event(s); or (iii) any Claim alleging, arising out of, based upon, attributable to or in any way related directly or indirectly, in part or in whole, to an Interrelated Wrongful Act (as that term is defined below).
The policy defined the term “Events” to mean:
1) Events contained within Note 10 of the 10-Q released on July 15, 2010 titled “All Regulatory, Legal or Other Matters” and sub-titled Shareholder Litigation.
2) All notice of claim or circumstance as reported under [the predecessor D&O insurance carrier’s policy].
The policy defined the term “Interrelated Wrongful Acts” as “(i) the same or related facts, circumstances, situations, transactions, events alleged in any of the Event(s), and/or (ii) Wrongful Act(s) that are the same or that are related to those that were alleged in any of the Event(s).”
The March 21, 2018 Opinion
In a March 21, 2018 Opinion, Southern District of Indiana Judge William T. Lawrence granted Emmis’s motion for summary judgment on its breach of contract claim but denied Emmis’s motion for summary judgment on its bad faith claim.
In ruling that the Special Events exclusion did not preclude coverage for the expenses Emmis incurred in defending the COF lawsuit, Judge Lawrence separately considered each of the three sub-parts of the Special Events Exclusion.
First, Judge Lawrence concluded that subpart (i) did not preclude coverage. The D&O insurer had attempted to argue that the COF lawsuit was an “Event” precluded under subpart (i) because it met the second part of the definition of the term “Events,” since Emmis had submitted the COF lawsuit as a claim to the predecessor insurer. Judge Lawrence found that the exclusionary provision, which was written in the past tense, precluded coverage only for matters that were submitted to the predecessor insurer before the defendant insurer’s policy incepted, and did not preclude coverage for matters submitted to the predecessor insurer after the insurer defendant’s policy incepted.
Second, Judge Lawrence rejected the defendant insurer’s argument that sub-part (ii) of the Special Event Exclusion precluded coverage. Sub-part (ii) provides that the insurer “shall not be liable to make any payment of loss in connection with … the prosecution, adjudication, settlement, disposition, resolution or defense of (a) Event(s); or (b) any Claim(s) arising from the Events(s).” Judge Lawrence interpreted the first part of this exclusion to preclude coverage for “loss” paid in connection with the “prosecution, settlement, disposition, etc.” of the Alden Action or the prior Shareholder Suits. It does not, Judge Lawrence said, preclude coverage for the costs incurred in defending the COF suits.
Judge Lawrence also rejected the argument that subsection (b) of subpart (ii), which precludes coverage for “any Claim(s) arising from the Event(s),” excluded coverage. In reaching this conclusion, Judge Lawrence noted under Indiana law that in order to be “arising out of,” one thing must be the “efficient and predominating cause of something else.” Judge Lawrence said “the plaintiffs in the COF suit did not sue because of the Shareholder Litigation or because of the Alden Action.” The previous lawsuits “simply were not the cause of the COF Action.” He added the mere fact that the complaints in the various actions referred to some of the same factual allegations “is simply irrelevant to the inquiry of whether the earlier cases were the cause of the COF Action.”
Finally, Judge Lawrence rejected the insurer’s argument that subpart (iii) of the Special Events exclusion precluded coverage. Sub-part (iii) precludes coverage for any Claim “alleging, arising out of, based upon, or in any way related directly or indirectly, in part or in whole, to an Interrelated Wrongful Act.” Judge Lawrence noted that “there is no question that if the plain language of Section (iii) is applied literally, the COF is excluded from coverage.” However, he added, if it were applied literally, “it would mean that any shared factual allegation would be sufficient to trigger coverage” – even facts as basic as the fact that Emmis is a publicly-traded company or does business in Indiana. He cited Indiana law that to the effect that a contract “will not be interpreted literally if doing so would produce an absurd result.”
Rather, he said, subpart (iii) “must be read to exclude only those claims that share operative facts” with the prior lawsuits; that is, “facts that form the basis of the causes of action asserted in the lawsuits.” Judge Lawrence reviewed the overlapping factual allegations in the various complaints and concluded that the reference in the COF lawsuit to the 2010 Go Private Attempt and other prior measures to “punish” preferred shareholders are “simply irrelevant to any of the causes of action in the COF suit” – noting that indeed the allegations were omitted from the COF Action plaintiffs’ Second Amended Complaint.
He noted further that “the legal basis for the COF suit would have remained the same if the 2010 Go-Private Attempt never happened; the operative facts in the COF suit were Emmis’s actions and omission in 2011 and 2012.” The reference in the COF lawsuit to the 2010 Go Private Attempt and to the prior lawsuits provided only “historical context” of the relationship between Emmis and the preferred shareholders – “That is not enough to bring the COF Suit under Section (iii) and exclude it from coverage.”
At one level, Judge Lawrence’s ruling is a reflection of the very specific facts involved as well as the precise wording used in the customized policy exclusion at issue. To that extent, his ruling and his analysis arguably would have little relevance to other disputes based on different circumstances or involving different exclusionary language.
Nevertheless, the way in which Judge Lawrence went about examining the issues involved in interpreting the exclusionary language involved is interesting and may provide some insight in other contexts.
The exclusion involved here was quite detailed. It was clearly written to try to extend the exclusion’s preclusive effect as broadly as possible. Pretty clearly, the defendant insurer was only willing to provide insurance to Emmis if it could be sure to avoid having to pick up any coverage for the various disputes arising out of the 2010 Go Private Attempt. Sub-section (iii) was written particularly broadly; the sub-part’s preclusion of coverage for any Claim “arising out of, based upon, attributable to or in any way related directly or indirectly, in part or in whole” to an Interrelated Wrongful Act is about as sweeping and comprehensive as exclusionary language can be written.
Despite this comprehensive exclusionary language, Judge Lawrence concluded that sub-part (iii) did not preclude coverage for the COF lawsuit – even though the COF lawsuit specifically referred to the 2010 Go Private Attempt and related litigation and suggested that the alleged wrongdoing involved with the plan trust was part of an ongoing “brazen attempt” to undermine the preferred shareholders’ rights.
The key to Judge Lawrence’s analysis was his premise that it is not enough to establish interrelatedness that the COF lawsuit had factual allegations in common with the prior lawsuits; if mere factual overlap were sufficient, coverage for virtually any subsequent lawsuit would be precluded. Instead, he reasoned, in order to be interrelated and therefore precluded from overage, the subsequent claims must allege facts that form the basis of the causes of action in the prior lawsuits. Here, the COF Lawsuit alleged that the trust plan’s effects on the rights of the preferred shareholders violated the securities laws – these are allegations that were not involved in the prior lawsuits. The allegations in the COF lawsuit would have been the same even if the 2010 Go Private Attempt had never happened.
Given the sweeping scope of subpart (iii) of the Special Events Exclusion, it is arguably surprising that Judge Lawrence concluded that the exclusion did not apply. I suspect that the defendant insurer may feel hard done by, especially since the Special Event Exclusion was quite detailed, extensive, and broadly written. However, in the end, I think Judge Lawrence got it right, since the COF lawsuit related to the preferred shareholders’ grievances with the trust plan, which was not involved in the prior litigation.
D&O insurance policyholders frequently find themselves jousting with their insurers, trying to overcome the insurer’s contention that a subsequent claim is interrelated with a prior lawsuit. Judge Lawrence’s analysis in this coverage decision provides interesting perspective on how to try to argue that the prior and subsequent matters are not sufficiently related to preclude coverage for the subsequent claim.
The most fundamental part of this dispute, as is always the case when these kinds of issues arise, is the question of what kind or degree of similarity or comparison is sufficient to making any two things related. My prior meditations on the meaning of relatedness can be found here.
Special thanks to Bill Wagner of the Taft Stettinius & Hollister law firm in Indianapolis for forwarding me a copy of this decision.
New York County Lawyers’ Association Webinar About the U.S. Supreme Court’s Cyan Decision: As I noted in my blog post about the U.S. Supreme Court’s March 20, 2018 decision in Cyan, Inc. v. Beaver County Employees Retirement Fund, the Court’s ruling has serious implications for IPO companies and for their D&O insurers. On Thursday March 29, 2018 from 12:15 pm EDT to 1:30 EDT, I will be participating as a panelist in a New York County Lawyers’ Association webinar discussing the Cyan decision and “What it Means; What We Can Expect.” The other panelists in the webinar will include Giovanna Ferrari of the Seyfarth Shaw law firm and Jeroen Van Kwawegen of the Bernstein Litowitz law firm. Greg Markel of Seyfarth Shaw will be moderating the event. Information about the webinar including instructions on how to register can be found here.