In a recent decision, an intermediate California appellate court affirmed a trial court’s holding that the professional services exclusion in a healthcare records software provider’s D&O insurance policy precludes coverage for the company’s $118.6 million settlement with the U.S. Department of Justice (DOJ) of kickback payment allegations. As discussed below, the appellate court’s decision raises questions about the appropriate wording for professional services exclusions in D&O insurance policies. A copy of the court’s June 21, 2024, opinion can be found here. Geoffrey Fehling’s July 2, 2024, post in the Hunton Andrews Kurth law firm’s Legal Updates blog about the court’s decision can be found here.
Background
Practice Fusion develops and licenses electronic health record software for use by healthcare providers. Practice Fusion provided access to its software for free. The company made money by placing advertisements in its software and analyzing data for pharmaceutical companies and other third parties. Among other things, the company’s software provided “clinical decision support” (CDS) messages to provide information to patients, for example, about prescription refills. Practice Fusion also made money by allowing pharma companies to pay to sponsor CDS alerts.
Practice Fusion was the target of a DOJ investigation that ultimately led to charges that the company had received improper remuneration from pharmaceutical manufacturers in exchange for the company’s agreement to deploy CDS alerts that were intended to increase sales of the pharma companies’ products. The DOJ alleged that Practice Fusion allowed the pharma companies to participate in the designing of the alerts, which in some instances were calculated to encourage healthcare providers to prescribe a specific product or class of products to the pharma companies’ benefit. The DOJ alleged that in some instances the CDS alerts Practice Fusion agreed to implement did not reflect accepted medical standards. In January 2020, Practice Fusion agreed to pay $118.6 million to resolve claims arising from the investigation.
At relevant times, Practice Fusion maintained a $50 million program of D&O insurance. The program consisted of a layer of primary insurance and seven layers of excess insurance. Practice Fusion sought coverage under its D&O program for the DOJ settlement. The insurers denied coverage for the settlement in reliance on the two professional services exclusions in the primary policy.
Practice Fusion filed a breach of contract action against the insurers in California Superior Court. The trial court granted the insurers’ motion for summary adjudication, concluding that the CDS alert claims arose from Practice Fusion providing professional services to the pharma companies by designing and implementing the alerts under its contract with those companies, and therefore that coverage for the claims was barred by the professional services exclusion. Practice Fusion appealed the trial court’s rulings.
Relevant Policy Language
The broader of the two professional services exclusion in the primary policy bars coverage for “Loss in connection with any Claim made against any Insured … alleging, arising out of, based upon or attributable to an Insured’s performance of or failure to perform professional services for others, or any act(s), error(s) or omission(s) relating thereto.”
The Appellate Court’s Opinion
In a June 21, 2024, opinion written by Justice Marla Miller for a unanimous three-judge panel, the intermediate California Court of Appeal, First Appellate District, affirmed the lower court, holding that the policy’s professional services exclusion precluded coverage for the settlement.
In considering the coverage issues presented, the appellate court first considered the meaning of the term “professional services,” which is not defined in the policies. The court reviewed existing authority which has construed “professional serves” as services “arising out of a vocation, calling, occupation, or employment involving specialized knowledge, labor or skill.”
The appellate court also reviewed existing authority broadly construing policy exclusions with the “arising out of” preamble, which, the court said, connotes “only a minimal causal connection or incidental relationship.” The appellate court noted that the exclusion at issue here is written even more broadly, referring not only to the performance of professional services but also to “any act(s) relating thereto.”
With those preliminaries in mind, the appellate court reviewed the DOJ’s allegations that Practice Fusion had not only itself designed the CDS alerts but had also allowed the pharma companies to participate in designing. Practice Fusion’s modification of the software coding, the appellate court said, is a professional service, which Practice Fusion had in fact agreed in its contracts to provide in a “professional manner” requiring the company to use “commercially reasonable efforts, expertise, and skill.”
Based on the DOJ’s allegations about Practice Fusion’s involvement in coding the CDS alerts for its customers, the court rejected Practice Fusion’s argument that it was not providing professional services to its pharma company clients but was merely providing a product in the form of advertising space.
The appellate court concluded by saying that it was not persuaded by Practice Fusion’s arguments that the DOJ’s claims against Practice Fusion did not arise from Practice Fusion providing professional services. The court concluded that the professional services exclusion applied to preclude coverage for the DOJ settlement.
Discussion
The appellate court’s conclusion that the professional services exclusion precludes coverage for the $118 million DOJ settlement has been the subject of widespread publicity in the insurance industry press and has also been the subject of a great deal of discussion among insurance practitioners.
Despite alarms that this decision has set of in certain quarters, it could be argued that, once the appellate court agreed that the conduct in dispute arose out of the policyholder’s provision of professional services, the outcome of the appeal is unsurprising, given the breadth of the exclusionary language at issue. For me, the problem with this case starts with the wording of the exclusion itself.
For starters, there apparently were two professional services exclusions in this policy, a circumstance for which the appellate court’s opinion provides no explanation. The appellate court avoided the possibility for conflict or confusion between the two exclusions by the simple expedient of focusing on the broader of the two exclusions and disregarding the other exclusion.
The broader of the two exclusions is, indeed, extraordinarily broad. It not only precludes coverage for Loss from claims “alleging, arising out of, based upon or attributable to” the provision of professional services, but also to “any act(s), error(s) or omission(s) relating thereto.” The breadth of the exclusionary sweep of this exclusion is striking. One wonders if it would be possible for any professional services company to do anything that is not an “act” “relating to” professional services. The exclusion’s preclusive effect sweeps so broadly that it threatens to become the exception whose preclusive effect entirely swallows up whatever coverage the policy otherwise provides.
Readers of this blog know that I have long argued that the professional services exclusion in D&O insurance policies should not be written on the broad “based upon, arising out of” basis, but rather should be written on the narrower and more focused “for” basis. The professional services exclusion is one of several exclusions that traditionally appear in D&O insurance policies in order to keep claims in their proper lanes. The professional services exclusion is there to ensure that the D&O policy does not pick up coverage for claims that more properly should go under the Errors & Omissions (E&O) policy. Understood that way, the professional services exclusion should preclude coverage only for claims that are for errors and omissions in the delivery of professional services, and not reach broadly to preclude coverage that have only the most tangential connection to the performance of professional services.
I fully recognize that my objections to the professional services exclusion wording may be moot given that in the current marketplace few insurers are willing to offer a D&O policy with the preferred “for” wording in the professional services exclusion. All I can say is that analytically, given the purposes of the exclusion, it more appropriately should be written with the “for” wording, and that an exclusion with the broader “arising out of” wording sweeps far more broadly than the exclusion’s purpose would justify.
The breadth of the exclusion’s preclusive effect here was instrumental to the appellate court’s conclusion. The court not only began its analysis with a review of the existing authority broadly construing policy exclusions with the “arising out of” preamble but also emphasized the exclusion’s broad reaching in affirming the district court’s ruling in the insurers’ favor.
It is speculative to consider how this case might have turned out if the professional services exclusion had in fact had the narrower “for” wording. The appellate court here seemed pretty convinced that the DOJ’s allegations involved the company’s alleged delivery of professional services. It is far from a foregone conclusion that coverage here would not have been precluded if the exclusion had had the narrower “for” wording. However, there is no doubt that given the exclusion’s broad preamble, the insurers had a shorter road to travel to establish that coverage was precluded.
Notwithstanding these questions, the one thing I think this case does (or at least should do) is to refocus everyone on the purposes for which professional services exclusions appear in D&O insurance policies and on the wording that should apply given those purposes.