By Brian E. Shear

November 2013

So you’re the executive in your organization saddled with making sure that the company is adequately insured and hasn’t paid too much in premiums. You’ve just finished a meeting with the insurance broker. You know, the guy who was part of your foursome on the links last weekend, whose daughter is a player on your daughter’s soccer team, or the guy who came highly recommended by the neighbor you see walking his Labradoodle at 6:30 A.M. every morning. The neighbor picks up after his dog, owns the newly remodeled house on the corner and drives a Tesla…he must know what he’s talking about. The broker is well-groomed, charming and knowledgeable. He’s described a lot about different coverage options and various insurers and you feel confident that he’s steered you to the practical, sensible and cost-conscious decision. You complete the application or diligently delegate that task to someone capable. You weren’t 100% sure about everything the broker said, but it’s not your field; you know when to delegate and you check insurance off your list: one less thing to worry about. STOP!

If you’re not an insurance lawyer or someone who regularly deals with insurance, you probably don’t have the knowledge or experience to make informed decisions about insurance-related, risk management issues that may significantly impact your company’s operations. In fact, you may have just left your company’s fate in the hands of an insurance company, something that may or may not work out.

The insurance company’s underwriting department relies upon the accuracy of the information in that application your new employee is capably handling. The information in the application is used by the insurer to determine whether to insure certain risks and what premium to charge. How you answer the questions in the application is very important. The insurer is entitled to rescind or take away the policy, even after a loss has occurred, if you make material misstatements (even innocent ones) in the application. Additionally, exclusions in the policy may preclude coverage for certain matters listed by you in the application. The insurer has no duty to help you through these issues. You may not realize that an insurer’s obligations to an insured are limited to those arising out of the policy; an insurer owes no duty to investigate whether the policy meets your needs in any way.[1] Moreover, that knowledgeable and trustworthy insurance broker, the “independent insurance agent,” may be working for you, the insurance company or both you and the insurer…a double agent.

If you are obtaining insurance for your company, you are likely buying liability coverage (comprehensive general liability insurance, generally known as “CGL”). Liability insurance imposes two separate duties on the insurer: (1) the duty to indemnify your company against third party claims covered by the policy (by paying a judgment against the company or a settlement with a third party); and (2) the duty to defend claims against your company (by paying the company’s attorney fees or appointing a defense attorney). Although you might think that the duty to indemnify would be more important, that’s not necessarily true. The duty to defend is often more important because from the filing of a claim your company will likely incur substantial costs to defend a lawsuit. There are many types of policy provisions that can significantly affect the scope of defense, selection of attorney, cost of defense, etc. As one of my partners once said, “in a lawsuit it’s not who wins, but who pays.”

There is a common misperception that where an insurance policy is not reasonably clear to an insured, any dispute between the insured and insurer over the ambiguity must be resolved in favor of the insured. There is case law holding that an insurer “must defend a suit which potentially seeks damages within the coverage of the policy”;[2] a coverage defense is excused only when “the third party complaint can by no conceivable theory raise a single issue which could bring it within policy coverage”;[3] or “the insured need only show that the underlying claim may fall within policy coverage, the insurer must prove it cannot.”[4]

With cases like these, you might ask “how can an insured lose a coverage dispute”? Only if the policy has no “plain and clear” meaning is it considered ambiguous. In the name of protecting an insured’s “objectively reasonable expectations”, the cases hold that an ambiguous policy provision must be interpreted in the sense the insurance company reasonably believed the insured understood the provision at the time the policy was issued. [5]

When a court is attempting to decide whether coverage is consistent with the “insured’s objectively reasonable expectations”, the insured’s actual, subjective expectations are immaterial.[6] In making this determination, the cases require, or allow, the court to interpret policy provisions “in context”, “with regard to intended function”, “with the instrument as a whole”, and “to apply a little common sense”, among other nebulous guidelines. Only if you are experienced with insurance coverage can you be sure that you are making the best possible decisions regarding what coverage to buy and what arguments to make in the event of a coverage dispute.

An excellent example of the unpredictability of policy interpretation issues is the recent case of David Lerner Associates, Inc. v. Philadelphia Indem. Ins. Co.[7] Philadelphia Indemnity Insurance Company (“Philadelphia”) issued a D&O liability policy to New York-based broker-dealer David Lerner Associates (“DLA”), which served as the managing dealer for Apple real estate investment trusts (“REITs”). The Financial Industry Regulatory Authority (“FINRA”) brought a disciplinary proceeding against DLA, alleging that it misrepresented the value of certain REIT shares sold to investors, and failed to perform adequate due diligence in marketing those shares. Subsequently, three related class actions were brought against DLA. DLA tendered the FINRA proceeding and the class actions to Philadelphia for coverage. Philadelphia denied coverage based upon a “Professional Services Exclusion” in the policy, which provided that there was no coverage for any claim against DLA arising from DLA’s performance of, or failure to perform, “professional service for others.”

DLA sued Philadelphia for coverage, arguing that “professional services” was not defined anywhere in the policy. DLA also argued that financial advisors are not classified as professionals under New York state malpractice law and therefore could not perform “professional services” for purposes of coverage under the policy.

The Court disagreed, holding that the language of the Professional Services Exclusion was not ambiguous and clearly included DLA’s due diligence in the course of providing investment advice. The Court reasoned that the exclusion was not ambiguous merely because the words were undefined in the policy because the undefined term “should be read in light of common speech and the reasonable expectations of a business person.” The Court also rejected DLA’s argument that financial advisors are not considered professionals in the malpractice context because the context of insurance “professional services” encompasses a broader range of conduct.

Cases like this one illustrate that it is extremely difficult for those not experienced in insurance coverage matters to make significant decisions involving what type of coverage to purchase, what policy provisions to obtain, what amount of premium is reasonable and what risks are acceptable. It is even more important for an insured to involve a coverage expert after a dispute has arisen with an insurer. There are a myriad of nuances of policy interpretation and many cases interpreting them. Before making decisions that may significantly impact your company’s risk management, you shouldn’t rely only upon your broker…no matter how good his backswing is.  He may also be an agent of the insurer and have dual interests. In order to assure that you are making the best possible insurance coverage decisions for your company, consult an insurance coverage expert.

[1] Gibson v. Gov’t Employees Ins. Co., 162 Cal.App.3d 441, 452 (1984).

[2] (Gray v. Zurich Ins. Co., 65 Cal.2d 263, 275 (1966))

[3] (Montrose Chem. Corp. v. Superior Court (Canadian Univ. Ins. Co.), 6 Cal.4th 287, 295 (1993))

[4] (Montrose, 6 Cal.4th at 300)

[5] Bank of the West v. Superior Court (Industrial Indem. Co.), 2 Cal.4th 1254, 1264-65 (1992).

[6] AIU Ins. Co. v. Superior Court (FMC Corp.), 51 Cal.3d 807, 822 (1990).

[7] David Lerner Associates, Inc. v. Philadelphia Indem. Ins. Co., 2013 WL 1277882 (E.D. N.Y. March 29, 2013).

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