D&O Insurance: Because Policy Clauses Conflict, D&O Insurer Must Cover Interrelated Claims

 My beat here at The D&O Diary requires me to read many insurance coverage decisions. I am well accustomed to the idea that the court opinions can be varied lot. But every now and then I run across a decision that is a real head-scratcher. A July 16, 2013 decision out of a Texas intermediate appellate court applying Texas law to interpret a D&O insurance policy falls in the latter category.

The court’s opinion is somewhat convoluted, but basically the court held that the policy’s interrelated claim provision conflict with the policy’s prior and pending litigation provision; that because of this conflict between the two sections, the interrelatedness provision must be construed against the insurer; and therefore that the policy covers seven lawsuits filed during the policy period even though the seven are interrelated with three lawsuits filed prior to the policy period. A copy of the court’s opinion can be found here.

Background       

Gastar Exploration Ltd. was named as a defendant in a series of ten lawsuits involving a mare lease investment program. The first of these lawsuits was filed in 2006. Three of the ten lawsuits were filed prior to the 2008-2009 policy period of the D&O insurance policy that was the subject of this dispute. Seven suits, referred to as “the Seven Gastar Suits,” were filed during the policy period.

Gastar submitted the Seven Gastar Suits to its D&O insurer. The D&O insurer denied coverage for the seven suits on the grounds they were interrelated with claims that had first been made prior to its policy period, and therefore by operation of the D&O insurance policy’s interrelatedness provision, were deemed made at the time the first of the suits was filed back in 2006.

Gastar filed a coverage lawsuit against the insurer. The parties filed cross-motions for summary judgment. The trial court granted the insurer’s motion for summary judgment on the grounds that the Seven Gastar Suits were interrelated with the three prior lawsuits and therefore deemed made prior to the policy period. Gasstar appealed.

Several policy provisions are relevant to the appellate court’s analysis. First, the policy contains an interrelatedness provision, Policy Condition C, stating that

All Claims alleging, arising out of, based upon or attributable to the same facts, circumstances, situations, transactions, or events or to a series of related facts, circumstances, situations, transactions or events will be considered a single Claim and will be considered to have been made at the time the earliest such Claim was made.

The policy also contains a prior and pending litigation exclusion, which as amended in Policy Endorsement No. 10, provides that the insurer will not be liable for payment of any Loss in connection with a Claim “arising out of, based upon or attributable any pending or prior litigation as of 5/31/2000, or alleging or derived from the same or essentially the same facts or circumstances as alleged in such pending or prior litigation.”

Finally, the policy contains another provision specifying that “the titles and headings to the various paragraphs, including endorsements attached, are included solely for ease of reference and do not in any way limit or expand or otherwise affect the provisions of such paragraphs and sections to which they relate.”

The Court’s July 16 Opinion       

In a July 16, 2013 opinion written by Justice J. Brett Busby for a unanimous three judge panel, the Texas intermediate appellate court reversed the trial court’s decision and remanded the case to the lower court.

The appellate court assumed for purposes of its decision that the Seven Gastar Suits were interrelated with the three pre-policy period lawsuits. In reaching its decision, the court first recited a series of rules of insurance policy interpretation, the most important of which is the principle under Texas law that when interpreting an exclusionary clause, a court must adopt the construction urged by the insured as long as that construction is not unreasonable.

The court then found that though the interrelatedness provision, Condition C, is found in the policy section headed “Conditions,” it operates as an exclusion because it narrow coverage, and therefore must be interpreted using the rules for interpreting policy exclusions. In reliance on the policy provision stating that section headings are for ease of reference only, the court disregarded the appearance of the interrelatedness provision under the “Conditions” heading.

The Court then went on to consider the relation back provisions in both the interrelatedness provision (Condition C) and in the prior and pending litigation provision (Endorsement 10). The prior and pending provision precludes from coverage any claim made during the policy period that arises out of, is based upon, or attributable to any lawsuit arising prior to May 31, 2000. The Court said that the interrelatedness provision in Condition C rendered Endorsement 10 “meaningless” because any Claims that would be excluded from coverage by Endorsement 10 would already be excluded by operation of Condition C (the interrelatedness provision). The court said “an interpretation that renders a part of the contract meaningless is not reasonable.”

The court summarized its reasoning this way:

Condition C would thus exclude coverage for the Seven Gastar Suits, while Endorsement 10 would place them in the covered window for Claims related to litigation filed after May 31, 2000 but before the effective date of the policy. Under these facts, we conclude that Condition C and Endorsement 10 conflict at best, when read together create an ambiguity. When provisions in an insurance contract conflict, a court must adopt the interpretation that most favors coverage for the insured…. To hold otherwise would not give full effect to the parties’ agreement.

The court rejected the insurer’s argument that the two provisions do not conflict because they serve different purposes and have no bearing on one another. The insurer pointed out that the prior and pending litigation provision sweeps much more broadly because its preclusive effect applies even if the prior or pending suit has been filed against a non-insured party, while the interrelatedness provision applies only to “Claims.” The court rejected that this contention, observing that the policy’s definition of Claim did not require that a claim be brought against an insured, and therefor that the one provision’s reference to “litigation” and the other’s reference to “Claims” made no difference.

Discussion

When I first saw a report of this case before reading the opinion, I assumed that there must have been a typo; how could a prior and pending litigation provision with a P&P lit date in May 2000 have anything to do with whether or not subsequent lawsuits related back to a prior lawsuit first filed in 2006, six years after the P&P lit date? Now that I have read the opinion, I see that there was no typo. But I still am a little befuddled about how the prior and pending litigation provision has anything to do with the issues involved in this case.

Readers of this blog know that these days I have a something of a bias in favor of the policyholder when I review coverage decisions. I have even been chided about it by old friends in the industry who know me from my many years as an insurer-side advocate. But even if I were to come at this case with a predisposition in favor of the policyholder, I would have to concede that internal logic of the appellate court’s decision is less than satisfying.

Let’s start with the reasoning the court uses to justify interpreting the interrelatedness provision as an exclusion rather than as a condition.  First, the court says that it is not bound by section titles and headings. However, the court overlooks the fact that the provision not only appears in a section of the policy captioned policy conditions, but it operates like a condition, and it is in a section of the policy where all the other provisions are also conditions.

The court makes a big deal elsewhere about how it must read the policy as a whole, but somehow in its strained effort to characterize the interrelatedness provision, it overlooks the fact that the policy has a structure to it that should matter to how it is reviewed, and that this provision not only is in a section of the policy that is titled Conditions but that all of the provisions in the same section are also conditions.

The court goes on and says that it doesn’t matter whether or not the provision is an exclusion or a condition, because either way, the provision narrows coverage, and therefore it must be interpreted based on principles applicable to the interpretation of exclusions. The problem with this line of analysis is that, again, it is made without considering the policy as a whole.

A liability insurance policy is a tightly drawn document. The policy is replete with provisions that are not exclusions but that narrow coverage.  For example, the limit of liability narrows coverage. The policy period dates narrow coverage. The definition of Insured person narrows coverage. Merely because a provision in some sense narrows coverage cannot transform a provision that is not an exclusion into an exclusion. Otherwise the principle that exclusionary provisions must be interpreted differently than the rest of the policy becomes meaningless – there is not a “rest of the policy,” there are only exclusions. Why have a rule of construction saying that exclusions, as distinct from the rest of the policy, must be interpreted narrowly, if the entire policy is to be interpreted narrowly in any event?

But where the court really gets into a muddle is the way it pulls the prior and pending litigation provision into the analysis. As a preliminary matter, I feel compelled to note here that insurance professionals know that a claims made liability insurance policy will contain both an interrelated claim provision and a prior and pending litigation provision. These insurance professionals understand that these separate provisions are there for separate purposes and operate in separate spheres. The idea that the mere fact that the  two provisions might operate to apply to different time periods somehow creates a conflict between the two provisions rendering one of them inoperable would strike most in the industry as a very odd proposition indeed.

The fact is that the two provisions are not only entirely separate and entirely different; they appear in the policy for entirely different reasons. First, they pertain to different matters. The prior and pending litigation provision relates to the period prior to the initial inception of the claims made coverage and provides rules of the road for the applicability of the policy to subsequent proceedings in lawsuits that arose before coverage first incepted. The interrelatedness provision provides rules of the road for determination of the claims made date, for purposes of the application of the claims made coverage.

Second, the two provisions operate differently and have different purposes. The prior and pending litigation provision does not have what is sometimes referred to as a “deemer” clause – that is, the interrelatedness provision deems the later related claim to have made on the date of the earlier claim. The purpose of the interrelatedness clause is to establish a claims made date for a series of claims, while the purpose of the prior and pending litigation clause is to exclude coverage for the pre-existing litigation. The prior and pending litigation provision has nothing to do with establishing a claims made date.

There is a third reason that insurers insist on the inclusion of a prior and pending litigation clause notwithstanding the presence of the interrelatedness clause. That is, the insurers want to be sure that, regardless of whether the interrelatedness provision is triggered, that the claims made policy is not stretched to apply to subsequent developments in litigation that existed before coverage incepted. The prior and pending litigation doesn’t require any determination that the prior matter was a claim or what the claims made date was or anything else.

Readers of this blog know that I am no fan of the interrelatedness provisions found in D&O insurance policies. Courts have struggled to interpret the interrelated claim provision and have produced results that are all over the map. But this court didn’t struggle with this policy’s interrelatedness provision or the often challenging question of whether or not subsequent claims are or are not related to prior claims. Indeed, the court was willing to assume for purposes of its decision that the seven later lawsuits were related to the three earlier lawsuits. However, for reasons of its own, the court chose a differnt path.

One of the contract interpretation principles the court recites at the outset is the principle under Texas law that the court must seek to “harmonize and give effect to all provisions of the policy so that none will be rendered meaningless, useless or inexplicable.” However, the effect of the court’s decision is to render the interrelatedness clause “meaningless, useless or inexplicable.” 

Here’s the problem – this is claims made coverage. The policy only applies to claims that are made during the policy period. Given the court’s analysis, what is the claims made date of the Seven Gastar Claims? Do we just say that they were made during the policy period of the D&O insurance policy even though they were interrelated with the three prior claims? But what about the “deemer” clause and the claims made date clause in the interrelatedness provision? The prior and pending litigation clause doesn’t have a deemer clause or a claims made date clause, and indeed it is not the purpose of the prior and pending litigation clause to determine a claims made date. The upshot of the court’s analysis is that it renders the deemer provisions and the claims made date provisions of the interrelatedness clause “meaningless, useless and inexplicable.”  

The insurers undoubtedly would want to appeal the intermediate appellate court’s decision, but the case has been remanded back to the trial court for further proceedings there. Any further consideration of the intermediate court’s analysis must await a much later date, if indeed it ever happens. (Unless of course the insurers are permitted to pursue an interlocutory appeal).

I suspect there are others out there how will take a very different view of this case than I have taken here. I encourage those with differing views to add their remarks to this post using the blog’s comment feature in the right hand column.

I would like add my thanks here to Arthur Washington of the Mendes and Mount law firm for sending me a copy of the opinion. I hasten to add that the views in the blog post are exclusively my own and should not be imputed to any other person.

Read other items of interest from the world of directors & officers liability, with occasional commentary, at the D&O Diary, a blog by Kevin LaCroix.

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