Environmental Liability and D&O Exposure

Environmental Liability and D&O Exposure

 Duke Energy, the largest provider of electricity in the United States, faces a number of challenges as it struggles to deal with the consequences of the February 2, 2014 coal ash spill at its Dan River Steam Station in Eden, North Carolina. In addition to the environmental remediation issues facing the company, two of its shareholders have now filed a derivative lawsuit against the company, as nominal defendant, as well as against 14 of its officers and directors, seeking damages, corporate governance changes, and injunctive relief. The shareholder lawsuit highlights how environmental issues can lead to potential D&O liability exposures and D&O insurance coverage concerns as well.

The shareholder lawsuit follows in the wake of a February 2, 2014 incident in which a broken storm water pipe beneath a coal ash pond at the company’s Dan River Steam Station allowed 39,000 tons of coal ash and twenty-seven million gallons of contaminated water to spill into the Dan River. The incident triggered a series of governmental investigations. According to news reports, the federal authorities have launched a criminal probe of the circumstances surrounding the spill. On May 22, 2014, the company announced that it had reached an agreement with the EPA regarding cleanup of the coal ash spill.

On May 21, 2014, two shareholders filed a derivative lawsuit against in Delaware Chancery Court against Lynn Good, the company’s CEO, B. Keith Trent, the company’s COO, and fourteen of the company’s current directors. The complaint (which can be found here) asserts claims against the individual defendants for breach of fiduciary duty, waste of corporate assets and unjust enrichment.  The complaint alleges that the defendants’ alleged misconduct has “exposed the company to billions of dollars of potential liability.”

The complaint alleges that the defendants “have known for years that the Duke Energy’s coal ash ponds were seeping toxic chemicals into the soil and rivers, yet took no action to remedy the problems.” The complaint also alleges that the individual defendants “also knew since at least 2010 that the Company was illegally operating without proper permits in several Duke Energy facilities.” The complaint alleges that “the board was well aware of the company’s longstanding violations, yet failed to take ay meaningful action to prevent further harm.” Instead, the complaint alleges, “the board caused or allowed Duke Energy to operate without proper permits, continuously pollute the environment, and fai to properly inspect the company’s coal ash ponds.”

The lawsuit seeks to recover the amount of damages that the individuals’ allegedly caused the company; to compel the company to comply with a March 6, 2014 state court order directing the company to eliminate contamination sources at its North Carolina coal plants; to abate existing and refrain from future environmental violations; to require the company to strengthen internal controls and adopt corporate governance reforms; and to compel the defendants to restore to the company compensation and other benefits they received.

It remains to be seen whether or not the plaintiffs will achieve their objectives with this lawsuit. But the because of the seriousness of the underlying incident, the company and the individual defendants will take this lawsuit very seriously as well.

As I have noted in prior posts (refer for example here), and as this lawsuit illustrates, corporate environmental liabilities can lead to director and officer liability exposures. The typical D&O liability insurance policy will contain an exclusion for loss arising from claims for pollution and environmental liabilities. However, many of these exclusions also contain a provision carving back coverage for shareholder claims. This case shows the importance of this kind of coverage carve back. The carve back ensures that directors and officers hit with this kind of shareholder suit filed in wake of an environmental incident are able to rely on their  D&O insurance to defend themselves against the shareholder suit.

In recent years, a number of D&O insurance carriers have introduced policy forms that eliminate the pollution exclusion altogether but that also incorporate into the policy’s definition of “Loss” a provision stating that Loss will not included environmental remediation or cleanup costs.

One area where questions can arise is when (as for example is the case here) a claimant seeks to recover as damages in a shareholder lawsuit the environmental remediation costs the company incurred. The insurer may take the position that the policy was not intended to provide insurance for environmental clean up costs, whether imposed directly in an environmental liability action or indirectly in a shareholder suit. Because these kinds of shareholder lawsuits typically settle, these insurance coverage issues have to be sorted out in the course of settlement negotiations. Because the shareholder claimants are seeking to recover a variety of alleged damages beyond just the cleanup costs, the individual defendants will contend that the insurance should be available to settle these claims.

In any event, this shareholder suit is yet another example of a recent phenomenon I have noted frequently on this blog (refer for example here), which is the incidence of shareholder litigation following in the wake of a regulatory or enforcement action. Regulatory and enforcement actions continue are an increasingly significant source of these kinds of follow-on claims. As this case demonstrates, among the enforcement arenas where these kinds of claims can arise is environmental regulation.

 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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