SDV Insights

A Win for Policyholders: California Court of Appeals Applies Vertical Exhaustion for Continuous Injury Claims


Fresh off the heels of the California Supreme Court’s landmark decision in Montrose Chemical Corp. v. Super. Ct. of L.A. Cty. (“Montrose III”),policyholders scored another victory as another California court rejected horizontal exhaustion in the context of continuous injury cases. The Court of Appeal of the State of California, First Appellate District, Division Four, in SantaFe Braun Inc. v. Ins. Co. of N. Am., adopted a rule of vertical exhaustion, holding that “[absent an explicit policy provision to the contrary] the insured becomes entitled to the coverage it purchased from the excess carriers once the primary policies specified in the excess policy have been exhausted.”2

The dispute in SantaFe Braun began in 1992 when asbestos-related claims were first filed against Braun. In 1998, Braun’s three primary insurers agreed in writing to defend and settle the underlying claims against Braun while resolving allocation among themselves. In 2004, Braun filed the current suit against its excess insurers, seeking a declaration that the excess insurers were obligated to help cover the costs of the underlying asbestos-related lawsuits.

Based on the designated policy language, the trial court determined that each of Braun’s first-layer excess policies required “horizontal exhaustion of all primary insurance applicable to a loss before being triggered for that loss.”3 After concluding that Braun failed to establish that its primary insurance was exhausted, the trial court entered judgment in favor of the excess insurers. Braun appealed, challenging the trial court’s interpretation of the policies.

While Braun’s appeal was pending, the California Supreme Court decided Montrose III, in which the court held that a rule of vertical exhaustion applies in cases involving continuous injury, where all primary insurance has been exhausted, and where the policy language permits it.4 Under that rule, the court held that an insured is permitted to “access any excess policy for indemnification during a triggered policy period once the directly underlying excess insurance has been exhausted.”5 In reaching this conclusion, the court relied on the ambiguous “other insurance” provisions in the excess policies, as well as practical considerations, finding both factors weighed in favor of vertical exhaustion.

Importantly, the California Supreme Court in Montrose III declined to decide “when or whether an insured may access excess policies before all primary insurance covering all relevant policy periods has been exhausted.”6 In SantaFe Braun, the Court of Appeal acknowledged the limits of the Montrose III decision, but nevertheless, found the California Supreme Court’s reasoning instructive because Braun’s first-level excess policies contained language comparable to those interpreted in Montrose III.7 For example, the court found that Braun’s “‘other insurance’ clauses are similarly ambiguous and the ‘other aspects of the insurance policies’ including the scheduling of the applicable primary policies and definitions of ultimate net loss suggest ‘the exhaustion requirements were meant to apply to directly underlying insurance and not to insurance purchased for other policy periods.’”8

The Court of Appeal rejected the excess insurers’ argument that Montrose III “did not disturb longstanding California law requiring exhaustion of all primary insurance before any excess policy attaches.”9  The excess insurers’ argument was based on the fundamental distinctions between primary and excess insurance; however, as the Court of Appeal noted, “the differences between primary and excess coverage hold true whether vertical or horizontal exhaustion applies.”10 Moreover, the court emphasized that “the differences provide little justification for construing the policy language interpreted in Montrose III differently simply because primary coverage often purchased many years later for other policy periods remains outstanding.” 11

Based on the reasoning in Montrose III, a unanimous panel reversed the trial court’s judgment, concluding that “the trial court erred in interpreting the policies at issue in this case to require horizontal exhaustion of all primary and underlying excess insurance coverage before accessing coverage under the excess policies at issue.”12 

Readers should note that both the Montrose III and SantaFe Braun decisions focus on the specific language in the excess policies. As the California Supreme Court explained in Montrose III, “[p]arties to insurance contracts are, of course, free to write their policies differently to establish alternative exhaustion requirements or coverage allocation rules if they so wish.”13

For an in-depth discussion of both the Montrose III and SantaFe Braun decisions, please join Celia Waters for her upcoming Strafford live webinar, "Primary v. Excess Insurance: Vertical and Horizontal Exhaustion of Policy Limits Priority and Allocation of Coverage" on Wednesday, July 29, from 1:00 pm-2:30 pm ET. Click here to learn more.

For more information, contact Celia B. Waters at cbw@sdvlaw.com. Special thank you to SDV Summer Associate Robbie Fitzgerald for his contributions.

__________________________________________________________________________________

1Montrose Chemical Corp. v. Super. Ct. of L.A. Cty., 460 P.3d 1201 (Cal. 2020).
2SantaFe Braun Inc. v. Ins. Co. of N. Am., No. A151428, 2020 WL 3957290, at *5 (Cal. Ct. App. July 13, 2020).
3Id. at *2.
4Montrose, 460 P.3d at 1215.
5Id.
6Montrose, 460 P.3d at 1206 n.4.
7SantaFe Braun, 2020 WL 3957290, at *5.
8Id.
9Id.
10Id.
11Id.
12Id. at *1.
13Montrose, 460 P.3d at 1215.

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