In a recent pro-policyholder decision, an Indiana federal court held that a common, broadly-worded exclusion in Directors & Officers (“D&O”) insurance for “Interrelated Wrongful Act[s]” did not preclude coverage, since a literal interpretation would produce “absurd” results. In the past, the all-encompassing language of the exclusion has been abused by insurers who have sought to construe the concept of “interrelation” so broadly as to exclude coverage for otherwise covered claims. Here, however, the insurer’s attempt to deny coverage was thwarted by the Court, which ruled that the exclusion should only preclude claims that share the same causes of action as prior suits, not just facts.
In Emmis Communications Corp. v. Illinois National Insurance Co.,1 the leadership of the plaintiff, Emmis Communications Corp. (“Emmis”), made two attempts to take the company private. In 2010, the company used outside funding to buy out private holders of its preferred stock. Emmis was forced to abandon that effort when its lone funding source decided to back out of the plan. This attempt and subsequent failure led to several lawsuits, including one action by Emmis’ shareholders against the firm’s directors and officers, and another between Emmis, its directors and officers, and the anticipated funding source. Both lawsuits were reported to Emmis’ D&O insurer for the 2010-2011 policy year, Chubb. Chubb agreed to cover the claims.
The next year, Emmis devised a plan to repurchase a qualified majority of its own preferred stock without outside funding. Following the repurchase, changes were made to Emmis’ articles of incorporation which disfavored the remaining holders of its preferred stock, but benefitted holders of its common stock and improved Emmis’ overall capital structure. In April 2012, five aggrieved preferred stockholders sued Emmis, its directors and officers, alleging that the stock repurchase and amendment process violated federal securities law and state corporate, contract, and fiduciary law.
Emmis reported the preferred stockholders claims to Chubb. Chubb denied coverage on the basis that the preferred stockholder suit was not a “Related Claim” to the 2010 shareholder suit and that, as such, there was no coverage under the 2010-2011 policy.
Emmis also notified its D&O insurer for the subsequent policy year (2011-2012), Illinois National Insurance (“Illinois National”). Illinois National took the opposite approach from Chubb, rejecting the claim based on one of the policy’s exclusions. The Illinois National Policy included an endorsement titled “Specific Investigation/Claim/Litigation/Event or Act Exclusion,” which provided:
[I]nsurer shall not be liable to make any payment for Loss in connection with: (i) any of the Claim(s), notices, events, investigations or actions listed under EVENT(S) below (hereinafter “Event(s)”); or (ii) the prosecution, adjudication, settlement, disposition, resolution or defense of: (a) Event(s); or (b) any Claim(s) arising from the Event(s); or (iii) any Claim alleging, arising out of, based upon, attributable to or in any way related directly or indirectly, in part or in whole, to an Interrelated Wrongful Act (as that term is defined below).
“Events” was defined to include, among other things, any “notice of claim or circumstances reported” to the Chubb insurance policy. The policy also defined “Interrelated Wrongful Act” as “the same or related facts, circumstances, situations, transactions or events alleged in any of the Event(s).”
Illinois National disclaimed coverage based on the exclusionary language. It asserted that in the 2012 complaint, the aggrieved shareholders described Emmis’ efforts to take the company private in 2010 and also noted that the 2012 effort was designed to achieve the same goal as the 2010 effort. In essence, it argued that the 2012 lawsuit arose out of “facts, circumstances, situations, transactions or events” at issue in the earlier complaint, and was thus excluded from coverage as an “Interrelated Wrongful Act.”
The U.S. District Court for the Southern District of Indiana took a practical approach to interpreting the Illinois National exclusion, and held that it barred coverage for only those claims reported to Chubb at the time that the Illinois National policy went into effect. The court noted that Illinois National’s reading—that any claim reported to Chubb at any time and under any circumstances would be excluded—was unreasonable. Such a reading would result in no coverage depending “on the whim of the plaintiff’s attorney who drafted the complaint in the lawsuit,” and could even bar coverage for suits Emmis mistakenly reported to prior insurers such as Chubb. “Rather than being read literally,” therefore, the Court determined that the exclusion “must be read to exclude only those claims that share operative facts with the” prior actions, i.e., “facts that form the basis of the causes of action asserted in the lawsuits.”
The district court’s opinion highlights the “absurd” consequences of reading interrelated wrongful acts exclusions in D&O policies expansively. The court looked with disfavor on the trend of D&O insurers to avoid coverage using the broadly-worded exclusion. This decision serves as a reminder to policyholders and their advocates that an insurer’s broad application of policy exclusions resulting in “nonsensical” coverage determinations, can successfully be challenged and overcome.
______________________________________________________________________________________________________ 1 No. 1:16-CV-89, 2018 WL 1410191 (S.D. Ind. Mar. 21, 2018)