Excess Insurer May Not Unilaterally Refuse Reasonable Settlement

Insured and Primary Policy May Settle When Excess Refuses to Participate

Excess insurers often do not like the decisions of a primary insurer and an insured that would require payment by the excess insurer to effect a settlement. The state of California, by an appellate decision, gives an excess insurer three options if it disagrees with the proposed settlement. National Union, in Teleflex Medical Incorporated v. National Union Fire Insurance Company Of Pittsburgh, PA, United States Court of Appeals, Ninth Circuit. 2017 WL 1055586, No. 14-56366 (March 21, 2017) refused to take any of the three options and claimed a settlement breached a term of the excess policy.

In so doing National Union attempted to do away with the California standard, Diamond Heights Homeowners Association v. National American Insurance Co., 227 Cal. App. 3d 563 (1991), that requires an excess liability insurer must exercise one of three options when presented with a proposed settlement of a covered claim that has met the approval of the insured and the primary insurer. The excess insurer must:

(1)           approve the proposed settlement,

(2)           reject it and take over the defense, or

(3)           reject it, decline to take over the defense, and face a potential lawsuit by the insured seeking contribution toward the settlement.

Under Diamond Heights, the insured is entitled to reimbursement if the excess insurer was given a reasonable opportunity to evaluate the proposed settlement, and the settlement was reasonable and not the product of collusion. The insured, LMA North America, Inc. (LMA), sued its excess insurance carrier, National Union Fire Insurance Company of Pittsburgh, PA (National Union), in connection with National Union’s refusal to either contribute $3.75 million toward the settlement of claims brought by a third party or take over the defense.

THE UNDERLYING AMBU LITIGATION

LMA and its competitor Ambu distribute competing laryngeal mask airway products. In 2007, LMA brought a patent infringement suit in federal district court against Ambu related to certain laryngeal masks. Ambu filed trade disparagement and false advertising counterclaims, demanding $28 million.

The parties held a mediation on January 10–11, 2011. National Union did not attend the mediation, but CNA did. LMA’s counsel, Stephen Marzen, updated National Union each day. On the second day, LMA and Ambu reached a conditional settlement agreement, under which Ambu would pay LMA $8.75 million for the patent claims while LMA would pay Ambu $4.75 million for the disparagement claims. The settlement was conditioned on LMA’s ability to obtain approval and funding from CNA and National Union.

While CNA committed its full $1 million limit, National Union was reluctant to recognize that Ambu’s counterclaims could invade its coverage layer. LMA’s Counsel provided National Union an analysis that concluded that, “considering the risk of a damages award substantially in excess of $10 million, and not counting the substantial defense costs to defend against the product disparagement counterclaims through trial, and possible appeal, $4.75 million is a fair and reasonable settlement of Ambu’s product disparagement counterclaims.”

On March 25, 2011, National Union sent a list of questions and received a response advising National Union of its three options. National Union declined to consent to the proposed settlement without offering to take up the defense.

Having still not heard from National Union regarding taking over the defense, LMA finalized the settlement with Ambu on April 18. LMA promptly notified National Union. .

THE INSURANCE COVERAGE LITIGATION

Following execution of the settlement, LMA sued National Union for breach of contract and bad faith. LMA sought contract damages, interest, attorney’s fees and costs, and punitive damages. After discovery, National Union moved for summary judgment, arguing that it had the absolute right to veto the settlement under the policy’s “no voluntary payments” and “no action” clauses.

The case proceeded to trial and the jury unanimously found for LMA on both the breach of contract and bad faith claims, but decided not to award punitive damages. On April 7, 2014, the district court entered judgment in LMA’s favor for $6,080,568.43, including $3,750,000 in contract damages; $1,216,580.99 in attorney fees, expert fees and costs; and prejudgment interest of $1,113,987.44.

THE DIAMOND HEIGHTS RULE

The Diamond Heights court concluded that consistent with its good faith duty, the excess insurer does not have the absolute right to veto arbitrarily a reasonable settlement and force the primary insurer to proceed to trial, bearing the full costs of defense. A contrary rule would impose the same unnecessary burdens upon the primary insurer and the parties to the action, among others, as does the primary insurer’s breach of its good faith duty to settle.

NATIONAL UNION HAS NOT PRESENTED CONVINCING EVIDENCE THAT THE CALIFORNIA SUPREME COURT WOULD NOT FOLLOW DIAMOND HEIGHTS.

Opposing a contribution action by the insured, the excess insurers may challenge the Plan for fairness, reasonableness and lack of fraud or collusion. An excess insurer does not have an absolute right to withhold its consent to a settlement while at the same time declining to participate in the action. The Ninth Circuit, therefore, refused to conclude that the policies can be read to permit an excess insurer to hover in the background of critical settlement negotiations and thereafter resist all responsibility on the basis of lack of consent.

 Diamond Heights is about how an insurance policy should be read in order to reconcile an excess insurer’s contractual rights under “no action” and “no voluntary payments” clauses with the insured’s rights under the implied covenant of good faith and fair dealing. The covenant of good faith underlying Diamond Heights is grounded on honoring the reasonable expectations created by the autonomous expressions of the contracting parties.

The wisdom of the Diamond Heights rule may not be beyond reasonable debate. But for the implied covenant of good faith and fair dealing, the rule would be contrary to the language of the “no action” and “no voluntary payments” provisions.

The insured is entitled to make a reasonable settlement of the claim in good faith and then sue for reimbursement, even though the policy prohibits settlements without the consent of the insurer.

DIAMOND HEIGHTS IS NOT DISTINGUISHABLE ON ITS FACTS.

CNA committed its policy limit over a month before settlement, which is earlier than the primary insurer in Diamond Heights. The primary insurer funded the defense up until settlement, and the excess insurer did not take over the defense. Regardless of who funds counsel, the insured and the primary insurer owe a duty of good faith that runs not only to each other but also to the excess insurer.  The parties the LMA case and the Diamond Heights cases settled before judgment and the settlements were found to be reasonable assessments of potential liability.

The jury found the settlement to be reasonable. The jury decided in LMA’s favor. In fact, National Union’s foot-dragging may reasonably be seen as more egregious than the excess insurer’s conduct in Diamond Heights. The excess insurer in Diamond Heights had less than two weeks to consider the settlement, whereas National Union had months.

LMA’S BAD FAITH CLAIM

National Union challenges the judgment on the bad faith claim on two related grounds.

The jury could and did rationally conclude based on these facts that National Union acted unreasonably by refusing to take over the defense or approve the reasonable settlement, knowing full well of its obligations under California law.

ZALMA OPINION

This is a breach of the covenant of good faith and fair dealing. National Union – faced with a settlement that was fair, reasonable and in good faith that required it to contribute money. It refused to contribute, refused to take over the defense and decided it was best to await suit from its insured. The suit resulted in a multi-million dollar judgment against National Union. National Union asked the Ninth Circuit to change California law and find it had the unquestioned right to require approval of any settlement. Its attempt was a failure because its actions were in bad faith. It could have saved multiple millions by taking over the defense or contribute to the settlement. It did neither.

ZALMA-INS-CONSULT                      © 2017 – Barry Zalma

This article and all of the blog posts on this site summarize cases published by courts of the various states and the United States.  The court decisions have been modified from the actual language of the court decisions, were condensed for ease of reading, and convey the opinions of the author regarding each case.

Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant and expert witness specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 49 years in the insurance business.

Mr. Zalma is the first recipient of theLEGEND-TROPHY-2 first annual Claims Magazine/ACE Legend Award.

Check in on Zalma’s Insurance 101 – a Videoblog – that allows your people to learn about insurance in three to four minute increments at http://www.zalma.com/videoblog

Look to National Underwriter Company for the new Zalma Insurance Claims Libraryat www.nationalunderwriter.com/ZalmaLibrary  The new books are Insurance Law, Mold Claims Coverage Guide, Construction Defects Coverage Guide and Insurance Claims: A Comprehensive Guide

The American Bar Association, Tort & Insurance Practice Section has published Mr. Zalma’s book “The Insurance Fraud Deskbook” available at  http://shop.americanbar.org/eBus/Store/ProductDetails.aspx?productId=214624, or 800-285-2221 which is presently available and “Diminution of Value Damages” available at http://shop.americanbar.org/eBus/Store/ProductDetails.aspx?productId=203226972

Mr. Zalma’s three new e-books  were recently added and are available at http://www.zalma.com/zalmabooks.html

Mr. Zalma’s reports can be found on Tumbler at https://www.tumblr.com/search/zalma,  on Facebook at https://www.facebook.com/barry.zalma and you can follow him on Twitter at https://twitter.com/bzalma

Legal Disclaimer:

The author and publisher disclaim any liability, loss, or risk incurred as a consequence, directly or indirectly, of the use and application of any of the contents of this blog. The information provided is not a substitute for the advice of a competent insurance, legal, or other professional. The Information provided at this site should not be relied on as legal advice. Legal advice cannot be given without full consideration of all relevant information relating to an individual situation.

 

Share

About Barry Zalma

An insurance coverage and claims handling author, consultant and expert witness with more than 48 years of practical and court room experience.

This entry was posted in Zalma on Insurance. Bookmark the permalink.