Carolina Cas. Ins. Co. v. James E. Sowell, et al., No. 3:07-CV-1783-D (N. D. Tex. February 17, 2009)
I have a confession. I usually write about general liability policy decisions because the coverage issues tend to be simpler and more accessible to risk managers than, say, Directors & Officers (D&O) policy issues, as presented in this case. In troubled economic time like these, however, insurance covering liability for a company's mistakes and misadventures is perhaps now worth a little more consideration than in fat years. Besides, the facts are fairly straightforward and the issues instructive to all who purchase D&O insurance.
The insureds are three apparently affiliated entities in the oil and gas supply business in or around New Orleans and their officers and directors, including James Sowell, a principal of one of the entities (James Sowell Co, L.P.) and a shareholder/director of DGS, L.L.C., another insured entity apparently run principally by Leonard Doussan III, Leonard Doussan, Jr. and others (DGS, L.L.C. was formerly called "Doussan Gas & Supply, L.L.C.").
OK, I lied. The facts are as twisted and serpentine as the snake pit in Indiana Jones' first movie. Also, the scene is New Orleans after Katrina, so nothing about this will be simple. Let me, therefore, cut to the chase.
The risk management function for this assortment of corporate bedfellows appeared to reside with DGS. Katrina severely damaged the companies' facility, leased from a company called Doussan Properties, L.L.C., and DGS had failed to buy enough property insurance to cover the losses. Lawsuits followed in rapid order. Let me mention only two. First, Doussan Properties sued all the insured entities for failing to maintain adequate insurance as the lease required. Second, James Sowell sued the DGS and the Doussan clan in a shareholder derivative action for a variety of mismanagement sins, including failing to purchase adequate insurance.
Happily, DGS had purchased a D&O policy that seemed to cover a broad array of "wrongful acts" by the companies and management. A D&O policy is much like a buffalo. Looked at head-on, it appears massive, but by the time one reaches the tail, it has tapered down to one of the animal kingdom's smallest butts. The insuring agreement of most D&O polices appears to cover about anything an officer or director might be accused of doing, any mistake, misstatement, misrepresentation, error or omission. Down and dirty fraud and deliberate or criminal wrong doing is excluded, but otherwise, the insuring agreement appears quite broad. However, when the exclusions and limitations and conditions are rolled out, to say nothing of the endorsements that often add more exclusions, limitations, and conditions, the scope of coverage has shrunk.
The D&O insurer quickly denied the claim for liability coverage for all the actions against all the insureds, corporate and personal, for a number of reasons. I mention two. First, the policy contained a "contract" exclusion eliminating any claim:
based upon, arising out of, directly or indirectly resulting from, or in consequence of, or in any way involving any oral or written contract or agreement.
In other words, any time a lawsuit comes within 100 miles of a contractual dispute, the insurer will probably cry, "contract exclusion." In this case, it's not even close. The landlord's suit for breach of lease clearly falls within the contract exclusion.
Second, the policy excludes any claims against any insured "by, on behalf of, or in the right of the Insured Entity, or by any Directors or Officers." James Sowell was a director as well as a shareholder of DSG. Therefore, his suit against DSG and other directors clearly fell within the "insured-vs-insured" exclusion, even though the policy carved out (and so covered) shareholder derivative actions. The carveout applied only if the derivative action was instigated and continued totally independent of, and totally without the active participation of another insured. Because Sowell was an insured director and instigated and drove the derivative action, the claim was excluded.
These claims were rightly denied. D&O insurance is crafted to avoid covering internal company squabbles or situations like this, in which one affiliate makes a mistake that costs the enterprise a great deal of money, so the insureds seek to recover the loss by initiating litigation hoping the loss will be covered as an insured liability. Often, however, exclusions that hit everything "arising out of " this or that are over-inclusive. Take the litigation mess we are beginning to see from the subprime mortgage fiasco. Shareholders with arguably legitimate claims for financial institution mismanagement bring derivative or direct actions, pointing perhaps to a misrepresentation in an SEC filing. Should D&O coverage for that kind of claim be excluded because back down the line the whole thing started with a mortgage contract?
I doubt D&O insurers would even try to make that case, but the message here for risk managers is to be aware of the unintended reach "arising out of" exclusions can have.