2014 ANNUAL SEMINAR. Current Issues in the Global Insurance Market

Transcription

1 2014 ANNUAL SEMINAR Current Issues in the Global Insurance Market

2 Part One Part Two 2014 Annual Seminar The Harmonie Group and Canadian Litigation Counsel in association with DAC Beachcroft 6 November 2014 (ALL RIGHTS RESERVED) A Review of Insurance for Construction Projects... 2 Alex Maltas and Deborah Flood With Great Power Comes Great Responsibility: Professional Negligence Damages Trends in Canada...26 Jim Tomlinson Exculpatory and Limitation of Liability Agreements...35 Anthony Ellrod State by State Analysis of Enforcement of Exculpatory Agreements...40 Anthony Ellrod Cyber and Privacy Risks: Class Action Exposures...53 Howard Borlack Lessons Learned from Superstorm Sandy...61 Glenn Jacobson Mind the Gap: Magic Words and Recent Developments Regarding Excess Policy Language Requiring Exhaustion of Primary Limits...65 Brad Jones Recent Developments in Class Actions...83 Brian Voke Legal Ramifications of Ebola Virus in the United States Dwayne Hermes and John Hardage 1

3 A Review of Insurance for Construction Projects Alexandre Maltas and Deborah Flood Whitelaw Twining Law Corporation The purpose of this paper is to provide a general overview of the various types of insurance policies for construction projects, along with a discussion on the issues that can commonly arise. The paper begins with a general discussion on GCL policies and then moves into the various exclusions and the other types of policies available. The paper will also consider the impact of recent case law in this area. 1. PRINCIPLES FOR INTERPRETATION OF INSURANCE POLICIES Insurance contracts have their own general principles of interpretation, some of which are derived from the general principles of contractual interpretation. The general principles concerning the interpretation of insurance policies were restated by the Supreme Court of Canada in Progressive Homes v. Lombard General Insurance Co. of Canada, 2010 SCC 33, where there was a key shift away from the purpose of a CGL to looking at its wording. These interpretive principles can be summarized as follows: (a) The primary interpretive principle is that when the policy is unambiguous, the Court should give effect to the clear language of the policy, reading the policy as a whole. The focus of the exercise is on the language of the policy; (b) Where the language of the policy is ambiguous, the general rules of contract construction are to be employed. These include preferring constructions that are consistent with the reasonable expectations of the parties, avoiding construction that would not have been in the contemplation of the parties and ensuring that similar policies are interpreted in a consistent fashion; and (c) Where these rules of construction fail to resolve ambiguity, the principle of contra proferentem is applied against the insurer. One corollary of this rule is that coverage provisions are to be construed broadly and exclusion clauses are to be given a narrow interpretation. 2. COMMERCIAL GENERAL LIABILITY POLICY The most common insurance policy issued by insurers for the construction industry is the Commercial General Liability Policy ( CGL ). The typical CGL policy protects insureds against liability for bodily injury or property damage. CGL insurance is placed on a yearly basis and covers all of the operations of the contractors, subcontractors, owners, etc. The purpose of the CGL policy is to protect the insured from a wide range of liability exposures that may arise from accidents during or as a result of the construction process. The policy is not intended to indemnify the insured for liability for defective or shoddy work. As with most insurance policies, a typical CGL policy contains numerous exclusions that must be understood. In this paper, we will touch upon the scope of coverage provided by the policy and some of the typical significant exclusions. 2

4 I. DEFINITIONS OF PROPERTY DAMAGE AND OCCURRENCE IN A CGL The most commonly litigated terms in coverage actions are property damage and occurrence. (a) Property Damage The standard definition of property damage in a CGL Policy is as follows: Property damage means: a. Physical injury to tangible property, including all resulting loss of use of that property; or b. Loss of use of tangible property that is not physically injured. The question of whether or not a particular loss constitutes property damage within the meaning of the insuring agreement has been the subject of extensive judicial commentary. Old Position Prior to the recent decision of the Supreme Court of Canada in Progressive Homes, it was widely accepted that the incorporation of a defective product in an otherwise sound structure did not, in itself, constitute property damage (Harbour Machine Ltd. v. Guardian Insurance Company of Canada (1985), 60 B.C.L.R. 360 (B.C.C.A.) at para. 21; Privest Properties Ltd. v. Foundation Co. of Canada (1991), 57 B.C.L.R. (2d) 88 (B.C.S.C.) at 160). The rationale for this interpretation was that the cost of replacing the policyholder s own defective work or product constituted pure economic loss rather than damage to property. The theory was that CGLs were not intended to provide cover for such losses and, as such, were excluded. Consequently, it was only where the faulty component: (1) caused resultant damage to other parts of the structure; or (2) could not be removed without causing resultant damage, that the insuring agreement was engaged. If the damage was limited to the faulty component itself, then there was no property damage within the scope of the definition. Current Position The decision of the Supreme Court in Progressive Homes has changed the law with respect to property damage. In Progressive Homes, the Supreme Court expressly rejected the approach of construing policy definitions in accordance with the general principles of tort law, and observed that the focus of insurance policy interpretation should first and foremost be on the language of the policy at issue. Accordingly, the common law distinction between property damage and pure economic loss is no longer of any consequence when construing the meaning of property damage under a standard CGL policy. The policy at issue in Progressive Homes was a standard form CGL policy, which defined property damage as (1) physical injury to or destruction of tangible property or (2) loss of use of tangible property which has not been physically injured or destroyed. The interpretive question before the court was whether the alleged damage in the Statement of Claim namely, rot, infestation and deterioration to a housing complex resulting from alleged design and construction defects fell within the meaning of property damage, as defined in the CGL policy. Lombard (the insurer) relied on a line of authority which held that damage to the insured s own work product (in this case, the structure itself) was not property damage, and that only resultant damage caused to the property of others would fall within the ambit of the definition. The court disagreed with this analysis, and opted for a broad definition of property 3

5 damage that would include damage to the insured s own work product. The court concluded its analysis as follows: I would construe the definition of property damage, according to the plain language of the definition, to include damage to any tangible property. I do not agree with Lombard that the damage must be to third-party property. There is no such restriction in the definition. The plain meaning of property damage is consistent with reading the policy as a whole. Qualifying the meaning of property damage to mean third-party property would leave little or no work for the work performed exclusion Consistency with the exclusion clauses is a further indicator that the plain meaning of property damage is the definition intended by the parties. The effect of the Progressive Homes decision is that damage to a structural component or part, caused by internal defects will likely constitute property damage within the meaning of a CGL policy, and the availability of coverage in such circumstances will depend on the application of the policy exclusions. (b) Occurrence The standard of definition of Occurrence in a CGL Policy is as follows: Occurrence means an accident, including continuous or repeated exposure to substantially the same harmful conditions. The Courts treat the words occurrence and accident as synonymous. In Canada, the prevailing judicial view is that the undefined term accident is to be interpreted in its popular and ordinary meaning as denoting an unlooked for mishap or an untoward event which is not expected or designed Fenton v. J. Thorley Co. Ltd. [1903] A.C An accident refers to the results of a particular course of conduct or event. Generally speaking, if the result was unintended then it will be considered an accident. In determining whether an accident has occurred, the Court will consider the sequence of events culminating in the loss from the view of the policyholder. If the policyholder did not intend to cause the loss, then the Court will be inclined to find the loss accidental, regardless of the carelessness of the policyholder s actions. Even a loss caused by an insured s intentional act may be covered, provided the result of the intentional act was not intended. In Canadian Indemnity Co. v. Walkem Machinery & Equipment Ltd. (1975), 53 D.L.R. (3d) 1, the policyholder was found liable for losses arising from the collapse of a marine crane that had been negligently repaired. The CGL insurer denied coverage in part on the ground that the collapse of the crane was not an accident within the meaning of the policy. The Supreme Court of Canada concluded that it was necessary to include the negligence of the policyholder within the concept of an accident in order to give effect to the underwriting intent behind the standard policy. I wish to add that, in construing the word accident in this policy, one should bear in mind that negligence is by far the most frequent source of exceptional liability which a businessman has to contend with. Therefore, a policy which would not cover liability due to negligence could not properly be called comprehensive. If calculated risks and dangerous operations are excluded, what is left but some exceptional cases of liability? 4

6 The analysis adopted by the Court in Walkem accords with the general interpretive principle that courts should aim to give effect to the reasonable expectations of the parties, and be loath to support a construction which would either enable the insurer to pocket the premium without risk or the insured to achieve a recovery which could neither be sensibly sought nor anticipated at the time of the contract: Consolidated Bathurst Export Ltd. v. Mutual Boiler and Machinery Insurance Co. [1980] 1 S.C.R. 8 The Court in Progressive Homes directed that unless restrictive language is included in the policy definitions, accident should be interpreted according to its plain meaning, namely, an event neither expected nor intended by the insured. Accordingly, so long as an insured does not expect or intend for the damage to occur, the requirement of fortuity or accident will have been met. In Alie v. Bertrand, [2002] O.J. No (Ont. C.A.) the Ontario Court of Appeal considered the difficult problem of timing the occurrence of property damage in claims involving continuous and progressive structural damage resulting from design or construction deficiencies. In Alie, the defendant, Bertrand & Frére Construction Company Limited, had supplied concrete for the construction of about 140 homes in 1986, 1987 and Bertrand used a material known as type C fly ash supplied by the co-defendant, Lafarge Canada Inc. as one ingredient in its readymix concrete. The concrete used in the foundations of the homes proved defective and in 1992 it was determined that the foundations needed total replacement. The defect was traced to the use of the fly ash. Following the trial in the main proceeding, the liability insurers for Lafarge and Bertrand sought judicial determination as to who was bound to provide indemnity and in what amounts. The trial judge ultimately held that defence costs ought to be apportioned on a pro rata basis based on time on risk. This holding was ultimately affirmed by the Ontario Court of Appeal. In Alie, the trial and appellate courts identified four alternative approaches that had been used to determine the timing of property damage which is latent, or developing over time, and which does not become apparent immediately: para. 93. These approaches are: (a) (b) (c) (d) Exposure theory, which holds that coverage is triggered by the first exposure to the condition or conditions that ultimately cause the property damage. Manifestation theory, which holds that coverage is triggered when the insured or third party first becomes or could have become aware of the property damage. Injury in fact theory, which holds that coverage is triggered when the damage actually occurs, whether or not anyone was aware of it or could have been aware of it. Continuous Trigger or Triple Trigger Theory, which holds that coverage is triggered throughout the period from the initial exposure to the time when the damage becomes manifest or ought to have become manifest to the plaintiffs. The Court of Appeal observed that the proper approach to be applied will depend on the requirements of the policy language in issue together with the facts of the specific case, including the evidence of when the injury actually occurred, when it was manifest, and how many insurance policies are potentially available and liable to respond: para Consequently, there is no rule that any one particular theory will apply in all cases: para

7 The trial judge in Alie first considered the application of exposure theory, which depends on a finding that the property damage first occurred at a precise point in time, and that all subsequent deterioration following that initial exposure is merely the manifestation of the damage that has already occurred requiring repair or replacement. On the facts of the case, the trial judge found that it could not be said that the defective condition (namely, the gradual deterioration of the concrete footings owing to the incorporation of a defective additive) occurred at one point in time, and for this reason he rejected exposure theory as an appropriate mechanism for timing the occurrence of the damage. The trial judge next considered manifestation theory. He found that the cumulative evidence demonstrate[d] that the damage to these foundations [had taken] place between the years 1986 and 1992, and to conclude that all the damage had taken place prior to December 1, 1989 [as argued by one of the insurers] [was] not supported by the evidence. Like with exposure theory, the problem in applying manifestation theory to the facts was that the property damage had manifested itself at different times to the homeowners and the parties were not aware of the nature, extent and seriousness of the problem until the summer of 1992 when the entire structure required replacement. On appeal, Doherty J.A. rejected the submissions that the exposure or manifestation theories ought to be applied, and affirmed the approach taken by the lower court, where the trial judge concluded that a combined injury-in-fact and continuous trigger theory was applicable. According to the trial judge, injury-in-fact and continuous trigger were the most appropriate mechanisms for determining the timing of the damage given that: These theories were the most consistent with the language of the policies and the intentions of the parties; The result was the most equitable to the insured and the insurers; and They were the theories intended by the insurance industry drafting the wording of the policies, and in particular the definition of occurrence and accident which contemplated coverage for long tail claims. The decision in Alie holds that where the timing of the damage cannot be pinpointed, such that it is not possible on the evidence to determine how much of the damage occurred during any particular policy period, the application of the continuous trigger theory is appropriate to allow the trial judge to apportion the damages on a pro rata basis through the affected policy periods. In Alie, the result was that the trial judge divided the defence costs into seven equal segments, each segment representing one of the seven policy periods from initial construction to the final manifestation of the full extent of the problem in II. ALLOCATION OF DEFENCE COSTS BETWEEN INSURER AND INSURED A claim can be brought against an insured that raises multiple allegations which can result in there being both covered claims and uncovered claims, and this can give rise to the question of whether the insurer can allocate defence costs between the covered and uncovered claims and thus require the insured to pay for a portion of its defence. Further, a claim can be brought against an insured alleging damage that is ongoing over time, and in these so-called long tail claims, the question becomes whether the insurer is only obligated to pay for defence costs during the period of time it was on risk thereby allowing the insurer to allocate some of the defence costs to the insured. 6

8 Questions of if, when, and how defence costs can be allocated between an insurer and an insured have long been the subject of insurance jurisprudence, but recent cases in both Ontario and British Columbia have brought a new focus to these issues. These new cases, and the ones that came before it are built upon the fundamental insurance law principles of duty to defend and construction of insurance contracts. (a) Allocation between covered and non-covered claim In cases of a liability claim against an insured where there are both covered and non-covered claims, the scope of the insurer s duty to defend will vary from province to province. In Ontario, based on the Ontario Court of Appeal decision in Hanis v. University of Western Ontario, 2008 ONCA 678, 67 C.C.L.I. (4th) 196 at paras , an argument can be made that a liability insurer is only obligated to defend the covered claims. The upshot of this case is threefold: First, an insurer is not obligated to pay the costs of defending claims that are clearly not covered; Second, an insurer is obligated to pay the costs of defending claims that are covered; Third, where there is overlap and the same costs relate to defending both covered and non-covered claims, then the insurer must pay those costs. In B.C., the courts have been clear that where there are both covered and uncovered claims, any issue of allocation should be left until after the trial or resolution of the underlying claim. The case of Intact Insurance Co. v. Keith Hart Holdings Ltd., 2010 BCSC 209, suggests that where there are both covered and non-covered claims, the liability insurer must defend all the claims. In that case, the argument that the insurer should only defend the covered claims, and that the insured should retain its own counsel to defend the uncovered claims, was rejected. The Court further held that after the action concluded, the insurer and the insured could then seek an assessment as to what defence costs should properly have been paid by the insurer and by the insured. The Intact case did not address how re-allocation is to be achieved if the insurer were to seek reallocation after the conclusion of the action, however, earlier B.C. cases have addressed this issue. For instance, in St. Andrews Service Co. v. McCubbin (1987), 22 B.C.L.R. (2d) (B.C.S.C.), the principle emerged that at the post-trial stage when dealing with allocation defence costs, unless there is a means of readily distinguishing what costs are attributable to uncovered claims, the defence costs should be paid by the insurer. In many respects, this is the same as the rule from the Ontario Hanis case that an insurer mush pay defence costs for covered claims and for mixed claims, and it is only the truly uncovered claims for which the insurer does not have to pay defence costs. (b) Allocation in long-tail claims based on time-on-risk A different scenario is in place for allocation of defence costs arises in long-tail claims. These are claims in which the loss is considered to have occurred over a period of time, rather than at a specific instance, thereby potentially triggering multiple policy periods. Examples can include environmental claims, defective product claims and construction related claims, a notable example of which are British Columbia s leaky condo claims. Where an insured has multiple insurers over the course of the loss period, it is often common practice for the insurers to share defence costs on a time-on-risk basis. This approach can work well where an insured has had continuous liability insurance coverage for the entire loss period. However, it is sometimes the case that an insured will have periods of time in which it had no 1 Leave to appeal to the Supreme Court of Canada refused, [2008] S.C.C.A. No

9 insurance coverage at all. The question then becomes whether the insurer or the insured is obligated to pay for the defence costs attributable to the uninsured period of time. A case that addressed these issues in B.C. was the B.C. Supreme Court case of Lombard v. General Insurance Company of Canada v B.C. Ltd. [2012] B.C.J. No This case arose out of underlying leaky condo litigation. The underlying proceeding was brought by the strata corporation on behalf of the owners of Strata Plan LMS 2599 against the developer of the strata complex. The pleadings alleged defective and deficient design and construction of the complex and resultant property damage. The strata complex was built in three phases. Phases 1 and 2 were completed in approximately November 1996 and Phase 3 was completed in approximately September Lombard issued three wrap-up CGL policies to the developer in relation to each phase of the development. The policies lapsed on November 26, 1996, February 28, 1997 and September 30, Each policy contained an endorsement which extended coverage for completed operations hazards for a further two years. The developer was uninsured thereafter, for a period of approximately ten years. While Lombard conceded that the leaky condo pleadings triggered its duty to defend the developer, it argued that where continuous or progressive damage is alleged, its responsibility to contribute to defence costs does not extend to claims in respect of property damage which is alleged to have occurred outside the period of coverage. The damage to the strata complex was alleged to have commenced from the moment the buildings were completed and continued until the time the pleading was filed. Lombard argued that to the extent that the damage was alleged to have occurred after the policies expired, it could not owe a duty to defend as there was no possibility that such claims could ever fall within coverage and, as a result, the defence costs should be shared pro-rata. While the developer recognized it is possible to apportion defence costs for covered and uncovered claims, it argued it was premature to do so before trial. The court reviewed case law from across Canada and the United States and concluded that there is no settled principle in the Canadian decisions regarding continuous damage claims that favours apportionment of defence costs based on time-on-risk. Defence costs can be apportioned and time-on-risk might assist the court in making an allocation but only if there is other evidence to support the conclusion that a time-on-risk approach is appropriate. In this regard, the court wrote: 52. In my view, time on risk is not a reasonable or practical means of apportioning defence costs in the absence of evidence from which it can be established or inferred that the costs of defence for periods of time when an insured did not have coverage will approximate that apportionment. The court rejected Lombard s argument that the equitable concept of fairness required the apportionment of defence costs in cases of continuous or progressive damage, and instead preferred a contractual interpretation approach. The court in Lombard then considered the question of whether allocation of defence costs could be made prior to the trial of the underlying action. It noted there is an almost insurmountable difficulty with apportioning defence costs at the pre-trial stage and held that allocation should not be made prior to the trial of the underlying action based solely on an assessment of the claims in the pleadings. Rather, the assessment should be made after the conclusion of the 8

10 underlying action and necessarily involves consideration of the circumstances at the time of bringing the application for allocation. In the result, the court in Lombard concluded that there was no reasonable or practical means of apportioning defence costs at this relatively early stage of the proceeding. The court concluded that a substantial amount of the defence costs would be costs associated with the defence of both the covered and uncovered claims. The court ordered that the developer was obligated to pay the costs of defence solely relating to damage claims falling outside of the coverage period. However, there was no reasonable basis upon which to pro-rate the defence costs between the developer and Lombard. As such, Lombard was obliged to pay the costs of the defence as they were incurred and the issue of allocation could be revisited by either party as the matter progressed. In the case of mixed claims, meaning those in which the costs to defend covered and uncovered claims are intertwined and cannot be separated, the issue of who must pay is determined by the policy language and not some notion of fairness or equity. Accordingly, as seen in the Ontario Court of Appeal decision in Hanis, in the absence of policy language which permits the insurer to allocate defence costs, the insurer is obligated to pay all of the costs associated with defending mixed claims. III. COMMON EXCLUSIONS Once the policyholder has established that the loss falls within the terms of the coverage grant, the onus shifts to the insurer to prove that coverage is excluded by operation of an exclusion clause. The task of proving the application of an exclusion clause is often more difficult, given the Court s tendency to interpret covering provisions broadly and exclusion clauses narrowly, in favour of coverage. Two of the most common exclusions are the own product and own work exclusions. The typical wording of these exclusions is as follows: This insurance does not apply to: i. Property damage to your product arising out of it or any part of it. ii. Property damage to your work arising out of it and included in the products-completed operations hazard. The recent British Columbia case of Bulldog Bag Ltd. V. AXA Pacific Insurance Company, 2011 BCCA 178, addressed the own product/loss of use exclusion and in doing so restricted its potential application. (a) Your Product Exclusion In Bulldog, the plaintiff was a plastic and paper packaging manufacturer who manufactured over 1 million printed plastic bags for a customer to use. After using a third of the bags, the customer observed that the printing was coming over. Bulldog credited the customer for the unused defective bags and supplied replacements. The customer transferred the contents of the already filled defective bags to the new bags, and sought the cost of this from Bulldog. Axa Pacific Insurance, Bulldog s CGL insurer, refused to cover the claim. The trial judge ruled that the AXA CGL policy covered only the value of the lost contents, which amounted to $12,000, Bulldog appealed. Between the Bulldog trial and the appeal, the Supreme Court of Canada issued its decision in 9

11 Progressive Homes. As a result, Axa accepted that Bulldog s faulty workmanship was an occurrence that resulted in property damage under the CGL. However, Axa argued that that the policy s work and product exclusion removed coverage for the cost of transferring the goods from the defective bags into the new bags. Axa argued that the exclusions should be read as this insurance does not apply to claims for physical injury (including loss of use) to Bulldog s bags. The BCCA disagreed, stating that cases such as Carwald Concrete and Gravel Co. v. General Security (1985) 24 D.L.R. (4 th ) 58 (Alta. C.A.) and Gulf Plastics Ltd. v. Cornhill Insurance (1990) 47 B.C.L.R. (2d) 379 (B.C.S.C.) established that exclusions did not apply to loss incurred by the insured s customer as a result of defects in the insured s own product. The BCCA went on to find that the exclusion clause did not exclude the claim because it was not for loss of use of Bulldog s product but was instead for the cost of salvaging and transferring the soil and manure. According to the BCCA, the distinction was that the claim was for salvage and transfer costs that flowed from the loss of use of the bags rather than a claim for the loss of use itself. The B.C. Court of appeal resoundingly recognized that the Supreme Court s decision in Progressive Homes had fundamentally changed the law relating to the coverage in a CGL policy. In the very first paragraph of the Court of Appeal s decision, it said: In its recent decision in Progressive Homes the Supreme Court of Canada reversed a line of insurance cases that had taken a narrow view of the scope of coverage under commercial and general liability ( CGL ) policies commonly used in Canada and the U.S..the Court determined that property damage in such policies is not limited to damage to third-party property and can include damage from part of a building to another part, previously regarded as irrecoverable pure economic loss (para. 36); that the term accident may, depending on the facts of each case, include the consequences of defective workmanship (paras. 39, 46); and that, again depending on context, the own product/work exclusion is to be construed narrowly or contra proferentem, such that it may be limited to damage caused by the insured to its own work and not extend to resulting damage. (emphasis added) (b) The Work Exclusion Exclusions with respect to work performed are common in CGL policies. They are also expressed in different ways in different policies, and in the Progressive Homes case, there were two different forms of work performed exclusions. In Progessive Homes, the first version of the policy included the original work performed exclusion which was modified by what was called a General Liability Broad Form Extension Endorsement. The original policy excluded property damage to work performed by or on behalf of the Named Insured arising out of the work or any portion thereof, or out of materials, parts or equipment furnished in connection therewith. That clause was replaced by clause (Z) in the Broad Form Extension Endorsement, which excluded property damage to work performed by the Named Insured arising out of the work or any portion thereof, or out of materials, parts or equipment furnished in connection therewith. Justice Rothstein found that the clause (Z) exclusion did not apply to property damage caused by a subcontractor, or to the subcontractors work, whether caused by the subcontractor, another subcontractor or the insured contractor. He reasoned as follows: The clause (Z) exclusion is limited to work performed by the insured. Unlike the clause that it replaced, it does not apply to work performed on behalf of the 10

12 insured. The plain language is unambiguous and only excludes damage caused by Progressive to its own completed work. Justice Rothstein said that he would have arrived at the same result by the application of the contra proferentem principle, especially since the insured would have expected different coverage from different wording. 3. WRAP-UP LIABILUTY INSURANCE Most construction major construction projects in Canada are insured by a Wrap-Up liability policy. The Course of Construction policy (discussed below) covers damage to the project during construction operations. The Wrap-Up policy is liability insurance for the owner, contractor, architects and engineers (excluding professional liability) and all subcontractors who have participated on the project. It will pay on behalf of the insured all sums which the insured shall become legally obligated to pay for bodily injury and property damage to third parties. Generally speaking, wrap-up liability policies exclude coverage for damage to the project during construction. They also provide coverage for Completed Operations for a number of years after the work is completed. While the coverage provided is similar to that provided under a CGL, it is not always identical. For example, wrap-ups traditionally do not include the Broad Form property coverage found in the standard CGL policy. Importantly, most wrap-up policies exclude damage to the project while construction is ongoing. This exclusion does not apply after the construction operations are completed. A. Completed Operations Hazard As set out above, Wrap-Up liability policies typically exclude damage to the project during construction. However, there is an exception to this exclusion for damages to the project during the Completed Operations period. Typical policy wording defines the completed operations hazard as follows: Completed Operations Hazard means liability arising out of the Insured s Work in connection with the Insured Project because of Bodily Injury or Property Damage, but only if such Bodily Injury or Property Damage results from an Occurrence after the Insured s Work has been completed or abandoned. The Insured s Work shall be deemed completed at the earliest of the following times: a) When all of the Insured s Work to be performed under the Insured s Contract is completed b) When all of the Insured s Work to be performed for the Insured Project is completed c) When that portion of the Insured s Work out of which the Bodily Injury or Property Damage arises has been put to its intended use by other than another Contractor or Subcontractor engaged in performing operations for the Named Insured as part of the same Insured Project d) When the Insured s Work has been accepted by or on behalf of the owner B. Cross Liability and Severability of Interests Given that there are many insured entities covered under a Wrap-Up policy, the cross liability clause is important and typically reads as follows: Coverage provided by this policy applies individually to the interest of each Insured covered by this policy and coverage shall apply in the same manner and to the same extent as though a separate policy had been issued to each Insured. 11

13 Any breach of a condition of this policy by any Insured shall not affect the coverage provided to any other Insured not party to such breach of condition. Nonetheless, this clause shall be deemed to increase neither the Limit of Insurance stated in the Declarations, nor the amount of the loss. The inclusion herein of more than one Insured shall not operate to increase the Limit of Liability under this policy. The Severability of Interests clause ensures that each insured has the same rights and protection as if separate policies had been issued to each insured. C. Exclusion for Property Damage to Property Owned by the Insured Wrap-Up liability policies exclude damage to property owned by the insured. A typical exclusion is generally worded as follows: This policy does not apply to any liability for injury to, or destruction of, or loss of use of property owned or occupied by or rented to the Insured, property held by or on behalf of the Insured for sale or property entrusted to the Insured for storage or safekeeping. However, once the property is transferred (i.e. turned over to the end user), this clause does not exclude coverage for former owners of the property. D. Wrap Up vs. CGL Coverage In some circumstances, instead of obtaining a wrap-up liability policy, certain parties (often the owner, its consultants) are added to the contractor s standard CGL policy. Most CGL policies differentiate between adding a party as an additional named insured and an additional insured. Where a party is added as an additional named insured, the party typically has coverage for its own negligence. However, were a party is only added as an additional insured, coverage may be limited to liability arising from the named insureds operations, meaning that the additional insured may not have any coverage for its own independent negligence. Where wrap-up coverage is in effect, coverage under a CGL may be excess to the Wrap-up or excluded altogether. It is important to review the other insurance clauses of both policies to determine the effect of overlapping coverage. Typically, wrap-up policies are placed for the period of time when construction of the project is ongoing and during the completed operations period. Disputes often arise between wrap-up insurers and liability insurers as to who is responsible for long tail claims for progressive damage. Standard CGL insurers claim that there was an accident or occurrence during the wrap-up policy period and it should respond to the claim. Wrap-up insurers say that their liability is limited to the few years that the policy was in effect and that the bulk of the obligation to respond lies with the CGL insurers who are on the risk while the progressive damage occurred. Allocation between insurers is discussed above. 4. BUILDER S RISK PROPERTY INSURANCE Property insurance on construction projects is usually referred to as Builder s Risk Insurance, sometimes known as Course of Construction Insurance and less frequently as All Risks Insurance. A builder s risk policy is the main vehicle for providing first party property coverage for structures under construction. 12

14 For coverage to apply under a builder s risk policy, there must be physical loss of or damage to property. Builder s risk policies typically contain exclusions for any type of consequential or indirect loss. This would include losses due to delays in construction caused by the structure being damaged by an insured. Owners can incur significant damages if the project is delayed. These time element or soft cost damages can be covered under loss of use insurance, which can be purchased by way of an endorsement to the builder s risk policy. A. Who is an Insured under a Builder's Risk Policy? Over the past few decades, Canadian courts have expanded the scope of coverage under builder s risk insurance policies. The law has developed to the point that today, if an owner or general contractor of a construction project purchases a builder s risk policy, that policy will in most instances include as unnamed insureds all contractors and sub-contractors who supply materials or labour to the project. As a consequence, the builder s risk insurer typically cannot bring a subrogated claim against any of the contractors or sub-contractors involved in the project. In other words, an insurer who pays out on a policy cannot then recover its losses from a party who should have been covered in the first instance. The starting point for this development is the Supreme Court of Canada case Commonwealth Construction Company v. Imperial Oil Limited (1976), 69 D.L.R. (3d) 558 (S.C.C.) which held that all contractors and subcontractors have an insurable interest in a construction project, and as a result, they may be considered unnamed insureds in a builder s risk policy. The Supreme Court of Canada held that, in a project such as this, the interests of the principal contractor and the subcontractors were so inseparably interconnected that they were all considered as one (or at least joint insureds) for the purposes of insurance. Consequently, an action between two of the joint insureds would be tantamount to a party suing itself and this would not support a right of subrogation. The next significant case on the issue of who is an insured is C.P. Limited v. Base-Fort Security Services (B.C.) Ltd. (1991), 52 B.C.L.R. (2d) 393 (C.A.). C.P. Limited, a company hired to provide security services to a construction site, sought to be included as an unnamed insured in a builder s risk policy. The Court held that the security company was not an unnamed insured because its services were not an integral part of the project. As reasoned by the British Columbia Court of Appeal, although Commonwealth Construction dealt with insurable interests, the principles regarding the issue of whether a sub-contractor is an insured within the policy are the same as those on the issue of insurable interest. The Court of Appeal looked to what the contracting parties must have had in mind at the time the insurance was obtained, based on the words in the construction contract, and reasoned that the insureds are those persons without whose contribution to the project in its entirety, the project itself could not be completed. To be deemed an insured, that party s contributions must therefore be an integral and necessary part of the construction process. The British Columbia Court of Appeal reaffirmed this evolving test in the case of Sylvan Industries Ltd. v. Fairview Sheet Metal Works Ltd. (1994), 89 B.C.L.R. (2d) 18 (C.A.) by ruling that subcontractors are, by necessary implication, unnamed insureds in a builder s risk policy issued to an owner as the only named insured. Even though the sub-contractor in this case had a contractual responsibility to obtain builder s risk insurance, and failed to do so, it was still found to be an insured under the owner s builder s risk policy (which did not specifically include subcontractors). The case Janeland Development Inc. v. Michelin Masonry Inc., [1996] I.L.R (Ont. Gen. Div.) appears to have further extended the scope of unnamed insureds under a builder s risk policy. This case involved the collapse of a wall during the construction of a commercial building. The 13

15 general contractor obtained a builder s risk policy and after the loss, its insurer brought a subrogated action against the masonry sub-contractor. The policy did not expressly extend to sub-contractors. The Court did not focus on whether the sub-contractor owned any of the property or not. Rather, the Court simply concluded that the sub-contractor was an unnamed insured under the builder s risk policy. In closing, the Court wrote (Janeland Development, at 3925): This determination is in keeping with the court s desire to reduce litigation which flows from losses of this type. It also recognizes the reality of complex industrial life and provides comfort and security to owners, builders and sub-contractors involved in commercial projects. A further case which affirmed the foregoing line of cases is Madison Developments Ltd. v. Plan Electric Co. (1997), 152 D.L.R. (4th) 653 (Ont. C.A.). In that case, the general contractor took out a builder s risk policy, as he was required to do under the terms of the construction contract with the owner. The builder s risk policy did not expressly extend to sub-contractors. The contract which the general contactor had with its sub-contractor required the latter to obtain its own insurance to cover its own materials. Notwithstanding this term in the sub-contract, the Court still held that both the sub-contractor and its employees were unnamed insureds in the builder s risk policy. In Alberta Ltd. v. Thibeault Masonry Ltd., [2001] A.J. No (QL) (Alta. Q.B.), the Court held that a masonry sub-contractor was an unnamed insured in a builder s risk policy by necessary implication even though the policy did not specifically list contractors or subcontractors as unnamed insureds. The significance of this decision is that it asserts a general proposition that all sub-contractors on all construction projects have the benefit of a builder s risk policy taken out by the owner or general contractor. A glimpse of what the future may hold in terms of further expansion of the principle of waiver of subrogation in construction cases was provided in Saskatchewan Institute of Applied Science and Technology v. Hagblom Construction (1984) Ltd. (2003), [2005] 1 W.W.R. 390 (Sask. Q.B.). In that case, the Court recognized a defendant s right to plead that custom and industry practice preclude subrogation, even in the absence of a builder s risk policy. That case dealt with an application by the defendants to amend their statement of defence to plead that there was a custom in the construction industry for the owner to carry insurance for the benefit of all parties involved in a project and that this custom included an agreement of waiver of subrogation. Finally, a case that takes the waiver of subrogation principle outside the realm of subrogated claims by insurers is Active Fire Protection 2000 Ltd. v. B.W.K. Construction Co., [2005] O.J. No (QL) (Ont. C.A.). In that case, the Court held that a contractor s contractual obligation to obtain insurance, even though it did not carry through with purchasing insurance coverage, precluded the contractor from bringing a claim against a sub-contractor in relation to a loss that occurred during construction. B Consultants Trizec Equities Ltd. v. Ellis-Don Management Services Ltd., [1988] Carswell Alta. 143 (Alta. Q.B.) addressed the issue of whether a consultant was afforded coverage under a builder s risk policy. In this case, the consultant sought coverage as an unnamed insured under an all risks/course of construction policy. The Court held that the consultant was not entitled to coverage under the course of construction policy, as this policy was a property based policy. Insurance for professionals, such as engineers, is based on liability arising out of an error, omission or negligent act in design or advice. The Court reasoned that there are different underwriting considerations 14

16 respecting property based coverage and errors and omissions based coverage and, as such, that the course of construction policy afforded no coverage to the consultant. It is important to note, however, that the terms of the construction contract may extend coverage under a builder s risk policy to consultants. As such, the policy, as well as the construction contract, must be reviewed in order to determine whether coverage is afforded to consultants. C. Expansion of what is insured In Medicine Hat College v. Starks Plumbing and Heating Ltd., [2008] A.W.L.D. 552 the Alberta Court of Appeal addressed what is covered for a project involving an addition to an existing structure. Medicine Hat College decided to expand its existing facilities by undergoing a series of renovations. A builder s risk policy was obtained which provided coverage for property loss up to $9.5 million, which reflected the cost of construction for the addition and renovation project. During the course of construction, a main source gas line and gas regulator was relocated to permit the construction of a new entrance. An explosion then occurred in the mechanical room, caused by the improper reconnection of the new gas line. The problem was that the mechanical room that was destroyed was part of the original structure and did not form part of the renovation project. It was argued that since the mechanical room was not part of the construction project (there were no changes made to the mechanical room), it was not covered under the policy. It was further argued that the limit of $9.5 million in coverage reflected only the cost of new construction and therefore the parties must have contemplated only new construction was covered. The Court held, however, that the original structure was covered. The Court of Appeal relied on the general principle that a builder s risk policy is insurance from which owners, contractors and subcontractors can derive comfort and security when participating in these types of projects. All parties involved in the construction of the project therefore had an insurable interest not only in the addition being undertaken to the existing structure but the existing structure itself. If the damage was caused to an entirely separate existing structure, the result would likely differ. D. Termination of the Policy Typically, builder s risk insurance remains in place during construction. While this period of time is often readily ascertainable, this issue can become more difficult where the construction contract provides for things such as warranty periods, performance guarantees and further contemplated work. The potential difficulties with determining whether coverage under a builder s risk policy has terminated are illustrated in Sherritt Gordon Ltd. v. Dresser Canada Inc., (1996) 41 Alta. L.R. (3d) 135 (Alta C.A.). At issue in this case was whether the policy barred subrogation. Sherritt involved the expansion of an ammonia plant. The defendant installed a compressor in the fall of The plant expansion became operational in May After an incident on October 5, 1983, the compressor began to operate in an unusual manner. The plant was shut down on October 14, 1983, with operations resuming on October 22, On March 27, 1984, a part failed in the compressor, causing property damage and business interruption loss. At the time of the loss, the defendant had a number of ongoing performance guarantees and warranties under the original construction contract that were not yet fulfilled (in other words, the original construction contract was not yet complete). 15

17 The trial judge held that the defendant was not a named insured for the purposes of the action on the basis that construction was virtually complete. The Alberta Court of Appeal overturned the trial judge's decision on this issue. In the Court of Appeal's view, the facts showed the construction was still ongoing at the time of loss. The Court of Appeal reasoned that due to the fact that the defendant had continuing contractual obligations to remedy deficiencies, construction was not complete at the time of the breakdown. The Court of Appeal also stated the following: So long as some construction was still ongoing, everyone had every motive to keep the insurance alive for the benefit of all contractors and trades, even those who had finished. If one workman caused a fire or explosion, it would likely damage the work and materials furnished by all the other contractors and trades. A completed machine is as liable to be damaged by fire or explosion as an unfinished one. No company would want its entire insurance coverage to depend upon the mysteries of when title passed and risk ended under a construction contract (or a contract for sale of goods). The Alberta Court of Appeal further refined the above approach in Daishowa-Marubeni International Ltd. v. Toshiba International Corp., 2003 ABCA 257. In this case, the wording used in the policy was more restrictive in respect of coverage in that it only extended coverage during certain specified construction activities. Further, this decision suggests that in order to determine whether coverage is in effect at any given time, one must look at the policy, the construction contract and the current state of the construction. In Yukon Energy Corporation v. Narrow Gauge Contracting Limited, 2010 YKSC 38, the Court concluded that the definition of course of construction in that particular policy, read in conjunction with the warranty period language provided in the Instructions to Tenderers, extended coverage for at least one year after substantial completion. E. Faulty Work/Design Exclusion This exclusion has been broadly interrupted by the courts in Canada and specific issues have arisen as a result of recent case law, including Ledcor Construction Limited v. Northbridge Indemnity Insurance Company et al., 2013 ABQB 585, [2013] and Acciona Infrastructure Canada Inc. v. Allianze Global Risks US Insurance Company, 2014 BCSC Design and workmanship can include virtually any activity in connection with the project involving care and skill. Below is a list of examples as to the matters that would constitute design or workmanship for the purposes of the exclusion. (i) Interpretation of Design and Workmanship by the courts Design has been held include such matters as: (1) consideration of stability of underlying soils (BC Rail v. American Home Assurance Company, (1991) 79 DLR (4 th ) 729; (2) consideration of loads potentially to be imposed on parts of the structure by other parts of the structure or related structures (Poole Construction Ltd. v. Guardian Assurance Co., [1977] A.J. No. 784, [1977] I.L.R (S.C.) and Simcoe & Erie General Insurance Company v. Royal Insurance Company of Canada, [1982] 3 W.W.R. 628 (Alta. Q.B.)); and (3) consideration of loads potentially to be imposed by external forces, such as wind and ice loads (Simcoe & Erie General Insurance Company v. Willowbrook Homes (1964) Ltd., [1980] 16

18 I.L.R. 876; Collavino Inc. v. Employers Mutual Liability Insurance Co of Wisconsin (1984), 5 C.C.L.I. 94 (Ont. H.C.J.)). Workmanship has been held to include such matters as: (1) procedures used in erection of trusses as part of construction of a building (Bird Construction Co. Ltd. v. United States Fire Insurance Co. (1985), 18 C.C.L.I. 92 (Sask. C.A.)); (2) temporary and permanent bracing in connection with construction of a house(greene v. Canadian General Insurance Co. (1991), 5 C.C.L.I. (2d) 193 (Nfld. S.C.), upheld on appeal [1995] N.J. No. 251 (C.A.), 23 C.L.R. (2d) 203); (3) steps taken (or not taken) to protect equipment during construction (Sayers & Associates Ltd. v. Insurance Corp. of Ireland Ltd. (1981), 126 D.L.R. (3d) 681 (Ont. C.A.)); (4) procedures used in testing portions of a building or other structure for purposes of contract acceptance (Pentagon Construction (1969) Co. Ltd. v. United States Fidelity and Guaranty Company, [1977] 4 W.W.R. 351 (B.C.C.A.); Ploutos Enterprises Ltd. v. Stuart Olson Constructors Inc., 2008 BCSC 271, 60 C.C.L.I. (4th) 59); (5) procedures used in cleaning portions of a building or other structure for purposes of contract acceptance (Ontario Hydro v. Royal Insurance, [1981] O.J. No. 215 (H.C.J.) and Ledcor, supra). With respect to the wording of the exclusions, there are several variations in use. The most common wording used in use in Canada refers to cost of making good, faulty design or workmanship, followed by a resulting damage exception. The cost of making good wording has been considered many times by Canadian courts. Some wordings, instead of cost of making good, refer to damage caused by or attributable to faulty design or workmanship. In some cases, the exclusion refers to none of the above, and refers only to the excluded perils themselves. For example, in British Columbia v. Royal Insurance Co. of Canada (1991), 4 C.C.L.I. (2d) 206 (B.C.C.A.), the wording provided: This policy does not insure: (i) faulty or improper material; (ii) faulty or improper workmanship; (iii) faulty or improper design; provided, however, to the extent otherwise insured and not otherwise excluded under this policy, resultant damage to the property shall be insured. In some case, courts have found other exclusions to have the same effect as an exclusion for faulty design. In Triple Five Corp. v. Simcoe & Erie Group (1994), 29 C.C.L.I. (2d) (Alta. Q.B.) upheld on appeal (1997), 42 C.C.L.I. (2d) 132, the exclusion did not mention design but the Court found that the mechanical breakdown, latent defect, and inherent vice wording operated to exclude the cost of making good the faulty design. The Canadian National Railway case adds a further gloss to the analysis of faulty design. The trial judge found that despite the machine s failure (the case involved a tunnel boring machine), the innovative design accommodated within the limits of the state of engineering knowledge at the time all foreseeable risks encountered in the digging of the tunnel. The trial judge acknowledged that the design proved to be defective, but found that it was not improper or 17

19 faulty according to the state of the art at the time the design was finalized. The trial judge concluded that the design not only addressed all reasonably foreseeable risks but all foreseeable risks however unlikely or remote. The Ontario Court of Appeal in a 2-1 decision reversed the trial judge, holding that in the circumstances there was a failure attributable to design, and accordingly the exclusion applied. The Supreme Court of Canada divided 4-3 in reversing the Ontario Court of Appeal stating the following: The insurers take the view that a design that fails in circumstances of foreseeable risk would per se trigger the exemption In my view, the words faulty or improper require the insurers to go beyond simply showing a failure in circumstances of foreseeable risk. The words faulty or improper, and in particular the word improper, require the insurers to establish that the design fell below a realistic standard. Such a standard can require no more than that the design comply with the state of the art. A standard of perfection in relation to all foreseeable risks, in my view, was not required by the words used by the parties. It was for the insurers to demonstrate that the exclusion applies. While the majority endorses a context-specific approach to the test for faulty design, it is evident from the reasons that the exclusion will apply in the vast majority of claims involving a flawed design. Binnie J. s comments at para. 55 of the decision make this clear: The insurers are entitled to the benefit of the exemption unless the design [meets] the very highest standards of the day and failure occurred simply because engineering knowledge was inadequate to the task at hand. In the recent case of Ledcor, the court held that the cost of making good faulty workmanship is restricted to the cost of properly carrying out the work in question and does not include the cost of repair to the property damaged by the faulty workmanship. Ledcor, concerned a builder s risk policy issued to owners in connection with construction of an office tower in Edmonton. Subcontractors, in carrying out a final construction clearing of project exterior glass, did not use proper techniques. As a result, some of the exterior glass was scratched. The insured made a claim under the policy for the costs potentially to be incurred in remedying the exterior glass. Insurers denied cover on the basis of the faulty workmanship exclusions. This matter was heard by Clarkson, J., on the basis of an agreed statement of facts. Clarkson J. held that the poor cleaning constituted faulty workmanship, and went on to consider whether the cost of making good that faulty workmanship included cost of repair or remediation of the windows (the insurer s agreement) or was restricted to cost of carrying out the cleaning properly (as argued by the insured). Clarkson, J. said: In my view, either of the proffered interpretations presented by the parties in this case appears on its face to be reasonable. The policy does not clearly suggest one 18

20 alternative in preference to the other. Returning to the Supreme Court of Canada s guidance in Progressive Homes, it appears, therefore, that the language of the exclusion is ambiguous. In the context of what is an all risk or builders policy stipulating coverage for virtually any event which might occur by way of negligence, third party action or act of God, one could conclude that an exclusion as suggested by the defendants is inconsistent All of that suggests broad coverage inconsistent with what the defendants say is the effect of the exclusion. On that basis the Court held that the cost of making good the faulty workmanship was restricted to the cost of properly carrying out the construction clear of the exterior glass, and did not apply to the cost to repair the scratching. (ii) The DE and LEG Wordings Both the DE and LEG wordings involve a graduated series of exclusions of decreasing breadth. Thus, the wording can be tailored, depending on the scope of the exclusion desired (and the premium the insured wishes to pay). These wordings have been in use for many years in Canada, and are becoming increasingly common. While there are many potential variations on the wording of the exclusion, all have some features in common: (1) a description of the matters to which the exclusion applies (design, workmanship, materials, plans, specifications, etc.); (2) reference to scope by the scope of the exclusion ( cost of making good, loss of damage caused by ); (3) a description of the standard which applies ( faulty, faulty or defective, or error in ) and (4) some form of resulting damage exception. Until recently, none of these wordings had been given any judicial consideration in Canada. Now, one of these wordings, the LEG2/96, has been considered in Acciona. Acciona involved a project to construct a new hospital wing. Construction utilized cast-in-place reinforced concrete slabs. Over time, the concrete slabs, began to exhibit excessive cracking and over deflection. The deflection and cracking did not raise a structural or safety issue but the concrete slabs did not meet the standards set out in the governing contracts. As a result, substantial remedial works had to be undertaken. The policy at issue contained a design and workmanship exclusion closely based on LEG2/96 wording. Underwriters denied the claim on the basis of the exclusion. The insured argued that there was no defective design or workmanship within the meaning of the exclusion. Expert evidence was provided at trial by both sides concerning the specific cause of the cracking and over deflection. The evidence accepted by Skolrood J. was to the effect that the construction involved slabs that were thinner than would generally be the case. That would be acceptable, so long as certain specific procedures were followed in connection with the formwork and reshoring of the concrete during construction. Those procedures were not followed and the Court held that this was inadequate. In those circumstance, Skolrood J. had little difficulty in concluding that there were defects in workmanship within the meaning of the exclusion. Skolrood J. in considering the scope of the exclusion, said this at para 221: Read in its entirety, I find that the intent of the clause 5(b) is to exclude those costs rendered necessary by one of the named defects, but is limited to costs which would have been incurred if replacement or rectification of the Insured 19

21 Property had been put in hand immediately prior to the said damage. In other words, the excluded costs are only those costs that would have remedied or rectified the defect immediately before any consequential or resulting damage occurred In Acconia, the Court held that the intent of LEG2/96 is to exclude those costs rendered necessary by one of the named defects, but is limited to costs which would have been incurred if replacement or rectification of the Insured Property [in this case the slabs] had been put in hand immediately prior to the said damage. In other words, the cost excluded is the cost that would have been incurred to replace the formwork/shoring had it been established that it was defective prior to causing the damage. LEG2/96 does not extend to exclude the cost of rectifying or replacing the damaged insured property itself. The excluded costs crystallize immediately prior to the damage occurring and are thus limited to those costs that would have prevented the damage from happening. The plaintiffs were entitled to recover costs relating to slab repair, indirect costs and profit margin. This case has been appealed by the insurers. (iii) The Resulting Damage Exception There are variations in the language used to describe the scope of resultant damage, within the exception to the exclusion. One such variation was considered by the BC Supreme Court in Supreme Steel Ltd. v. Aon Reed Stenhouse Inc. (13 June 2008), Vancouver Action S (BCSC), in which ht exception provided: It is specifically understood and agreed that all loss or damage arising as a consequence of faulty workmanship, faulty materials or negligent design is insured, except that the original cost of the component(s) that is/are actually proven to be either faulty and/or of negligent design shall be excluded. [emphasis added] Canadian courts have given extensive consideration to the resultant damage issue. There is obvious interplay between the cost of making good and resulting damage. Any costs that are included in the cost of making good by definition cannot qualify as resulting damage. Further, economic or financial loss without accompanying physical damage does not constitute resultant damage within the meaning of the exclusion. Such loss may, of course, potentially be covered under the policy following covered physical damage, but such cover must be found in the business interruption, extra expense, delayed opening or soft cost provisions, not in the resultant damage exception. To qualify as resulting damage, the damage must be to property separate from that which is subject to the faulty design or workmanship. The damage must also be to property that is separate from that which is the subject matter of the faulty design or workmanship. While the Courts have repeatedly warned against artificially separating a building or structure into various components simply to find coverage, the decided cases are inconsistent on this point. 5. PROFESSIONAL LIABILTY POLICIES I. ERRORS AND OMISSIONS POLICIES While each E&O policy is unique, there are typically three basic elements to the insuring agreements: (a) a legal obligation to pay damages on the part of the Insured; 20

22 (b) (c) the damages must arise from performing or failure to perform the particular professional services defined in the policy: and the claim must be reported during the policy period. (a) Claims- Made vs. Occurrence Most professional liability insurance policies are written on a claims-made basis, whereas most general liability policies are written on an occurrence basis. A claims-made policy provide coverage for claims reported in the policy period for errors, omissions or negligent acts. A typical CGL policy provides coverage for bodily injury and property damage, along with some other types of damage, caused by an occurrence which happens during the policy period. A claim may be made when the Notice of Civil Claim is issued or when the Insured knew or ought to have known that he or she would be held responsible for the loss. All damages flowing from the same negligent act constitute one claim. Where two separate errors are committed at different times with respect to the same project, then there are two separate claims. This can have serious consequences for Insureds who have large deductibles. An explanation of the difference between claims-made policies and occurrence based policies is found in Reid Crowther & Partners Ltd. v. Simcoe & Erie General Insurance Co. [1993] 11 S.C.R. 10, where Chief Justice McLachlin, writing for the Court said: The expanded utilization of claims-made and hybrid policies was resorted to by insurance companies in response to serious problems that had developed in the use of occurrence policies. These problems were rooted in the long-tail nature of liability claims against some types of insureds. Occurrence liability insurance policies work reasonably well in covering insureds such as automobile owners and drivers. Where an automobile operator is negligent and thereby causes damage, the nature of the negligent act and the resultant damages are in almost all cases known upon the happening of the negligent act or shortly thereafter. But for insureds who are professionals such as doctors, lawyers, engineers, etc., damages can result (or be discovered) many years after a negligent act is committed. This is even more the case for manufacturers and other types of insureds who can cause damages by producing hazardous product or toxic waste. Therefore, for each of these types of insureds, insurers are at risk for an unknown number of claims that may be made many years after the expiry of a particular policy of occurrence liability insurance. In a claims-made policy, the Insured is generally required to provide notice to the Insurer of the claim as soon as practicable after it is made. It is important that the Insured give notice to all its Insurers, including excess insurers, as soon as practicable after a claim is made so that the Insured is not in breach of any notice requirements. It is also important for the Insured to be mindful of the existence of claims when changing Insurers. If a claim was known, or ought to have been known, to the Insured before the inception of a new policy, that claims-made policy may not respond to it. If the same claim was not reported to the Insured s previous Insurer, the Insured may be in breach of its notice requirements under the former policy and be left without coverage for the claim. The notice requirements are generally only strictly enforced where there has been actual prejudice to the Insurer because of the Insured s failure to report. 21

23 (b) Defence and Settlement In professional liability cases, the Insured is often more involved in the litigation than in other types of cases. In part this is because their professional reputation is on the line in the lawsuit, but it is also to ensure the Insured is kept well-informed in the event that the matter is to be settled. In many Professional Liability Policies, the Insured s consent is required to settle. For example, the Certified General Accountants Association Professional Liability Policy provides: 12. Settlement and Contestation of Claims In the event of a CLAIM, the INSURERS or INSURANCE MANAGER will not settle the LOSS without first obtaining the written consent of the INSURED. However, if a settlement if rendered impossible by the sole refusal of the INSURED, the latter must continue the defence at the Named INSURED s own expense and the liability of the INSURERS will then by limited to the amount for which the CLAIM could have been so settled together with expenses incurred under the present policy at the date of such refusal. (c) E&O Exclusions-Dishonest, Fraudulent, Criminal or Malicious Acts Most professional liability policies exclude coverage for dishonest, fraudulent, criminal or malicious acts. If the only claim against the Insured is fraud, the exclusion will apply and relieve the Insurer from the duty to defend. The word fraud means that there has been a false misrepresentation, made knowingly, without belief in its truth, or recklessly, without care whether it is true or false. Conduct without fraudulent intent is not fraud [Kruska v. Manufacturers Life Insurance Co. (1984), 6 C.C.L.I. 299 (B.C.S.C.), affirmed [1985] I.L.R (B.C.C.A)]. In Wisebrod v. American Home Assurance Co. (1997), 35 O.R. (3d) 733 (Ont. C.A.), a claim alleged that the defendant lawyers and law firm acted wrongfully, unlawfully and without justification and conspired and agreed between themselves and others to injure [the plaintiff] consciously and deliberately and fraudulently to deprive it of its interests in the subject lands. On appeal, the law firm argued that the allegations of breach of contract that also formed part of the claim were not excluded by the policy and so a defence should have been provided. The Court of Appeal rejected that argument on the basis that the alleged acts, if not fraudulent, were dishonest and malicious, even if the pleadings were given the most generous interpretation, and therefore coverage was excluded. Plaintiffs pleadings against professionals often contain mixed claims of negligence and claims of fraud. For example, the purchaser of a piece of property may claim against the realtors involved in the sale when he believes he purchased the property at an inflated price. In such a case, the Plaintiff would alleged that he was misled regarding the value of the property either by the realtors fraud or negligence. The fraud claims allege the realtors knew the true value of the property and concealed it from the Plaintiff. The negligence claims allege that the realtors ought to have been aware of the true value of the property and/or taken additional steps to determine the true value and their failure to do so was negligent in the circumstances. In such a case, the negligence claims would be covered by the E&O insurer, but the fraud claims would be specifically excluded from coverage. The E&O insurer will typically issue a Reservation of Rights letter to the Insured confirming that the claim against it has covered and non-covered elements and while the Insurer will provide a defence, there may be no indemnity available to the Insured if the Court determines that the Plaintiff s loss was caused by the Insured s fraud. 22

24 II. PROJECT SPECIFIC E&O INSURANCE On major projects, owners may place project specific errors and omissions coverage. This insurance typically has higher limits than those maintained by the typical architect and engineer. These policies apply to all professionals who may work on a project. They ensure that there are no gaps in coverage for design for the project. This provides comfort to owners that if there is any error in design committed which results in a loss of any kind, then the consultants on the project will have sufficient insurance available to compensate the owner for the loss. A project specific policy restricts coverage to claims which arise out of the project. Under the policy, the insurer is required to indemnify the consultants for claims brought against them, including their defence costs. The policy limit is an annual aggregate. Claims erode the aggregate on an annual basis. III. THE RELATIONSHIP BETWEEN CGL AND E&O POLICIES CGL policies generally specifically exclude insurance coverage for professional services. For example, a typical Professional Services Exclusion might read: This policy does not apply to: 9. Liability arising out of the rendering of or the failure to render professional services, or any error or omission, malpractice or mistake of a professional nature committed by or on behalf of the Insured in the conduct of any of the Insured s business activities Even if there is no specific Professional Services Exclusion, liability for professional activities may still not be covered by a CGL policy. In Foundation of Canada Engineering Corp. v. Canadian Indemnity Co. (1977), 74 D.L.R. (3d) 266 (S.C.C.), the Supreme Court of Canada held that a claim arising from professional services was not covered under a CGL policy even though the policy did not contain a design or professional services exclusion. The Insured was an engineering firm hired to act as construction manager for the construction of a cement manufacturing plant. The Insured s duties included inspecting all work carried out on the project. The Insured approved the design of the concrete roofing without verifying the design in detail. The design was defective and a beam collapsed and caused damage to the project. The plant owner sued the Insured and the action was settled out of court. The Insured then sought coverage under two insurance policies it held. Both policies were for general liability. The first policy excluded liability imposed on or assumed by [the Insured] Due to defective designs, plans or specifications. The second policy expressly excluded only claims for damage where the cause of the occurrence is defect in the work done or claims for third party liability assumed by the Insured. The Supreme Court of Canada held there was no coverage under the first policy because of the explicit exclusion respecting defective designs. The Court held there was no coverage under the second policy for three reasons, one of which was the principle that a general liability policy is not basically a professional liability one. The Court said: Without attempting to cast a mould meant to shape all future possibilities, it must be noted that historically a public liability policy is a contract insuring the general responsibility in tort of the insured to the world at large. It is sufficient here to recall that for many years policies of that type were limited to accidental events and clearly kept outside of the coverage all claims resulting from contractual arrangements. Admittedly, this concept has been broadened over the years as appears from the insuring agreement in the case at bar which refers to occurrence 23

25 as well as to accident and which refers also to liability assumed by contract as well as to liability imposed by law. The question is: Does the insurance protection under examination here extend to the consequences of professional negligence, the cause of the loss having been determined as gross under-design? As already stated, the answer, in my view, must be in the negative. This case has been cited for the proposition that CGL policies, and arguably liability policies in general, are not intended to cover professional negligence claims, but rather such claims should fall within coverage under an errors and omissions policy. The authors of the text Annotated CGL Policy have said that this decision and others acknowledge the fact that a CGL policy and an Errors and Omissions policy are intended to dovetail one another as opposed to overlap. When there is a Professional Services Exclusion in a CGL policy, it has been interpreted narrowly by the Courts, like all exclusion clauses. The term professional services was considered by the B.C. Court of Appeal in Chemetics International Ltd. v. Commercial Union Assurance Company of Canada (1984), 55 B.C.L.R. 60 (C.A.). The case involved an engineer who provided operating instructions, orally and in writing in a manual, for the filling of a water tower. The instructions failed to advise of the risk that overfilling of the tower could cause damage to or a rupture of the tower s roof. The tower suffered damage and the Insured was held liable for failing to provide the warning. The loss fell within the insuring agreement and the only issue was whether coverage was excluded by the Professional Services Exclusion. The Court of Appeal construed the exclusion narrowly and held that the term professional as used in the exclusion was intended to refer to the kind of services that could normally be expected to be provided only by a professional engineer, such as the design of the plant itself, rather than the manual for filling the water tower. In Mercer v. Paradise (Town), [1991] N.J. No. 126 (Nfld. SCTD), the Insured engineering firm was retained as a consultant by the defendant municipality to design and oversee the construction of a municipal watermain. In the underlying action, the co-defendants were the town which owned the project, and the general contractor. The Insured sought coverage under its CGL policy. The insurer argued that the claims against the Insured fell within the professional services exclusion. The exclusion stated: This insurance afforded by this endorsement does not apply, if the insured or his indemnity is an architect, engineer or surveyor, to bodily injury or property damage arising out of the rendering of or failure to render professional services by such insured or indemnity including (a) the preparation of [sic] approval of maps, plans, opinions, reports, surveys, designs or specifications and (b) supervisory, inspection or engineering services The Court noted that the claim included alleged failure to ensure proper supervision of the blasting and that the main thrust of the claims against the Insured related to the direction and supervision of the general contractor s work. The court then considered the true nature of the field supervision carried out by the Insured. The field supervision of the work was carried out by the Insured through its employee Arthur Dawe. Mr. Dawe had approximately 20 years inspection and supervisory experience in the field, but held no professional qualification. The court concluded he would be classed as a technician, rather than an engineer. Mr. Dawe s duties comprised essentially of checking to ensure that the general contractor followed the contract documents and project specifications, keeping records as to progress, and acting as a liaison with the town s representative. 24

26 The Court found that there was no evidence to show that Mr. Dawe s direction or supervision work entailed services which could only be provided by a professional engineer. The court concluded that the claims against the Insured relating to improper performance of supervision, direction or inspection, did not fall within the professional services exclusion but that any claims against the Insured based on improper design work were claims respecting professional services. More recently, in Rotating Equipment Services Inc. v. Continental Insurance Co. (2004), 20 C.C.L.I. (4th) 75 (Alta. Q.B.), the Court considered a Professional Services Exclusion in the context of a claim of negligence in the construction of a generating plant. The Court said at paragraph 25: A "professional" act or service is one arising out of a vocation, calling, occupation, or employment involving specialized knowledge, labour, or skill, and the labor or skill involved is predominantly mental or intellectual, rather than physical or manual.... In determining whether a particular act is of a professional nature or a "professional service" we must look not to the title or character of the party performing the act, but to the act itself. Two criteria emerge from the above quote: first, there must be specialized knowledge, labour or skill, with a primarily intellectual component; and second, the nature of the act, not the insured s occupation or title, determines whether the act is a professional service. In Duke University v. St. Paul Fire and Marine Insurance Co., 386 S.E. 2d 762 (N.C.) App. 1990), the North Carolina Court of Appeal was guided by the following two principles when determining the application of the exclusion: First, a professional service is generally defined as one arising out of a vocation or occupation involving specialized knowledge or skills, and the skills are mental as opposed to manual Second, the determination of whether a particular act or omission falls within the scope of the professional services exclusion depends on the nature of the activity rather than the position of the person responsible for the act or omission. The case of Chapman v. Mutual Service Casualty Co., 35 F.Supp.2d 696 (W.D. Wis. 1999) arose out of injuries sustained when a child ingested lead paint. The child s parents had purchased a new home which required painting. The parents real estate agent had recommended a painter and the house was painted. When it was discovered that the painter had allegedly used lead paint, the parents sued the real estate agent for negligently hiring and supervising the painter. The Court held that the agent s actions in hiring and supervising the painter were not professional services since they did not involve specialized knowledge, labour or skill of an intellectual nature. As in the Chemetics case, the mere fact that a traditional professional such as a doctor or lawyer performs the act does not determine the issue of whether that person rendered a professional service. Similarly, the actions of non-professional employees may be caught by the exclusion if the actions can be described as professional services. In Station Square Developments Inc. v. Amako Construction Ltd. (1989), 40 C.C.L.I. 292 (B.C.S.C.), the policyholders were architects and engineers who were sued when the roof of a newly constructed building collapsed. They sought coverage under their CGL policy, which specifically excluded liability for professional services. The Court held that the Professional Services Exclusion applied to the activities of the policyholders employees who were not architects and engineers since all or nearly all of the [the services] can reasonably be described as the provision of professional services. Alexandre Maltas T: (604) Whitelaw Twining Law Corporation E: [email protected] Granville Street Vancouver, British Columbia V6C 1S4 25

27 With Great Power Comes Great Responsibility Professional Negligence Damages Trends in Canada Jim Tomlinson, David Olevson, Anthony Gatensby and Sean Valentine McCague Borlack LLP What makes a professional unique is the ability to provide specialized services. Doctors practice medicine and cannot do so without a medical licence. Professional Engineers in Ontario are granted use of a seal that attests that a qualified engineer prepared the document. 2 This seal is considered an indication that the document can be safely relied upon. Simply put, professionals are experts. However, with the power to deliver specialized services comes the responsibility to do so at the standard of care expected of those in that field. This paper details the latest cases in the fields of medical malpractice, insurance broker liability, and financial professional liability. Each of these professions has faced significant lawsuits in the past decade, resulting in multi-million dollar damages awards. MEDICAL MALPRACTICE In 2012, a jury in Baltimore, Maryland awarded $55 million to 2-year-old Enzo Martinez. Enzo was severely deprived of oxygen during birth due to the negligence of the attending physician, and as a result, Enzo now suffers from cerebral palsy. 3 In the Canadian legal landscape, damages awards of this magnitude are rare. A recent analysis of medical malpractice lawsuits in Canada states that there were 4,514 lawsuits filed against Canadian doctors between 2005 and Of these 4,514 lawsuits, 521 required a trial, and only 116 ended with a judgment in favour of the plaintiff(s). The median damages awarded in these cases (in the cases where damages were publically disclosed) 5 was found to be $117,000. Multi-million dollar damages awards are infrequent. Nonetheless, in the last five years alone, there have been numerous cases which have well exceeded $117,000. These cases are important reminders to counsel that there is potentially large exposure when a medical services provider deviates from the requisite standard of care. 2 Edgeworth Construction Ltd v ND Lea & Associates Ltd, [1993] 3 SCR Enzo Martinez, a minor, by and through his parents and next friends, Rebecca Fielding and Enso Martinez, et al v The Johns Hopkins Hospital (2012), 212 Md App 634, 70 A.3d Susan McIver & Robin Wyndham, After the Error: Speaking Out About Patient Safety to Save Lives (Toronto: ECW Press, 2013); Paul Taylor, Patients odds of winning medical malpractice suits in Canada aren t good, says new book The Globe and Mail (5 April 2013) online: The Globe and Mail Inc. < 5 Parties have sometimes have a pre-agreement on the appropriate quantum of damages, and proceed to trial purely to assess and apportion liability. In doing so, the parties frequently (though with notable exceptions) agree to keep the amount confidential. See e.g., Moore v Getahun, 2014 ONSC 237; Adams v Taylor, 2012 ONSC 4208; Durnin et al v Victoria Hospital, 2012 ONSC 320; Bennett v Landecker, 2011 ONSC 6168; Milne v St. Joseph s Health Centre, 2009 CanLII (Ont Sup Ct); Revell v Heartwell, 2008 CanLII aff d 2010 ONCA 353; Chainauskas v Reed, [2007] OJ No 5686 (Sup Ct) aff d 2009 ONCA 572; Fisher v Atack, 2007 CanLII 3482 (Ont Sup Ct); Taylor v Morrison, 2006 CanLII 3482 (Ont Sup Ct); Munir v Jackson, 2006 CanLII (Ont Sup Ct). 26

28 Notable Damages Awards Canada s record-breaking medical malpractice damages award was reached in Boyd v Edington, a decision of Justice Sproat of the Ontario Superior Court of Justice, which awarded a plaintiff the pre-agreed upon amount of $15 million in February, In Boyd, the 24-year-old plaintiff suddenly demonstrated symptoms of numbness throughout her left side, as well as dizziness and an inability to control her speech. The physician that initially diagnosed her did not reassess her for seven hours. She eventually suffered a stroke, which killed the tissue in her upper spinal cord and lower brain stem, causing partial below-the-neck paralysis. The plaintiff was successful at trial in establishing that the defendant had breached the standard of care and that breach caused her injuries. Prior to the trial, counsel had agreed to $15 million as the quantum of damages, so the Court awarded this amount. However, it appears that the counsel in Boyd may have agreed to an ambitious number. In 2009, only a few years before Boyd, Justice Glass in Randall (Litigation guardian of) v Lakeridge Health Oshawa would have awarded nearly $12 million in a case involving plaintiff who, during birth, was deprived of oxygen to the point that he now suffers from cerebral palsy. 7 After the trial, Justice Glass found that the doctors had met the standard of care. Nonetheless, he provided a comprehensive analysis of the damages. It is interesting to note that while Randall involved a newborn plaintiff that had suffered similar injuries, the award was calculated to be $3 million less than in Boyd. The Supreme Court of Canada recently restored a decision of the British Columbia Supreme Court which awarded $3.2 million to an 11-year-old plaintiff who suffered a serious injury during her birth. 8 The defendant doctor, late into the delivery, attempted a rotational mid-level forceps procedure to assist the delivery, but was unable to place the forceps in the proper manner. Shortly after the procedure was abandoned, the unborn plaintiff s heart action slowed which deprived her of necessary oxygen. This persisted until she was delivered by Caesarean section and resuscitated approximately eighteen minutes later, causing severe permanent brain damage. The trial judge held that the doctor s failure to have a surgical back-up immediately available was a but for cause of the plaintiff s injury. The British Columbia Court of Appeal overturned the decision stating that there were errors in the trial judge s determination of causation. The Supreme Court of Canada disagreed with the Court of Appeal, and held that the trial judge s determination was correct. 9 In the decision of Chainauskas v Reed, the Court of Appeal for Ontario upheld a trial judge s award for $3.5 million, where an anesthetist negligently caused bodily injury, including hypoxia, myocardial infarction and brain damage shortly after gastric bypass surgery. 10 The Court of Appeal agreed with the trial judge that there was no other plausible explanation for why a heart attack occurred at that time other than the plaintiff s airway being blocked by a tube used in surgery. 11 In MacGregor v Potts, 12 Justice J.R. Henderson of the Superior Court found that the defendant obstetrician s use of forceps to deliver the plaintiff caused an umbilical cord prolapse, which ONSC [2009] OJ No 683 (Sup Ct) [Randall]. 8 Ediger v Johnston, 2013 SCC 18, [2013] 2 SCR Ibid at para Chainauskas, supra note Ibid at para [2009] OJ No 3581, 180 ACWS (3d) 336 aff d 2012 ONCA 226, [2012] OJ No 1580 [MacGregor]. 27

29 interrupted the flow of oxygen and blood, resulting in brain damage. Justice Henderson found that but for the defendant s use of forceps as a delivery method, there would not have been any cord prolapse and the plaintiff would not have suffered brain damage during birth. The Court awarded the plaintiff over $322,000 in non-pecuniary general damages, $1,300,000 in loss of income and over $400,000 in other special damages, as well as over $500,000 in various Family Law Act ( FLA ) claims brought by her relatives. How are Damages in Medical Malpractice Cases Awarded? Non-Pecuniary General Damages The Supreme Court of Canada capped awards of non-pecuniary general damages at $100,000 in the 1978 trilogy of Andrews v Grand & Toy Alberta Ltd. 13 This Court recently affirmed the cap when, in 2006, it denied leave to appeal in Lee v Dawson. 14 In Lee, the Vancouver jury had awarded over $2 million in non-pecuniary damages, which the trial judge reduced to the limit imposed by the cap. At the time of the decision, adjusted for inflation, the cap was just under $300,000. The plaintiff argued that the cap was unconstitutional because it infringed section 15 of the Canadian Charter of Rights and Freedoms, the Charter s guarantee of equality. 15 Therefore, the most serious of injuries will attract the cap, whereas anything less will be evaluated on a sliding scale. Pecuniary Damages Pecuniary damages are not subject to the cap established in the Andrews trilogy. Therefore, compensation for future loss of income and future care costs can represent the largest heads of damages available to a plaintiff, and the largest exposure for defendants. The calculation of these damages is often left to experts to fill in the gaps with numerous assumptions as to future education, work potential, and future treatment needs. In Frazer v Haukioja, 16 the plaintiff was unable to return to his work as an elementary school teacher post-incident. Justice Moore found that but for the negligence of the doctor, the plaintiff would have returned to work full-time. 17 Moreover, he was persuaded that the possibility of the plaintiff ever returning to work after the accident was remote. Justice Moore, in assessing the future wage loss claim, took the raw number that represented the plaintiff being unable to ever return to any work and reduced it by roughly 25% to account for contingencies. The award for future income loss alone came to just under $1.3 million. Justice Mulligan of the Ontario Superior Court awarded $120,000 in future loss of income 18 and $100,000 in future care costs in Morin v Korkola. 19 These awards stemmed from an orthopaedic surgeon s poor post-operative treatment of the plaintiff s fractured femur [1978] SCJ No [2006] SCCA No Canadian Charter of Rights and Freedoms, s 15(1), Part I of the Constitution Act, 1982, being Schedule B to the Canada Act 1982 (UK), 1982, c CanLII (ON SC), aff d 2010 ONCA Frazer, supra note 16 at paras The court apportioned 50% to the defendant for a total of $60,000 in this case ONSC 1393, aff d 2012 ONCA 869. [Morin] 20 See generally Morin, supra note 19 at para 89 for a chart of other cases with similar facts, including the range of damages awarded. 28

30 Justice Mulligan opined that assessing the plaintiff s reasonable future care costs was a task fraught with uncertainty. 21 For this reason, courts often rely heavily upon expert evidence to assist in their assessments. 22 In this case, there was only a chance of the plaintiff s osteomyelitis recurring during his lifetime, and the chance itself was disputed by the parties. Nonetheless, Justice Mulligan stated that the plaintiff would need future services based on the initial fractured femur and the potential problems with his knee. These issues, along with the potential for recurring osteomyelitis, were sufficient to warrant the award. Family Law Act Claims Damages awards in medical malpractice actions consist primarily of a plaintiff s non-pecuniary general damages and pecuniary damages. However, these awards in Ontario must now also factor in the right of the plaintiff s family members to sue in tort for their own pecuniary and non-pecuniary losses. For example, a grandmother can now recover for the additional nursing, housekeeping or other services the she provides for her grandchild. 23 Likewise, for nonpecuniary FLA damages, a younger brother can now recover for his loss of guidance, care and companionship of his older sister. 24 The result of these claims has been a growth in damages awards, particularly in the field of medical malpractice where the claims by necessity involve some form of bodily injury. Pecuniary FLA damages, particularly loss of income and housekeeping, compose the largest claims. For example, a husband who significantly renovates a home to accommodate for his wife s disabilities and assumes all the household duties, was entitled to $770, In the absence of serious injury or death, non-pecuniary FLA damages awards are generally fairly modest. 26 The Court of Appeal for Ontario, in To v Toronto Board of Education, 27 stated: The result of a case by case analysis of family relationships has led to a range of guidance, care and companionship assessments so broad as to defy description as conventional Judges and juries are left to do the best they can in each case where the assessment of damages for guidance, care and companionship is required. 28 The Court indicated that the upper range for non-pecuniary FLA damages ought to be $100,000. In To, the parents of a deceased minor were each awarded this maximum figure. The Court took into account evidence demonstrating that the family was tight-knit and also cultural factors which supported the closeness of the family. The deceased s 11-year-old sister was awarded $25, In Matthews Estate v Hamilton Civic Hospitals, 29 a case where the Court determined there was no liability on the treating doctor, damages were nonetheless assessed. If the treating physicians had been found liable, the Court in Matthews Estate would have awarded $100,000 in damages to the plaintiff s wife, $50,000 to each of the plaintiff s three sons and $7,500 to both grandchildren. 21 Morin, supra note 19 at para See Morin, supra note 19 at paras Family Law Act, RSO 1990, c F.3, section 61(2)(c). 24 FLA, supra note 23, section 61(2)(e). 25 Musselman v Ontario Inc (cob Cities Bistro), 2010 ONSC Sloan H. Mandel & Deanna S. Gilbert, Advancing Pecuniary and Non-Pecuniary Claims Under the Family Law Act, online: Thomson Rogers Lawyers, < 27 (2001), 55 O.R. (3d) 641 (C.A.) [To]. 28 Ibid at paras. 28 and CanLII (Ont Sup Ct) [Matthews Estate]. 29

31 INSURANCE BROKER LIABILITY There have been recent large awards in this field. This has been the case notwithstanding the fact that the key legal principles in insurance broker liability have not changed radically in the past fifty years. In 1977, the Court of Appeal for Ontario in Fine s Flowers Ltd et al v General Accident Assurance recognized two scenarios where an insurance broker may fall below the standard of care. 30 The first is where a plaintiff did not give specific instructions to the agent but seeks to have full protection, 31 whereas the second concerns a plaintiff that sought specific coverage. 32 If the plaintiff can show that it would have acquired a policy to cover the loss had it known about the gap in coverage, the plaintiff is entitled to recover in damages what would have been recoverable under that policy. 33 Cases where negligence is successfully alleged against insurance brokers do not occur frequently in Ontario. 34 However, Fine s Flowers continues to be cited across the country with approval, 35 and these cases provide guidance in analyzing damages trends nationwide. Notable Damages Awards One of the highest damages awards is found in one of the most interesting decisions. In Bronfman v BFL Canada Risk, 36 Mr. and Mrs. Bronfman returned home from a family dinner to find that their house had been burglarized. Justice Stewart of the Ontario Superior Court of Justice found that a gigantic safe had been removed, jettisoned from a balcony into the garden and spirited away. 37 The loss was substantial: the Bronfmans jewellery and personal effects in that safe totalled $2.3 million. Unfortunately for the Bronfmans, their coverage limits were only $10,000 for jewellery under their Private Collection Policy and another $10,000 under their Homeowners Policy. In holding the broker liable, Justice Stewart accepted an expert opinion that the broker had failed to ensure that the Bronfmans were advised with respect to coverage needs and options and made aware of what they were covered for and what they were not. 38 In particular, the broker failed to review the Bronfmans personal insurance needs with them in detail, given that the Bronfmans were wealthy and would probably require more extensive coverage. The decision of Justice Stewart is currently under appeal. There have also been large awards due to gaps in the commercial insurance setting. In CIA Inspection Inc v Dan Lawrie Insurance Brokers, 39 CIA operated a business inspecting refinery coke drums all over the world. An employee in their Venezuela branch accidentally dropped a custommade inspection sensor into one of the drums. The fall was approximately 50 metres, and the OR (2d) 529 (CA). The holding in Fine s Flowers was adopted by the Supreme Court of Canada in Fletcher v MPIC, [1990] 3 SCR 191, and has recently been affirmed in e.g., Midas Investment Corp v Dominion of Canada General Insurance Co, 2013 ONSC 4827, [2013] OJ No 3403 at para 9; Engage Agro Corp v Brewer, 2013 ONSC 3132 at para 65; Colangelo Niagara Inc v York Fire & Casualty Insurance Co, 2013 ONSC 1882 at para 76; and Peel Law Association v Royal & Sun Alliance Insurance Co of Canada, 2013 ONSC 2312, [2013] OJ No 1844 at para CIA Inspection Inc v Dan Lawrie Insurance Brokers, 2010 ONSC 3639, [2010] OJ No 3313 at para CIA Inspection, supra note 31 at para CIA Inspection, supra note 31 at para Fine s Flowers has been cited 16 times in the past 10 years in Ontario however, not all cases deal with the negligence of insurance brokers. 35 See e.g., Veert Landscaping Inc v Ranger Insurance Brokers Ltd, 2013 MBQB 117, [2013] MJ No 158 at para 41; Meadow- North Agencies Ltd v Cheecham, 2012 SKCA 123, [2012] SJ No 762 at para 16; G.B. v L.Bo., 2014 QCCS 18, [2014] QJ No 31 at para 78; Beck Estate v Johnston, Meirer Insurance Agencies Ltd, 2011 BCCA 250, [2011] BCJ No 949 at para ONSC 5372, [2013] OJ No Bronfman, supra note 36 at para Bronfman, supra note 36 at para CIA, supra note

32 sensor was destroyed. The sensor was worth approximately $300,000. In addition, CIA claimed for loss of revenue stemming from the sensor loss, as well as restructuring the business post-loss and for logistics. This portion totalled $410,000. Justice Whitten recognized that, when determining a breach of the standard of care in insurance broker liability cases, the focus is on the communication between the parties. 40 He thus placed significant emphasis on the communications between CIA and Dan Lawrie Insurance Brokers ( DLIB ). CIA had sought out coverage in 2001 through DLIB. DLIB attempted to put coverage in place with Lloyd s of London, through another intermediary wholesale broker, Surplus Lines Inc. Despite DLIB s repeated requests, Surplus Lines would not confirm the coverage that was in place. DLIB advised CIA that they were unable to confirm the extent of the coverage, if any, in place. One and a half years later the sensor was damaged; only then was it confirmed that the policy excluded risks while on the job site and thus did not cover the situation in which the loss had occurred. 41 Justice Whitten found that the insurance brokerage was negligent for not confirming the coverage in place. However, CIA s president had been made aware of the potential of the coverage gap, and was experienced in matters of insurance. Justice Whitten held that by not following up, the president had failed on his part to exercise reasonable care to act prudently in the management of his affairs. 42 On this basis, DLIB was found to be two-thirds negligent, and CIA one-third contributorily negligent. In Beck Estate v Johnston, Meirer Insurance Agencies Ltd, 43 the British Columbia Court of Appeal upheld a judgment that found an insurance broker negligent. The facts underlying Beck are almost as unimaginable as they are tragic. Mr. Beck murdered Mrs. Beck, his estranged wife, before setting fire to the house and committing suicide. Mrs. Beck s estate looked to the homeowner s policy insurer, Canadian Northern Shield ( CNS ), to indemnify the estate for the loss of the house ($345,765). CNS argued that Mr. Beck s actions were intentional, and pursuant to a common exclusion in many insurance policies, coverage was not available under the homeowners policy. Eventually CNS and Mrs. Beck s estate settled the matter for $187,000 just over 50% of the value of the home. The result was a shortfall of over $160,000. Mrs. Beck s estate then commenced an action against the brokerage, Johnston, Meirer, for that shortfall. In finding that the insurance brokerage was liable, Justice Griffin held that the broker failed to make proper inquiries of Mrs. Beck s insurance needs once it was clear that she had become estranged from her husband. Justice Griffin made the explicit finding that: As she was no longer living at the property or in a loving relationship with her husband, she could not be confident that intentional damage would not be done by someone living at the property. Had she been notified about a gap in her coverage and given the choice of an alternative, I conclude that it is most likely that she would have directed her mind to these risks and would have chosen to protect against them CIA, supra note 31 at para CIA, supra note 31 at para CIA, supra note 31 at para Beck, supra note Beck Estate v Johnston, Meier Insurance Agencies Ltd, 2010 BCSC 719, [2010] BCJ No 972 at para

33 Justice Griffin awarded the remaining $160,000. However, had CNS not settled the estate s claim against the homeowner s policy for $187,000, the insurance brokerage would presumably have been liable for the entire $345,765. This award was upheld on appeal. While not all cases result in a finding of negligence, the damages the insurance broker would have ultimately been responsible for highlights that the potential exposure can be quite high. In Sandborn Wholesale Ltd v Pottruff & Smith Insurance Brokers Inc., 45 Justice Conway found that a broker who had been retained only to place transportation coverage was not negligent when pharmaceuticals were stolen from the insured s storage facility. While the broker was not found liable, the value of the stolen pharmaceuticals was alleged by the insured to be worth $207, FINANCIAL PROFESSIONAL LIABILITY In the wake of the financial crisis of 2008 and the ensuing recession, investment advisors, accountants, and portfolio managers (collectively referred to as financial professionals ) have become a more popular target for aggrieved clients. The relationship between a financial professional and their client is defined as one of mandate; the scope of what the financial professional will do is dependent on the limits that the client puts in place. Typically, the relationship between an investment broker or portfolio manager and their client is one of principal and agent, rather than a fiduciary relationship, and the duty is to merely execute instructions. 46 However, particularly in situations where the client lacks appreciation for the finer details of investing, 47 the client may entrust the professional to use their own discretion and judgment. In circumstances where the client has placed full trust and control in the hands of the advisor, Canadian courts have found the basic elements of a fiduciary relationship to exist. 48 The Supreme Court of Canada endorsed this view, in a case on appeal from the civil law jurisdiction of Quebec, noting that: As in the case of any mandate, the mandate between a [portfolio] manager and his client is imbued with the concept of trust, since the client places his trust in the manager -- the mandatary -- to manage his affairs. 49 The Supreme Court has listed the factors to consider, but in sum, the more trust placed in the broker the more likely it is a fiduciary relationship. 50 Establishing a fiduciary relationship greatly enhances the plaintiff s chance of recovery, as the standard of care for a fiduciary is much higher than the standard imposed in negligence. If the claim is brought for breach of fiduciary duty, the relief sought is for equitable compensation, rather than for common law damages. 51 Similar to the purpose of an award of common law damages, the purpose of equitable compensation is to attempt to place the plaintiff in the position they would have been in had the fiduciary breach not occurred ONSC 1969, [2011] OJ No Newman v TD Securities Inc, [2007] OJ No 139 (Sup Ct) citing Carom v Bre-X Minerals, 44 OR (3d) 173 (Sup Ct) and Stojanov v Holland, [2001] OJ No 4586 (Sup Ct). 47 Abrams v Sales Ltd v Sprott Securities (2003), 67 OR (3d) 368 (CA). 48 See e.g., Hunt v TD Securities Inc, 66 OR (3d) 481 (CA) at para 7; Cheeseborough v Wilson, [2002] OJ No 4299, 166 OAC 119 (CA). 49 Laflamme v Prudential-Bache Commodities Canada Ltd, [2000] 1 SCR 638, [2000] SCJ No 25 at para Hodgkinson v Simms, [1994] 3 SCR See e.g. Martin v Goldfarb, [2006] OJ No 2768 (Sup Ct). 32

34 Yet even in circumstances where a court finds there is no fiduciary relationship, the financial professional must still adhere to the standard of care expected of a competent financial professional in all circumstances. Notable Damages Awards Potential losses that result from a failed investment can be significant, and raise particularly complex issues in terms of calculating damages. In Wardrope v Smith, a 2013 decision from Justice Gunsolus of the Superior Court, John and Linda Wardrope brought an action after they invested $300,000 with the defendants. 52 While the defendants assured the plaintiffs that they were investing in a safe and secure investment, in reality the defendants were under investigation by the Ontario Securities Commission ( OSC ) for operating a Ponzi scheme. 53 The defendant, Mr. Smith, was found to be in a fiduciary relationship with the plaintiffs, due to the fact that the plaintiffs had no investment experience and had utmost trust in Mr. Smith to protect the plaintiffs interests. He breached this duty by recommending a fraudulent scheme, and withholding the fact that he was under investigation. Justice Gunsolus went on to award damages in the amount of $372, He arrived at this number by returning the principal to the plaintiffs in the amount of $300,000, and awarding prejudgment interest at a rate of 4.8%. He referred to the additional $72, in interest as a reasonable rate of return on the plaintiffs money. 54 In Vipond v AGF Private Investment Management, 55 the plaintiff retained the defendants to manage his portfolio of shares, which were mostly concentrated in one company. When the shares in that corporation fell in value, the value of the plaintiff s overall portfolio plummeted. The plaintiff alleged that the defendants did not reasonably manage his stocks, which would have required them to implement a diversification strategy to make the portfolio more robust. Justice Pepall agreed with the plaintiff s argument and awarded $877,082 in damages. In arriving at that number, Justice Pepall recognized that the plaintiff must be compensated for both the initial investment and the reasonable rate of return. She relied on a hypothetical portfolio, which contained benchmarks for average rates of return. In Lemberg v Perris, the defendant was an accountant who was employed by the plaintiffs for 19 years. 56 He eventually recommended a tax avoidance scheme that was unsuccessful, which involved flipping artwork by purchasing it for a low amount of money but donating it to an educational institution with receipts for much higher amounts. The accountant was also taking secret commissions from the purchases that were not disclosed to the plaintiffs. In holding that the accountant was in a fiduciary relationship with the plaintiffs, Justice Gray found that the defendant and the plaintiffs: had developed a relationship of mutual trust and confidence over a number of years. Mr. Perris had become fully familiar with the financial affairs of his clients, ONSC See the findings of the OSC at 2011 LNONOSC Wardrope, supra note 52 at para Gordon Vipond v AGF Private Investment Management, a Division of AGF Funds Inc., William J Smith, Scott Luik and Laura Wallace, 2012 ONSC 7068, [2012] OJ No ONSC 3690, [2010] OJ No

35 and his tax advice was given with the sole objective of improving their tax position, both in the short and long term. The Lembergs were entitled to assume that any advice given to them regarding tax matters would be advice honestly given by Mr. Perris with a view to advancing their interests, and not those of Mr. Perris. 57 Justice Gray then found that, on the basis of the secret commissions, the defendant had breached his fiduciary duty to act in the best interests of the plaintiffs. He then awarded the plaintiffs their investment, along with the secret commissions. CONCLUSION The recent damages trend in medical malpractice, insurance broker liability, and financial professional liability cases is one of increasing damages awards. The principle that consistently emerges from these cases is that when you entrust something of value to a professional whether it is your insurance needs, your financial future, or even your life there is both great power and responsibility entrusted to that person. While damages aim to restore the plaintiff to the position they would have been in had the tort or fiduciary breach not occurred, there is an obvious element of deterrence given the amounts involved. This quasi-punitive quality reinforces the idea that once liability has been established, the damages will be commensurate with that power and responsibility. Jim Tomlinson McCague Borlack LLP Suite 2700, The Exchange Tower 130 King Street West Toronto, Ontario M5X 1C7 T: (416) E: [email protected] 57 Lemberg, supra note 56 at para

36 Exculpatory and Limitation of Liability Agreements Anthony J. Ellrod* Manning & Kass Ellrod, Ramirez, Trester LLP Exclupatory agreements are agreements under which a party agrees, in advance, to release another for claims or injuries arising out of that party's own negligence. Such agreements are becoming more and more common in commercial transactions. Originally most frequently seen in the sports and recreation field, their use has expanded across the commercial landscape. Similarly, limitation of liability provisions are becoming increasingly common in commercial contracts, particularly those commonly used in the professional services and technology fields. Such agreements can have a significant impact not only on the cost of doing business, but on the cost of insuring a business. In the United States, the application of exculpatory and limitation of liability provisions varies greatly from state to state. The following focuses primarily on California law, however the vast majority of states employ a similar analysis. Attached hereto is a summary of the state by state enforcement of exculpatory agreements. EXCULPATORY AGREEMENTS General Application Generally speaking, exculpatory agreements (releases and express assumptions of risk) are enforced in California. There is no public policy that opposes private, voluntary transactions in which one party agrees to waive rights to redress. (Randas v. YMCA of Metropolitan Los Angeles (1993) 17 Cal.App.4th 158.) In fact, challenges to requiring the execution of an exculpatory agreement as an unfair business practice have been generally rejected by the courts. (Olsen v. Breeze, Inc. (1996) 48 Cal.App.4th 608.) Most releases have been held to be not contrary to the public interest in that the public as a whole benefits from such releases because they allow various services to be offered at affordable prices that might otherwise not exist, or would be priced out of the reach of the general population. (Buchan v. United States Cycling Federation, Inc. (1991) 227 Cal.App.3d 134.) Releases in the sports and recreation context, for example, have been uniformly found not to implicate the public interest and have been upheld by California courts. Likewise, exculpatory agreements reached in arms length commercial (as opposed to consumer) transactions are generally upheld. (Frittelli, Inc. v. 350 North Canon Drive, LP (2011) 202 Cal. App. 4th 35.) However exculpatory agreements will not be enforced with respect to matters that implicate public interest. These are primarily areas that involve essential public services. The factors generally considered to determine whether a matter implicates the public interest are as follows: [1] The matter concerns a business of a type generally thought suitable for public regulation. [2] The party seeking exculpation is engaged in performing a service of great importance to the public, which is often a matter of practical necessity for some members of the public. [3] The party holds himself out as willing to perform this service for any member of the public who seeks it, or at least any member coming within certain established standards. [4] As a result of the essential nature of the service, in the economic setting of the transaction, the party invoking exculpation possesses a decisive advantage of bargaining strength against any member of the public who seeks his services. [5] In exercising a superior bargaining power the party confronts the public with a standardized adhesion contract of exculpation, and makes no provision whereby a purchaser may pay additional fees and obtain protection against negligence. [6] Finally, 35

37 as a result of the transaction, the person or property of the purchaser is placed under the control of the seller, subject to the risk of carelessness by the seller or his agents. (Tunkl v. Regents of University of California (1963) 60 Cal.2d 92.) Assuming the transaction does not implicate the public interest, in order to be enforceable, the waiver and release must be conspicuous, clear and unambiguous. (Lund v. Bally s Aerobics Plus (2000) 78 Cal.App.4th 733.) The conspicuousness requirement is of major importance in consumer transactions, but plays little or no roll in arms length commercial transactions. (Frittelli, Inc. v. 350 North Canon Drive, LP (2011) 202 Cal. App. 4th 35.) Exculpatory agreement are construed against the party seeking exculpation, and as such must be carefully drafted. A release is conspicuous if the eye of a reasonable person reviewing the document would be drawn to the release. The more the provision is buried in long, boilerplate contract language the less likely it will be enforced. In other words, if the release is highlighted or somehow brought to the reader's attention it will be enforced. (Frittelli, Inc. v. 350 North Canon Drive, LP (2011) 202 Cal. App. 4th 35.) Whether a release is sufficiently conspicuous is frequently litigated. Obviously if the release is its own document the conspicuousness issue does not apply. Further, as discussed above, conspicuousness is generally not an issue in contracts between commercial concerns. To be enforced, the release must be clear and unambiguous. The dilemma facing the drafter in this regard was perhaps best described by the Court of Appeal in Nat'l & Internat. Bhd. of St. Racers v. Superior Court (1989) 215 Cal. App. 3d 934. Drafters of releases always face the problem of steering between the Scylla of simplicity and the Charybdis of completeness. Apparently no release is immune from attack. If short and to the point, a release will be challenged as failing to mention the particular risk which caused a plaintiff's injury or as insufficiently comprehensive. It will be attacked as totally ineffective if a key word is placed in the caption for emphasis but not repeated in the text, or if, despite unambiguous language, the word "negligence" is not used. If the drafter avoids these shortcomings by adding details and illustrations, the plaintiff invokes the doctrine expressio unius exclusio alterius est and characterizes the causative hazard as one not found among those listed in the release, but if the list ends with an inclusive term -- "and all other risks not specifically enumerated" -- it will be argued, under the principle ejusdem generis, that the risk encountered is nonetheless not assumed, because its nature is different from those listed. If the drafter strives to be comprehensive, the release is attacked as unduly lengthy, but if he fits it onto a single page, the type size will be criticized as inadequate. If the significance of the release is emphasized by its repetition in two documents, any variation in wording fuels a challenge. The above quote illustrates why releases are so hotly litigated. The bottom line, however, is that in order to be effective the release must clearly communicate the intent of the parties that the defendant be released from liability for its future negligence. (Rossmoor Sanitation, Inc. v. Pylon, Inc. (1975) 13 Cal.3d 622.) The actual word "negligence" need not be used, however it is highly recommended. (Sanchez v. Bally's Total Fitness Corp. (1998) 68 Cal.App.4th 62.) Application to minors In California a minor cannot be bound to a contract. Thus, a release signed by a minor is ineffective. However it is relatively settled that a parent or guardian may sign a release on behalf of a minor, and that release will bar a claim for personal injuries by the minor. (City of Santa 36

38 Barbara v. Superior Court (2007) 41 Cal. 4th 747.) Further, while minors cannot be bound to a contract, a minor can ratify a contract entered into on its behalf by another (or entered into during minority) once reaching the age of majority. (California Family Code 6710.) Generally, the ratification need not be formal, and continuing to accept the benefits of the bargain will suffice. Application to non-signing parties Not infrequently the situation arises where one is seeking to bind a party to a release that did not actually sign the release. This occurs for example when one person purchases a membership for another, or when one enters into a contract for the benefit of others. While the law is not clear, there are some relatively strong arguments that an individual can be bound to a release he or she did not sign. The first argument is based on agency law. California Civil Code, 2307 provides that an agency relationship may be created by a precedent authorization or a subsequent ratification. Ratification by a person of an act purportedly done on his or her behalf creates the relationship of principal and agent. A purported agent's act may be adopted expressly or it may be adopted by implication based on conduct of the purported principal from which an intention to consent to or adopt the act may be fairly inferred, including conduct which is inconsistent with any reasonable intention on his part, other than that he intended approving and adopting it. In addition, California Civil Code, 2311 states that upon ratification of the act by the principal, the principal is bound by all of the terms of the agreement. He cannot pick and chose which terms he will accept and which he will reject, and he cannot ratify the unauthorized acts of the purported agent to the extent that they are beneficial, and disavow them to the extent that they are damaging. Ratification is an all-or-nothing proposition. The second argument is based upon the third party beneficiary doctrine. The analysis under the third party beneficiary doctrine is much the same. California Civil Code 1589 states that the voluntary acceptance of the benefit of a transaction is equivalent to a consent to all the obligations arising from it, so far as the facts are known, or ought to be known, to the person accepting. Similarly, California Civil Code 3521, sets forth the maxim of jurisprudence that "He who takes the benefit must bear the burden." A third-party beneficiary is not entitled to assert rights greater than those of the contracting party under the contract. (Harris v. Superior Court (1986) Cal.App.3d 475.) When a plaintiff seeks to secure the benefits under a contract as to which he is a third-party beneficiary, that plaintiff must take the contract as he finds it. He may not select the parts favorable to him and reject those unfavorable. (California Civil Practice, Business Litigation, Chapter 25, Third-Party Beneficiary Contracts, 25:8 Third-party beneficiaries rights and remedies.) Not enforced if violation of law or intentional acts Exculpatory agreements cannot release gross negligence, recklessness or intentional torts as a matter of public policy. Further, an agreement attempting to release liability for the violation of law is void. California Civil Code 1668 makes it against the policy of the law for a contract to exempt anyone from responsibility for violation of the law. It states as follows: All contracts which have for their object, directly or indirectly, to exempt anyone from responsibility for his own fraud, or willful injury to the person or property of another, or violation of law, whether willful or negligent, are against the policy of the law. 37

39 Further, in industries where contracts are governed by statute, those statutes frequently provide that any violation of the statutes voids the contract. Thus, releases in contracts that are governed by specific statutory schemes which themselves fail to comply with the statutory requirements will not be effective. (Capri v. L.A. Fitness International, LLC (2006) 136 Cal. App. 4th 1078.) Likewise, based upon 1668 the courts have determined that a release cannot be effective to avoid liability arising out of gross negligence or intentional acts. (City of Santa Barbara v. Superior Court (2007) 41 Cal. 4th 747.) Products Liability The courts have held that strict products liability cannot be released as a matter of public policy. (Westlye v. Look Sports, Inc. (1993) 17 Cal. App. 4th 1715.) Express Assumption of Risk A brief discussion of express assumption of risk provisions is warranted. A party who expressly assumes the risk for a given activity may not recover damages for an injury incurred while engaged in the activity. This principle is separate and distinct from the release of liability, although the contract language applicable to both is frequently the same. This distinction comes into play under certain scenarios, for example in wrongful death claims or other claims where one party is suing based upon a breach of duty owed to another. (Coates v. Newhall Land & Farming (1987) 191 Cal. App. 3d 1.) In a wrongful death claim, for example, a release could not operate to limit the plaintiff's right to prosecute the wrongful death claim because the deceased could not bind the plaintiffs and did not have the authority to waive the plaintiff's rights. However the plaintiff's action can still be barred based upon the execution by the deceased of an express assumption of risk. (Madison v. Superior Court (1988) 203 Cal.App.3d 589.) In its most basic sense, assumption of the risk means that a party, in advance, has given his express consent to relieve the defendant of an obligation of conduct toward him, and to take his chances of injury from a known risk arising from what the defendant is to do or leave undone. The result is that the defendant is relieved of legal duty to plaintiff; and being under no duty, he cannot be charged with negligence. (Id.) Thus, it is not so much that a claim is being waived, but that no claim ever exists. LIMITATION OF LIABILITY AGREEMENTS A penalty for breach in a contract will not be enforced. A liquidated damages provision in a contract will be strictly construed to assure that the amount represents a result of a reasonable endeavor by the parties to estimate a fair average compensation for any loss that may be sustained. (Ridgley v. Topa Thrift & Loan Ass'n (1998) 17 Cal. 4th 970.) An agreement limiting the amount of damages recoverable for negligence or breach of contract however is not an agreement to pay either liquidated damages or a penalty. It seeks to limit the injured party s damages rather than predict them. (Wheeler v. Oppenheimer (1956) 140 Cal. App. 2d 497.) Such provisions are becoming increasingly common, particularly in the technology field. This is likely because the potential damage flowing from a breach of contract in this area is astronomical compared to the amount paid for the services rendered. Therefore contracts for technology services frequently include provisions capping damages for liability arising out of the contract or the services provided thereunder. The cap can either be with respect to the type of damages recoverable (i.e. such as precluding incidental, consequential, or punitive damages), or with respect to the amount of damages recoverable (i.e. limiting damages to the amount paid to the service provider under the contract.) 38

40 Except in the case of certain public service contracts, the contracting parties can by agreement limit their liability in damages, either at the time of making their principal contract, or subsequently thereto. Such a contract does not purport to make an estimate of the harm caused by a breach; nor is its purpose to operate in terrorem to induce performance. Contractual limitations of liability agreements are generally upheld. (Restatement, Contracts, 339.) CONCLUSION Obviously the ability of a business to limit its liability for its own negligence or breach of contract, or avoid liability altogether, will have a dramatic impact both on the potential success of the business and its cost of and ability to obtain insurance. While the enforcement of such provisions plays a significant role once a claim is made, it should also play a significant role during the underwriting process when the risk is initially being assessed. Thus, it is crucial that claims handlers and underwriters alike develop a base understanding of their application, and seek the advice of competent counsel in whatever venue they find themselves involved. * Please note that Anthony J. Ellrod is licensed to practice law only in the State of California and the federal courts of the United States of America. Therefore all information provided that pertains to other states is of a general nature and is not intended nor represented to replace professional, specialized legal advice from counsel licensed in that state, nor should the information be relied upon as same. This information is offered in order to provide a starting point for further investigation and we recommend that you formally consult counsel licensed in the applicable state to determine your rights and/or obligations under applicable law. Anthony Ellrod Manning & Kass Ellrod, Ramirez, Trester LLP 801 South Figueroa Street, 15th Floor Los Angeles, California T: (213) E: [email protected] 39

41 State by State Analysis of Enforcement of Exculpatory Agreements ALABAMA Are releases enforceable? - Yes. Anthony J. Ellrod* Manning & Kass Ellrod, Ramirez, Trester LLP Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. ALASKA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Alaska Statute Title 5, Chapter 45 Section 120 Ski Liability, Safety, and Responsibility: Use of Liability Releases - Alaska Statute Parental Waiver of Claim Against Provider of Sports or Recreational Activity Can a parent execute a release for a minor? Yes. - Alaska Stat provides that a parent may release or waive the child's prospective claim for negligence against a provider of a sports or recreational activity. ARIZONA Are releases enforceable? - Jury question per statute and case law Are there any statutes that reflect enforcement of a release? - Ariz. Const. Art. XVIII, 5. The defense of contributory negligence or of assumption of risk shall, in all cases whatsoever, be a question of fact and shall, at all times, be left to the jury. - A.R.S. Section Skiing; Release of liability - A.R.S. Section Limited liability; closed-course motor sport facility owners; lessors and operators; definitions - A.R.S. Section Limited liability of equine owners and owners of equine facilities; exceptions; definitions Can a parent execute a release for a minor? Possibly. - Ariz. Rev. Statute A.2 (2006). Allows for a parent to execute a release in the context on equine activities. An equine owner is not liable for an injury if the parent or legal guardian of the minor has signed a release before taking control of the equine. 40

42 ARKANSAS Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - No. Williams v. United States, 660 F.Supp.699 (1987). COLORADO Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Colo. Rev. Stat to 114 ASki Safety Act - Colo. Rev. Stat Equine and Llama activities - Col. Rev. Statute Waiver of Parent for Prospective Negligence Claims Can a parent execute a release for a minor? - Yes. Col. Rev. Statute A parent of a child may, on behalf of the child, release or waive the child s prospective claim for ordinary negligence. Pollock v. Highlands Ranch Community Association, 140 P.3d 351 (2006) CONNECTICUT Are releases enforceable? - No. Waivers are void against public policy. Hanks v. Powder Ridge Restaurant Corp., 276 Conn.314 (2005). Are there any statutes that reflect enforcement of a release? - Conn. Gen. Stat , Assumption of risk by person engaged in recreational equestrian activities - C.G.S.A h(n) Negligence actions 27. Can a parent execute a release for a minor? - Yes, but only barred on unreported cases. Fisher v. Rivest, 2002 Conn. Super. LEXIS 2778 (2002) (unreported case) -Saccente v. Laflamme, 2002 Conn. Super. LEXIS 3630 (2002) (unreported case) DELAWARE Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - 10 Del. C Comparative Negligence 6 Del. C (1) Unconscionable contract or clause Can a parent execute a release for a minor? 41

43 FLORIDA -There does not appear to be any case law on this topic. Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Fla. Stat Limitation on liability for equine activity; exceptions - Fla. Stat Limitation on liability of persons making land available to public for recreational purposes Can a parent execute a release for a minor? - No. Kirton v. Fields (2008) 997 So. 2d 349, overruling: Global Travel Marketing, Inc. v. Shea, 908 So.2d 392 (2005) (Gonzalez v. City of Coral Gables, 871 So.2d 1067 (2004), O'Connell v. Walt Disney World Co., 413 So.2d 444 (1982)). GEORGIA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - O.C.G.A Waiver of law Can a parent execute a release for a minor? - There does not appear to being any case law on this topic. HAWAII Are releases enforceable? - Jury question per statute. Are there any statutes that reflect enforcement of a release? - H.R.S Motorsports facilities; waiver of liability - Haw. Rev. Stat. ch. 663B Equine liability - Haw. Rev. Stat Recreational activity liability Can a parent execute a release for a minor? - No. Haw. Rev. Stat. Ann (2006) Motorsport facility waiver attempting to protect the facility from liability for negligence against a minor is unenforceable against the minor. (Douglass v. Pflueger Hawaii Inc., 110 Haw.520 (2006) Leong v. Kaiser Foundation Hospitals, 71 Haw.240 (1990)). IDAHO Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - I.C Liability of outfitters and guides - I.C Liability of ski area operators 42

44 Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. ILLINOIS Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - III. Rev. Stat., ch. 110 (1987) Can a parent execute a release for a minor? - No. Wreglesworth v. ARCTO, Inc., 316 Ill.App.3d 1023 (2000) -Meyer v. Naperville Manner Inc., 262 Ill.App.3d 141 (1994) INDIANA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Yes. Ind.Code Ann (2006) Release for Racing Can a parent execute a release for a minor? - Yes. Ind.Code Ann (2006) Minors who have been emancipated to participate in automobile or motorcycle racing may not avoid a contract, liability release, or an indemnity agreement by reason of the minor's age. IOWA - Huffman v. Monroe County Community School, 564 N.E.2d 961 (1991) Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Iowa Code ch. 88A (2001) Safety Inspection of Amusement Rides. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. KANSAS Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. 43

45 KENTUCKY Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Ky. Rev. Stat. Ann Recreational Use Statute - Ky. Rev. Stat. Ann Cave Protection Statute Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. LOUISIANA Are releases enforceable? - No. Releases are unenforceable. Are there any statutes that reflect enforcement of a release? - La Civ. Code Ann. art. (2004) Clause that excludes or limited liability Can a parent execute a release for a minor? - No. Costanza v. Allstate Insurance Co. U.S Dist LEXIS (2002) MAINE Are releases enforceable? - Yes. Rigorously enforced. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - No. Doyle v. College, 403 A.2d 1206 (1979) Rice v. American Skiing Co., Me. Super. LEXIS 90 (2000) MARYLAND Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - House Bill 745 Education - Pole Vaulting - Helmets - House Bill 412 Education - Sports Programs - Mouth Guards - House Bill 750 Courts - Settlements and Releases - Limited Prohibitions - Md. Stat Courts and Judicial Proceedings Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. 44

46 MASSACHUSETTS Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - Yes. Webb v. Jiminy Peak, 2002 Mass.App. Div.16 LEXIS 8 (2002) -Sharon v. City of Newton, 437 Mass. 99 (2002) -Eastman v. Yutzy, 2001 Mass.Super. LEXIS 157 (2001) -Quick v. Walker's Gymnastics & Dance, 16 mass. L. Rep. 503 (2003) MICHIGAN Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - MCLS Equine Activity Liability Act Can a parent execute a release for a minor? - No. Smith v. YMCA of Benton Harbor/ St. Joseph, 550 N.W.2d 262 (1996) MINNESOTA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - 604A.11 Volunteer athletic coaches and officials; physicians and trainers; immunity from liability - 604A.12 Livestock activities; immunity from liability - 604A.25 Owner's liability; not limited Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. MISSISSIPPI Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - A minor's right may not be relinquished except pursuant to a specific authorization from a Court of competent jurisdiction. Johnson v. Ford Motor Co., 707 F.2d 189 (1983) 45

47 MISSOURI Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. MONTANA Are releases enforceable? - No. Releases are unenforceable. Are there any statutes that reflect enforcement of a release? - MCA Waiver of Benefit of a Law - MCA What is unlawful - MCA Contracts which violate policy of the law B exemption from responsibility Can a parent execute a release for a minor? - No. Mont.Code Ann (2006) All exculpatory agreements purporting to relieve a party from all liability for future negligence is unenforceable by statute. NEBRASKA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. NEVADA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - NRS When comparable negligence not bar to recovery; jury instructions Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. NEW HAMPSHIRE Are releases enforceable? - Yes. 46

48 Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. NEW JERSEY Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - N.J.S.A. 5:13-3 Responsibility of operator (Skiing) - N.J.S.C. 5:14-1 Roller Skating Rink Safety and Liability - N.J.S.A. 5:15-1 Equine Animal Activities Can a parent execute a release for a minor? - No. Hojnowski v. Vans Skate park, 375 N.J.Super.568 (2005) This case was appealed to the New Jersey Supreme Court, which held that an arbitration agreement signed by the parent (involving a Van's Skate Park) on behalf of the minor, could operate to force the matter to be arbitrated, as an alternative to a jury trial. - Fitzgerald v. Newark Norning Ledger Co., 111 N.J.Super.104 (1970) NEW MEXICO Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - N.M.S.A Equine Liability Act Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. NEW YORK Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - NY CLS Gen. Oblig Agreements excepting pools, gymnasiums, places of public amusement or recreation and similar establishments from liability for negligence void and unenforceable Can a parent execute a release for a minor? - No. Valdimer v. Mt. Vernon Hebrew Camps, Inc., 9 N.Y.2d 21 (1961) NORTH CAROLINA Are releases enforceable? - Yes. 47

49 Are there any statutes that reflect enforcement of a release? - N.C. Gen. Stat. 99C-2(c) Actions Relating to Skier Safety and Skiing Accidents - 46 U.S.C.S. The limitation of Liability Act - N.C. Gen. Stat. 115D-72 Motorcycle Safety Instructions Programs Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. NORTH DAKOTA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - N.D. Cent. Code, Contracts against the policy of the law Can a parent execute a release for a minor? - Yes. Kondrad v. Bismark Park Dist., 2003 N.D. LEXIS 3 (2003) OHIO Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - Yes. Mohney v. USA Hockey, Inc., 5 Fed.Appx.450 (2001) -Cross v. Carnes, 724 N.E.2d 828 (1998) -Zivich v. Mentor Soccer Club, 1997 Ohio App. LEXIS 1577 (1997) OKLAHOMA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Okla. Const. art. 23, 6 Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. OREGON Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. 48

50 Can a parent execute a release for a minor? - No. Ohio Casualty Ins. Co. v. Mallison, 223 Ore. 406 (1960) PENNSYLVANIA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - No. Troshak v. Terminix International Co, 1998 U.S. Dist. LEXIS 9890 (1998) - Shaner v. State Sys. of Higher Educ., 40 Pa. D. & C. 4th 308 (1998) - Simmons v. Parkette Nat'l Gymnastic Training Center, 670 F.Supp.240 (1997) RHODE ISLAND Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - A parent may not compromise his child's cause of action absent express authority to do so, either under a statute or by approval of the Court. - Julian v. Zayre Corp., 120 R.I. 494, 499 (1978) SOUTH CAROLINA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. SOUTH DAKOTA re releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - S.D. Stat Conduct not exempt from liability (Equine Activities) Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. 49

51 TENNESSEE Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Tenn. Code Ann Tennessee Ski Area Safety and Liability Act - Tenn. Code Ann Unenforceable health club agreements Can a parent execute a release for a minor? - No. Childress v. Madison County, 777 S.W.2d 1 (1989) TEXAS Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Tex. Bus & Com. Code 1.201(10) General Definitions and Principles of Interpretation Can a parent execute a release for a minor? - No. Fleetwood Enterprises, Inc. v. Gaskamp, 280 F.3d 1069 (5th Cir. 2002) - Munoz v. II Jaz, Inc., 863 S.W.2d 207 (1993) UTAH Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Utah Code Ann to 7 Limitation of Landowner Liability - Public Recreation Can a parent execute a release for a minor? - No. Hawkins v. Peart, 2001 UT 94 (2001) VERMONT Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. VIRGINIA Are releases enforceable? - Pre-injury releases are generally declared void because of public policy. However, the Court will uphold such releases when involved with automobile races. 50

52 Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - No. Hiett v. Lake Barcroft Community Association, 418 S.E.2d 894 (1992) WASHINGTON Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Rev. Code Wash. (ARCW) 79A Skiing and Commercial Ski Activity: Standard of conduct B Prohibited acts B Responsibility Can a parent execute a release for a minor? - No. Wagenblast v. Odessa, 110 Wn.2d 845 (1998) -Scott v. Pacific West Mountain Resort, 119 Wn.2d 484 (1992) WEST VIRGINIA Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - W. Va. Code 20-3B-3 Duties of Commercial whitewater outfitters and commercial whitewater guides Can a parent execute a release for a minor? - No. Johnson v. New River Scenic Whitewater Tours, Inc., 313 F.Supp.2d 621 (2004) WISCONSIN Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - Wis. Stat Civil Liability Exemption; Equine Activities Can a parent execute a release for a minor? - Yes. Osborne v. Cascade Mt., Inc., 259 Wis.2d 481 (2002) WYOMING Are releases enforceable? - Yes. Are there any statutes that reflect enforcement of a release? - No. Can a parent execute a release for a minor? - There does not appear to be any case law on this topic. 51

53 * Please note that Anthony J. Ellrod is licensed to practice law only in the State of California and the federal courts of the United States of America. Therefore all information provided that pertains to other states is of a general nature and is not intended nor represented to replace professional, specialized legal advice from counsel licensed in that state, nor should the information be relied upon as same. This information is offered in order to provide a starting point for further investigation and we recommend that you formally consult counsel licensed in the applicable state to determine your rights and/or obligations under applicable law. Anthony Ellrod Manning & Kass Ellrod, Ramirez, Trester LLP 801 South Figueroa Street, 15th Floor Los Angeles, California T: (213) E: [email protected] 52

54 Cyber and Privacy Risks: Class Action Exposures Howard Borlack, Senior Partner & Laurie Murphy, Partner McCague Borlack LLP Introduction Class action litigation arising out of cyber and privacy risks is increasing in Canada. The cases involve a broad range of privacy and cyber risks including lost portable electronic storage devices, uploads to an unsecure website, improper disposal of computer equipment, unauthorized access and dissemination by rogue employees, cybercrime and business practices. More breaches, increased breach notifications, widespread media reports and growing concern about privacy rights have all likely contributed to the increase in class action proceedings. In addition, the recent recognition of a new tort for invasion of privacy by the Ontario Court of Appeal in 2012 has resulted in certification of privacy class actions based on the new tort. This paper will discuss examples of Canadian cyber and privacy cases which have been certified as class actions, cases that have settled, and cases that have been recently commenced as proposed class actions. CERTIFICATION / RULE 21 MOTION DECISIONS Evans v. The Bank of Nova Scotia (unauthorized access/dissemination) In a decision released on June 6, 2014 in Evans v. The Bank of Nova Scotia, 58 the Ontario Superior Court of Justice certified a class action against The Bank of Nova Scotia and its employee in a case arising out of the employee s deliberate breach of customers privacy rights. In this case, the employee, a Mortgage Administration Officer, admitted to accessing and printing customer profiles for individuals who had applied for mortgages and providing this confidential personal and financial information to his girlfriend, who then disseminated it to third parties for fraudulent and improper purposes. The bank identified 643 customers whose files were accessed by the employee and 138 customers had advised the bank that they had been the victims of identity theft or fraud. In this case, the bank offered a complimentary subscription to a credit monitoring and identity theft protection service to the 643 customers notified and compensated the 138 customers for their pecuniary losses. As against the bank, the plaintiffs alleged breach of contract, negligence, the tort of intrusion upon seclusion, breach of fiduciary duty and of the duty of good faith, waiver of tort, and vicarious liability for its employee s conduct. Addressing the first requirement for certification, the court determined that the statement of claim disclosed causes of action in negligence, waiver of tort, breach of contract, as well as vicarious liability for the employee s tort of intrusion upon seclusion and breach of the duty of good faith. The test is whether it is plain and obvious that the plaintiffs claims would be unsuccessful against the bank and it does not involve a consideration of the merits of the case. Notably, this was another class action 59 to be certified based on the new tort of intrusion upon seclusion which was first recognized by the Ontario Court of Appeal in Jones v. Tsige. 60 In Jones, the Court of Appeal set out the three elements required to establish the tort of intrusion upon seclusion: a) The defendant s conduct must be intentional (which could include recklessness); ONSC 2135 (CanLII). 59 The other was Condon v. Canada, note ONCA 32 (CanLII). 53

55 b) The defendant must have invaded the plaintiff s private affairs or concerns without lawful justification; and c) A reasonable person would regard the invasion as highly offensive causing distress, humiliation or anguish. Proof of harm to a recognized economic interest is not an element of the cause of action. The court also stated that the damages for intrusion upon seclusion will ordinarily be measured by a modest conventional sum in the range of up to $20,000. In Jones, the court awarded $10,000 to the individual plaintiff (where records were accessed by one person and not disseminated). In considering the relevant factors in determining vicarious liability on an employer, the court in Evans found that the Bank created the opportunity for [the employee] to abuse his power by allowing him to have unsupervised access to customers private information without installing any monitoring system and there is a significant connection between the risk created by the employer in this situation and the wrongful conduct of the employee. The court also found that the plaintiffs who have suffered real pecuniary damages (for which the bank admitted responsibility) may be entitled to additional damages for emotional suffering, hardship and inconvenience. The court stated: [t]his is a unique situation, where their personal financial records were distributed to third party criminals and where such confidential information has been used to steal their identity and commit fraud and has negatively affected their credit ratings. The court rejected the bank s argument that the plaintiffs claim for damages for emotional distress would fail because they had not pleaded that they suffered a recognized psychiatric or psychological harm. With respect to the claim for waiver of tort (recovery of disgorgement of profits as an alternative to a tort remedy), the court stated that it was possible to infer that the Bank earned additional profits from its alleged wrongful conduct of failing to incur the costs necessary to ensure adequate supervision of its employees in order to protect customers confidential information. The bank had argued that there was no causal connection between the wrongful conduct and the bank s profits. Condon v. Canada - Student Loans (lost hard drive) On March 17, 2014, the Federal Court certified a class action against the federal government involving the loss of an external hard drive containing the personal information of 583,000 student loan program participants. 61 The unencrypted hard drive went missing from a filing cabinet in a Human Resources and Skills Development Canada office in Quebec. The information on the hard drive included names, dates of birth, addresses, student loan balances and social insurance numbers. In their statement of claim, the plaintiffs claimed damages for breach of contract, breach of warranty, the tort of intrusion upon seclusion, negligence, breach of confidence and violation of Quebec law. The court summarized the damages sought by the plaintiffs as falling into two categories: i) compensation for wasted-time, inconvenience, frustration and anxiety resulting from the data loss; and ii) increased risk of identity theft in the future. The plaintiffs also claimed punitive damages due to the delay in notification. In this case, the court determined that the claim for the new tort of intrusion upon seclusion, recognized in Jones v. Tsige, 62 disclosed a reasonable cause of action and allowed this claim to proceed. The court also allowed the claim for breach of contract and warranty to proceed. 61 Condon v. Canada, 2014 FC 250 (CanLII) ( Condon ). 62 Supra, note 3. 54

56 However, the court held that it was plain and obvious that the claims based on negligence and breach of confidence would fail due to the lack of compensable damages. The Condon case is a good example of the damages issues that arise in these types of cases, both here at the certification stage and later at a trial on the merits, where there are little or no damages. With respect to the breach of contract and warranty claim, the plaintiffs acknowledged that their claims were for very small sums but they submitted that nominal damages have long been awarded by Canadian courts in order to recognize a breach of contract, even if it does not have a clear economic impact, or if that impact cannot easily be assessed. The defendant argued that the plaintiffs had not properly alleged a basis in fact for damages and that nominal damages should never be awarded in a class action as only plaintiffs counsel, not the plaintiffs, would stand to benefit financially from the outcome. While the court noted that the defendant advanced an interesting and strong argument on this point, it held that the plaintiffs position, although novel in the context of a class proceeding is supported by sufficient authorities that it should be considered on the merit of the action. It also held that the court would be better positioned to rule on the issue of any disproportionate advantages in favour of the plaintiffs counsel when it hears it on the merit. With respect to the claim for negligence and breach of confidence, for which damages is an essential element, the court found that the pleadings and a summary review of the evidence revealed that the plaintiffs had not suffered compensable damages. The plaintiffs were not victims of fraud or identity theft and the evidence did not support a claim for increased risk of identity theft in the future. The plaintiffs had spent at most four hours over the phone seeking status updates from the Minister. The court followed the reasoning in the case of Mazzonna v. DaimlerChrysler where it was held that the potential for future damages for the plaintiff who had not yet been victim of identity theft or unsuccessful attempts to defraud falls squarely within the field of speculation and unverified hypotheses and ought not to be considered in assessing whether there is a prima facie existence of damages. 63 The court also referred to the case law holding that damages are rarely awarded for mild disruption alone, but normally in conjunction with other more traditional heads of damages, which are not available in this case. It also noted that damages cannot be awarded for merely speculative injuries. It has been reported that the decision is under appeal. Hopkins v. Kay Peterborough Regional Health Centre (alleged unauthorized access) Another Ontario case, Hopkins v. Kay, 64 is a proposed class action involving an alleged breach of patients privacy interests arising from improper access to their personal health records by hospital employees. The plaintiffs allege that approximately 280 patient records of the Peterborough Regional Health Centre were intentionally and wrongfully accessed by the hospital and seven hospital employees. The statement of claim as originally issued plead various causes of action including breach of the Personal Health Information Act ( PHIPA ), breach of a confidentiality agreement, breach of contract, negligence, misfeasance and mismanagement, breach of trust and breach of fiduciary duty. The statement of claim was later amended to include only the tort of intrusion upon seclusion based on the allegation that the defendants wrongfully and intentionally accessed private medical information without the consent of the patient and disseminated it to third parties. The plaintiffs claim general damages including psychological damages and punitive and aggravated damages. 63 Condon, para. 75, quoting Mazzonna v. DaimlerChrysler Financial Services Canada Inc., 2012 QCCS 958 (CanLII) ( Mazzonna ) ONSC 321 (CanLII) ( Hopkins ). 55

57 On January 31, 2014, the Ontario Superior Court of Justice dismissed the hospital s motion for an order to strike the claim as disclosing no cause of action and for an order that the court has no jurisdiction over the subject matter of the claim. The court rejected the hospital s argument that PHIPA, with its own administrative and enforcement scheme for the protection of personal health information, constituted a complete code which precluded the plaintiffs common law claim for breach of privacy. The court also rejected the hospital s argument that the case of Jones v. Tsige, recognizing the new tort of breach of privacy, was not applicable as it dealt with Federal privacy legislation and should be confined to its facts. A notice of appeal to the Court of Appeal has been filed by the hospital. 65 The appeal is reportedly scheduled to be heard on December 15, This is an important decision on patients privacy rights and remedies as a claim under PHIPA is limited to damages for actual harm up to $10,000. SETTLED CLASS ACTIONS Wong v. TJX Companies, Inc. TJX/Winners/HomeSense (cyber-attack) This case arose from a cyber-attack on the computer systems of the TJX group of companies in December 2006 and was reportedly one of the largest computer security breaches in the United States. In Wong v. TJX Companies, Inc., 66 the Ontario Superior Court of Justice granted an order dismissing the Ontario action in the context of the global settlement which involved class proceedings in the United States, Puerto Rico and six jurisdictions in Canada. The benefits under the settlement to the Canadian class members were essentially identical to the benefits available to the class members in the other proceedings. Those benefits were credit monitoring, identity theft insurance and reimbursement for the replacement costs of drivers licenses that were replaced during a defined time (where compromised), up to two vouchers for $30 each for class members who incurred out-of-pocket costs and/or lost time as a result of the intrusion (depending on documentation), a one time 15% off sales event and access to an ombudsman for a defined time period to answer questions in respect of card cancellations and credit theft. Speevak v. Canadian Imperial Bank of Commerce (incorrect fax transmission) In 2010, the Ontario Superior Court of Justice certified and approved a settlement in Speevak v. Canadian Imperial Bank of Commerce, 67 in an action commenced in 2005 involving the inadvertent disclosure of customers personal information to third party businesses. The statement of claim asserted causes of action for breach of contract, breach of a duty of care and breach of the Personal Information Protection and Electronic Documents Act (PIPEDA). There was no evidence that the disclosure of the confidential information resulted in identity theft or any direct financial loss to any class member. The terms of the settlement included a claims process whereby a class member would submit a claim form and had the option to accept an offer from CIBC or have the claim assessed by an independent arbitrator. The right to claim for identity theft was preserved. CIBC was to pay $100,000 to a registered charity. With respect to costs, CIBC was to pay the costs of the arbitration process (and class members arbitration-related legal fees if arbitration award is higher than amount of CIBC s initial offer). CIBC was to pay class counsel $42,500 plus G.S.T. to the date of the mediation in 2007 and partial indemnity costs thereafter. CIBC could terminate the settlement and contest certification if more than five class members exercised their right to opt out of the proceeding. Jackson v. Canada Correctional Services (lost address list) The Ontario case of Jackson v. Canada (Attorney General) 68 involved a proposed class action brought by Correctional Services Canada employees at a federal prison in Kingston arising from 65 Hopkins v. Kay, 2014 ONCA CanLII 3421 (ON SC) ONSC 1128 (CanLII) CanLII (ON CA), allowing appeal from 2005 CanLII (ON SC). 56

58 circumstances in which an employee address list fell into the hands of the inmate population. The list, which included names, addresses, phone numbers and names of spouses, was later recovered and certain names and addresses had been highlighted. Following a motion to strike the claim and an appeal, the plaintiffs claims in negligence, breach of privacy rights, breach of fiduciary duty and breach of the plaintiffs rights under section 7 of the Charter were allowed to proceed. It has been reported that the action, commenced in 2004 and originally seeking $15 million, settled in 2010 on the basis that each of the more than 360 plaintiffs would receive at least $1,000 and could make a claim and receive up to $10,000 if they could establish they suffered serious psychological harm. The settlement also provided for the payment of the plaintiffs legal costs estimated at over $140,000 and no admission of liability. It was also reported that the defendant agreed to review privacy protection at other facilities and provide their review and recommendations to the Privacy Commissioner for comment. Rowlands v. Durham Region Health (lost device) In 2011, the Ontario Superior Court of Justice certified a class action in this case concerning the loss of a digital memory USB key by a nurse employed by the Durham Regional Health Department. 69 Adding to the costs of the class action proceeding, both parties obtained expert evidence for the certification motion. While Durham Region largely consented, the court found that the proposed class action met all of the criteria for certification. The court held that without certifying the action as a class proceeding the class members would not reasonably be able to obtain access to justice. The USB key contained the unencrypted personal and confidential information of 83,524 individuals who received H1N1 shots. The plaintiffs claims included negligence, breach of fiduciary duty, breach of confidence, breach of privacy and breach of statutory duty under the Personal Health Information Protection Act and punitive damages. In 2012, the court approved a settlement whereby class members who consequently suffered economic loss could make a claim within a specified claim period and, if not satisfied with the Region s steps to mitigate any harm, could pursue the claim before a Claims Adjudicator. 70 The settlement also provided for the payment of costs to class counsel in the additional amount of $500,000 inclusive of taxes and disbursements, plus 25% of actual claims paid by the defendant in the future. In approving the settlement, the court considered the fact that no class member had claimed financial damage and the chance of success on the merits were quite low, relying in part on a similar case which was dismissed for failing to prove damages, 71 and the risks and costs of both the Region s intended motion for summary judgment and an ultimate trial. The court made a point of emphasizing that this case would look far different if information from the lost USB key had been abused by a wrongdoer. Maksimovic v. Sony of Canada Ltd. (cyber-attack) In 2013, the Ontario Superior Court of Justice approved a settlement in this certified class action stemming from a cyber-attack on its online networks, including Sony PlayStation Network, which led to class actions in Canada and the United States. 72 Notice of the motion for court approval was sent to 3.5 million Canadian accountholders. As part of a Welcome Back package to accountholders, Sony provided benefits of free content and free or discounted subscriptions to online services. In addition, the settlement included reimbursement of account credit balances, online game and service benefits, reimbursement of up to $2,500 per claim for out-of-pocket expenses for class members who could demonstrate that they suffered identity ONSC 719 (CanLII); see also 2011 ONSC 2171 (CanLII) amending statement of claim and certification order ONSC 3948 (CanLII). 71 Mazzonna, supra, note CanLII (ON SC). 57

59 theft, and class counsel fees of $265,000. The court noted that the settlement reflected the state of the law, including possible damages awards, for breach of privacy/intrusion upon seclusion and loss/denial of service claims. RECENTLY ISSUED PROPOSED CLASS ACTIONS Peoples Trust Proposed Class Action (cybercrime) On November 18, 2013, a proposed national class action was commenced against Peoples Trust Company, an online banking firm, arising from a privacy breach in which confidential personal information stored in an online application database was compromised by cybercriminals. 73 Peoples Trust notified 12,000 to 13,000 individuals who may have been affected after discovering the breach when its customers complained of phishing attempts. The action claims $13 million in damages. Rouge Valley Proposed Class Action (alleged theft by rogue employee) In June 2014, it was reported that the personal information of new mothers at Rouge Valley Health System was allegedly sold by two former employees to companies selling Registered Education Saving Plans. 74 Approximately 8,300 patients may be affected. A proposed class action has now been commenced seeking damages in the amount of $412 million which includes damages for breach of contract, breach of warranty, breach of confidence, intrusion upon seclusion, negligence, and conspiracy in the amount of $332 and punitive damages in the amount of $80 million plus undetermined expenses relating to costs incurred to prevent identity theft, as well as mental distress, frustration and anxiety. 75 Further reports indicate that 6,150 additional patients at Rouge Valley s Ajax and Pickering campus may be affected. 76 It has been reported that this case is on hold until the Court of Appeal ruling on whether the case of Kay v. Hopkins can go ahead. 77 Montford Hospital Proposed Class Action (lost device) On May 10, 2013, it was reported that a $40 million class action was commenced against the Ottawa s Montford Hospital arising from a lost USB key (memory stick) containing the confidential personal information of 25,000 patients. The unsecure USB key contained patient names, a summary of services received at the hospital and a code representing the health care provider. The class members allege breach of contract, negligence, breach of privacy and violations of hospital by-laws and the Personal Health Information Protection Act. They allege that the hospital was negligent in failing to ensure that the device was password protected and in failing to disclose the loss of personal information in a timely manner. The action claims damages to compensate patients for the costs related to preventing identity theft, mental distress and inconvenience, frustration and anxiety caused by the incident. The USB key was recovered and it is not known whether the information was accessed by any third parties. IIROC Proposed Class Action (lost device) On April 30, 2013, the Investment Industry Regulatory Organization of Canada (IIROC) was served with a motion to authorize a class action in Quebec relating to the accidental loss of a portable device that contained personal information relating to clients of a number of investment 73 Press Release at 74 Joel Eastwood, Privacy Commissioner contacting other hospitals after Rouge Valley data leak, Toronto Star, June 4, Joel Eastwood, Rouge Valley faces $400M class-action lawsuit over privacy breach, Toronto Star, June 25, Joel Eastwood, Rouge Valley hospital privacy breach affects 6,000 more patients, Toronto Star, August 27, Joel Eastwood, Peterborough lawsuit to set precedent for Ontario patient privacy rights, Toronto Star, September 3, 2014; Hopkins, supra note 7. 58

60 firms. 78 It has been reported that the portable device, believed to be a notebook computer containing the personal information of about 52,000 clients, was password protected but not encrypted contrary to IIROC s policies which require two levels of security. 79 The class action lawsuit seeks $1,000 plus interest on behalf of each class member ($52 million based on 52,000 potential claimants) in relation to damages for stress, inconvenience and measures rendered necessary as a result of the loss of personal information. IIROC did not expect a ruling on this motion until late The IIROC proposed class action is an example of the potential costs of a security breach on an organization. In its Annual Report , IIROC reported that the total costs for this incident were projected to be $5,208,000 which included credit alerts, credit monitoring and support costs provided to affected clients, professional services, a dedicated call center and other anticipated expenses. 80 At the time, IIROC also reported that it had received no reports of identity theft or fraud resulting from the loss of the portable device and accordingly it is not possible to estimate the total amount of potential damages or range of possible loss, if any, resulting from settlements or other remedies in connection with this matter. 81 MacEachern v. Ford Motor Company Proposed Class Action (posting to unsecure website) A proposed class action was filed in Ontario in January 2013 against Ford Motor Company of Canada Limited and an identified vendor corporation after Ford notified employees that their personal information had been inadvertently posted to an unsecured website. 82 It has been reported that the names, addresses, phone numbers, birth dates and Ford seniority dates of 10,000 current and former Ford employees were included in a data upload to a file on an external information technology vendor website. The statement of claim reportedly seeks $13 million in damages as well as an interim order for payment of credit monitoring services for the employees affected. The claim alleges that the defendants were negligent for letting the information become public and failing to destroy the personal information of former employees (one of the representative plaintiffs apparently retired in 2004). According to reports, Ford indicated that the information was immediately removed from the relatively obscure website upon discovery 83 (however there was no information provided on how long it was posted) and that there is no evidence there has been any misuse of the information. 84 Business Practices Class Actions On May 30, 2014, the British Columbia Supreme Court certified the action in Douez v. Facebook, 85 a class proceeding alleging that Facebook used the names and images of Facebook users, without their consent, for advertising in Sponsored Stories contrary to the provisions of British Columbia s Privacy Act. The size of the class was estimated to be over 1.8 million people. There is also a risk of class actions arising from the private right of action (to come into force on July 1, 2017) under Canada s Anti-Spam Legislation 86 (CASL) for non-compliance. 78 IIROC Annual Report , p. 40 ( IIROC AR ). 79 Barbara Shecter, Lost IIROC device containing personal information of investors was not encrypted, Financial Post, April 19, IIROC AR, supra, note 21, pp. 39 and IIROC AR, supra, note 21, p Ellen van Wageningen, Lawsuit filed over web posting Ford employees private information, The Windsor Star, February 1, Ibid. 84 Class action lawsuit filed against Ford Motor Company, CTV Windsor, February 1, BCSC 953 (CanLII). 86 An Act to promote the efficiency and the adaptability of the Canadian economy by regulating certain activities that discourage reliance on electronic means of carrying out commercial activities, and to amend the Canadian 59

61 Conclusion Privacy and security breaches and ensuing class actions can lead to significant legal, financial and reputational costs. The potential damages in a class action are significant considering the number of individuals affected by a single data breach. While some of the cases in Canada to date have resulted in minimal harm to class members and have settled for relatively nominal amounts, a number of other cases involve evidence of identity theft, fraud and other financial harm and, together with claims based on the new tort of intrusion upon seclusion, could result in a significantly increased risk of damages to larger groups. The law in this area is still developing. The cases are still at early stages of litigation, where claims are permitted to proceed where it is not plain and obvious that they would fail, and have not been determined on the merits. However the current cases, including two appeals from certification decisions that are expected to be heard by an appellate court in the coming months, will provide additional guidance for future privacy and cyber risk claims. Howard Borlack McCague Borlack LLP Suite 2700, The Exchange Tower 130 King Street West Toronto, Ontario M5X 1C7 T: (416) E: [email protected] Radio-television and Telecommunications Commission Act, the Competition Act, the Personal Information Protection and Electronic Documents Act and the Telecommunications Act, S.C. 2010, c

62 Lessons Learned from Sandy: Recommendations for Proper Claims Handling in the Face of a CAT Glenn A. Jacobson and Gabrielle Puchalsky Abrams, Gorelick, Friedman & Jacobson, LLP On October 29, 2012, Superstorm Sandy struck parts of the Eastern Seaboard of the United States, including New York and New Jersey, leaving a large path of destruction. During and immediately after the Storm, it became readily apparent that the majority of the property damage was due mainly to flood waters and/or storm surge, rather than windstorm. It isn t as if the insurance industry as a whole and the London Market, in particular, had not faced the many difficulties encountered in gearing up for and responding to a storm of Sandy s magnitude. However, for those of us in the densely populated Northeast, which is rarely exposed to widespread mass destruction, Sandy afforded those of us regularly involved in property damage insurance litigation an opportunity to examine the industry s response and offer recommendations that may be helpful in handling CAT claims in the future. 1. Plan Ahead: Are You and The Coverholder Prepared in the Event of a CAT? In defending Sandy claims, I periodically review a blog by the Merlin Firm, a well-known law firm representing insureds in CAT claims. One particular entry, entitled Bad Faith, Bad Planning, or Both? posted on February 5, 2013 by Robert Trautmann, seemed appropriate reading for this paper. In the post, Mr. Trautmann discusses alleged complaints by insureds as a result of a claims handling process perceived as being too slow. Mr. Trautmann framed the issue as whether those claims are being handled in bad faith or are the result of poor planning. Many suggest poor planning is bad faith. The manner in which Underwriters do business, through the use of Coverholders, creates unique issues in handling a CAT. A Coverholder s Agreement typically contains the rights and responsibilities of the Coverholder in the event of a claim. But a CAT presents claim adjusting issues not encountered in handling the typical claim volume over the life cycle of a program. First and foremost, do the insurer and the Coverholder have a CAT plan in place? The fact is the sheer volume of claims and adjusting activities will overwhelm even the most seasoned and experienced claims personnel. Consequently, to realistically evaluate the insurer and Coverholder s ability to respond to a CAT, a reasonable assessment of the projected claims volume must be made. Next, the Coverholder s staffing must be reviewed to determine whether it has the necessary resources and expertise to handle the claim volume from a storm that may generate several hundred, if not thousands, of claims. We suggest that, as part of its CAT plan, the Coverholder consider engaging a TPA experienced in handling a high volume of CAT property claims. An experienced TPA can coordinate the activities of the adjusters, building contractors, engineers and other experts and oversee the quality of the work being done by each. If bringing on a TPA is impractical or undesirable, the Coverholder at the very least must be prepared to bring on additional, experienced temporary claims personnel to handle the increased call and claim volume generated by the storm. In that vein, we recommend establishment of a toll-free telephone number and postal mail box for the specific purpose of 61

63 receiving calls and mail dedicated to storm claims. Doing so will alleviate complaints by unrepresented insureds that they did not know where or who to turn to in their time of need. Underwriters and the Coverholder should consider simplifying the customary claims referral process to eliminate red-tape by giving the Coverholder or TPA increased settlement authority. Does the Coverholder have an established claims and denial authority? In the face of a CAT, a review of this authority should take place, as well. Again, the perceived failure of the insurance industry in fairly and promptly adjusting claims is a regular factor in insureds making bad faith claims. Policy language should be reviewed and decisions made in advance regarding the coverage position Underwriters will take in gray areas of coverage. These decisions should be communicated to the Coverholder or assigned TPA as far in advance of the CAT as possible. Finally, as part of the CAT preparedness plan, the Coverholder and Underwriters should predetermine which independent adjusting firm(s), engineers and other necessary vendors and experts will be part of the CAT team. The selection of these professionals must be based on experience, skill and resources as their performance will directly impact the ultimate success in the processing and disposition of these claims. Do the vendors customarily relied on by the Coverholder and Underwriters in the geographic area have the resources to handle the anticipated claims volume? Do they have the ability to quickly retain experienced and qualified adjusters to handle the surge of claims? What training and skills do their adjusters and temporary per diem adjusters have? Underwriters must clearly convey to the Coverholder, TPA and adjusters a game plan and expectations for responding to and adjusting insured s claims. In turn, the adjusting firms and their adjusters must know and fully understand the role they play in executing Underwriters CAT plan and agree to minimum acceptable requirements in their adjusting protocols (i.e. that the roofs and interiors of all risks be inspected and the damage or lack thereof be documented whether the cause is alleged to flood, wind or a combination of the two). 2. Adjusting Windstorm Claims: It s in the Details In our experience, the most important aspect of adjusting CAT windstorm claims is a thorough and complete inspection of the damaged property. This requires that the adjuster inspect and document the condition of the entire property at the first inspection, even if the insured asserts that no claim for damage to a particular area is being made. Why, in that case expend the additional time and effort? Simply because we know public adjusters and attorneys actively seek out insureds unhappy with the original adjustment of their claims. Experienced plaintiff s counsel can pinpoint weaknesses in the original adjustment process and present claims for additional damages that may not have been addressed in the original inspection of the property, even where wind damage was minimal. Thus, the most confounding issue we have experienced in defending Sandy claims has been the uneven field adjustment that occurred after Sandy. This inconsistency resulted from several factors. First, there were pronouncements from the outset that Sandy was a flood event and that the majority of the property damage was caused by flood or storm surge. Many were led to believe that covered wind losses were not a significant issue because the storm had been downgraded from a hurricane and one did not have to be an expert to see the devastation visited on many communities was obviously due to flood or storm surge. However, while it is beyond debate the majority of damage was caused by flood waters or storm surge, many properties did sustain minor wind damage. Unfortunately, the idea that Sandy was a flood event rather than a wind event caused some adjusters to limit the scope of their inspections to the areas of the property where the damage was obviously caused by 62

64 wind. These inspections, limited to obvious exterior wind damage, exposed Underwriters to subsequent claims for interior damage that had not been addressed by the adjuster during the initial inspection. As a result, we learned that the failure to document all of the damage (or lack thereof) with photographs made successful negotiations more difficult. Some Dos and Don ts Do create a CAT plan of action Do not commit the CAT plan or mandatory adjusting procedures to writing Do gather a network of trusted experts- builders, adjusters, structural engineers, electrical engineers, meteorologists, accountants and attorneys Do engage experienced legal counsel as soon as possible in the process. Instruct your experts (engineers, builders, etc.) to liaise with counsel prior to committing an opinion to writing Do share information on insureds experts, from their attorneys to their engineers to their building contractors- the insureds representatives have created books on the insurance industry s representatives Do understand the early coverage implications, i.e. that payment of any amount of a covered loss may result in having to pay a subsequent, larger claim if the insured can prove damage (another reason initial inspections must be comprehensive). This goes for ALE and FRV claims, as well. Do use the internet; it is an unlimited resource for valuable information pertaining to the CAT, the effected communities and actions of government officials Do insist that the field adjusters perform a comprehensive inspection, fully documented with photographs, video (if not cost prohibitive), measurements and descriptions of the property, identifying the covered damage and damage that is not covered by the policy Do insist that adjusters document the inability to inspect a property or portion of the property for safety reasons, report the problem to superiors so an inspection by a qualified expert can be scheduled immediately and document the effort in the event the failure to inspect later becomes an issue with the insured or the insured s representatives Do encourage the prompt and fair resolution of each claim- undisputed amounts should be paid as quickly as possible Do develop a network of independent mediators Do develop an Alternative Dispute Resolution (ADR) protocol to offer to insureds in a proactive attempt to resolve claim issues before they become litigation issues Align coverage/defense counsel with public adjusting firms and insured legal counsel where possible Fortunately, 2014 has been a relatively quiet year from a CAT perspective. This paper is not intended to be an exhaustive post-mortem of Sandy. However, it should serve as a reminder that there is no time like the present to prepare. Gather your network of trusted experts TPAs, adjusters, builders, engineers, weather consultants accountants and attorneys and begin planning and preparing your response to the inevitable. Glenn A. Jacobson Abrams, Gorelick, Friedman & Jacobson, LLP 1 Battery Park Plaza New York, New York

65 T: (212) E: Gabrielle Puchalsky Abrams, Gorelick, Friedman & Jacobson, LLP 1 Battery Park Plaza New York, New York T: (212) E: [email protected] 64

66 Mind the Gap: Magic Words and Recent Developments Regarding Excess Policy Language Requiring Exhaustion of Primary Limits Bradley M. Jones and Anthony J. Alt Meagher & Geer, P.L.L.P. A Harmonie Group presentation, November 6, 2014 Given at DAC Beachcroft, London Meagher & Geer advises and represents clients throughout the United States. The firm has a particular focus on insurance coverage, working with insurance carriers, and representing professionals. The matter contained herein does not constitute legal advice, and is for informational purposes only. I. Introduction. Many claims and lawsuits implicate two or more levels of insurance coverage by way of excess policies layered on top of a primary policy or a self-insured retention. An excess insurance policy generally requires that a primary and all underlying insurance policies be exhausted before it provides coverage. 87 This is because [t]he critical and distinctive feature of an excess insurance policy is that it provides coverage only after the primary coverage is exhausted. 88 From an excess carrier s point of view, exhaustion means the actual payment of losses, through satisfaction of judgments or settlement of claims, but policyholders frequently argue that the exhaustion requirement is ambiguous. 89 Some courts have held that exhaustion can occur not only through actual payment by underlying carriers, but also through functional exhaustion, where an insured settles with primary or underlying carriers for less than limits and the insured pays the gap, or through partial settlement, where the claimant provides a credit to the insured for the gap. 90 Settlements of primary or underlying insurance policies for less than limits pose problems for excess insurers, who rely on such policies to act as a buffer to coverage. 91 This article provides an overview of cases that have analyzed whether underlying limits were exhausted, and some guideposts on interpreting policy language based on what courts have said in the last five years. A string of recent cases provides a better understanding of whether an excess policy means what it says or simply says what an excess carrier means it to say regarding whether exhaustion has occurred such that excess coverage is triggered. In sum, if a policy contains the magic words, actual payment of money by the primary or underlying carriers will be enforced as a condition precedent to triggering excess coverage. The trick is to determine whether the policy contains the magic words. 87 E.g., 15 Couch on Insurance 220:32, Nature of Excess and Umbrella Policies. 88 Quellos Grp. LLC v. Fed. Ins. Co., 312 P.3d 734, 741 (Wash. Ct. App. 2013) (quoting Diaz v. Nat l Car Rental Sys., Inc., 17 P.3d 603, 605 (Wash. 2001)). 89 Thomas M. Brower, Partial Settlements by Primary Insurers, 29 TORT & INS. L.J. 536, 536 (1994). 90 See, e.g., Trinity Homes LLC v. Ohio Cas. Ins. Co., 629 F.3d 653, 658 (7th Cir. 2010) (applying Indiana law and concluding that exhaustion language in umbrella policy was ambiguous, and could be satisfied by insured s settlement with primary insurers for less than limits and insured takes responsibility for the remainder ); Drake v. Ryan, 514 N.W.2d 785, 789 (Minn. 1994); Teigen v. Jelco of Wis., Inc., 367 N.W.2d 806, 810 (Wis. 1985). 91 See Lee M. Brewer & Barbara A. Ewing, Exhaustion What Does It Mean?, 16 FID. L.J. 207, 208 (2010) (stating that [t]he principle of excess insurance is based on the consideration that the upper layers of coverage will not often be needed, so their cost can be lower than comparable coverage at a lower level ). 65

67 Since the seminal case of Zeig v. Massachusetts Bonding & Insurance Co., 23 F.2d 665 (2d Cir. 1928), courts have sent conflicting signals regarding whether an underlying carrier s settlement below policy limits meets exhaustion requirements and triggers excess coverage. 92 Some courts have held that the gap between a primary or underlying policy and an excess policy does not trigger excess coverage. 93 Other courts permit functional exhaustion, whereby the insured settles with a primary or underlying carrier for less than full limits, yet the policy limits are considered to be exhausted. 94 But courts in the last five years have provided additional guidance consistent enough to constitute a basic principle: if an insuring agreement or exhaustion provision unambiguously requires that primary or underlying carriers pay full limits under their policies before excess coverage is triggered, it will be enforced. If a policy is unspecific about who must pay, how limits are to be exhausted, and whether full limits must be exhausted, courts allow functional exhaustion by construing the language against the excess insurer, often citing public policy reasons for functional exhaustion. Even the recent court opinions permitting functional exhaustion have consistently acknowledged that excess carriers are permitted to require actual exhaustion through actual payment of legal currency, but have concluded excess carriers are out of luck where the policy language does not clearly require it. 95 The collective admonition from the recent courts to excess carriers who argue that exhaustion through actual payment of full policy limits by underlying carriers is required is that s what the policy language should clearly say. Excess carriers should embrace this plainlanguage approach, not scorn the courts for doing what insurers have uniformly told courts they should be doing in any coverage dispute: applying what they perceive to be the plain language. The collective admonition from recent courts to excess carriers is similar to the admonition from the March Hare to Alice in Alice s Adventures in Wonderland: Then you should say what you mean, the March Hare went on. I do, Alice hastily replied; at least at least I mean what I say that s the same thing, you know. Not the same thing a bit! said the Hatter. Why, you might just as well say that I see what I eat is the same thing as I eat what I see! 96 Interpreting excess insurance exhaustion wording in light of the string of recent cases is important not only for excess insurance carriers, but also for claimants, insureds, and primary carriers considering whether to settle for less than primary policy limits. There will be close calls on whether particular policy language permits functional exhaustion, but the developing case law provides useful signposts. Focusing on the policy language, not theoretical or actual harm to 92 Compare U.S. Fire Ins. Co. v. Lay, 577 F.2d 421, 423 (7th Cir. 1978) (concluding that excess carrier s coverage obligations were not triggered where settlement agreement between claimant and primary insurer was for less than primary insurer s policy limits), with Stargatt v. Fid. & Cas. Co. of N.Y., 67 F.R.D. 689, 691 (D. Del. 1975) (holding that it was not necessary that primary policy limits actually be paid in order in order to trigger excess coverage), aff d without opinion, 578 F.2d 1375 (3d Cir. 1978). 93 E.g., Citigroup, Inc. v. Fed. Ins. Co., 649 F.3d 367, (5th Cir. 2011); Great Am. Ins. Co. v. Bally Total Fitness Holding Corp., No. 06-C-4554, 2010 WL , at *4-5 (N.D. Ill. June 22, 2010). 94 E.g., Koppers Co., Inc. v. Aetna Cas. & Sur. Co., 98 F.3d 1440, 1454 (3d Cir. 1996) (stating that settlement with the primary insurer functionally exhausts primary coverage and therefore triggers the excess policy ). 95 E.g., Chartis Specialty Ins. Co. v. Queen Anne HS, LLC, 867 F. Supp. 2d 1111, (W.D. Wash. 2012). 96 LEWIS CARROLL, ALICE S ADVENTURES IN WONDERLAND 62 (Delacorte Press/Seymour Lawrence 1977); see also Brooklyn Bridge, Inc. v. S.C. Ins. Co., 420 S.E.2d 511, 513 n.1 (S.C. Ct, App. 1992) (stating that [t]he purpose of an insurance policy is to insure. Insurance policies are written by insurance companies. Like Humpty Dumpty, they have the rare privilege of choosing what their words mean. But, unlike Humpty Dumpty, they should say what they mean in advance, not after the fact. ). 66

68 excess insurers, should help claims adjusters in making litigation, valuation, and settlement decisions. II. Zeig Where It All Began. Ongoing efforts of insureds over the last ninety years to settle with a primary carrier for less than limits, and courts considering such settlements as exhausting primary policy limits, successfully began with the Second Circuit s decision in Zeig v. Massachusetts Bonding & Insurance Co., 23 F.2d 665 (2d Cir. 1928). The insured, Zeig, experienced a burglary loss, but had different layers of first-party burglary insurance. 97 Zeig had an excess burglary insurance policy that required at least $5000 in primary coverage; instead of carrying the minimum of $5000 in primary coverage, Zeig had three underlying burglary insurance policies covering the first $15, Zeig settled his claims under these primary policies for $6,000, but sought to recover an additional $5,000 in excess coverage. 99 The excess policy provided that it shall apply and cover only after all other insurance herein referred to shall have been exhausted in the payment of claims to the full amount of the expressed limits of such other insurance. 100 The excess carrier argued that this policy language required the underlying carriers to make actual payments of full policy limits before coverage under the excess policy was triggered. 101 Accordingly, the excess carrier refused to pay under the policy, arguing that the underlying carriers had settled for less than the full amount of the[ir] expressed limits, thereby failing to exhaust policy limits, and not triggering excess coverage. 102 The Second Circuit rejected the argument that exhaustion of the limits of the underlying insurance required the insured to have actually collected the full amount of the underlying policies from the insurers. 103 The court held that it would be unnecessarily stringent to require the insured to actually collect the full amount of the primary coverage before the underlying policies could be considered exhausted, and instead formulated the idea of functional exhaustion the excess carrier must pay, regardless of how the underlying insurer satisfied the payment obligation. 104 The court concluded that claims are paid to the full amount of the policies if they are settled and discharged, rendering the primary coverage exhausted. 105 Without citing any precedent, the court stated that payment need not be interpreted as only relating to payment in cash, but is often used to refer to satisfaction of a claim by compromise, or in other ways. 106 The court reasoned that the excess carrier had no rational interest in whether the insured collected the full amount of the primary policies, so long as it was only called upon to pay such portion of the loss as was in excess of the limits of the policies. To require absolute collection of the primary insurance to its full limit would in many, if not most, cases involve delay, promote litigation, and prevent an adjustment of disputes which is both convenient and commendable. A result harmful to the insured, and of no rational advantage to the insurer, ought only be reached when the terms of the contract demand it F.2d at Id. 99 See id. 100 Id. (emphasis added). 101 Id. 102 Id. 103 Id. at Id. 105 See id. 106 Id. 107 Id. 67

69 Although subsequent courts have often cited the above passage and rationale of Zeig promotion of settlement and no harm to the excess insurer it is noteworthy that the court looked at the plain language of the policy and employed its public-policy rationale only because the court considered the policy s language ambiguous. The court stated that [i]t is doubtless true that the parties could impose such condition precedent [of the primary policies being exhausted only by payment and collection of legal tender], if they chose to do so, but the court stated that the language was ambiguous because it could see nothing in the clause before [it] to require a construction so burdensome to the insured. 108 In other words, the court looked first to the policy s plain language, which did not expressly require actual payment of money for exhaustion or some other specification regarding the manner in which exhaustion was to occur. Without further indication from the policy language and without finding sufficient reason to impose such a requirement, the court declined to do so. III. Exhaustion of Limits Post-Zeig. A. Zeig and the Public-Policy Rationale Influence. Numerous courts followed Zeig s lead and adopted the same public-policy rationale, expanding beyond first-party insurance, such as the burglary insurance at issue in Zeig. Many of these cases, however, took place in Louisiana and Wisconsin, which have direct-action statutes permitting claimants to sue insurers directly, prior to obtaining a judgment against an insured. 109 For instance, in Benroth v. Continental Casualty Co., the claimant utilized Louisiana s direct-action statute to sue an insured s primary and excess auto liability carriers after a car accident. 110 The claimant settled with the primary carrier for less than the primary policy limit and released the insured from liability for damages, with the exception of any liability the excess policy covered. 111 The claimant gave a credit for the gap between the primary policy limit and the amount actually paid, such that the excess insurer was only obligated to pay amounts exceeding the primary policy limit. 112 The court concluded that the credit for the gap sufficed to trigger the excess policy, citing Zeig and noting that the excess carrier s policy did not expressly require that the primary coverage be exhausted by actual payment of money. 113 Reliance on Zeig continued over the next several decades. In Gasquet v. Commercial Union Insurance Co., the Louisiana Court of Appeals held that coverage under an excess policy was triggered where an insured, claimant, and underlying carrier settled for less than the full primary policy limits, and the excess carrier was given a credit for the gap in coverage between the settlement amount and the excess policy s attachment point. 114 The excess policy stated that [l]iability under this policy with respect to any occurrence shall not attach unless and until the insured, or the insured s underlying insurer, shall have paid the amount of the underlying limits. 115 The excess carrier argued that because neither the insured nor the underlying carrier had paid the underlying limits, it had no liability under the excess policy. 116 The court disagreed, reasoning that because of Louisiana s direct-action statute, the excess carrier s liability was fixed as of the time of the accident and the excess carrier is independently liable to the claimant, so the underlying 108 Id. 109 La. Rev. Stat. Ann. 22:1269; Wis. Stat F. Supp. 270, 272 (W.D. La. 1955). 111 Id. at Id. at Id. & n So. 2d 466, 472 (La. Ct. App. 1980). 115 Id. at Id. 68

70 limit did not need to be paid in currency, separate from a credit up to the full primary policy limits. 117 In Wisconsin, another direct-action state like Louisiana, the two cases Teigen v. Jelco of Wisconsin, Inc., 367 N.W.2d 806 (Wis. 1985), and Loy v. Bunderson, 320 N.W.2d 175 (Wis. 1982), have led to what has become known in Wisconsin and Minnesota as a Loy-Teigen agreement. 118 A Loy- Teigen agreement allows an insured and claimant to settle with a primary carrier for less than the full limits, and to pursue any additional recovery in excess of the primary limits from an excess carrier as long as the insured or claimant swallows the gap between the amount of the settlement and the primary limits. 119 The courts permitting such agreements did so to encourage partial settlements in future cases, thereby fostering effective and expeditious resolution of lawsuits. 120 But even in these cases, which permitted partial settlement with a primary carrier to trigger excess coverage, the courts were not faced with unambiguous policy language in an excess policy. 121 In fact, Teigen did not even analyze the excess insurer s policy language. 122 Courts outside of direct-action states also began following Zeig. In Stargatt v. Fidelity & Casualty Co. of New York, a bankrupt securities-brokerage insured had a $50,000 deductible and a $250,000 primary policy for securities claims made against it; certain underwriters at Lloyd s of London provided the next $750,000 in coverage. 123 The insured s bankruptcy receiver settled with the primary carrier for $135,000. Because of the settlement for less than the primary policy s limits, Underwriters argued they had no liability under the excess policy because their policy was triggered only when the Primary Policy in the amount of $250,000 has been exhausted. 124 The Federal District Court of Delaware, applying Delaware law, rejected the argument that has been exhausted should be construed as actually paid, relying on the rationale from Zeig that an excess insurer has no rational advantage in requiring that actual payment be made, so long as the excess insurer is only liable for amounts in excess of the primary policy. 125 More recently, in Koppers Company, Inc. v. Aetna Casualty & Surety Co., the Third Circuit applied Pennsylvania law, and concluded that settlement with primary or underlying carriers functionally exhausts primary coverage and therefore triggers [an] excess policy though by settling the policyholder loses any right to coverage of the difference between the settlement amount and the primary policy s limits. 126 The court concluded that the primary policies had been exhausted by way of settlement, regardless of the settlement amount, and coverage under the excess policies was triggered. 127 Like the excess policy in Zeig, the excess policies at issue did 117 Id. at Other Louisiana courts reached similar conclusions. Futch v. Fid. & Cas. Co., 166 So. 2d 274 (La. 1964); Am. Home Assurance co. v. Comm. Union Assurance Co., 379 So. 2d 757 (La. Ct. App. 1979). 118 Drake v. Ryan, 514 N.W.2d 785, 789 (Minn. 1994) (recognizing such agreements in Minnesota, though the Minnesota Supreme Court did not analyze the policy language). 119 See id. 120 Teigen, 367 N.W.2d at See, e.g., Danbeck Am. Family Mut. Ins. Co., 629 N.W.2d 150, (Wis. 2001) (noting that the court in Teigen did not address whether the policy language was ambiguous, and distinguishing Teigen because public policy, as important as it is, cannot supersede unambiguous policy language or impose obligations under the contract which otherwise do not exist. The generalized public policy favoring settlements is insufficient to justify voiding or refusing to enforce the clear language of the policy in this case. ). 122 See generally Teigen, 367 N.W.2d F.R.D. 689, 690 (D. Del. 1975), aff d without opinion, 578 F (3d Cir. 1978). 124 Id. 125 Id. at F.3d 1440, 1454 (3d Cir. 1996). 127 Id. at

71 not contain any specific language regarding the manner in which the underlying policies were to be exhausted. 128 B. The Shift Toward Enforcement of Plain Language of Excess Policies. Although some courts have continued to invoke Zeig and public-policy reasons for permitting functional exhaustion, courts have generally shifted their focus from simply relying on public policy reasons, such as promotion of settlement, to carefully analyzing the policy language to determine whether a settlement of an underlying policy triggers excess coverage. 129 For instance, in Rummel v. Lexington Insurance Co., the court analyzed whether an excess policy was triggered where underlying insurers had not paid full limits under their policies. 130 The court noted that whether the underlying policies should be considered exhausted so as to trigger the excess policy was something that had to be resolved by the facts of this particular case and on the language of the individual insurance contract. 131 The excess policy s insuring agreement stated that [l]iability of the Company under this policy shall not attach unless and until the Insured s Underlying Insurance has paid or has been held liable to pay the total applicable underlying limits. 132 The court scrutinized the clause has paid or has been held liable to pay, noting that the present perfect progressive tense denotes action in progress in the past that could possibly continue into the future, and concluded that being held liable to pay is a completely different circumstance than actually handing over a cash payment. 133 The court noted that other policy provisions supported interpreting the policy as not requiring actual payment, and that while the excess carrier could have included explicit language that would have insisted upon such a requirement, it failed to include such a condition precedent. 134 In fact, the court concluded that the policy unambiguously anticipated situations where the underlying policies would not be exhausted by full payment in cash. 135 Therefore, the court concluded that the excess policy did not require actual payment in cash as a condition precedent to coverage. 136 Two notable cases that continued the trend of focusing on the policy language to answer whether underlying policies had been exhausted so as to trigger excess coverage were Comerica, Inc. v. Zurich American Insurance Co. 137 and Qualcomm, Inc. v. Certain Underwriters at Lloyd s, London. 138 These cases represent the start of a recent line of cases focusing on the policy language and enforcing language that unambiguously requires exhaustion of full underlying limits through actual payment of money by the insurer. These cases also reflect that some excess insurers have been busy tinkering with policy language in order to enable courts to impose the condition 128 See id. at 1450 & n.10, 1454 & n Compare HLTH Corp. v. Agric. Excess & Surplus Ins. Co., No. 07C RRC, 2008 WL , at *14-15 (Del. Super Ct. July 31, 2008) (applying New Jersey and Delaware law, and relying on Zeig and public-policy reasons to conclude that primary directors and officers policies were exhausted by settlement for less than limits, ignoring the plain language of the excess policies), with Intel Corp. v. Am. Guar. & Liab. Ins. Co., 51 A.3d 442, 450 & n.20 (Del. 2012) (applying California law and concluding that the plain language of the excess policy controls, making Zeig and public-policy arguments inapplicable) P.2d 970, 977 (N.M. 1997). One primary insurer was insolvent, one primary refused to pay, and the other primary insurer settled for less than policy limits. Id. at Id. at Id. (emphasis added). 133 Id. at Id. at Id. (noting that the definition of loss referred to sums paid or payable in settlement for which the insured is liable after making deductions for all other insurance (other than recoveries under underlying insurance, whether recoverable or not) and that the Maintenance of Underlying Insurance provision stated that the excess carrier was still liable to the same extent even if the underlying insurance lapses (emphasis added)). 136 Id F. Supp. 2d 1019 (E.D. Mich. 2007) Cal. Rptr. 3d 770 (Cal. Ct. App. 2008). 70

72 precedent of exhaustion of underlying insurance through actual payment of money, despite the influence of Zeig and other cases such as Loy and Teigen. In Comerica, an insured bank settled five securities fraud class action lawsuits for $21 million. 139 The primary carrier disputed coverage of some of the claims, but settled with the insured, agreeing to pay $14 million of the primary policy s $20 million limit. 140 The insured filled the gap by paying the other $7 million of the settlement, but sought recovery from its excess carrier for $1 million, plus defense costs of $1.6 million (amounts above the $20 million primary limit). 141 The excess policy was a following form policy with an insuring agreement which provided that coverage shall attach only after all such Underlying Insurance has been reduced or exhausted by payments for losses. 142 Another section stated that underlying policy limits had to be depleted by actual payment of loss by the underlying insurers in order to trigger coverage. 143 The insured argued that its payment of the $6 million gap between the settlement with the primary carrier and the primary policy s limit was the functional equivalent of exhausting the primary policy limit because it exposed [the excess carrier] to no greater liability than if [the primary carrier] had made the payment, thereby triggering excess coverage. 144 The court disagreed and concluded that the policy s plain language required actual payment by the underlying insurer, noting that [p]ayments by the insured to fill the gap, settlements that extinguish liability up to the primary insurer s limits, and agreements to give the excess insurer credit against a judgment or settlement up the primary insurer s limit of liability are not the same as actual payment. 145 Because actual payment had not been made, the excess carrier had no obligation to contribute to indemnity or defense costs. 146 The court rejected the argument that other policy provisions should be read as permitting the insured to fill the gap by its own payment where underlying insurance had lapsed, the underlying insurer became insolvent, or the underlying insurance was exhausted by a claim before the excess policy s effective date. 147 The court reasoned that those situations were not at issue, and furthermore, they undercut the insured s argument that it should be able to fill the gap by its own payment, since the possibility of such an instance apparently occurred to the parties and they chose not to include the present scenario among the circumstances where gap payments by the insured would be acceptable. 148 In reaching its holding, the court in Comerica parted company with the Zeig line of cases that relied on public policy arguments. The court noted that cases relying on Zeig when addressing exhaustion did so in the context of finding an ambiguity in a policy s definition of exhaustion or because the excess policy was not specific regarding how the primary insurance was to be discharged. 149 The court rejected the notion that public policy arguments could supersede unambiguous policy language. Similarly, in Qualcomm, Inc. v. Certain Underwriters at Lloyd s, London, the court held that the insured was not entitled to excess coverage because it settled with the primary insurer for less than the F. Supp. 2d at Id. 141 Id. 142 Id. at Id. 144 Id. at Id. at Id. at Id. 148 Id. 149 Id. at

73 primary policy s full limits, even though the insured agreed to pay the gap between the primary policy limit and the excess policy s attachment point. 150 The insured argued that with the primary insurer paying part of the policy and with the insured filling the gap by paying the remainder, the excess insurer was obligated to indemnify it for unreimbursed litigation expenses and settlement costs exceeding the primary policy s limit. 151 The court focused on the excess policy s exhaustion clause, which stated that the excess carrier shall be liable only after the insurers under each of the Underlying Policies have paid or have been held liable to pay the full amount of the Underlying Limit of Liability. 152 The court held that the excess carrier s obligations were unambiguously triggered only after the underlying carrier actually paid the full amount of its underlying limits: in our view, the phrase have paid the full amount [of the primary policy], particularly when read in context of the entire excess policy and its function as arising upon exhaustion of primary insurance, cannot have any other reasonable meaning than actual payment of no less than the [full] underlying limit. 153 Because the primary carrier did not actually pay its full limits, the court concluded that the excess carrier s obligations were not triggered. The court stated that it was bound to apply the clear meaning of the policy s provisions, which had to be interpreted in their popular and ordinary sense. 154 The court refused to interpret paid when used in the phrase have paid... the full amount of the Underlying Limit of Liability, as encompassing anything other than a payment in cash, rejecting the interpretation in Zeig that payment also signified the satisfaction of a claim by compromise, or in other ways. 155 The court found Zeig s interpretation of payment to be strained and that [a] settlement plus credit does not constitute payment of liability limits as that term is commonly and ordinarily understood. 156 The court also dismissed the argument that public policy concerns should override the policy language: Qualcomm argues that if we conclude the excess policy language is unambiguous in Underwriters favor, public policies of promoting settlement and riskspreading by insurance should compel us to obligate Underwriters to pay even if the obligation contravenes the policy language. We decline to do so. Whatever merit there may be to conflicting social and economic considerations, they have nothing whatsoever to do with our interpretation of the unambiguous contractual terms. If contractual language in an insurance contract is clear and unambiguous, it governs, and we do not rewrite it for any purpose. 157 IV. Exhaustion of Limits Post-Qualcomm: What Courts Have Recently Said. Qualcomm was not the final word on whether exhaustion of underlying policies requires actual payment by the underlying insurers. In fact, the last five years appear to have resulted in more cases interpreting exhaustion language than the previous ninety years combined. Some courts have concluded that actual payment of full limits by underlying insurers is not required, while other courts have concluded that actual payment by underlying insurers of full limits is a condition precedent to coverage. Despite the differing results, the courts are consistent in how Cal. Rptr. 3d 770, 773 (Cal. Ct. App. 2008). 151 Id. at See id. at 778 (emphasis in original). 153 Id. 154 Id. at Id. at Id. at 781 (quoting Danbeck v. Am. Family Mut. Ins. Co., 629 N.W.2d 150 (Wis. 2001)). 157 Id. at (internal citations and quotation marks omitted). 72

74 they have reached their conclusion: they have focused on whether the policy language unambiguously requires an underlying carrier to exhaust policy limits through actual payment of money. Because of the number of cases from the last five years addressing exhaustion language and the depletion requirement and the varying conclusions, it is helpful to look at policy language that courts have concluded unambiguously requires actual payment of money by an underlying carrier to exhaust limits: Unambiguous Policy Language Requiring Actual Payment of Money Case Citation Policy Language Ali v. Fed. Ins. Co., 719 F.3d 83, 91-92, 94 (2d Three Excess Policies with similar language: Cir. 2013) (analyzing policy wording under Pennsylvania and New York law, and concluding that the plain language of the relevant excess insurance policies requires the payment of losses not merely the accrual of liability in order to reach the relevant attachment points and trigger the Policies #1-2: Excess policies stated that excess liability coverage shall attach only after all Underlying Insurance has been exhausted by payment of claim(s) with exhaustion occurring solely as a result of payment of losses thereunder. excess coverage, but not having to address who must make actual payment for Policy #3: Excess policy stated that excess exhaustion purposes) liability coverage shall attach only after all such Underlying Insurance has been exhausted and exhaustion occurs solely as Goodyear Tire & Rubber Co. v. Nat l Union Fire Ins. Co., 694 F.3d 781, 782 (6th Cir. 2012) (applying Ohio law) Citigroup, Inc. v. Fed. Ins. Co., 649 F.3d 367, (5th Cir. 2011) (applying Texas law) a result of payment of losses thereunder. Coverage hereunder shall attach only after [the underlying insurer] shall have paid in legal currency the full amount of the Underlying Limit [i.e., the underlying insurer s policy limit of $15 million] for such Policy Period. (Emphasis in original.) Four Excess Policies, each with different language, but each found unambiguous: Policy #1: Coverage attached only after (a) all Underlying Insurance carriers have paid in cash the full amount of their respective liabilities, (b) the full amount of the Underlying Insurance policies have been collected by the plaintiffs, the Insureds or the Insureds counsel, and (c) all Underlying Insurance has been exhausted. Policy #2: The Insurer shall only be liable to make payment under this policy after the total amount of the Underlying Limit of Liability has been paid in legal currency by the insurers of the Underlying Insurance as covered loss thereunder. Policy #3: The excess policy attached only 73

75 after any Insurer subscribing to any Underlying Policy shall have agreed to pay or have been held liable to pay the full amount of its respective limits of liability as set forth in Item 5. of the Declarations. Item 5 of the Declarations stated that the limit of liability for the underlying insurer is $50,000,000. Great Am. Ins. Co. v. Bally Total Fitness Holding Corp., No. 06-C-4554, 2010 WL , at *1 (N.D. Ill. June 22, 2010) (applying Illinois law) Policy #4: Coverage attached [i]n the event of the exhaustion of all of the limit(s) of liability of such Underlying Insurance solely as a result of payment of loss thereunder. Third and Fourth Layer Excess Policies: Third Layer Policy: It is expressly agreed that liability for any covered Loss shall attach to the Insurer only after the insurers of the Underlying Policies shall have paid, in the applicable legal currency, the full amount of the Underlying Limit and the Insureds shall have paid the full amount of the uninsured retention, if any, applicable to the primary Underlying Policy. Fourth Layer Policy: The insurance coverage afforded by the Policy shall apply (1) only in excess of all Underlying Insurance and (2) only after all Underlying Insurance has been exhausted by payment of the total underlying limit of insurance and (3) only if each and every Underlying Insurance Policy has responded by payment of loss as a result of any wrongful act. Intel Corp. v. Am. Guar. & Liab. Ins. Co., 51 A.3d 442, (Del. 2012) (applying California law, and concluding that an insured s payment of defense costs exceeding underlying policy limit after it had settled with underlying insurer for less than policy limits did not trigger the next excess policy Exhaustion Of Underlying Insurance : In the event of exhaustion of all of the limits of insurance of the Underlying Insurance solely as a result of actual payment of loss or losses thereunder, this Policy shall, subject to the Limit of Insurance, terms and conditions of this Policy, apply as Primary Insurance subject to any retention specified in the Primary Policy. When Damages are Payable Provision: Coverage under this policy will not apply unless and until the insured or the insured s underlying insurance has paid or is obligated to pay the full amount of the Underlying Limits of Insurance stated in Item 6.B. of the 74

76 layer, because payment of defense costs did not constitute payment of judgments or settlements as required by the excess policy s exhaustion language) JP Morgan Chase & Co. v. Indian Harbor Ins. Co., 947 N.Y.S.2d 17, (N.Y. App. Div. 2012) (applying Illinois law) Declarations. Following Form Endorsement: Nothing contained in this Endorsement shall obligate us to provide a duty to defend any claim or suit before the Underlying Insurance Limits shown in Item 6 of the Declarations are exhausted by payment of judgments or settlements. (Emphasis added.) Four Excess Policies: Policy #1: Excess coverage shall apply only after all applicable Underlying Insurance with respect to an Insurance Product has been exhausted by actual payment under such Underlying Insurance. Policy #2: The excess insurer shall only be liable to make payment under this policy after the total amount of the Underlying Limit of Liability has been paid in legal currency by the insurers of the Underlying Insurance as covered loss thereunder. Policy #3: The excess policy applied only after exhaustion of the Underlying Limit solely as a result of actual payment under the Underlying Insurance in connection with Claim(s) and after the Insureds shall have paid the full amount of any applicable deductible or self insured retentions (Emphasis omitted.) Swiss Re s liability under its policy attached only when the Underlying Insurer(s) shall have paid or have been held liable to pay, the full amount of the Underlying Limit(s). Policy #4: Excess policy attached only when the Underlying Insurer(s) shall have paid or have been held liable to pay, the full amount of the Underlying Limit(s). Forest Labs., Inc. v. Arch Ins. Co., 953 N.Y.S.2d 460, (N.Y. Sup. Ct. 2012) Two policy provisions that had to be read in conjunction: It is agreed that the Insurer shall not pay any amount until all retentions and Underlying Limits of Liability have actually been paid. 75

77 Limit of Liability : A. Subject to the Limit of Liability set forth in item 3.(A) of the Declarations Page, it is agreed that in the event and only in the event of a reduction or exhaustion of the Underlying Limits of Liability, solely as a result of actual payment of a Covered Claim pursuant to the terms and conditions of the Underlying Insurance thereunder, this policy shall: Quellos Grp. LLC v. Fed. Ins. Co., 312 P.3d 734, 735, (Wash. Ct. App. 2013) 1. In the event of reduction, pay excess of the reduced Underlying Limits of Liability... Two Excess Policies: Policy #1: Insuring Agreement: Coverage hereunder shall attach only after the insurers of the Underlying Insurance shall have paid in legal currency the full amount of the Underlying Limit for such Policy Period. Policy #2: Insuring Agreement: The coverage hereunder will attached only after all of the Underlying Insurance has been exhausted by the actual payment of loss by the applicable insurers thereunder. Some of the recent courts that have concluded excess policy language unambiguously required exhaustion of underlying policy limits by actual payment of legal currency from underlying insurers have distinguished the exhaustion requirement from policy conditions such as cooperation or notice requirements. 158 These courts have done so by noting that the payment by underlying carriers of full policy limits in legal currency goes to the heart of the type of coverage provided by the excess carrier because it was within the insuring agreement. 159 For instance, in Goodyear Tire, the Sixth Circuit stated that the excess policy provision at issue here is where the rubber hits the road: the agreement s Insuring Clause, under whose terms [the excess carrier] undisputedly did not agree to provide the coverage that [the insured] now seeks. 160 And the Washington Court of Appeals in Quellos Group LLC v. Federal Insurance Co. stated that requiring exhaustion by payment of full policy limits in legal currency by underlying carriers reflects the distinguishing characteristic and function of an excess insurance policy. 161 Because the courts applying the plain language of the excess policies requiring exhaustion of full policy limits by payment of legal currency from underlying carriers view such requirement as going to the heart of the coverage agreement, in contrast to notice and cooperation requirements, the courts have not required excess carriers to show prejudice where exhaustion did not occur E.g., Goodyear Tire & Rubber Co. v. Nat l Union Fire Ins. Co., 694 F.3d 781, 783 (6th Cir. 2012). 159 E.g., id. 160 Id. 161 Quellos Grp. LLC v. Fed. Ins. Co., 312 P.3d 734, 743 (Wash. Ct. App. 2013). 162 Goodyear, 694 F.3d at 783; Quellos, 312 P.3d at

78 In contrast to the above cases concluding that the exhaustion requirement was unambiguous, the following recent cases concluded that the policy language did not require the underlying insurers to make actual payment of full limits of their policies in order to trigger excess coverage: Policy Language Not Requiring Actual Payment of Money by Underlying Insurers to Exhaust Full Limits Case Citation Trinity Homes LLC v. Ohio Cas. Ins. Co., 629 F.3d 653, (7th Cir. 2010) (applying Indiana law and concluding that various policy provisions when read together did not clearly provide that the full limit must be paid out by the [underlying] insurer alone ) Lasorte v. Certain Underwriters at Lloyd s, 995 F. Supp. 2d 1134, 1139 (D. Mont. 2014) (applying New York law to interpret policy excess of self-insured retention, and relying on Zeig to conclude that requirement that the SIR be exhausted was ambiguous, and could be met by insured s consent judgment agreement with claimant, thereby triggering insurer s policy excess of the SIR) Chartis Specialty Ins. Co. v. Queen Anne HS, LLC, 867 F. Supp. 2d 1111, 1118, (W.D. Wash. 2012) (applying Washington law and concluding that actually paid as judgments or settlements did not specify that underlying insurer must pay, but rather could be satisfied by the insured executing a promissory note to pay the gap in connection with a settlement) Maximus, Inc. v. Twin City Fire Ins. Co., 856 F. Supp. 2d 797, 798, (E.D. Va. 2012) (applying Virginia law and concluding that the excess policy lacked specification that underlying insurers must make the payment or that insured could not fill the gap to exhaust underlying insurance) Lexington Ins. Co. v. Tokio Marine & Nichido Fire Ins. Co. Ltd., No. 11-Civ.-391, , at *4 (S.D.N.Y. Mar. 28, 2012) (applying New York law) Policy Language The Limits of Insurance clause stated: If the limits of underlying insurance have been exhausted by payment of claims, this policy will continue in force as underlying insurance. When a Claim is made solely against a Client Company, the Client Company Any One Insured Event amount, as shown in the Declarations, shall apply first, when exhausted the Client Company Each Insured Event amount, as shown in the Declarations, shall apply. We will have the right and duty to defend any Suit against the Insured when the applicable limits listed in the Schedule of Retained Limits have been exhausted by payment of Loss to which this policy applies. Loss means those sums actually paid as judgments or settlements. (Emphasis added.) The excess policy stated that it shall apply only after all applicable Underlying Insurance with respect to an Insurance Product has been exhausted by actual payment under such Underlying Insurance, and shall only pay excess of any retention or deductible amounts provided in the Primary Policy and other exhausted Underlying Insurance. (Emphasis added.) The court concluded that the policy did not contain any express or implied requirement that the [underlying policy] had to be exhausted before [the excess carrier] had an obligation to pay its share of covered damages in excess of [the underlying limit]. 77

79 Pac. Emp rs Ins. Co. v. Clean Harbors Envtl. Servs., Inc., No. 08-C-2180, 2011 WL , at *2 (N.D. Ill. Feb. 24, 2011) (applying Illinois law and distinguishing the exhaustion language from the Bally Total Fitness policy language, concluding that the insured s lessthan-limits settlement with its primary carrier exhausted the primary policy, where the excess policy defined loss as those sums actually paid as judgments and settlements ) Mass. Mut. Life Ins. Co. v. Certain Underwriters at Lloyd s of London, No. N10C , 2014 WL (Del. Super. Ct. June 6, 2014) (applying Delaware law and concluding that an excess policy requiring attachment only after all [Underlying limits] have been exhausted by the actual payment of loss was ambiguous because it did not specify who must pay in order to exhaust underlying limits, and the insured had in fact paid the gap between the collective underlying limits and settlement amount with underlying insurers based on the Bernie Madoff fraud) Schmitz v. Great Am. Assurance Co., 337 S.W.3d 700, 707 (Mo. 2011) (applying Missouri law and rejecting excess insurer s argument that actual payment by the underlying insurer was required for exhaustion, because the argument ignore[d] that the complete phrase is if the Underlying Limits of Insurance... are either reduced or exhausted solely by payment of loss, and the policy also permitted loss to consist of payments which the insured agreed to fund by self-insurance or means other than insurance ) Plantation Pipe Line Co. v. Highlands Ins. Co., No CV, 2014 WL (Tex. Ct. App. Aug. 29, 2014) (concluding In the absence of unambiguous language requiring exhaustion via full payment of the underlying policy, no such exhaustion is required. We will not make any payment under this policy unless and until: 1. under Coverage A, the total applicable limits of Scheduled Underlying Insurance have been exhausted by the payment of Loss. The excess policy defined Loss as those sums actually paid as judgments and settlements and, under Coverage A if provided by Scheduled Underlying Insurance, expenses incurred to defend any Suit or to investigate any claim. Attachment only after all [Underlying limits] have been exhausted by the actual payment of loss [I]f the Underlying Limits of Insurance... are either reduced or exhausted solely by payment of loss, such insurance provided by this policy will apply in excess of the reduced underlying limit or, if all underlying limits are exhausted, will apply as underlying insurance subject to the same terms, conditions, definitions and exclusions of the first underlying insurance, except for the terms, conditions, definitions of exclusions of this policy. However, we will not pay that portion of a loss that is within the Underlying Limits of Insurance which the insured has agreed to fund by self-insurance or means other than insurance. Limit of Liability Provision: It is expressly agreed that liability shall 78

80 that under Texas and Georgia law, policy language permitted payment by the insured to trigger exhaustion requirements, where the insured paid the difference between the underlying settlement amounts and the underlying policy limits when settling with underlying insurers) attach to the Company only after the Underlying Umbrella Insurers have paid or have been held liable to pay the full amount of their respective ultimate net loss liability as follows Ultimate net loss means all sums which the insured or any organization as his insurers, or both, become legally obligated to pay as damages, whether by reason of adjudication or settlement, because of personal injury, property damage or advertising liability. V. Specific Lessons from Courts Permitting Functional Exhaustion. Although courts in the last five years have focused on whether an excess policy specifically requires an underlying insurer to pay full policy limits as a condition precedent to coverage, it is not always clear whether a court will decide policy language is ambiguous or unambiguous. The best lessons from the plethora of recent cases are from the courts opining on what a policy should have said or noting what the policy did not say. If an excess policy does not specify who must actually pay in order to exhaust the limits, or specify how payment is to be made, a court will likely conclude the policy is ambiguous and permit an insured to fill the gap. For instance, in Trinity Homes LLC v. Ohio Cas. Insurance Co., the Seventh Circuit concluded that an umbrella policy was ambiguous because although it stated that the primary general liability policy is exhausted when the policy limit has been completely expended, it [did] not clearly provide that the full limit must be paid out by the CGL insurer alone. 163 Similarly, in Pacific Employers Insurance Co. v. Clean Harbors Environmental Services, Inc., the court noted that in order to avoid ambiguity, the excess insurer should have provided that the sole method of exhaustion is payment by the underlying insurer. 164 And in Chartis Specialty Insurance Co. v. Queen Anne HS, LLC, the court observed that the excess policy lacked a definition of actual payment and failed to state that actual payment requires payment of the full limit of an underlying policy by the lower-tier carriers. 165 The Queen Anne court also noted that actual payment can mean payment in cash or payment by a promise to pay, and concluded that an insured s execution of a promissory note as part of a settlement qualified as actual payment. 166 Therefore, a policy should also specify that payment should be made by actual transfer of assets in the form of legal currency or something convertible to legal currency. In addition to including language that exhaustion requires that underlying carriers themselves pay full policy limits in legal currency, an excess policy should contain a clear statement that settling for less than the full amount of coverage voids the excess coverage in order to make the exhaustion provision absolutely clear. 167 Or, stated differently, an excess policy should expressly preclude the insured from filling the gap to exhaust the underlying policy F.3d 653, 658 (7th Cir. 2010). 164 No. 08-C-2180, 2011 WL , at *3 (N.D. Ill. Feb. 24, 2011) F. Supp. 2d 1111, , 1121 (W.D. Wash. 2012). 166 Id. at Maximus, Inc. v. Twin City Fire Ins. Co., 856 F. Supp. 2d 797, 803 (E.D. Va. 2012) F. Supp. 2d at

81 The courts in the last five years that have permitted functional exhaustion have distinguished policy language in cases where the policy language unambiguously requires underlying carriers to actually pay full limits as a condition precedent to coverage. The courts allowing functional exhaustion generally agree that the following policy language would preclude functional exhaustion: 1. Citigroup Inc. v. Fed. Ins. Co., 649 F.3d 367, 372 (5th Cir. 2011): The excess policy stated that coverage attached after the total amount of the Underlying Limit of Liability has been paid in legal currency by the insurers of the Underlying Insurance as covered loss thereunder Qualcomm, Inc. v. Certain Underwriters at Lloyd s, London, 73 Cal. Rptr. 3d 770, 778 (Cal. Ct. App. 2008): The excess policy stated that the excess carrier shall be liable only after the insurers under each of the Underlying policy have paid or have been held liable to pay the full amount of the Underlying Limit of Liability. 170 Therefore, an excess carrier should consider its own policy language to determine whether it specifies who must pay, how limits are to be exhausted, whether full limits must be exhausted, and whether there is any wording precluding an insured from filling the gap to exhaust any underlying policy. Now that a growing number of courts have analyzed exhaustion language and related provisions in excess policies, carriers must look at their own policy language and what courts in the relevant jurisdictions have said about exhaustion provisions. VI. Actual or Theoretical Harm? Who Cares? Excess insurers insistence on full exhaustion of underlying limits through actual payment by underlying insurers begs the question of whether there is any harm to excess insurers if functional exhaustion is permitted. In other words, should excess carriers insist on actual payment by underlying insurers of full policy limits? Numerous insurers and authors over the years have stressed the importance of exhaustion of full underlying limits by actual payment from underlying insurers. 171 Primary carriers play a gatekeeper role regarding claims. Excess carriers provide substantial policy limits for a relatively low premium because they rely on primary carriers underwriting of a risk and claims adjustment process, including investigation, review and analysis of a claim, defense of a claim, and a determination on whether there is coverage. 172 It has been argued that functional exhaustion of underlying policies deprives excess carriers of the natural vetting process that primary carriers engage in for both liability and damages. 173 Another potential harm to an excess carrier is if 169 Quoted with approval by Chartis Specialty Ins. Co. v. Queen Anne HS, LLC, 867 F. Supp. 2d 1111, 1121 (W.D. Wash. 2012); Maximus, 856 F. Supp. 2d at Quoted with approval by Trinity Homes LLC v. Ohio Cas. Ins. Co., 629 F.3d 653, 659 (7th Cir. 2010); Maximus, 856 F. Supp. 2d at 803; Schmitz v. Great Am. Assurance Co., 337 S.W.3d 700, 707 n.6 (Mo. 2011). 171 See, e.g., U.S. Fire Ins. Co. v. Lay, 577 F.2d 421, 423 (7th Cir. 1978); Mass. Mut. Life Ins. Co. v. Certain Underwriters at Lloyd s of London, No. N10C , 2014 WL (Del. Super. Ct. Mar. 20, 2014); Michael F. Aylward, Paying to Play: What Does It Mean to Exhaust Underlying Insurance?, 54 DRI for DEF. 27 (May 2012); Brewer & Ewing, supra note 5; David Greenwald, Partial Settlements by Primary Insurers: A Critique, 29 TORT & INS. L.J. 555 (1994); Michael M. Marick, Excess Insurance: An Overview of General Principles and Current Issues, 24 TORT & INS. L.J. 715, 729, 737 (1989); John F. O Connor, Insurance Coverage Settlements and the Rights of Excess Insurers, 62 MD. L. REV. 30 (2003); Scott M. Seaman & Jason R. Schulze, Proper Exhaustion Required, Allocation of Losses in Complex Insurance Coverage Claims 10.4 (Nov. 2013). 172 Aylward, supra note 85, at 27; Seaman & Schulze, supra note 85, at Aylward, supra note 85, at 27; Citigroup, Inc. v. Nat l Union Fire Ins. Co., No. H , 2010 WL , at *2 (S.D. Tex. May 28, 2010) (stating that the court may not allow the assured to pay the loss up to the point that it was obligated to have had and used primary coverage because that difference could alter the [excess] carrier s underwriting calculation ). 80

82 functional exhaustion were to allow a primary carrier to stop defending an insured and shift defense costs to the excess carrier, if the excess policy imposes payment of defense costs upon exhaustion of underlying limits. 174 Functional exhaustion also carries the potential for settlement manipulation or inflation where it involves a partial settlement between a claimant, insured, and underlying carrier. In the end, whether the harm of functional exhaustion is actual or theoretical, significant or insignificant, appears inconsequential. The recent string of cases shows that courts will allow or not allow functional exhaustion based on whether the policy language permits it, and not focus on public policy or other arguments on why courts should or should not permit functional exhaustion of underlying limits. This is helpful for everyone claimants, insureds, primary carriers, and excess carriers so that everyone can make more informed decisions about settlement and litigation. There will be close calls on whether particular policy language permits functional exhaustion, but the developing case law provides useful signposts. Focusing on the policy language, not theoretical or actual harm to excess insurers, should help claims adjusters in making litigation, valuation, and settlement decisions. Some have suggested that primary or underlying carriers agreeing to partial settlements or settlements with insureds for less than full limits are disreputable, and insurers offering excess coverage might want to avoid offering coverage excess to such carriers. 175 But it might be difficult to find a carrier that has not entered into a partial settlement or settlement for less than limits at some point. A primary carrier does not have a duty to the excess carrier to refrain from entering a settlement for less than limits. In fact, there might be good reason to do so where the carrier and insured disagree on whether there is coverage, the extent of coverage, or available limits. Excess carriers should instead ensure that their policy language (or the underlying policy language, if following form) takes into account that settlements for less than limits might occur. In addition, insurers frequently switch hats; they might be an excess carrier on one claim and a primary carrier on the next, or even provide two different layers in a coverage tower on the same claim. One concern a carrier might face is whether it is inconsistent for the carrier to engage in settlements for less than limits on certain claims where they are a primary or underlying carrier, and on other claims, insist that functional exhaustion precludes excess coverage. Such actions should not be construed as inconsistent because, again, the focus should be on the policy language. Primary and underlying carriers must assume that excess carriers have used clear exhaustion requirement language in their policies. Thus, the consistent approach for carriers regarding functional exhaustion is not a universal condemnation of it, but addressing it through clear policy language. Insurers consistently ask courts to apply the plain language of the policy. Courts, arguably, are doing that regarding exhaustion requirements in excess policies, and carriers should be writing their policies and trying to enforce them accordingly. VII. Conclusion. Claim handlers, insureds, primary carriers, and excess carriers must carefully consider excess policy exhaustion requirements when discussing settlement possibilities. Failure to do so might remove millions of dollars of excess coverage. Excess carriers should take advantage of the recent cases addressing exhaustion requirements in excess policies, and compare their current policy language to language analyzed by courts in relevant jurisdictions in order to determine whether an insured s settlement for less than limits triggers excess coverage. Courts that have held excess policy provisions to be ambiguous and allowed settlement by an insured with a 174 Marick, supra note 85, at Marick, supra note 85 at

83 primary or underlying carrier for less than full limits as constituting exhaustion have noted that the excess carriers were free to word their policies as they wanted, making them as specific as they wanted, but they failed to provide the specific wording that other carriers had used in policies where there was no ambiguity. 176 Excess carriers should be mindful of these admonitions and adjust their policy wording accordingly in order to say what they mean, and not simply mean what they say. Bradley M. Jones Meagher & Geer, P.L.L.P. 33 S Sixth St Ste 4400 Minneapolis, Minnesota T: (612) E: [email protected] Anthony J. Alt Meagher & Geer, P.L.L.P. 33 S Sixth St Ste 4400 Minneapolis, Minnesota T: (612) E: [email protected] 176 Trinity Homes LLC v. Ohio Cas. Ins. Co., 629 F.3d 653, 659 (7th Cir. 2010) (citing various cases where other umbrella or excess policies had more specific wording and were found unambiguous, but that the umbrella carrier before it could have used similarly clear language in its policy, but it did not, and it must now bear the burden of its ambiguity ). 82

84 Recent Developments in Class Actions Brian P. Voke, Esq. Andrew C. Feldman, Esq. Campbell Campbell Edwards & Conroy I. FED. R. CIV. P. 23 REQUIREMENTS FOR CLASS CERTIFICATION Article III Standing: injury must be concrete, particularized, and actual or imminent; fairly traceable to the challenged action; and redressable by a favorable ruling. Clapper v. Amnesty Intern. USA, 133 S.Ct. 1138, 1141 (2013). If there is standing, then: Step 1: Numerosity: Proposed class is so numerous that joinder of all members is impractical; Commonality: Questions of law and fact are common to all proposed class members; Typicality: Claims and defenses of representative parties are typical of claims and defenses of the proposed class; and Adequacy of Representation: Representative parties will fairly and accurately protect the interests of the proposed class. All of these requirements must be met in order to proceed to the second step. If any one of these requirements it not met, the court need not consider the remaining requirements or move to the second step. Wal-Mart Stores, Inc. v. Dukes, 131 S.Ct (2011). Step 2: Predominance: The proposed class members questions of law or fact predominate over any questions affecting individual members; and Superiority: The class action is superior to other available methods for fair and efficient adjudication. II. A SYNOPSIS OF RECENT SUPREME COURT CLASS ACTION CASES: PLAINTIFF S BURDEN IS ON THE RISE Amchem Products, Inc. v. Windsor, 521 U.S. 591 (1997): A consortium of 20 former asbestos products manufacturers and nine named plaintiffs moved to certify a class for a global settlement for all persons who were exposed to asbestos or whose spouses or family members were exposed to asbestos. A majority of named plaintiffs had manifested injuries, while the minority alleged exposure without presently-manifested injuries. The District Court certified the class for settlement with a stipulation that some members would not be entitled to compensation until they developed recognized exposure-related injuries. Objecting parties argued that the class did not meet the adequacy of representation requirement because of the conflict of interest between members with manifest injuries and those without. Objectors also argued the exposure-only members lacked standing. The Third Circuit decertified the class because the District Court had not fully considered the Rule 23 Requirements separate from its settlement analysis. 83

85 U.S. S.Ct. held that the Third Circuit correctly considered settlement factors in its Rule 23 analysis and decertified the class because the proposed class did not satisfy the predominance or adequacy of representation requirements. There was no predominance on account of the highly differing health consequences of asbestos exposure to different categories of individual class members and there was no adequacy of representation because the named parties suffered from diverse medical conditions uncommon to such an enormous proposed class of members, many without any manifest injury. *Note: Class certification in mass tort and product liability cases is rarely appropriate because of the variable nature of injuries and necessary causal analysis required for each member. Wal-Mart Stores, Inc. v. Dukes, 131 S.Ct (2011): Current and former female Wal-Mart employees sought to certify a nationwide class of roughly 1.5 million current and former female employees for injunctive and declaratory relief, punitive damages, and backpay for Wal-Mart s alleged discrimination of women employees in violation of Title VII of the Civil Rights Act. Specifically, the plaintiffs claimed Wal-Mart s policy of giving local supervisors discretion over pay and promotions created a disparate impact on all female employees when local managers selected male employees for promotion more frequently and male employees received higher pay. Plaintiff s expert could not quantify whether.5% or 95% of Wal-Mart s employment decisions were based on gender bias, and plaintiff s 120 affidavits reporting discrimination at 235 of Wal-Mart s 3,400 + stores amounted to 1 anecdote for every 12,500 class members. The District Court certified the class. Wal-Mart objected to the certification on grounds of commonality, typicality, and adequate representation, and further objected to certifying the monetary claims for backpay because Rule 23(b)(2) did not apply to such claims and such claims could not be manageably tried as a class without depriving Wal-Mart of its statutory defenses. The Ninth Circuit affirmed the certification, finding the plaintiffs evidence was sufficient to show commonality and typicality. It also affirmed the claims for backpay because the claim did not predominate over requests for declaratory judgment and injunctive relief, and found the case could be managed by allowing Wal-Mart to present defenses to randomly selected sample cases, which would reveal the percentage of class members whose unequal pay or nonpromotion was due to something other than discrimination. U.S. S.Ct. reversed the Ninth Circuit and decertified the class because the plaintiffs failed to prove commonality where there was no significant proof that Wal-Mart operated under a general policy of discrimination. Because the central issue of a Title VII claim is the reason for a particular employment decision and the plaintiffs allegations concerned millions of employment decisions with nothing tying the decisions together and no evidence of a companywide discriminatory policy, the Court found the plaintiffs did not raise even one common question and therefore could not meet FRCP 23(a) s commonality requirement. FRCP 23(a) requires a common contention... of such a nature that it is capable of class-wide resolution which means that determination of its truth or falsity will resolve an issue that is central to the validity of each one of the claims in one stroke. Backpay claims were also improperly certified because Rule 23(b)(2) applies only when a single form of injunctive or declaratory relief would provide relief to all class members, and not when class members are entitled to individualized relief. Individualized monetary claims fall under Rule 23(b)(3), which allow for Due Process protections absent from 23(b)(2). U.S. S.Ct. also rejected the trial by formula procedure proposed by the Ninth Circuit, noting that Wal-Mart 84

86 was entitled to individualized determinations of each class member s eligibility for back-pay, to raise individual affirmative defenses it may have, and to present evidence that individual applicants were denied employment opportunities for lawful reasons. Because individualized proceedings would be necessary to resolve the back-pay claims, they were not incidental to the injunctive and declaratory relief claims. *Note: As there was no overarching policy evidencing discrimination, the plaintiffs were too individually situated to achieve commonality. This was particularly so where the plaintiffs could not determine whether.5% or 95% of employment decisions were discriminatory. The plaintiff s failed to show this with significant proof, and the court recognized that proof of commonality necessarily overlapped with proof on the merits to achieve a common answer or relief. Amgen Inc., v. Connecticut Retirement Plans and Trust Funds, 133 S.Ct (2013): Investors sought to certify a class against Amgen and individual officers under Rule 23(b)(3) (predominance requirement) alleging securities fraud and invoking the fraud-on-the-market presumption that the price of a security traded in an efficient market will reflect all publicly available information about a company and the buyer of that security (the plaintiffs) is presumed to have relied on such information when purchasing the security. The District Court granted certification on behalf of all investors who purchased Amgen stock between the date of the first alleged misrepresentation and the last corrective disclosure without requiring the investors to prove the alleged misrepresentations were material and without allowing rebuttal evidence from Amgen that the market was aware of the truth regarding the alleged misrepresentations at the time the investors purchased the securities. The Ninth Circuit affirmed. Amgen argued that the proposed class could not meet the predominance requirement because it did not do more than plead that the alleged misrepresentations materially affected the stock price. Amgen asserted that the proposed class must prove materiality. U.S. S.Ct. affirmed the lower courts and concluded that while the class would have to prove materiality to prevail on the merits of the case, it did not have to do so at the time of class certification because materiality could be judged on an objective standard and applied to all members of the class. A failure to prove materiality at the certification stage would end the case altogether and no claim would remain for which individual issue could predominate. The predominance requirement does not require a party seeking class certification to prove each element of the claim is susceptible to class-wide proof, but only that common questions predominate over questions affecting individual members. Because the question of materiality was common to the class and a failure of such would not result in questions affecting only individual members predominating, the plaintiffs were not required to prove materiality at the certification stage. While merit-based questions are considered, they are only considered so far as they are relevant to determining class certification. Accordingly, consideration of rebuttal evidence as to materiality on the issue of materiality was properly reserved for the summary judgment stage or trial. *Note: Amgen stands for the proposition that the certification stage does not require free-ranging merit inquiries and that a predominance analysis should focus on common questions as opposed to answers. This is a contrast from Wal-Mart, where the U.S. S.Ct. concluded that the commonality factor requires a common question capable of generating a common answer. The Amgen dissent argued that an answer to the question of materiality was an important factor of the certification stage because the 85

87 class would otherwise try the case to near conclusion before determining whether reliance was an individual or common question. Comcast Corp. v. Behrend, 133 S.Ct (2013): Plaintiffs sought to certify a class of more than 2 million Comcast customers in the Philadelphia market seeking damages for Comcast s alleged violation of antitrust laws primarily that Comcast and its subsidiaries clustered their services within the Philadelphia region by swapping systems outside the region for competitor systems in the region. Petitioners alleged harm in that such clustering lessoned competition and led to supra-competitive prices. Petitioners sought class certification under Rule 23(b)(3) that their questions of law or fact common to all potential class members predominated over any questions of individual members. The District Court certified the class, finding that the antitrust impact could be proved at trial with common evidence and that damages from overbuilder (companies that build competing networks in areas where the incumbent already operates) deterrence could be calculated on a class-wide basis. This was the only theory upon which the District Court certified the class. The class damages model, however, did not isolate this theoretical impact from others the class had proposed. The Third Circuit affirmed and refused to consider Comcast s argument regarding the commonality of damages because the argument improperly bore on the merits of the claims at the certification stage. U.S. S.Ct. reversed the Third Circuit and found that the class was improperly certified under Rule 23(b)(3) because the class model of damages measured more than damages arising from overbuilder deterrence (the only theory upon which the class was certified) and thus could not establish that damages were capable of measurement across the entire class under Rule 23(b)(3). The Court quoted Wal-Mart, noting that a Rule 23 analysis will frequently overlap with the merits of the plaintiff s underlying claim because a class determination generally involves considerations that are enmeshed in the factual and legal issues comprising the plaintiff s cause of action. The Third Circuit erred when it failed to take into account any merits necessary for a damages determination. The damages model did not allow the court to separate damages specifically attributable to overbuilder deterrence and other theories initially proposed by the purported class. Further, it did not bridge the differences between supra-competitive prices in general and supra-competitive prices attributable to overbuilding. The Third Circuit should have addressed the merits of the damages because the first step in a damages study is the translation of the legal theory of the harmful event into an analysis of the economic impact of that event. As the model failed on the merits, the class failed the predominance factor. *Note: Majority opinion (Scalia) reiterates Wal-Mart, which acknowledges that class certification often overlaps with the merits of the underlying claim. This sets a high standard for the purported class representatives. The dissenting opinion (Ginsburg and Breyer joined by Sotomayor and Kagan) notes that a class may obtain certification under Rule 23(b)(3) when common liability questions predominate over questions of damages unique to individual members. Halliburton Co. v. Erica P. John Fund, Inc., 134 S.Ct (2014): Respondent sought to certify a class of investors against Halliburton and one of its executives alleging securities fraud and sought to use the fraud-on-the-market theory to show that the investors relied on fraudulent misrepresentations at the time they purchased securities. The District Court found that the proposed class satisfied all elements of Rule 23(a) (numerosity, commonality, typicality, and adequacy of representation), but refused to certify the class under the Rule 23(b)(3) predominance requirement because the Fifth Circuit required that securities fraud plaintiffs prove the causal connection between Halliburton s alleged misrepresentations and the plaintiffs economic losses in order to invoke the presumption of reliance under the fraud-on-the-market 86

88 theory. The proposed class failed to do so, and the Fifth Circuit affirmed. The U.S. S.Ct. vacated the judgments and remanded the case to the District Court to hear any arguments Halliburton had reserved, and Halliburton provided evidence to rebut the class allegations and show that none of the alleged misrepresentations actually affected the stock price or that the class members had relied on such misrepresentations. The District Court declined to consider the argument and certified the class under the fraud-on-the-market theory. The Fifth Circuit affirmed and U.S. S.Ct. again granted certiorari to consider whether Halliburton could use price impact evidence to rebut a question of predominance. U.S. S.Ct. agreed with Halliburton that it should be allowed to introduce price impact evidence at the class certification stage to rebut the presumption of reliance created by the fraud-on-themarket theory because a class would otherwise be certified even where the theory would not apply and common reliance would not be presumed. Without the presumption of reliance predominating, a fraud-on-the-market suit could not proceed as a class action. Each plaintiff would have to prove reliance individually, so common issues could not predominate. Basic v. Levinson, 485 U.S. 224 (1988) requires plaintiffs bringing such securities actions to establish price impact indirectly as a precondition to suit, but it does not require the court to ignore the defendant s evidence that would show the fraud-on-the-market presumption would not apply. U.S. S.Ct. distinguished Amgen Inc., in that it based that decision on proving materiality on the merits at the certification stage. Materiality should be left to the merits because it is viewed objectively and capable of class-wide proof. Price impact, however, is different because it is the fundamental underlying premise of Basic and has everything to do with predominance at the certification stage because individual claims would predominate if the class was not entitled to the presumption of reliance. Accordingly, Halliburton could seek to defeat the presumption of reliance at the certification stage. *Note: While the case rests on the consideration of rebutting price impact, it necessarily increases the burden on a purported class to prove its case on the merits at the time of certification and allows the defendant to argue the merits in order to oppose the certification and the purported class material claims. III. RECENT SUPREME COURT CLASS ACTION CASES HAVE CREATED A HEIGHTENED BURDEN ON PARTIES SEEKING CLASS CERTIFICATION AND HAVE NARROWED THE SCOPE OF THE COMMONALITY AND PREDOMINANCE REQUIREMENTS. The aforementioned U.S. S.Ct. cases suggest that plaintiffs seeking class certification face an increasingly uphill battle to satisfy the elements of Fed. R. Civ. P. 23 and that, where appropriate, a defendant may be able to defeat certification by rebutting a presumption of common damages. The line between proving a case on the merits and satisfying elements such as predominance or commonality has become somewhat blurred at least with cases involving mass torts, products liability, discrimination claims, antitrust violations, and securities fraud. The Wal-Mart decision expresses a narrow interpretation of the commonality requirement set forth in Fed. R. Civ. P. 23(b)(2) and, at least on the facts of the case, requires a party seeking to certify a class and bring discrimination claims to offer significant proof of a general policy of discrimination to bridge the gap between an individual s discrimination claim and the existence of a class of persons who have suffered the same injury. 87

89 o The decision specifically acknowledged the overlap between proof of commonality and proof of discrimination on the merits. The Wal-Mart decision further holds that plaintiffs seeking class certification must share common damages. Damages for backpay, for example, are too individualized to award to a class as a whole. The court must make a person-by-person analysis, which necessarily defeats the purpose of a class action to resolve common issues in one fell swoop. The Comcast decision expanded upon Wal-Mart, but focused primarily on the predominance requirement of Fed. R. Civ. P. 23(b)(3) that the common facts and issue of law predominate over individual facts or issues. While the plaintiffs sought relief from purported gender discrimination, they could not prove a causal connection between liability and the harm and damages suffered by the class. The court noted that individual questions of damages could predominate over liability issues common to a purported class. Courts have been cautious to certify classes with respect to mass tort cases because of the individual causal analysis required for each member. It is understandable that one individual will suffer different injuries than another based on a myriad of factors. 177 Although Comcast did not explicitly cite such a theory or make the analogy, it implicitly determined that causal issues may create problems for classes seeking redress in areas of law other than tort. Plaintiffs seeking to certify a class must expect a rigorous analysis from the court, which will require plaintiffs to show some evidentiary proof of underlying claims in addition to proving facts that there are sufficiently numerous parties, common questions of law or fact, typicality, and adequacy of representation. Comcast, 122 S.Ct. at Halliburton also heightens a purported class burden of proof. Parties seeking certification and a presumption of reliance on the fraud-on-the-market theory should be prepared to prove reliance and price impact knowing that a defendant now has the ability to rebut the presumption and defeat the class. Again, as with Wal-Mart and Comcast, a discussion of causal connection becomes relevant and damages may be too individualized to be common among the class. A purported class action seeking redress under the fraud-on-the-market theory must show some causal connection between alleged misrepresentations and the class economic losses in order to invoke the presumption of reliance. Without this showing, a purported class cannot satisfy the predominance factor and cannot certify. While the U.S. S.Ct. has attempted to clarify issues of confusion between proof on the merits and class certification pursuant to Rule 23, it appears that defendants now have more ammunition to dispute certification than they once did in the past. It is also apparent that parties seeking class certification may fail the commonality or predominance factors with respect to damages if the damages are too individualized to be common among a purported class. Defendants can thus defeat certification by challenging damages under these factors. 177 See e.g. Amchem Products, Inc., 521 S.Ct. at 2250 (advising caution in mass tort certification when individual stakes are high and vast disparities exist among members) Steering Committee v. Exxon Mobil Corp., 461 F.3d 598, (5th Cir. 2006) (denial of class certification appropriate for injuries sustained from chemical fire where predominance of individual issues detracted from superiority of class action device). 88

90 IV. ISSUES WITH ARTICLE III STANDING IN CYBER SECURITY AND SURVEILLANCE CLASS ACTION LAWSUITS Cyber security and surveillance class action lawsuits are trending in today s world of fastpaced technology and, while the court has attempted to keep pace, this area of law is still in its early developmental stage. Plaintiffs are bringing suits against web companies and the government more and more frequently for invasion of privacy issues, which may include, inter alia, website user tracking and disclosure of an individual or company s personal information. A vast majority of recent class action litigation rests on whether the plaintiffs and purported class members have standing to bring their claims. As previously discussed, Article III of the U.S. Constitution addresses standing and requires an injury to be concrete, particularized, and actual or imminent; fairly traceable to the challenged action; and redressable by a favorable ruling. Clapper v. Amnesty Intern. USA, 133 S.Ct. 1138, 1141 (2013). With respect to websites sharing personal information, federal district courts have frequently determined that plaintiffs and their purported class are unable to establish standing to file suit because they cannot identify any concrete harm sufficient to satisfy Article III. See In re Google, Inc. Privacy Policy Litigation, No. C WL (N.D. Cal. Dec. 28, 2012) (holding plaintiffs failed to show any actual or imminent injury in fact by mere disclosure of information) Low v. LinkedIn Corp., No. 11-cv WL (N.D. Cal. Nov. 11, 2011) (holding single plaintiff seeking to certify class failed to establish emotional harm or economic harm where defendant allegedly transmitted plaintiff s browser history to third-parties). In Low, the plaintiff brought claims against LinkedIn purporting the website violated, among other acts, the Stored Communications Act, the California Constitution, and the California Unfair Competition Law when it allegedly disclosed user information, including browser history, to third-party advertising and marketing companies by use of cookies. Specifically, LinkedIn s website linked and transmitted user ID numbers to cookies, which allowed third-parties access to user information. The plaintiff alleged he was harmed by the disclosure by way of embarrassment and humiliation, and that his personally-identifiable browser information constituted valuable personal property with a market value for which he was not compensated when LinkedIn disclosed his information. The court rejected both theories. First, the plaintiff did not allege how third party advertisers would be able to infer personal identity from an anonymous user ID and browsing history. Second, the plaintiff failed to allege facts to demonstrate how he was foreclosed from capitalizing on the value of his personal data. As the plaintiff had not suffered injury in fact, neither he nor the purported class had standing. In In re Google Inc., the plaintiffs brought a host of claims against Google on behalf of a purported class, alleging violations of, among others, the Wiretap Act, California s Right of Publicity Statute, and California s Consumer Legal Remedies Act. The purported class consisted of all persons and entities in the U.S. who acquired a Google account over an eight-year period. The plaintiffs took issue with Google s 2012 policy change, which combined user s accounts and information across multiple Google platforms, such as YouTube, Maps, and Reader. Plaintiffs argued expectations of privacy differed from one platform to the other. The court held that the plaintiffs did not have standing because they failed to articulate anything more than an unauthorized disclosure of personal information and could not show any actual or imminent injury in fact. While the aforementioned cases dealt with the abstract nature of proving standing in cyber security cases, it is clear that plaintiffs may be able to achieve standing and potentially certify a class where statutory claims define injury as a defendant s mere 89

91 violation of the statute. See Perkins v. LinkedIn Corp., 13-cv WL (N.D. Cal. June 12, 2014) (holding plaintiffs had standing with purported class with respect to statutory claims allowing same); In re Google Inc. Gmail Litigation, 13-MD WL (N.D. Cal. Sept. 26, 2013) (holding plaintiffs established standing by mere allegation that Google violated the California Invasion of Privacy Act, which authorized statutory damages for a violation without need to show actual damages). In In re Google Inc. Gmail Litigation, the plaintiffs brought claims on behalf of several purported class groups alleging Google intercepted s to provide advertisements and create user profiles to advance Google s profit interests. Plaintiffs pursued claims under California state and federal anti-wiretapping statutes. The court determined that the Wiretap Act and California Invasion of Privacy Acts were analogous in that they authorize[] an award of statutory damages any time a defendant violates the provisions of the statute[s] without any need to show actual damages. Any person who has an electronic communication intercepted or disclosed in violation of the Acts may recover from the violating entity. Accordingly, the plaintiffs had proper standing merely by alleging violations of the act. In Clapper v. Amnesty International USA, 133 S.Ct (2013), the U.S. S.Ct. addressed the issue of standing in a class action suit which alleged violations of the Foreign Intelligence Surveillance Act ( FISA ). Attorneys, human rights, labor, legal, and media entities brought suit seeking to declare a provision of FISA unconstitutional and seeking to enjoin any surveillance authorized by the provision. The provision allowed the Attorney General and the Director of National Intelligence to acquire foreign intelligence by monitoring communications made by persons who were not U.S. citizens, legal aliens, or corporations and who were reasonably believed to be located outside of the U.S. Respondents were citizens, legal aliens, and corporations who alleged their work required them to engage in sensitive international communications with individuals who they believe are likely targets of surveillance under FISA. Respondents offered two theories of recovery: (1) there was an objectively reasonable likelihood that their communications will be intercepted under FISA in some time in the future; and (2) present injury exists where FISA has forced Respondents to take costly and burdensome measures to protect the confidentiality of their international communications. The U.S. S.Ct. determined Respondents did not have Article III standing to pursue claims on behalf of themselves or the purported class. First, Respondents did not allege any facts beyond mere speculation that the Government would imminently target Respondents communications. Indeed, Respondents had no actual knowledge of the Government s targeting practices. Second, even if Respondents could demonstrate imminent targeting, they could not show that the Government would use FISA as opposed to other methods of surveillance. Third, even if Respondents could prove both of the aforementioned elements, they could not show that that a court would even authorize such surveillance. Fourth, Respondents could not show that the Government would succeed in acquiring such communications. Finally, Respondents could not show that the Government would incidentally intercept their communications even if all other factors were satisfied. Accordingly, fear of speculative surveillance was insufficient to establish standing. o The court also dismissed Respondent s argument that the threat of FISA surveillance required them to minimize certain communications or travel to communicate in person. The court concluded any costs associated with such fears were unnecessary because future harm was speculative and not impending as required by Article III. Respondent s injuries were self-inflicted and could not be linked to the Government s alleged surveillance under FISA. 90

92 V. CONCLUSION The recent U.S. S.Ct. cases, and federal district cases on cyber security and wiretapping, provide evidence that class actions will face new and uncharted challenges in the future. As Wal-Mart and Comcast suggest, the court may need to engage in a causal analysis of a plaintiff s claims at the class certification stage, which necessarily overlaps with the party s case on the merits. Purported class members damages may also be too individualized to apply to an entire class and may overshadow common liability claims. While courts have historically applied this reasoning to mass tort and products liability cases, they are now applying the theory to other areas of law, such as anti-trust and employment discrimination. Further, as the U.S. S.Ct. held in Halliburton, defendants may have particular opportunities to contest a plaintiff s case on the underlying merits at the class certification stage. While the court seemingly glossed over this notion, it noted that price impact is an underlying element of a fraud-on-the-market claim and indicated a class of plaintiffs must 1) prove the theory on the merits and 2) prove the theory to certify the class. The development of cyber security and surveillance law also poses problems for plaintiffs seeking to certify a class or groups of classes. Even where a plaintiff is able to establish standing by bringing claims under specified statutes, or in some other manner, it appears that commonality, adequacy of representation, and predominance may pose problems as these cases continue to develop. Similar to mass tort cases, surveillance poses problems unique to each person, and determining whether a party suffered damages (absent a statute such as the Wiretap Act) and, if so, the extent of such damages, will involve a causal inquiry which courts may not be able to apply to an entire class because of an infinite number of factual variables. Brian P. Voke, Esq. Campbell Campbell Edwards & Conroy One Constitution Center, 3 rd Fl. Boston, Massachusetts T: (617) E: [email protected] 91

93 Legal Ramifications of Ebola Virus in the United States Dwayne Hermes and John Hardage Hermes Sargent Bates, LLP 1. Brief History of the Ebola Virus: a. Full Name: Ebola Virus Disease or Ebola Hemorrhagic Fever. b. The virus was first identified in Sudan in c. It is believed that fruit bats are the natural carrier. d. Between 1976 and 2013, the World Health Organization reported 1,716 cases. e. The 2014 outbreak has resulted in 8,376 cases, 4,024 deaths. f. The virus brings a high risk of death; between 50% and 70%. g. Prior outbreaks: i Sudan / Zaire 602 infected, 431 dead ii Congo 315 infected, 254 dead iii Congo 264 infected, 187 dead iv Uganda / Congo 81 infected, 46 dead v Guinea / Liberia / Sierra Leone / United States / Europe? h. The virus has also killed approximately 5000 gorillas and numerous chimpanzees i. The WHO and the CDC recommend that no autopsies be performed on the deceased and that the deceased not be embalmed. Rather, the remains should be cremated or buried promptly in a hermetically-sealed casket. 2. Current outbreak in the United States and Europe: a. August 8, 2014 The World Health Organization declared an international public health emergency. b. August 12, Priest Miguel Pajares died in Spain after contracting Ebola in Liberia. c. September 20, 2014 Patient Thomas Eric Duncan arrived in Dallas from Liberia. d. September 24, 2014 Mr. Duncan developed Ebola-like symptoms. e. September 26, 2014 Mr. Duncan went to Texas Health Presbyterian Hospital and sought treatment. He was given antibiotics and sent home. f. September 28, 2014 Mr. Duncan returned to Presbyterian. He was admitted and isolated. g. September 29, 2014 Nurse Nina Pham treated Mr. Duncan for the first time. It does not appear that she wore any protective equipment during her first encounter with him. Nurse Amber Vinson also treated Mr. Duncan around this time. h. October 2, 2014 Mr. Duncan s family was ordered to stay in their apartment. i. October 8, 2014 Thomas Eric Duncan died. j. October 10, 2014 Amber Vinson flew commercially to Ohio. k. October 12, 2014 Nina Pham was diagnosed with Ebola. l. October 12, 2014 London Mayor Boris Johnson said he has little doubt that the Ebola virus will come to London. m. October 13, 2014 Amber Vinson returned, via commercial airplane, to Dallas from Ohio. n. October 14, 2014 Heathrow airport began screening passengers from West African flights. 92

94 o. October 15, 2014 Amber Vinson was diagnosed with the Ebola virus. Reports circulated that she flew commercially twice between Dallas and Cleveland over the prior weekend and that she might have had low-grade fever during at least one of those flights. The CDC gave her permission to fly on at least one of those occasions. 3. General Ebola Facts a. How does one contract Ebola? i. Infection occurs: 1. From direct contact through broken skin or mucous membranes with the blood or other bodily fluids or secretions of infected people; OR 2. If broken skin or mucous membranes of a healthy person come into contact with environments that have been contaminated with Ebola patient s infectious fluids, such as soiled clothing, bed linen, or used needles. b. Symptoms: i. Fever ii. Sore throat iii. Muscle pain / intense weakness iv. Headaches v. Vomiting vi. Diarrhea vii. Later, internal and external bleeding (red eyes, bloody vomit) viii. Eventually, organs begin to fail (this is usually what kills the patient) c. Symptoms appear suddenly. d. Is there a cure? i. There is no definitive cure or vaccine available. ii. The virus is typically treated with fluids iii. Patients are isolated and quarantined. iv. Dr. Kent Brantley was treated with the experimental drug ZMapp at Emory Hospital in Atlanta. 1. The ZMapp supply is currently exhausted and the drug is not available. e. When can the virus be spread? i. The WHO claims that infected people are not contagious during the incubation period, or the time between infection and the onset of symptoms. ii. This is typically 2-21 days. iii. The virus is spread only when person is symptomatic. 4. Legal Ramification concerning Texas Health Presbyterian Hospital in Dallas a. Claims against the Hospital by Mr. Duncan s Family. i. Texas Health Presbyterian Hospital sent Mr. Duncan home the first time he sought treatment there. 1. It is a valid medical malpractice cause of action that a physician fails to monitor a patient for a known condition Chambers v. Conaway, 888 S.W.2d 156 (Tex. 1993). 2. It is also medical malpractice to negligently discharge a patient. Williams v. Bennett, 610 S.W.2d 144 (Tex. 1980). 93

95 3. But the hospital may have a defense that Mr. Duncan was contributorily negligent and/or negligence per se. There is some evidence that Mr. Duncan lied about and/or concealed his potential for exposure. a. Tex. Health & Safety Code it is a Class B misdemeanor to knowingly conceal or attempt to conceal that a person has been exposed to a disease that is a threat to the public health. ii. Also, in Texas, plaintiffs suing emergency room physicians must show willful and wanton negligence by the doctors. Baylor Med. Ctr. v. Wallace, 278 S.W.3d 552, 556 (Tex. App. Dallas 2009, no pet.). iii. This is a very high bar, making it unlikely that Mr. Duncan s family can prevail in a lawsuit against the hospital. b. Claims against the Hospital by the infected nurses that treated Mr. Duncan: i. It is likely that the nurses claims are covered by the Hospital s worker s compensation insurance. The nurses will receive worker s compensation benefits as a result of contracting the disease in the course and scope of their employment with Presbyterian Hospital. ii. Due to the Texas exclusive remedy provision in worker s compensation law, an employer is essentially immune from suit for its negligence that proximately causes an injury to an employee. It is therefore unlikely that the nurses or their families can sue and recover anything beyond the worker s compensation benefits, which are typically time-loss pay and health benefits. iii. However, an employer can be liable for gross negligence. If it is determined that the Hospital was grossly negligent, the nurses can recover. This is also unlikely, as gross negligence is a high hurdle. c. Do third parties infected by an ill patient or nurses have valid claims against the hospital? i. Answer: it depends on who they were infected through a Patient or a hospital worker/nurse. ii. If the claimant was infected through the patient: 1. In short, no, they do not have claims against the hospital. These claims/claimants face problems with the physician s duty to the public at large. 2. To prevail in a medical malpractice case, a plaintiff must show, among other things, that the Defendant owed a duty to the Plaintiff. When the Plaintiff is not the patient, this is almost impossible. 3. General Rule a physician owes no duty of care to third parties who are not patients, whether they are specifically identifiable individuals or simply members of the public at large. Only when a physician-patient relationship exists can there be a breach of duty resulting in medical malpractice. St. John v. Pope., 901 S.W.2d 420, 423 (Tex. 1995); Thapar v. Zezulka, 994 S.W.2d 635, (Tex. 1999). a. Hightower v. Baylor University Medical Center, 251 S.W.3d 218 (Tex. App. Dallas 2008, no pet). This case is instructive. In Hightower, a patient died as the result of a rabies infection. His family members later claimed that they had to undergo treatments and incur medical expenses 94

96 as a result of their contact with the infected individual. They sued the hospital under a medical malpractice theory to recover these expenses. Summary judgment was granted in favor of the hospital on the grounds that the hospital owed no duty to non-patients as there was no physician-patient relationship between the physician/provider and the infected man s family. 4. Other States it is the law in almost all United States and the District of Columbia that physicians only owe duties to their patients. However, some states (Colorado and West Virginia, for example) will impose duties upon physicians to third parties when it is a foreseeable risk that a third party will be injured. iii. If the claimant is infected through a sick healthcare worker: 1. The Predominate Issue is proximate cause / foreseeability. a. The foreseeability requirement of proximate cause is met if a person of ordinary prudence exercising ordinary care should have reasonably anticipated and foreseen that the accident, or a similar one, would occur as a natural and probable consequence of its act. Baylor Medical Plaza Services Corp. v. Kidd, 834 S.W.2d 69 (Tex. App.--Texarkana 1992), writ denied. A wrongdoer is not responsible for a consequence that is merely possible, according to occasional experience, but only for a consequence that is probable, according to ordinary and usual experience. Id. i. This is a case-by-case question for the jury based on what the hospital knew about Ebola, when they knew it, when they should have known it. b. Wadley Research Institute and Blood Bank v. Beeson, 835 S.W.2d 689 (Tex. App. Dallas 1992, writ denied). This case is instructive. In Beeson, Thomas Beeson contracted HIV following a blood transfusion. The blood was donated by a sexually active homosexual male with multiple sex partners. Id. at 692. Mr. Beeson then infected his wife with the virus. Mr. Beeson died and his wife and estate sued the blood bank, alleging negligent screening procedures. Reasoning that [f]oreseeability is satisfied by showing that the actor, as a person of ordinary intelligence, should have anticipated the danger to others by its negligent act, the trial court and the appellate court held that the blood bank s improper screening procedures proximately caused the HIV infections of both Mr. and Mrs. Beeson. 2. Another Issue to Consider The third party s relationship to the carrier and the invoking of Policy Exclusions. a. Professional responsibility policies often contain exclusions which eliminate coverage for claims by the professional s immediate family members. d. Hospitals must also balance the risk of failure to properly diagnose with bottleneck of patients. e. Also, there are possible claims against the hospital of negligent hiring, training, retention of nurses. 95

97 5. Employment Issues a. Occupational Health and Safety Administration: i. Employers whose workers may be exposed to the virus need to comply with various OSHA guidelines, including: 1. Bloodborn Pathogens standard: 29 CFR Respiratory Protection Standard: 29 CFR Personal Protective Equipment (PPE) Standard: 29 CFR b. The Family Medical Leave Act: i. Under the Federal Family Medical Leave Act, an employer must grant an eligible employee twelve weeks of unpaid leave during any 12-month period for several reasons, including: 1. To care for an immediate family member with a serious health condition; and 2. To take medical leave when the employee himself is unable to work because of a serious health condition. ii. Issues not yet determined: 1. For how long is Ebola a serious health condition? 72 hours? three weeks? 2. If asymptomatic, but quarantined, do you have a serious health condition? c. What can (non-healthcare) employers to do protect themselves? i. Maintain clear communication with employees this promotes confidence in the employer s ability to protect workers and reduce absenteeism; ii. Allow remote work; iii. Encourage workers to stay home if they feel ill; iv. Provide training on infection controls / PPE (if applicable); v. Review information on Ebola as it is issued, to ensure company compliance with any aspects of the directives that may affect their own workforces; vi. Consult travel information and advisories that are being issued from airports and the Federal Aviation Administration when asking employees to travel near, to, or through affected areas; vii. Educate the employees who engage in travel by providing them with the screening criteria to allow them to be vigilant of symptoms and healthrelated issues; and viii. Post general information in a common area to educate employees on the ongoing developments in and containments of the disease d. Worker s compensation (discussed below). 6. Insurance Ramifications Third Party Insured s Issues: 178 Occupational Safety & Health Administration [OSHA]. (2014). OSHA Fact Sheet: Protecting Workers during a Pandemic; (OSHA FS ). Retrieved from Type=Types&pID= Danaher, Maria Greco. The Employer s Reference Guide to Information About Ebola. Ogletree Deakins, Web. 13 Oct

98 a. Claims / Litigation arising from the Ebola epidemic, if any, will likely focus on whether a particular business or entity has implemented an appropriate standard of care for managing and dealing with a viral outbreak. In other words, did they use reasonable care under the circumstances? i. Liability issues arising out of a pandemic are likely to involve areas or industries that contain significant amounts of close interaction amongst people, including schools, hospitals, hotels, universities, restaurants, and the event industry. ii. Focus will be on the businesses on preparation, response, and recovery. 180 b. Commercial General Liability i. Most claims by sick, non-employees against a policyholder who allegedly caused a sickness resulting from exposure to a harmful condition would trigger CGL coverage issues. ii. Issues still to be determined: 1. Policy Period / Triggering of Coverage: a. If someone is infected with the disease during the policy period, but symptoms present themselves after the period has expired, is coverage triggered? b. If someone is infected before a policy period but symptoms present themselves during the policy period, is coverage triggered? 2. Number of Occurrences a. If multiple employees of a single business contract the disease, is that one occurrence or multiple occurrences for coverage purposes? 3. Cleanup / Loss of use a. If property is subject to a decontamination procedure, is loss of use of that property covered? iii. Communicable Disease / Pathogenic Organism Exclusions 1. Some policies include a communicable disease exclusion which eliminates property coverage for losses due to any virus, bacterium, or other microorganism that induces or is capable of inducing physical distress, illness, or disease. c. Directors and Officers Insurance Policies i. When a company s negligent failure to take reasonable steps to respond to a viral outbreak has a negative financial impact upon the company, its directors and officers may be sued for loss of shareholder value. ii. Shareholders may claim that a company act negligently in: 1. Failing to develop a reasonable plan for responding to an epidemic / outbreak; 2. Developing an inadequate or incomplete plan; 3. Failing to properly disseminate the plan; or 4. Failing to follow a plan, even if plan was adequate. 7. Insurance Ramifications First Party Coverage Issues a. Worker s Compensation - The Insurance Information Institute believes that worker s compensation insurers will be the most widely affected part of the 180 See Also: Nelson Levine de Luca & Horst, LLC; The Swine Flu Crisis: Insurance Coverage and Liability Issues (2009). 97

99 insurance industry because healthcare workers could be the most directly exposed. 181 i. Worker s Compensation Coverage is triggered if the following Two- Prong test is satisfied: 1. Is the disease or illness occupational? 2. Does the disease or illness arise out of conditions peculiar to the work. a. Example: Black Lung disease was peculiar to coalmining industry. b. The Insurance Journal thinks Ebola is compensable in a healthcare worker s scenario. c. However, outside of the healthcare industry, [Ebola] is no more occupational in nature than a non-pandemic, noname, flu. 182 ii. Typically, healthcare workers are covered under worker s compensation iii. Subscribing to Worker s compensation coverage: 1. Some states require employers to have worker s compensation insurance. 2. Texas does not require employers to have worker s compensation insurance. Rather, employers have the option to subscribe. 3. Being a non-subscriber leaves an employer open to personal injury lawsuits from employees who are injured on the job without the limits and protections of worker s compensation coverage. b. Do companies face increased exposure due to other business-related travel? i. This is yet to be determined. ii. Recently, ACE, Ltd. has begun selectively excluding Ebola from its coverage on a case by case basis for U.S. customers that have foreign travel exposure to certain African countries for new and renewal policies. 183 iii. It is unlikely that exposure resulting from other business-related travel covered under worker s compensation policies because such travel would not be peculiar to a particular industry. c. Event Cancellation Insurance i. Most event cancellation policies are contingent upon whether the cancellation was necessary and beyond the control of the policyholder. ii. Coverage is more likely if a government prohibits public gatherings of some sort, because the cancellation was out of the policyholder s control. d. Trip / Travel Insurance i. Typically, trip insurance only covers cancellations of trips for very specific reasons (i.e. the death of a family member). 181 Weisbart, Dr. Steven. Facts and Perspectives on the Ebola Pandemic; Insurance Industry Ramifications of the Spread of the Ebola Virus. Insurance Information Institute. Web. 13 Oct Boggs, Christopher J. Is Ebola Compensable Under Worker s Compensation? Insurance Journal. Wells Media Group, Inc. Web. 10 Oct Scism, Leslie. Insurer Warns about Ebola and Coverage. Dow Jones Newswires. Dow Jones News Service. Web. 21 Oct

100 ii. Fear of Ebola is not one of them. Individuals or businesses who cancel trips due to fear of Ebola, even if they purchased trip insurance, are unlikely to be covered by said insurance. e. Business Interruption Insurance i. If purchased, Business Interruption Insurance is usually added on to property insurance policies. ii. Business Interruption insurers may be subject to claims for loss of business income and extra expenses related to the unavoidable interruption of operations. This can include contamination of business equipment. 1. Examples: a. A forced plant shut-down; b. A forced closing of a warehouse. iii. Typical policy language requires necessary suspension of operations caused by direct physical loss to property on the insured s premises. 1. In other words, these policies are usually triggered only when a work site suffers property damage. 2. This can include, however, contamination of equipment. iv. Possible Exclusion: Losses caused by faulty, inadequate, or defective maintenance are not covered. v. Time Period of Coverage: 1. Coverage is usually written to cover a period of restoration. 2. Here, this would essentially be the time after the contamination of a building forces suspension of operations while remediation / cleaning takes place. vi. Business Interruption insurance would not cover loss of business due to community-wide illness or fear of illness. f. Civil Authority Coverage i. Business Interruption Policies can be written to include civil authority coverage. ii. This is triggered when authorities shut off access to a particular area in which a business is located, even without physical damage to the policyholder s premises. g. Health Insurance i. If the patient is covered by Obamacare, he or she will be insured for some treatment. This does not include experimental drugs or emergency flights. ii. Intensive treatment / quarantine / ICU can cost up to $10,000 per day. For Ebola, these treatments usually last between two and three weeks. iii. Some estimates put the cost of treating Thomas Eric Duncan at around $1,000 per hour, or $500,000 overall. 184 iv. For businesses with self-funded plans, this adds up quickly and can trigger stop-loss insurance at an early juncture. v. Many insurance firms offer expensive medical evacuation options to employees of business in risky situations. However, even these firms are refusing to evacuate with Ebola symptoms. 185 h. Industry-specific insurance policies / coverage. 184 Kennedy, Bruce. What about Ebola s impact on Insurers? CBS Moneywatch. CBS Interactive, Inc. Web. 14 Oct Boggs, Christopher J. Is Ebola Compensable Under Worker s Compensation? Insurance Journal. Wells Media Group, Inc. Web. 10 Oct

101 i. Example - cleaning companies cannot get insurance to cover their work cleaning residences of Ebola-infected individuals Government Intervention a. The rights of the Deceased and his family are balanced against the public interest. i. As discussed above, no embalming or autopsy is allowed. ii. In this scenario, the public health issue clearly trumps the family s wishes for a funeral or other post-death procedures. b. Government-sanctioned quarantines i. State and Federal governments have the power and authority to quarantine infected individuals against their will in the interest of public safety. ii. See Tex. Health & Safety Code Claims Against the Government a. Was the CDC negligent in pre-approving nurse Amber Vinson s commercial air travel between Cleveland and Dallas? i. Probably, but making claims against and/or suing the Federal Government is a difficult task. ii. Procedure: 1. First, the claimant must file an administrative claim against the CDC within 2 years. 2. The Governmental Agency has six months to respond. 3. The Claimant then has six more months to file a lawsuit, at which point the claimant must still get around the sovereign immunity doctrine through the Federal Tort Claims Act and the corresponding state Tort Claims Acts. iii. Federal Tort Claims Act 1. The negligent act must have been committed by Federal Employees as opposed to contractors. 2. The negligent act must have been committed in the scope of the Defendant employee s employment 3. Negligence, not intentional misconduct, claims are allowed 4. The claim must be based on, and permitted by, the law of the state in which the misconduct occurred. Useful websites: CDC: What s new with Ebola (CDC consistently updates website with new articles and notifications). CDC Safe Management of Patients with Ebola in U.S. Hospitals CDC Infection Prevention and Control Recommendations for Patients with Known or Suspected Ebola Virus DiBlasio, Natalie. For insurers, Ebola threat just too risky. USA Today. 13 Oct. 2014; B1. Print. 100

102 CDC Ebola West Africa Distribution Map The Employer s Reference Guide to Information about Ebola Dwayne J. Hermes Hermes Sargent Bates, LLP Bank of America Plaza 901 Main Street, Suite 5200 Dallas, TX T: (214) E: [email protected] John Hardage Hermes Sargent Bates, LLP Bank of America Plaza 901 Main Street, Suite 5200 Dallas, TX T: (214) E: [email protected] 101