The Law

Legal Spotlight

The latest decisions impacting the industry.
By: | December 10, 2014 • 5 min read

Jury Rules in Favor of Insured

Sometime between Jan. 12, 2009 and February 5, 2009, one or more individuals entered the disc jockey’s room at the Cabo Wabo Cantina and Memphis Blues nightclub in Fresno, Calif., and stole about $140,000 of electronic equipment including HD televisions, speakers and sound mixers.

Fresno Rock Taco, which operated the cantina and nightclub, reported the theft to the police upon the advice of its broker, and filed a claim with National Surety Corp., a Fireman’s Fund Co., for the equipment, property damage and for loss of business income. It had two insurance policies with respective limits of $2.6 million and $6.1 million.

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Fresno Rock, along with Zone Sports Center LLC, owner of the property at the time of the theft, filed suit against National Surety when the claim was denied.

The insurance company alleged the loss of equipment was due to repossession rather than theft, according to court documents.

Cabo Wabo denied repossession was involved, and noted in court documents that a search of the premises by the state Department of Insurance for possible insurance fraud “revealed no wrongdoing of any kind and no charges of insurance fraud or any other crime have been filed against anyone connected to this matter.”

After a trial in the U.S. District Court for the Eastern District of California, Fresno Division, a jury ruled on Aug. 22 that Cabo Wabo and Zone Sports had suffered a covered loss and did not make a false claim to the insurance company.

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It ordered the insurer to pay $2.2 million to Cabo Wabo for business interruption losses and about $275,000 to the property owner for property damage losses.

Scorecard: The insurance company was ordered to pay $2.5 million for the claim.
Takeaway: National Surety’s belief that the theft was questionable and that security measures were inadequate did not sway the jury.

Insurer Need Not Pay Auto Settlement

Tyler Roush was driving his mother’s car on Aug. 3, 2009 when he struck and severely injured a pedestrian, Lloyd Miller.

Miller and his wife Nancy filed suit against Roush and his parents, Sharon and George Roush, and Brash Tygr, which owned and operated a Sonic Drive-In restaurant in Carrollton, Mo. The parents owned 75 percent of Brash Tygr; Tyler and his brother Brandon each owned another 5 percent.

The company was covered as part of a commercial lines master policy issued to Sonic Insurance Advisory Trust by Hudson Specialty Insurance Co. The CGL policy had a Hired and Non-Owned Auto Liability endorsement, under which the family and franchise sought coverage.

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Hudson provided a defense, under a reservation of rights, until the family rejected that defense and settled the Millers’ lawsuit for $5.8 million in compensatory and punitive damages, according to court documents. At the same time, the family admitted that Tyler Roush was “conducting the business of Brash Tygr” during the accident.

Tyler Roush, who had not worked for the restaurant for a long time, had been on some errands for his mother at the time of the accident. While he was depositing his mother’s paycheck at a local bank, an employee had handed him some bank deposit bags for use by Sonic Drive-In, according to court documents.

Because of that action, the U.S. District Court for the Western District of Missouri-Kansas City ruled that Roush had “a dual purpose” in his travels and was acting “in the course of [the restaurant’s] business.”

On appeal, the U.S. 8th Circuit Court of Appeals on Oct. 7 disagreed. In a 2-1 decision, the majority ruled there was no dual business purpose. It ruled that “picking up the bags was a matter of convenience, not necessity, for Brash Tygr and the Sonic Drive-In.”

In his dissent, Judge Kermit Bye said it was uncontroverted that Brash Tygr used such deposit bags and that the company did not have “a limitless supply.” Thus, at some point, an employee would have needed to “make a special trip to the bank for deposit bags if Tyler Roush had not brought them to his parents’ home.”

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The court also ruled that Hudson had not been given an opportunity to contest coverage in the wake of the family’s admission that Tyler Roush had been acting in the course of business.

Scorecard: The insurance company did not have to cover any of the $5.8 million in settlement costs.
Takeaway: Accepting the deposit bags “was a ‘casual and incidental’ aspect of a purely personal trip that did not give that trip a dual business purpose under Missouri law,” according to the court’s majority opinion.

Insurer Must Pay for Explosion Costs

In 2009, A.H. Meyer’s plant in Winfred, S.D., exploded for the second time in five years. The cause was heptane, a highly volatile solvent manufactured by Citgo Petroleum Corp., which is used in the production of beeswax.

After the first explosion in 2004, A.H. Meyer redesigned the plant so that electrical switches were at least five feet away — the recommended distance — from the 150-gallon storage “kettle” of heptane at the factory. In the previous plant, the distance had only been four feet. The company also added a ventilation system, as recommended.

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Nonetheless, an explosion occurred in 2009 when heptane spilled from the kettle and an employee pressed a switch to turn off a pump, according to court documents. Nationwide Insurance Co., which paid for the damage, filed a subrogation suit against Citgo, the manufacturer, and Barton Solvents, the supplier of the heptane.

It argued the companies were liable and negligent because the warnings were inadequate. A safety expert it hired said that the ventilation system meant to reduce risk was actually the reason for the explosion.
Nationwide also argued the companies had provided an express and implied warranty of the heptane.

Both the Circuit Court of the Third Judicial Lake County and the state Supreme Court disagreed, granting the defendants’ motion for summary judgment.

The South Dakota Supreme Court ruled that both the supplier and manufacturer “collectively warned that heptane was volatile and explosive,” and that A.H. Meyer complied with all safety recommendations.

“Ultimately, Nationwide’s inadequate warning claim is based on nothing more than the fact of the accident, speculation, and conjecture,” it ruled.
It also said that pointing out danger is not the same as a warranty, which implies a promise.

Scorecard: Nationwide’s attempt to subrogate the costs for repair were denied.
Takeaway: A safety warning is “an alert,” while a warranty is a “promise that the thing being sold is as represented,” the court ruled.

Anne Freedman is managing editor of Risk & Insurance. She can be reached at [email protected]

More from Risk & Insurance

More from Risk & Insurance

Cyber Liability

Fresh Worries for Boards of Directors

New cyber security regulations increase exposure for directors and officers at financial institutions.
By: | June 1, 2017 • 6 min read

Boards of directors could face a fresh wave of directors and officers (D&O) claims following the introduction of tough new cybersecurity rules for financial institutions by The New York State Department of Financial Services (DFS).

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Prompted by recent high profile cyber attacks on JPMorgan Chase, Sony, Target, and others, the state regulations are the first of their kind and went into effect on March 1.

The new rules require banks, insurers and other financial institutions to establish an enterprise-wide cybersecurity program and adopt a written policy that must be reviewed by the board and approved by a senior officer annually.

The regulation also requires the more than 3,000 financial services firms operating in the state to appoint a chief information security officer to oversee the program, to report possible breaches within 72 hours, and to ensure that third-party vendors meet the new standards.

Companies will have until September 1 to comply with most of the new requirements, and beginning February 15, 2018, they will have to submit an annual certification of compliance.

The responsibility for cybersecurity will now fall squarely on the board and senior management actively overseeing the entity’s overall program. Some experts fear that the D&O insurance market is far from prepared to absorb this risk.

“The new rules could raise compliance risks for financial institutions and, in turn, premiums and loss potential for D&O insurance underwriters,” warned Fitch Ratings in a statement. “If management and directors of financial institutions that experience future cyber incidents are subsequently found to be noncompliant with the New York regulations, then they will be more exposed to litigation that would be covered under professional liability policies.”

D&O Challenge

Judy Selby, managing director in BDO Consulting’s technology advisory services practice, said that while many directors and officers rely on a CISO to deal with cybersecurity, under the new rules the buck stops with the board.

“The common refrain I hear from directors and officers is ‘we have a great IT guy or CIO,’ and while it’s important to have them in place, as the board, they are ultimately responsible for cybersecurity oversight,” she said.

William Kelly, senior vice president, underwriting, Argo Pro

William Kelly, senior vice president, underwriting at Argo Pro, said that unknown cyber threats, untested policy language and developing case laws would all make it more difficult for the D&O market to respond accurately to any such new claims.

“Insurers will need to account for the increased exposures presented by these new regulations and charge appropriately for such added exposure,” he said.

Going forward, said Larry Hamilton, partner at Mayer Brown, D&O underwriters also need to scrutinize a company’s compliance with the regulations.

“To the extent that this risk was not adequately taken into account in the first place in the underwriting of in-force D&O policies, there could be unanticipated additional exposure for the D&O insurers,” he said.

Michelle Lopilato, Hub International’s director of cyber and technology solutions, added that some carriers may offer more coverage, while others may pull back.

“How the markets react will evolve as we see how involved the department becomes in investigating and fining financial institutions for noncompliance and its result on the balance sheet and dividends,” she said.

Christopher Keegan, senior managing director at Beecher Carlson, said that by setting a benchmark, the new rules would make it easier for claimants to make a case that the company had been negligent.

“If stock prices drop, then this makes it easier for class action lawyers to make their cases in D&O situations,” he said. “As a result, D&O carriers may see an uptick in cases against their insureds and an easier path for plaintiffs to show that the company did not meet its duty of care.”

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One area that regulators and plaintiffs might seize upon is the certification compliance requirement, according to Rob Yellen, executive vice president, D&O and fiduciary liability product leader, FINEX at Willis Towers Watson.

“A mere inaccuracy in a certification could result in criminal enforcement, in which case it would then become a boardroom issue,” he said.

A big grey area, however, said Shiraz Saeed, national practice leader for cyber risk at Starr Companies, is determining if a violation is a cyber or management liability issue in the first place.

“The complication arises when a company only has D&O coverage, but it doesn’t have a cyber policy and then they have to try and push all the claims down the D&O route, irrespective of their nature,” he said.

“Insurers, on their part, will need to account for the increased exposures presented by these new regulations and charge appropriately for such added exposure.” — William Kelly, senior vice president, underwriting, Argo Pro

Jim McCue, managing director at Aon’s financial services group, said many small and mid-size businesses may struggle to comply with the new rules in time.

“It’s going to be a steep learning curve and a lot of work in terms of preparedness and the implementation of a highly detailed cyber security program, risk assessment and response plan, all by September 2017,” he said.

The new regulation also has the potential to impact third parties including accounting, law, IT and even maintenance and repair firms who have access to a company’s information systems and personal data, said Keegan.

“That can include everyone from IT vendors to the people who maintain the building’s air conditioning,” he said.

New Models

Others have followed New York’s lead, with similar regulations being considered across federal, state and non-governmental regulators.

The National Association of Insurance Commissioners’ Cyber-security Taskforce has proposed an insurance data security model law that establishes exclusive standards for data security and investigation, and notification of a breach of data security for insurance providers.

Once enacted, each state would be free to adopt the new law, however, “our main concern is if regulators in different states start to adopt different standards from each other,” said Alex Hageli, director, personal lines policy at the Property Casualty Insurers Association of America.

“It would only serve to make compliance harder, increase the cost of burden on companies, and at the end of the day it doesn’t really help anybody.”

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Richard Morris, partner at law firm Herrick, Feinstein LLP, said companies need to review their current cybersecurity program with their chief technology officer or IT provider.

“Companies should assess whether their current technology budget is adequate and consider what investments will be required in 2017 to keep up with regulatory and market expectations,” he said. “They should also review and assess the adequacy of insurance policies with respect to coverages, deductibles and other limitations.”

Adam Hamm, former NAIC chair and MD of Protiviti’s risk and compliance practice, added: “With New York’s new cyber regulation, this is a sea change from where we were a couple of years ago and it’s soon going to become the new norm for regulating cyber security.” &

Alex Wright is a U.K.-based business journalist, who previously was deputy business editor at The Royal Gazette in Bermuda. You can reach him at [email protected]