A California court held that a professional services coverage exclusion in a directors and officers liability insurance policy barred coverage for an alleged kickback scheme stemming from a software design. A company that developed and licensed electronic health record software for use by healthcare providers (the “Company”) entered a civil settlement following investigation by US Department of Justice (the “DOJ”) to resolve an alleged violation of the federal Anti-Kickback Statute. The DOJ alleged that the Company solicited and received remuneration from pharmaceutical companies in exchange for agreeing to "deploy within its . . . software" alerts intended to promote the companies' products, and for "arranging for or recommending purchasing or ordering" the companies' products.

The Company sought coverage for the settlement under its D&O program, which was denied. The insurer argued the claim arose from the Company providing professional services by designing and implementing software and was thus barred by the professional services exclusion. The court agreed and the Company appealed.

The Company argued it was providing a product, in the form of advertising space, rather than professional services. The appellate court disagreed. Ultimately, the contracts that gave rise to the DOJ's allegations against the company were not contracts in which the Company agreed to provide end products; they were contracts in which a major objective was for the Company to provide its clients with services by deploying alerts in its software and by "arranging for or recommending" that healthcare providers prescribe their products. 

An appellate New Jersey court held that the insurer’s refusal to consent to settle did not require them to provide defense to the Insured. 

An investment company sued a pharmaceutical company (the “Company”), its director (the “Director”), and other entities on which the Director served (the “Middlemen entities”), alleging that the Director engaged in a self-dealing scheme that defrauded the investment company.

The Company sought coverage from its insurance carrier. The insurer kept reiterating the capacity exclusion and reserved the right to deny coverage because of the Director’s service on boards of other entities—his capacity. The insurer argued that the policy’s capacity exclusion was triggered, and it provided that:

[T]he Insurer shall not be liable to make any payment for Loss in connection with a claim made against any Insured: . . .  based upon, arising out of, directly or indirectly resulting from or in consequence of, or in any way involving any Wrongful Act of an Insured Person serving in their capacity as director, officer, trustee, employee, member or governor of any other entity other than an Insured Entity or an Outside Entity, or by reason of their status as director, officer, trustee, employee, member or governor of such other entity. [(Emphasis added).]

Eventually, the insurer withheld its consent to the global settlement and refused to waive the “consent to settle” provision as a bar to coverage for the underlying action.

The court of first instance ruled that the insurer was responsible for the entire settlement amount because ‘. . . [insurer’s] continued refusal to contribute to the [g]lobal [s]ettlement was a breach of duty to indemnify [the Company] because, under the Policy, [insurer] promised to pay “all Loss . . . arising from any Claim . . . for any actual or alleged Wrongful Act.’” The lower court held that the settlement was reasonable, given the liability theories and exposure at hand.

The higher-positioned reviewing court reversed. Although the court recognized that an insurer had the duty to not withhold consent to settle unreasonably and would be liable for indemnification in the amount of the settlement for breaching the duty, the consent was not unreasonably withheld. The court highlighted that the global settlement represented the separate interests of multiple entities not insured under the policy, and that the insurer reserved the rights under the capacity exclusion. Because the capacity exclusion precluded coverage, consent was not unreasonably withheld. 

The court recognized that an insurer should not unreasonably withhold consent to a settlement. Yet, it also suggested that the mere withholding of consent and a refusal to waive the provision would not amount to bad faith on the insurer’s part without plausible justification. 

In its recent decision, the Second Circuit Court of Appeals held that shareholders have standing to sue “beneficial owners” who engage in short-swing trading under Section 16(b) of the Securities and Exchange Act of 1934 (“Section 16(b)”). This derivative suit was filed by a shareholder of a major floral retailer against a hedge fund that bought and sold stock while it was a ten-percent beneficial owner of the retailer in violated of Section 16(b).

The court asserted that a recent decision by the Supreme Court did not “abrogate” this court’s previous ruling. The referenced ruling concerned shareholders’ right to assert claims against corporate insiders who profit off short swing trading and cause an “injury” sufficient to assert constitutional standing (or, in laymen terms, cause harm that is material enough to seek a remedy in court). Specifically, the court held that the injury alleged by the shareholder met the Supreme Court’s consideration of whether the injury has a “close historical or common-law analogue for the asserted injury.” Here, the court held that the shareholder’s alleged injury caused by the beneficial owners was equivalent to the common law breach of fiduciary duty and, thus, qualified as a concrete injury.

Shareholders have now solidified their right to pursue claims against beneficial owners for Section 16(b) violations. Based on its recent decision, the Second Circuit will likely be the choice venue for these shareholders to file their claims and make it past the standing threshold. 

A breach of contract exclusion under a directors and officers liability (the “D&O”) policy would exclude a count that could not exist but-for the violation of an agreement that was alleged in all other counts, says a high positioned federal court.

The underlying coverage litigation arose when the insurer denied coverage to a propane equipment distributor (the “Company”) for a claim brought against the Company’s officers alleging transfer of shares in violations of various shareholder agreements. The insurer denied coverage, citing the breach of contract exclusion which provided:

The Insurer shall not be liable to make any payment for Loss in connection with any Claim made against any Insured: . . . alleging, arising out of, based upon or attributable to any actual or alleged contractual liability or obligation of the Company or an Insured Person under any contract, agreement, employment contract or employment agreement to pay money, wages or any employee benefits of any kind.

The Company did not dispute that nine of ten allegations in the action “arose out of” alleged breach of shareholder agreements. Thus, the court reviewed the only count which, according to the Company, was not excluded by the breach of contract exclusion. The court focused its analysis on whether the claim seeking declaratory relief, alleging that the agreement signed by the named directors seeking to terminate a Class A Shareholder Agreement was invalid. The Company argued that this claim was based on corporate powers and fiduciary duties, as opposed to contractual liability. The court disagreed, holding that the allegation would not exist but-for the director’s alleged violation of the agreement’s rights and the stock transfer provisions. Due to the casual relationship to the contractual obligations under the Class A Shareholder Agreement, the count was “squarely placed within the orbit of the D&O Policy’s exclusion from coverage.”