In Macey v. Carolina Cas. Ins. Co., 2008 WL 4906161 (D.Conn.), plaintiffs William Macey, Charles Santoro, and Harriet Weiss Terbell sued the Carolina Casualty Insurance Company for failing to provide coverage under a directors and officers liability policy issued by Carolina. Plaintiffs and Carolina both filed cross-motions for summary judgment.
The case began in May 2004, when Community Research Associates (“CRA”) undertook a major reorganization of its operations, which involved changing its state of incorporation from Illinois to Delaware and effectuating a share purchase agreement with Sterling Investment Partners, which then became the majority shareholder of the newly incorporated CRA-Delaware. During the reorganization, the former majority shareholders and directors and officers of CRA-Illinois-including James Brown, Doyle Wood, and Allen Cole-briefly assumed the position of officers and/or directors of CRA-Delaware. Brown and Wood, who were appointed to the Board of Directors, resigned upon completion of the reorganization. Wood and Cole, who were respectively appointed President and Treasurer of CRA-Delaware, remained in their positions until January 2005. After the reorganization, Brown, Wood, and Cole (the “Legacy Shareholders”) became minority shareholders in CRA-Delaware. Plaintiffs Macey, Santoro, and Terbell were all appointed to the Board of Directors of CRA-Delaware either at or shortly after the reorganization and Macey and Santoro were also managing directors of Sterling , which took management control of CRA-Delaware after the reorganization.
In October 2004, CRA-Delaware purchased D&O liability insurance from Carolina . The policy covered claims made against CRA-Delaware or any of its directors or officers for “any Wrongful Act,” including breach of fiduciary duty. Coverage was subject to certain exclusions, including the “insured vs. insured” exclusion which stated that “[t]he Insurer shall not be liable to make any payment for Loss in connection with a Claim made against any Insured … by, on behalf, or in the right of the Insured Entity, or by any Directors or Officers….” The term “Directors or Officers” was defined in the policy as “any past, present or future duly elected or appointed directors or officers on the Insured Entity,” and the Insured Entity under the policy was CRA-Delaware.
In August 2005, Plaintiffs approved a merger by means of which all of CRA-Delaware's stock was sold to a third party, CRA Acquisitions Corp. After the merger, neither the plaintiffs nor the Legacy Shareholders had any ownership interest or management role in CRA-Delaware, which continued to exist under different ownership. The Legacy Shareholders then filed a lawsuit against the plaintiffs in Virginia state court, alleging breach of fiduciary duty in connection with the August 2005 merger, with the parties eventually settling the underlying suit.
Plaintiffs, as former directors of CRA-Delaware, filed a claim with Carolina , alleging loss as a result of the underlying lawsuit. Carolina denied the claim on the basis of the “insured vs. insured” exclusion, asserting that because the Legacy Shareholders were former directors and/or officers of CRA-Delaware, lawsuits brought by them were explicitly excluded under the policy.
The plaintiffs contended that the court should read the policy to include a capacity requirement, with the exclusion precluding coverage only when a former officer or director sued in his capacity as a director or officer. The court disagreed, stating that there was simply no language in the policy suggesting that the exclusion was limited to lawsuits by former officers and directors in their capacity as such .
The court explained that because many of the other provisions of the Carolina policy did contain explicit capacity requirements, it was likely that if Carolina had intended to include a capacity requirement in the “insured vs. insured” exclusion it would have done so.
The plaintiffs argued that even if the insurance policy was unambiguous, the court should look at extrinsic evidence-in particular, evidence of the purpose of the “insured vs. insured” exclusion-to determine how the exclusion should be construed. According to the plaintiffs, the purpose of the “insured vs. insured” exclusion was to prevent collusive lawsuits. And, because the underlying lawsuit was not collusive, the “insured vs. insured” exclusion should not be applied to deny coverage.
The court disagreed, stating that this argument misunderstood Virginia law, under which it was well established that “[w]here language [of a contract] is unambiguous, it is inappropriate to resort to extrinsic evidence.” Because there was no ambiguity in the contract, the court explained that it could not use the alleged purpose of the “insured vs. insured” exclusion to create ambiguity.
The plaintiffs also argued that even if the court was unconvinced by their arguments, they must only show that their construction was reasonable, at which point the court must construe the contract in their favor. The plaintiffs alleged that their construction must be reasonable because other courts had construed similar “insured vs. insured” provisions in cases involving former directors or officers as containing an implicit capacity requirement. The court rejected this argument for several reasons, including because some of the cases the plaintiffs cited involved “insured vs. insured” exclusions with explicit capacity requirements, which was not the case here.
The plaintiffs further argued that even when the language of a contract was unambiguous, the court must still ensure that construing the contract according to its plain meaning did not give rise to absurd results. They argued that if suits by the Legacy Shareholders were not covered, then the policy was practically useless, as the Legacy Shareholders were the only shareholders that could have brought a lawsuit for breach of fiduciary duty during the policy period. The court disagreed, stating that the policy covered many other kinds of claims besides breach of fiduciary duty claims, and, even if the contract did cover only breach of fiduciary duty claims, Delaware could have sold stock to new individuals at any time during the policy period and lawsuits brought against the company or its directors and officers by these individuals would then have been covered. Therefore, coverage under the Carolina policy was not illusory.
The court further explained that unlike in the plaintiffs' scenario, the Legacy Shareholders had been directors and/or officers a mere four months before the policy was purchased, not thirty years. Also, the underlying lawsuit was at least tangentially connected to the June 2004 merger, in which the Legacy Shareholders took part, and it was nonsensical to apply the exclusion to the claims asserted in the underlying lawsuit. Brown and Wood, as directors of CRA-Delaware, ratified the certificate of incorporation, adopted CRA-Delaware's by-laws, elected the officers of CRA-Delaware, authorized and directed the issuance of stock, adopted the Purchase Agreement to sell their shares of stock to Sterling, and adopted the Management Agreement with Sterling . According to the court, all of these acts, among others, formed the basis of breach of fiduciary duty allegations asserted by the Legacy Shareholders in the underlying lawsuit.
Finally, the court stated that the Legacy Shareholders appeared to have played quite a substantial role during the reorganization process, and if they had been sued because of any of their actions as directors of CRA-Delaware during the reorganization, the Carolina insurance policy would have covered them, no matter how allegedly fleeting was their service as directors and officers. Therefore, the Legacy Shareholders were former directors and/or officers within the meaning of the Carolina policy, and lawsuits by former directors and officers-regardless of whether they sue as directors and/or officers or in some other capacity-fell within the terms of the unambiguous “insured vs. insured” exclusion. Thus, the court concluded that Carolina properly denied coverage of the plaintiffs' claim.