Dispute Resolution
May 3, 2011
Dispute-resolution provisions, found either within the basic D&O policy form or as an attached endorsement, dictate how disputes between the insured and insurer regarding terms and conditions of the policy are to be resolved. Although such provisions may appear innocuous, they can contain onerous language that is detrimental to the insured or that otherwise favors the insurer. Such clauses can be potentially troublesome, especially where binding arbitration is made a mandatory provision of the policy. For more information, refer to Mandatory Arbitration Clauses in Insurance Contracts Stirs Controversy.
Generally there are four basic forms of dispute-resolution provisions found in D&O policies:
â—Negotiation
â—Best Efforts
â—Mediation
â—Arbitration
Some policies may contain some or all of these provisions. There may also be no dispute-resolution method identified in the policy. In such instance the insured and insurer may voluntarily enter into any of these provisions or resort to litigation.
Negotiation
Negotiation is usually the first method of resolving disputes, whether such provisions are set forth in the policy. Negotiation simply involves discussion between the insured and insurer, usually with the insurance broker involved, to clarify policy wording and resolve differences of opinion or other controversies generally related to coverage. The following is an example of where negotiation is a provision of the policy:
Negotiation. The Insured Organization and the Insurer (each a “party”) shall attempt in good faith to resolve any controversy or dispute arising out of or relating to the Policy promptly by negotiations between executives who have authority to settle the controversy. Any party may give the other party written notice of any dispute not resolved in the normal course of business. Within fifteen (15) days the receiving party shall submit to the other a written response. The notice and the response shall include (a) a statement of each party's position and a summary of arguments supporting that position, and (b) the name and title of the executive who will represent that party and of any other person who will accompany the executive. Within thirty (30) days after delivery of the disputing party's notice, the executive of both parties shall meet at a mutually acceptable time and place, and thereafter as often as they reasonably deem necessary, to attempt to resolve the dispute. All reasonable requests for information made by one party to the other will be honored. If the matter has not been resolved within sixty (60) days of the disputing party's notice, or if the parties fail to meet within thirty (30) days, either party may initiate mediation of the controversy or claims as provided hereinafter.
All negotiations pursuant to this clause will be kept confidential and shall be treated as compromise and settlement negotiations for purposes of the Federal Rules of Evidence and state rules of evidence.
Aegis, 6100-P (9/2009)
Best Efforts
Some D&O policies contain language requiring certain types of disputes to be resolved by the insured(s) and insurer simply using their “best efforts.” The following is a generic example.
With respect to (i) Defense Costs joint incurred by, (ii) any joint settlement made by, and/or (iii) any adjudicated judgment of joint and several liability against the Company and any Director or Officer, in connection with any Claim other than a Securities Claim, the Company and the Director(s) or Officer(s) and the Insurer agree to use their best efforts to determine a fair and proper allocation of the amounts as between the Company and the Director(s) or Officer(s) and the Insurer, taking into account the relative legal and financial exposures of and the relative benefits obtained by the Directors and Officers and the Company. In the event that determination as to the amount of Defense Costs advanced under the policy cannot be agreed upon, then the Insurer shall advance such Defense Costs which the Insurer states to be fair and proper until a different amount shall be agreed upon to determined pursuant to the provisions of this policy and applicable law.
Sample Best Effort Requirement
Such language addresses problems associated with allocating loss between insured and uninsured parties, which frequently occurs when the corporation and individual insureds have been named as codefendants in some action. While both parties may be jointly defended by counsel, expenses allocated to the defense of the corporation are generally not covered by the D&O policy unless the policy provides coverage for direct actions against the corporate entity. The allocation of loss between parties is often tricky business, and disputes are common.
Mediation
Mediation is a nonbinding dispute or claim settlement process that can sometimes help reduce or avoid the expense and agony of litigation by using a neutral third party to help the insured and insurer reach a mutually agreeable solution. The following is an example of a nonbinding mediation requirement in a D&O policy
Mediation. If the dispute between the Insurer and the Insured Organization has not been resolved by negotiation as provided herein, the parties shall endeavor to settle the dispute by mediation under the last published Mediation Procedure of the International Institute for Conflict Prevention and Resolution (“CPR Institute”) or any successor. Unless otherwise agreed, the parties will select a neutral third party from the CPR Institute Panels Distinguished of Neutrals, with the assistance of the CPR Institute.
Aegis, 6100-P (9/2009)
Arbitration
Arbitration ordinarily means a proceeding voluntarily undertaken by parties who want a dispute resolved on the merits of the case by an impartial decision maker, whose decision the parties may agree to accept as final and binding. Arbitration usually imports a procedure that is speedy, economical, and bears equally on insured and insurer. While arbitration is favored by many courts as a means of relieving overburdened calendars, it often favors the insurer and can still prove expensive.
The following are examples of mandatory binding arbitration requirements in D&O insurance policies.
Arbitration. Any controversy or dispute between the Insurer and the Insured Organization arising out of or relating to this Policy, or the breach, termination, formation or validity thereof, which has not been resolved by non-binding means as provided herein within ninety (90) days of the initiation of such procedure, shall be settled by binding arbitration in accordance with the CPR Institute Rules for Non-Administered Arbitration of Business Disputes (the “CPR Rules”) by three (3) independent and impartial arbitrators. The Insured Organization and the Insurer each shall appoint one arbitrator; the third arbitrator, who shall serve as the chair of the arbitration panel, shall be appointed in accordance with the CPR Rules. If either the Insured Organization or the Insurer has requested the other to participate in a non-binding procedure and the other has failed to participate, the requesting party may initiate arbitration before expiration of the above period. The arbitration shall be governed by the United States Arbitration Act, 9 U.S.C. §§ 1 et seq., and judgment upon the award rendered by the arbitrators may be entered by any court having jurisdiction thereof.
AEGIS Director and Officer Liability Insurance Policy Form 6100-P (7/2004)
In consideration of the premium charged, it is hereby understood and agreed that this Policy shall be deemed to have been executed in the State of New York and any interpretation of the policy relating to the construction, validity and performance of the Policy shall be made in accordance with the laws of the state of New York.
It is further understood and agreed that all disputes which arise under or in connection with this policy, including any determination of the amount of loss, shall be submitted to the American Arbitration Association under and in accordance with its then prevailing commercial arbitration rules. The arbitration will be held in New York, New York, U.S.A. The award rendered by the arbitrator(s) shall be final and binding upon the parties and judgment thereon may be entered in any court having jurisdiction thereof.
National Union Arbitration Endorsement
Another example of a mandatory dispute resolution provision follows. This provision requires resolution of disputes using either mediation or binding arbitration.
Alternative Dispute Resolution Process
It is hereby understood and agreed that all disputes or differences which may arise under or in connection with this policy, whether arising before or after termination of this policy, including any determination of the amount of Loss, shall be submitted to the alternative dispute resolution (“ADR”) process set forth in this clause.
Either the Insurer or an Insured may elect the type of ADR process discussed below; provided, however, that such Insured shall have the right to reject the Insurer's choice of the type of ADR process at any time prior to its commencement, in which case such Insured's choice of ADR process shall control.
The Insurer and each and every Insured agrees that there shall be two choices of ADR process: (1) non-binding mediation administered by the American Arbitration Association, in which the Insurer and any such Insured shall try in good faith to settle the dispute by mediation under or in accordance with its then-prevailing Commercial Mediation Rules; or (2) arbitration submitted to the American Arbitration Association in accordance with its then-prevailing Commercial Arbitration Rules, in which the arbitration panel shall consist of three disinterested individuals. In either mediation or arbitration, the mediator or arbitrators shall have knowledge of the legal, corporate management, or insurance issues relevant to the matters in dispute. The mediator or arbitrators shall also give due consideration to the general principles of the law of the state where the Named Entity is incorporated in the construction or interpretation of the provisions of this policy. In the event of arbitration, the decision of the arbitrators shall be final and binding and provided to both parties, and the arbitrators' aware shall not include attorneys fees or other costs. In the event of mediation, either party shall have the right to commence a judicial proceeding; provided, however, that no such judicial proceeding shall be commenced until the mediation shall have been terminated and at least 120 days shall have elapsed from the date of the termination of the mediation. In all events, each party shall share equally the expenses of the ADR process.
Either choice of ADR process may be commenced in New York, New York; Atlanta, Georgia; Chicago, Illinois; Denver, Colorado; or in the state indicated in Item 1(a) of the Declarations as the mailing address for the Named Entity. The Named Entity shall act on behalf of each and every Insured in deciding to proceed with an ADR process under this clause.
American International Companies, Executive & Organization Liability Insurance Policy 75011 (2/00)
Although the insurer may specify binding arbitration, the insured gets to decide which method will ultimately be used.
Care should be exercised when evaluating arbitration clauses. Too often these important policy conditions are overlooked or their restrictive features misunderstood. Policies that contain unfavorable or restrictive mandatory arbitration clauses should be avoided whenever possible.
By agreeing to arbitrate, either voluntarily or through a policy requirement to do so, the insured gives up a valuable right—the opportunity to seek a judicial resolution of the dispute as guaranteed by the Seventh Amendment right of due process. In most cases, arbitration does not allow appeal, there is no discovery, and arbitrators usually lack the resources to conduct any meaningful case research. An arbitrator's decision is not generally reviewable for errors of fact or of law even though such errors may result in substantial injustice to the insured. In the sense that insureds benefit from consistency and certainty in the law, mandatory arbitration requirements in insurance contracts may actually be counterproductive.
The example emphasizes one of the most important problems in arbitration of insurance policy coverage disputes: the conditions and conduct of arbitration affect how the policy shall be interpreted, sometimes to the detriment of the insured.
An arbitration requirement can also be restrictive when policy interpretation is to follow the laws of a specific jurisdiction. For example, the courts of some states, such as New York, have favored the insurer as respects advancement-of-loss disputes. Resolving an advancement dispute where New York interpretation is a condition of the policy may stack the deck against the insured, effectively preordaining the outcome in favor of the insurer.
Most instances arbitration clauses dictate the forum and situs of dispute resolution. These can also be restrictive. The first of the examples requires submission of disputes to the American Arbitration Association and the arbitration to be held in New York. It also provides for any interpretation of the policy to be in accordance with New York law. In contrast, the second example mandates that arbitration be conducted in London, England. When a policy requires arbitration to be held in a foreign country, such as England or Bermuda, severe logistic problems can arise and prevent the insured from even raising a dispute. It is questionable whether many insureds will be familiar enough with foreign arbitration practices to determine the impact of such arbitration requirements.
The limitations inherent in arbitration may be sufficient reason to avoid policies with mandatory arbitration provisions or to negotiate such clauses out of the policy. In the absence of arbitration requirements, the insurer and insured still could agree to submit a coverage dispute to arbitration, and some insurers may provide mandatory arbitration language through endorsement when requested.
Policy Construction
When coverage disputes are submitted for arbitration, the arbitrators may not follow the traditional rule that ambiguities of the policy language are construed in favor of the insured. The arbitrators may also choose to ignore the doctrine of the insured's reasonable expectations, which has been adopted by the court systems of several states to protect purchasers with limited insurance knowledge. When the doctrine is applied, the insured may be able to recover loss—even though a policy unambiguously excludes coverage—if the insured's expectations of coverage are found to be objectively reasonable.
Some insurers may add onerous language that dictates how an insurance policy shall be interpreted and constructed. The following example favors the insurer by eliminating traditional rules of construction that favors the insurer without regard to authorship.
(Q) Construction
The terms of this Policy are to be construed in an evenhanded fashion as between the Insured Organization, the Directors or Officers and the Insurer in accordance with the laws of the State of New York, except that any claim for coverage of punitive, exemplary or multiple damages shall be governed by the law of the jurisdiction that is most favorable to the insurability of such damages, provided such jurisdiction has a substantial relationship to the involved Directors or Officers, the Insured Organization, or the Claim giving rise to such damages. Where the language of this Policy is deemed to be ambiguous or otherwise unclear, the issue shall be resolved in a manner most consistent with the relevant terms of this Policy without regard to authorship of the language and without any presumption or arbitrary interpretation or construction in favor of either the Insured Organization, the Directors or Officers or the Insurer. In deciding any controversy or dispute arising out of or relating to this Policy, due consideration shall be given to the customs and usages of the insurance industry. No damages in excess of compensatory damages shall be awarded in any controversy or dispute between the Insurer, on the one hand, and the Insured Organization and/or the Directors and Officers, on the other hand, and each party hereby irrevocably waives any such damages.
Aegis, 6100-P (9/2009)
Even if the insured is able to eliminate unfavorable binding arbitration provisions, other policy provisions such as this example immediately can create potential problems because they favor the insurer regarding how the policy is construed.