On Appeal From the United States District Court For the Eastern District of Pennsylvania
(D.C. Civ.No. 95-cv-00538)
Before: BECKER, ROTH, Circuit Judges, and BARRY, District Judge. *fn**
This appeal in an insurance coverage dispute founded on diversity jurisdiction requires us to determine whether a total pollution exclusion endorsement (TPE) became part of a comprehensive general liability (CGL) renewal policy issued by Reliance Insurance Company (Reliance) to Vapor Energy Service and Engineering Corporation (VE). The effect of the TPE would be to immunize Reliance from defending and paying the products liability tort claim brought against VE in federal court by Mark Moessner, who sustained carbon monoxide poisoning as the result of the malfunction of a direct-fired steam generator (vaporator) manufactured and sold by VE to Moessner's employer, Faddis Concrete Products.
The appeal arises out of a declaratory judgment action brought by Reliance against VE which sought to establish that VE's CGL policy did not cover Moessner's claims. In that action, the district court granted summary judgment in favor of Reliance, concluding that, under Pennsylvania law: (1) the TPE unambiguously applied to the carbon monoxide emission; (2) Reliance's failure to obtain approval of the TPE by the Pennsylvania Insurance Commissioner did not render the clause invalid; and (3) the doctrines of reasonable expectations, unilateral mistake, and illusory coverage, invoked by VE, did not bar Reliance from relying on the TPE. Moessner was substituted as appellant after
VE filed a bankruptcy petition and assigned to Moessner its rights in the coverage litigation in exchange for his releasing VE from liability and dismissing his products liability lawsuit.
We find no merit in Moessner's contentions that: (1) the policy was ambiguous and should therefore be interpreted in his favor; (2) the TPE was rendered invalid by Reliance's failure to obtain approval by the Insurance Commissioner; and (3) Reliance is precluded from relying on the TPE by the doctrines of unilateral mistake or illusory coverage. We discuss the ambiguity issue at some length and dispose summarily of the latter two contentions, finding them to be patently without merit.
The most important and difficult issues on appeal are: (1) whether VE's status as a sophisticated insured renders the doctrine of the parties' reasonable expectations inapplicable; and (2) whether VE had a reasonable expectation of coverage under the renewal policy because its original policy would have covered Moessner's claim, VE requested coverage for claims arising from the manufacturing of products, and VE was never told that the TPE was being included in the renewal policy. We predict that Pennsylvania would conclude that VE's status as a sophisticated insured does not render the doctrine of reasonable expectations inoperative. Moreover, we discern a genuine issue of material fact as to whether VE had a reasonable expectation of coverage for the underlying products liability claims. Accordingly, we will reverse the grant of summary judgment in favor of Reliance and remand for further proceedings.
A. The Underlying Litigation
In December 1994 and January 1995, two separate civil actions were filed against VE in which Moessner and Henry Drumheller sought monetary damages after they were overcome by carbon monoxide emitted as a by-product of VE's vaporator. *fn1 The alleged exposures occurred on separate occasions in February 1993 (during the renewal policy's term), and both complaints stated causes of action based on theories of strict liability, negligence, and loss of consortium. The Drumheller complaint, for example, averred that the vaporator was defective and unreasonably dangerous because it, among other things, "allowed unreasonable amounts of carbon monoxide to escape and pollute the area."
B. The Declaratory Judgment Action
At the time of the accidents described, VE, a wholly owned subsidiary of Golodetz Corporation (Golodetz), was insured under a CGL policy issued by Reliance that provided an effective coverage period from May 1, 1992 until May 1, 1993. This policy was a renewal of an original policy that had been issued to VE effective May 1991.
Pursuant to the renewal policy, VE submitted to Reliance requests for defense and indemnity for the Moessner and Drumheller claims. Reliance investigated the claims and notified VE that, because of the TPE endorsement in VE's insurance policy, Reliance might have no duty to defend or indemnify VE in either action. Reliance further explained that it would assume the defense of VE in both matters subject to a reservation of rights to deny coverage and to withdraw its defense of VE upon reasonable notice of such decision.
Reliance also filed a declaratory judgment action in the district court, seeking a declaration that it had no duty to defend or indemnify VE with respect to the claims in the Moessner and Drumheller actions. Reliance alleged that the TPE expressly excluded the underlying disputes from coverage under the policy. In response, VE asserted that the TPE was never intended to apply to the underlying claims and that exclusion of coverage was contrary to the parties' understanding and agreement under the policy. VE also asserted affirmative defenses, claiming, inter alia, that the insurance policy was ambiguous and that, as a matter of law, it should be interpreted against Reliance. Finally, VE alleged that Reliance's interpretation of the policy was contrary to the reasonable expectations of the parties.
Both parties moved for summary judgment. The district court granted summary judgment in favor of Reliance and denied VE's motion, holding that the terms of the policy were clear and unambiguous, and that the TPE barred coverage for the Moessner and Drumheller actions. The court rejected VE's contention that Reliance had included the TPE in the policy without notice to VE, and concluded that VE's status as a sophisticated insured, aided by an insurance broker and outside legal counsel who negotiated the terms of its policy, precluded consideration of VE's reasonable expectations as to the meaning of the policy.
After appealing the district court's judgment, VEfiled a bankruptcy petition, and the appeal was stayed. VE settled its dispute with Moessner in an amount equal to the applicable policy limits under the renewal policy by assigning him all of its policy and litigation rights against Reliance in exchange for VE's release from liability and dismissal of the underlying lawsuit. *fn2
The policy at issue is the renewal of VE's first insurance policy issued by Reliance. We turn first to the original policy. In an effort to reduce insurance coverage costs for itself and its subsidiaries and affiliates, Golodetz had put out a bid for a comprehensive insurance program. MLW Services, Inc. (MLW), a New York insurance brokeragefirm, won that bid, and in turn sought quotes from Reliance for the Golodetz accounts. Through MLW's agent, Silvana Vlacich, Golodetz specifically requested insurance that would cover claims arising out of losses from the use of the vaporator. Golodetz explained to MLW that the vaporator emitted carbon monoxide as a by-product of its operation. Vlacich conveyed this information ...