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Rite Aid Corp. v. Liberty Mutual Fire Insurance Co.

August 14, 2006


The opinion of the court was delivered by: Judge Kane


This dispute over insurance coverage has its origins in claims by Rite Aid executive Beth Kaplan ("Kaplan") that the company misrepresented and withheld critical information concerning Rite Aid's financial position and irregularities occurring at the company. Kaplan prevailed at arbitration on some of her claims. Thereafter, Rite Aid sought reimbursement from Liberty Mutual Fire Insurance Co. ("Liberty Mutual") pursuant to the terms of its Commercial General Liability Policy. Liberty Mutual refused coverage and on October 8, 2003, Rite Aid initiated the instant action alleging that Liberty Mutual breached the insurance policy (Count I) and violated the Pennsylvania Bad Faith statute, 42 Pa. Cons. Stat. Ann. § 8371 (Count II).*fn1

On June 7, 2005, this Court granted in part Rite Aid's motion for summary judgment as to Count I of the Complaint, holding that Liberty Mutual had a duty to defend Rite Aid in the Kaplan arbitration and that Liberty Mutual breached its duty in refusing to reimburse Rite Aid for costs incurred in its defense. (Doc. No. 134.) However, pursuant to the terms of the policy, the Court found Liberty Mutual liable for only the first one million dollars in defense costs incurred by Rite Aid. (Id.) Because a disputed issue of fact existed as to the extent of Rite Aid's actual defense costs, the Court denied Rite Aid's motion for summary judgment relating to damages. (Id.) The Court granted Liberty Mutual's motion for summary judgment as to Count II of the Complaint, finding that Liberty Mutual's action did not constitute bad faith under the Pennsylvania Bad Faith statute. (Id.)

On July 28 and 29, 2005, the Court heard testimony on Rite Aid's alleged damages. Rite Aid offered the testimony of its lead attorney during the Kaplan arbitration, Jay Berke, Esq., a partner at Skadden, Arps, Slate, Meagher & Flom LLP ("Skadden"), along with documentary evidence regarding the nature and extent of its covered legal expenses. Liberty Mutual countered with the testimony of Susan Cooper, Esq., whom it offered as an expert in the area of legal auditing. Rite Aid objected to the testimony of Cooper and to the admission of certain exhibits relating to the testimony. Because Rite Aid first raised its objections in a pretrial memorandum rather than in a motion in limine, the Court received the disputed testimony and reserved ruling pending post-trial briefing. After reviewing the parties' post-trial briefs, the Court entered a memorandum and order finding Susan Cooper unqualified to testify as an expert on the reasonableness or propriety of the legal fees incurred during the Kaplan arbitration, and excluded her testimony and the exhibits relating thereto. (Doc. No. 159.) On March 13, 2006, the parties filed trial briefs and proposed findings of fact. (Doc. Nos. 161-163.) The Court now makes the following findings of fact and conclusions of law.


Rite Aid is a Delaware corporation having its principal place of business in the Commonwealth of Pennsylvania. Liberty Mutual is a Massachusetts insurance corporation having its principal place of business in Massachusetts.

Plaintiff's claim for coverage is based on a claim against Rite Aid by Beth Kaplan, a former Rite Aid executive. In August 1996, Kaplan left her executive position with Proctor & Gamble's Cosmetics and Fragrance Division to become Rite Aid's Executive Vice-President for marketing. (Tr. 33-34; Pl. Ex. 10.) According to Kaplan, her decision to sign an employment contract with Rite Aid was based in part on information provided in Rite Aid's public disclosures, annual reports, and SEC filings. (Pl. Ex. 10.) After two and one-half years, Rite Aid became embroiled in stockholder lawsuits and regulatory investigations regarding certain financial practices conducted by Rite Aid's management. (Tr. 34.) These financial irregularities resulted in a $1.6 billion correction to prior years' earnings, dramatic reduction in Rite Aid's stock price, and criminal prosecution of members of Rite Aid's management. (Pl. Ex. 10.) On November 12, 1999, Kaplan terminated her employment agreement with Rite Aid and resigned from the company. (Pl. Ex. 10 ¶ 21.)

Kaplan notified Rite Aid of her claims on November 18, 1999. (Pl. Ex. 6; Tr. 58.) On February 9, 2001, Kaplan filed a demand for arbitration, wherein she alleged, inter alia, that Rite Aid had negligently or intentionally misrepresented its financial condition in documents given to her prior to her accepting employment with the company, thereby fraudulently or negligently inducing her to take employment with a company financially weaker than advertised. (Tr. 35; Pl. Ex. 10.) Kaplan also alleged that the taint of association with Rite Aid impaired her ability to secure subsequent employment commensurate with her experience. (Tr. 37-38; Pl. Ex. 10.)

Kaplan sought $70 million dollars in damages. (Tr. 38.)

Liberty Mutual issued a Commercial General Liability policy to Rite Aid for years 1997, 1998, and 1999 ("Policy"). (Pl. Exs. 1-3.) At all relevant times, Rite Aid was also covered by an Employment Practices Liability Insurance policy issued by Zurich American Insurance ("Zurich"). (Pl. Ex. 4.) By letter dated July 6, 2001, Rite Aid notified Zurich of the arbitration. (Pl. Ex. 12.) By letter dated August 27, 2001, Rite Aid notified Liberty Mutual of the arbitration with Kaplan. (Pl. Ex. 13.) On December 12, 2001, Liberty Mutual provided Rite Aid a formal "coverage position letter" in which it acknowledged that Kaplan's "claims of damage to professional reputation potentially trigger[ed] coverage for the demand under Rite Aid's Commercial General Liability policies" and as such, Liberty Mutual "will provide coverage for Rite Aid for this demand, subject to the position set out [in the letter]." (Pl. Ex. 13.) Notwithstanding this representation, Liberty Mutual concluded that Kaplan's claims were not covered under the Policy and declined Rite Aid's request to reimburse Rite Aid for its legal expenses relating to the Kaplan arbitration.

During arbitration, Rite Aid was represented by the law firm of Skadden, Arps, Slate, Meagher & Flom LLP. Jay Berke, Esq. is a partner in Skadden's labor and employment law department and was Rite Aid's lead attorney in the Kaplan arbitration. (Tr. 23-24, 57.) The Kaplan arbitration lasted eleven days and filled a 2,500 page transcript. (Tr. 50-51.) Berke described the arbitration as involving "extremely complex issues" initiated by a "sophisticated participant represented by sophisticated counsel . . . ." (Tr. 44-50.) Pre-trial discovery produced 450 boxes containing "several hundred thousand" pages of documents. (Tr. 43-43.) The arbitration also required the parties to brief multiple pre- and post-trial issues. (Tr. 50-51.)

In representing Rite Aid, Skadden employed the services of Dr. David Tabak, an economics expert with National Economic Research Associates Economic Consulting ("NERA"), to provide expert opinion and testimony on complex economic issues raised during the arbitration. (Tr. 63-64.) The Skadden defense team also coordinated with Ballard Spahr Andrews & Ingersoll, LLP ("Ballard"), which at the time was defending Rite Aid against a shareholder class action based upon the same financial irregularities that prompted Kaplan's claims. Rite Aid incurred and paid $2,125,569 in legal expenses in defending the Kaplan arbitration. (Tr. 62.) Rite Aid's defense costs include $2,039,367 in attorneys' fees and costs billed by Skadden, $16,460 in attorneys' fees and costs billed by Ballard, and $69,742 in expert services billed by NERA. (Pl. Exs. 41, 44, 45.) Upon review of the entire record, the Court finds that these expenses were reasonable and necessary in defense of Kaplan's claims.

On November 14, 2002, an arbitration panel found that Kaplan was entitled to $12,896,466, plus interest, in damages on some of her breach of contract claims.*fn2 (Pl. Ex. 27.) After offsetting the award by $7,951,028, plus interest, because of loans Kaplan received from Rite Aid during the course of her employment, the panel ordered Rite Aid to pay Kaplan $4,945,438, plus interest. The arbitration panel reserved ruling on Kaplan's claim for attorneys' fees pending briefing on the matter. (Id. at 13.)

On January 22, 2003, Rite Aid and Kaplan entered into a confidential settlement agreement, under which Rite Aid agreed to pay Kaplan $4,945,438, plus interest, and forgive Kaplan's loans, which with interest collectively equaled $7,951,028. (Pl. Ex. 29 ΒΆΒΆ 1(a), (c), 2(c); Pl. Ex. 27.) Rite Aid also agreed to pay ...

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