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Federal Insurance Co. v. Continental Casualty Co.

November 22, 2006

FEDERAL INSURANCE COMPANY, AN INDIANA CORPORATION, PLAINTIFF,
v.
CONTINENTAL CASUALTY COMPANY, INTERVENOR PLAINTIFF,
v.
DANIEL A. D'ANIELLO, ANTHONY J. DELUCA, PHILIP B. DOLAN, E. MARTIN GIBSON, FRANCIS J. HARVEY, JAMES C. MCGILL, RICHARD W. POGUE, ROBERT F. PUGLIESE, CHARLES W. SCHMIDT, HARRY J. SOOSE, AND JAMES DAVID WATKINS, DEFENDANTS.



The opinion of the court was delivered by: Terrence F. McVerry United States District Court Judge

MEMORANDUM OPINION AND ORDER

Before the Court for consideration and disposition are FEDERAL INSURANCE COMPANY'S MOTION FOR PARTIAL SUMMARY JUDGMENT (Document No. 81), MOTION OF DEFENDANT, HARRY S. SOOSE, FOR SUMMARY JUDGMENT (Document No. 85), THE INDIVIDUAL DEFENDANTS' MOTION FOR PARTIAL SUMMARY JUDGMENT AGAINST FEDERAL INSURANCE COMPANY AND CONTINENTAL CASUALTY COMPANY (Document No. 86), PLAINTIFF CONTINENTAL CASUALTY COMPANY'S MOTION FOR SUMMARY JUDGMENT (Document No. 98), and DEFENDANT ANTHONY J. DELUCA'S MOTION FOR PARTIAL SUMMARY JUDGMENT AGAINST PLAINTIFFS FEDERAL INSURANCE COMPANY AND CONTINENTAL CASUALTY COMPANY (Document No. 102). These motions have been extensively briefed and are ripe for resolution.

Background*fn1

This declaratory judgment action is pending before the Court pursuant to 28 U.S.C. § 2201. This action is in regard to Executive Protection Policy No. 8179-64-85 MTO [hereinafter "Federal Policy"], issued by Federal Insurance Company [hereinafter "Federal"] to The IT Group, Inc. [hereinafter "IT Group"]. Document No. 125 at ¶ 1. The Federal Policy includes an executive liability and indemnification coverage section that, subject to the applicable terms, conditions and exclusions, provides coverage for eligible claims that are first made against the directors and/or officers of IT Group during the policy period. Id. The policy period was from May 15, 2001, through May 15, 2002. Id. The limit of liability for the policy period is $25,000,000.00. Id. Continental Casualty Group [hereinafter "Continental"] sold an excess coverage policy to IT Group, which generally provides coverage in conformity with the provisions of the Federal Policy. Document No. 88, p. 4, at ¶¶ 17-18. All eleven defendants in this action are former directors and/or officers of IT Group. Document No. 125 at ¶ 3. Defendants Anthony J. DeLuca [hereinafter "DeLuca"] and Harry J. Soose [hereinafter "Soose"] are former officers of IT Group. Id. at ¶ 4. On May 10, 2002, Soose was appointed as a director of IT Group, filling a vacancy created by the resignation of Richard W. Pogue [hereinafter "Pogue"]. Id. DeLuca also served as a director of IT Group at one time. Id. Defendants Daniel D'Aniello [hereinafter "D'Aniello"], Philip B. Dolan [hereinafter "Dolan"], E. Martin Gibson [hereinafter "Gibson"], Francis J. Harvey [hereinafter "Harvey"], James C. McGill [hereinafter "McGill"], Robert F. Pugliese [hereinafter "Pugliese"], Charles W. Schmidt [hereinafter "Schmidt"] and James David Watkins [hereinafter "Watkins"] are all former IT Group directors. Id. at ¶ 5. D'Aniello and Dolan are managing directors of the Carlyle Group, L.L.C. [hereinafter "Carlyle Group"]. Id. at ¶ 7.*fn2

The defendants in this action, as well as the Carlyle Defendants, are named as defendants*fn3 in a lawsuit captioned IT Litigation Trust v. D'Aniello, et al., Civil Action No. 04-CV-1268 (D.Del.) [hereinafter "Trust Action"], which underlies this dispute over insurance coverage. Id. at ¶ 8. On or around January 16, 2002,*fn4 IT Group filed a voluntary petition for relief in the United States Bankruptcy Court for the District of Delaware. Id. at ¶ 21. From that day forward, management acted as a debtor-in-possession. IT Group, as a practical matter, ceased to exist. Over the ensuing two years, management attempted to marshal assets to reduce the amounts owed to creditors. On October 15, 2003, the Official Committee of Unsecured Creditors [hereinafter "OCUC"] sought leave from the Bankruptcy Court to prosecute avoidance actions on behalf of the Debtors and their estates.*fn5 Id. at ¶ 24. Leave was granted on November 6, 2003. Id. The OCUC sought to amend the order of the Bankruptcy Court on December 4, 2003, to provide the OCUC with the additional authority to investigate and, if appropriate, prosecute other causes of action of the debtors and their estates, in addition to the avoidance actions. Id. at ¶ 25. These additional causes of action included claims against the debtors' current and former officers, directors and accountants, as well as prepetition advisors, agents and other professional persons. Id. On January 15, 2004, the OCUC filed another motion, seeking to amend the prior orders for the purpose of granting the OCUC leave, standing and authority to prosecute causes of action of the debtors' and their estates against the debtors' insiders, including the Carlyle Defendants. Id. at ¶ 26.

On January 15, 2004, the OCUC filed a complaint in the U.S. District Court for the District of Delaware against the same defendants named in the pending action. Id. at ¶ 27. On February 9, 2004, a First Amended Joint Chapter 11 Plan for IT Group and its Affiliated Debtors [hereinafter "Plan"] was filed in the Bankruptcy Court. Id. at ¶ 28. Under the terms of the Plan, a Litigation Trust [hereinafter "Trust"] was created, and a Litigation Trustee [hereinafter "Trustee"] was appointed. Id. at ¶ 30. With the approval of the Bankruptcy Court, the claims against the Defendants were assigned to the Trust. Id. On or around January 28, 2005, the Trust filed its First Amended Complaint against the Individual Defendants, as well as the Carlyle Defendants, in which the complaint states that "[t]he Trust brings this action in its capacity as the representative of the Debtors and their estates and for the benefit of the estates' creditors." Id. at ¶ 47. On November 15, 2005, the U.S. District Court for the District of Delaware issued a Memorandum Opinion which granted in part and denied in part the Individual Defendants' Motion to Dismiss. Id. at ¶ 49; IT Group, Inc. v. D'Aniello, 2005 U.S. Dist. LEXIS 27869, 2005 WL 3050611 (D.Del. 2005). The claims which remain in the Trust Action are for breach of the directors' and the Carlyle Defendants' respective duties of loyalty in approving payments to the Carlyle Defendants, artificially extending the life of IT Group for the purpose of making such payments, and making preferential payments and fraudulent transfers to the Carlyle Defendants and certain directors. Document No. 125 at ¶ 50.

On or around January 28, 2004, Federal received notice of the complaint filed by the OCUC. Id. at ¶ 52. In a letter dated March 16, 2004, Federal advised the Defendants that Federal reserved its rights under the terms, conditions and exclusions of the Policy with respect to the action instituted by the OCUC. Id. at ¶ 53. On or around January 31, 2005, Federal received notice of the First Amended Complaint filed by the Trust. Id. at ¶ 54. Subsequently, on March 7, 2005, Federal commenced this declaratory judgment action. Id. at ¶ 55.

The Underlying Trust Action*fn6

IT Group was a Delaware corporation which maintained its principal office in Monroeville, Pennsylvania. IT Litigation Trust v. D'Aniello, 2005 U.S. Dist. LEXIS 27869, at 4-5 (D.Del. 2005). It provided consulting, engineering, construction, environmental remediation, facilities and waste management services. Id. at 5. Such services "included the identification of contaminants in soil, air, and water, as well as the subsequent design and execution of remedial solutions." Id. The Carlyle Group, which is headquartered in Washington, D.C., is a private merchant bank that invested in IT Group. Id. In November, 1996, the Carlyle Defendants collectively invested $45 million in IT Group. Id. In return for these investments, they received 45,000 shares of 6% Cumulative Convertible Participating Preferred Stock and detachable warrants to purchase 1.25 million shares of IT Group's common stock. Id. at 5-6. The Carlyle Defendants also obtained approximately 25% of IT Group's voting power, along with the right to elect a majority of its board of directors. Id. at 6. The Trust alleges that the Carlyle Defendants took control of IT Group in November, 1996, and that they exercised such control at all times relevant to the underlying Trust Action. Id. at 8.

As of 1998, IT Group had experienced consecutive fiscal years of money loss. Id. The Trust alleges that the Carlyle Defendants, who controlled IT Group, implemented a strategy to grow IT Group by acquiring companies that were engaged in similar lines of business. Id. Over a three-year period, IT Group acquired at least eleven companies. Id. at 9. It is alleged that these acquisitions were funded by debt financing, including approximately $500 million in secured loans and credit facilities and $255 million in subordinated bond debt issued in 1999. Id. at 10. Apparently, this financing scheme increased IT Group's interest payments and strained its liquidity. Id. In order to address this problem, it is alleged that IT Group obtained a $100 million term loan in March, 2000. Id. The Trust alleges that, as of March, 1998, IT Group was either "insolvent or within the vicinity of insolvency." Id. at 11. By the end of 2000, it had a tangible net worth of approximately negative $277 million. Id. at 10.

The Trust alleges that, in addition to implementation of the failed acquisition strategy, the IT Group directors and officers engaged in additional acts or omissions which deepened IT Group's insolvency and sealed its financial ruin. Id. at 11. Because the board was under the control of the Carlyle Defendants, the Trust alleges that these acts or omissions are directly attributable to the Carlyle Defendants. Id. at 11-12. The Trust further asserts that the Carlyle Defendants were paid in excess of $850,000 from consulting agreements with IT Group and in excess of $8.9 million in dividends from their preferred stock. Id. at 12. It is alleged that these payments were fraudulent and/or unlawful. Id. at 12-13.

Discussion

The applicable portion of the Declaratory Judgment Act provides: In a case of actual controversy within its jurisdiction . . . any court of the United States, upon the filing of an appropriate pleading, may declare the rights and other legal relations of any interested party seeking such declaration, whether or not further relief is or could be sought. Any such declaration shall have the force and effect of a final judgment or decree and shall be reviewable as such.

28 U.S.C. § 2201(a). Federal's four count complaint seeks declaratory relief on the following premises: (1) Federal has no duty to indemnify the Defendants because of the Federal Policy's "Insured v. Insured" Exclusion [hereinafter "IVI Exclusion"]; (2) Federal has no duty to indemnify the Defendants with respect to the avoidance and fraudulent conveyance claims because they were not acting in an insured capacity; (3) Federal has no duty to indemnify the Defendants with respect to the avoidance and fraudulent conveyance claims because of the Federal Policy's "Personal Profit" Exclusion; and (4) Federal has no duty to pay the Defendants' defense costs. Complaint, ¶¶ 43-67.

Federal has moved for partial summary judgment limited to the IVI Exclusion. Document No. 81 at ¶ 4. Continental, the intervening plaintiff, has likewise moved for partial summary judgment with respect to the IVI Exclusion. Document No. 98. Continental has also moved for partial summary judgment with respect to the alleged preferential and fraudulent payments received by the Defendants, contending that the return of such payments would not constitute an insurable loss under the Federal Policy. Id. The Individual Defendants have moved for partial summary judgment on the ground that the IVI Exclusion cannot be construed to preclude coverage for the Trust Action. Document No. 86. Defendant Soose has moved for partial summary judgment and incorporates the arguments advanced by all co-defendants in this declaratory judgment action. Document No. 85. Defendant DeLuca has also moved for partial summary judgment on the ground that coverage is not precluded by the IVI Exclusion.*fn7

Document No. 102.

Standard of Review

Rule 56(c) of the Federal Rules of Civil Procedure reads, in pertinent part, as follows: [Summary Judgment] shall be rendered forthwith if the pleadings, depositions, answers to interrogatories and admissions on file, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to judgment as a matter of law.

In interpreting Rule 56(c), the United States Supreme Court has stated:

The plain language . . . mandates entry of summary judgment, after adequate time for discovery and upon motion, against a party who fails to make a showing sufficient to establish the existence of an element essential to that party's case, and on which that party will bear the burden of proof at trial. In such a situation, there can be "no genuine issue as to material fact," since a complete failure of proof concerning an essential element of the non-moving party's case necessarily renders all other facts immaterial.

Celotex Corp. v. Catrett, 477 U.S. 317, 322-23 (1986).

An issue of material fact is genuine only if the evidence is such that a reasonable jury could return a verdict for the non-moving party. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248 (1986). The court must view the facts in a light most favorable to the non-moving party, and the burden of establishing that no genuine issue of material fact exists rests with the movant. Celotex, 477 U.S. at 323. The "existence of disputed issues of material fact should be ascertained by resolving all inferences, doubts and issues of credibility against the moving party." Ely v. Hall's Motor Transit Co., 590 F.2d 62, 66 (3d Cir. 1978) (quoting Smith v. Pittsburgh Gage & Supply Co., 464 F.2d 870, 874 (3d Cir. 1972)). Final credibility determinations on material issues cannot be made in the context of a motion for summary judgment, nor can the district court weigh the evidence. Josey v. John R. Hollingsworth Corp., 996 F.2d 632 (3d Cir. 1993); Petruzzi's IGA Supermarkets, Inc. v. Darling-Delaware Co., 998 F.2d 1224 (3d Cir. 1993).

When the non-moving party will bear the burden of proof at trial, the moving party's burden can be "discharged by 'showing' -- that is, pointing out to the District Court -- that there is an absence of evidence to support the non-moving party's case." Celotex, 477 U.S. at 325. If the moving party has met this burden, the burden shifts to the non-moving party, who cannot rest on the allegations of the pleadings and must "do more than simply show that there is some metaphysical doubt as to the material facts." Matsushita Elec. Indus. Co. v. Zenith Radio Corp., 475 U.S. 574, 586 (1986); Petruzzi's IGA Supermarkets, 998 F.2d at 1230. When the non-moving party's evidence in opposition to a properly supported motion for summary judgment is "merely colorable" or "not significantly probative," the court may grant summary judgment. Anderson, 477 U.S. at 249-50.

Since this Court's jurisdiction is predicated on the diverse citizenship of the parties, the Court must apply the choice of law rules applicable in the Commonwealth of Pennsylvania. Klaxon v. Stentor Electric Manufacturing Co., 313 U.S. 487, 496-497 (1941). The parties in this case are in apparent agreement that the substantive law of Pennsylvania governs the interpretation of the Federal Policy. Therefore, the Court will evaluate the substantive issues in this case in accordance with Pennsylvania law. Erie Railroad Co. v. Tompkins, 304 U.S. 64, 78-80 (1938).

A. Applicability of the "Insured v. Insured" Exclusion

The primary issue before the Court is whether coverage under the Federal and Continental Policies is precluded by the IVI Exclusion. Before addressing this issue on the merits, however, the Court must confront DeLuca's argument that Federal and Continental are estopped from raising the exclusion. DeLuca contends that Federal is estopped from advancing the coverage issue in this proceeding because it did not raise the IVI Exclusion until March 7, 2005, when it commenced this declaratory judgment action. Document No. 103, p. 8. This argument is unavailing.

In Pfeiffer v. Grocers Mutual Insurance Company, 379 A.2d 118 (Pa.Super. 1977), the Pennsylvania Superior Court explained that, under Pennsylvania law, "the doctrine of waiver or estoppel cannot create an insurance contract where none existed." Pfeiffer, 379 A.2d at 121. In Wasilko v. Home Mut. Cas. Co., 232 A.2d 60 (Pa. 1967), the Supreme Court of Pennsylvania declared:

The rule is well established that conditions going to the coverage or scope of a policy of insurance, as distinguished from those furnishing a ground of forfeiture, may not be waived by implication from the conduct or action of the insurer. The doctrine of implied waiver is not available to bring within the coverage of an insurance policy, risks that are expressly excluded therefrom.

Wasilko, 232 A.2d at 63. In order to establish the existence of a waiver, DeLuca must show that the actions of Federal and Continental "constituted a voluntary, intentional relinquishment of a known right," and that Federal and Continental "had full knowledge of all pertinent facts." Id. Such a showing has not been made. Consequently, the Court concludes that Federal and Continental are not estopped from raising the IVI Exclusion as a defense to coverage in this proceeding.

The Federal Policy, in pertinent part, provides:

The Company shall pay on behalf of each of the Insured Persons all Loss for which the Insured Person is not indemnified by the Insured Organization and which the Insured Person becomes legally obligated to pay on account of any Claim first made against him, individually or otherwise, during the Policy Period or, if exercised, during the Extended Reporting Period, for a Wrongful Act committed, attempted, or allegedly committed or attempted by such Insured Person before or during the Policy Period.

***

Loss means the total amount which any Insured Person becomes legally obligated to pay on account of each Claim and for all Claims in each Policy Period and the Extended Reporting Period, if exercised, made against them for Wrongful Acts for which coverage applies, including, but not limited to, damages, judgments, settlements, costs and Defense Costs. Loss does not include

***

(iii) matters uninsurable under the law applicable to this coverage[.]

***

Claim means:

(a) For purposes of coverage under Insuring Clause[] 1 . . .

(i) a written demand for monetary damages or non-monetary relief;

(ii) a civil proceeding commenced by the service of a complaint or similar pleading;

***

against any Insured Person for a Wrongful Act or Interrelated Wrongful Act, including ...


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