Travelers Appeals Order That It is Required To Reimburse For Defense Of Non-Executive Employees Under D&O Policy

Gateway Inc. v. Gulf Insurance Co. et al., S.D. of California, October 14, 2011

On October 14, 2011, Travelers Indemnity Co. filed an appeal with the Ninth Circuit to overturn a ruling that it was obligated to pay attorneys' fees incurred in a securities suit against its policyholder computer company Gateway Inc.’s employees, even though the employees were not directors or officers.

The appeal was of U.S. District Judge William Q. Hayes' August ruling who found that Travelers was obligated to pay the legal fees associated with the defense of non-executive employees who were compelled to appear and be deposed as witnesses in a securities fraud suit against executives covered by the directors and officers insurance policy.

Travelers paid out approximately $12 million of its $15 million policy limit but denied coverage for Gateway employees who were compelled by subpoena to testify in the SEC’s case. According to Gateway, this amounted to approximately $500,000 in unreimbursed defense costs.

In 1998, Gateway purchased a 15 million excess D&O liability policy from Travelers. Gateway also had two underlying $10 million policies with Lloyd’s of London and Zurich-American Insurance Co.

In July 2010, Gateway, sued Travelers and Gulf Insurance Co. in California state court, alleging the insurer had slipped out of its obligation to provide excess D&O coverage in the event that the computer company's officers faced a derivatives suit. Travelers then removed the matter to federal court.

The complaint alleged that in 2003, the U.S. Securities and Exchange Commission filed a suit against three Gateway officers accusing them of fraudulently hyping the company's purported sales in order to spur share growth. Gateway alleges that this lawsuit required it to sustain substantial costs in mounting a legal defense.

According to the complaint, both Lloyd’s and Zurich honored their D&O policies, however, Travelers refused. The complaint alleges that Travelers “rather than perform as the other insurance carriers had, [] assumed an adversarial posture toward plaintiff and its covered officers and directors.”

U.S. District Judge William Q. Hayes’ held that any potential ambiguities in the language of the companies' insurance agreement must give way to Gateway's reasonable expectations of coverage.

“If the terms of a promise are in any respect ambiguous or uncertain, it must be interpreted in the sense in which the promisor believed, at the time of making it, that the promisee understood it,” the judge's opinion said. “This rule, as applied to a promise of coverage in an insurance policy, protects not the subjective beliefs of the insurer but, rather, the objectively reasonable expectations of the insured.”

Those employees were not parties in the case, and no claim was made against them, Gateway said.

For a copy of the decision see here

Sarah Fang and Sharon Angelino