Insurance in the Courts (Formerly Recent Court Decisions)

DOIhttp://doi.org/10.1111/j.1540-6296.2006.00096.x
AuthorMarc Mayerson,Jeffrey W. Stempel,Randy Maniloff
Published date01 September 2006
Date01 September 2006
C
Risk Management and Insurance Review, 2006, Vol.9, No. 2, 231-274
INSURANCE IN THE COURTS
(FORMERLY RECENT COURT DECISIONS)
Randy Maniloff
White & Williams
Marc Mayerson
Spriggs & Hollingsworth
Jeffrey W. Stempel
University of Nevada Las Vegas
MUCH-WATCHED CALIFORNIA CASE FINDS APPELLATE COURT OVERRULING POLICYHOLDER
VICTORY AT TRIAL COURT LEVEL.ADOPTION OF SECTION 524(g)PRE-PACKAGED ASBESTOS
BANKRUPTCY DOES NOT AUTOMATICALLY TRIGGER OR ACCELERATE COLLECTABILITY OF
ASBESTOS-DEFENDANT POLICYHOLDERSLIABILITY
INSURANCE COVERAGE
Fuller-Austin v. Highlands Insurance Co. 135 Cal. App. 4th 958, 38 Cal. Rptr. 3d 716
(California Court of Appeal, 2d District, Jan. 19, 2006)
A California Court of Appeal panel (courts of appeal in California and elsewhere typ-
ically sit in panels of three judges) has reversed a ruling holding that liability insurers
of an asbestos company had immediate obligations to perform in full once a trust was
established through Section 524(g) of the bankruptcy code (11 U.S.C. §524(g)) that con-
currently extinguished the liability of the policyholder vis-a-vis the asbestos claimant
creditors. See Fuller-Austin v. Highlands Ins., 135 Cal. App. 4th 958, 38 Cal. Rptr. 3d 716
(Cal. App. Jan. 19, 2006). (The California Court of Appeal is divided into districts for ad-
ministrative purposes. The Second District encompasses Los Angeles, location of the trial
of the Fuller-Austin case.) The “acceleration” of insurers’ obligations that these §524(g)
trusts might create has caused apoplexy (Marc’s word; Jeff agrees; Randy thinks “great
Mr. Randy Maniloffand his firm represent insurers in coverage disputes. He is a frequent author
on insurance matters, including an annual survey of the “Top Ten” insurance cases for Mealey’s
Publications. Mr. Marc Mayerson and his firm representpolicyholders in coverage disputes. He
maintains an insurance weblog at insurancescrawl.com. Professor Jeffrey W. Stempel is the Doris
S. and Theodore B. Lee Professorof Law at the William S. Boyd School of Law at UNLV and author
of Stempel on Insurance Contracts (3d ed. 2006). Given the collaborative nature of this article, the
views expressed are not necessarily those of each author. Neither areopinions expressed in this
article necessarily those of the University of Nevada Las Vegas, White & Williams, Spriggs &
Hollingsworth, or their respective clients or constituents.
231
232 RISK MANAGEMENT AND INSURANCE REVIEW
concern” is a more accurate description) in the insurance industry. The Fuller-Austin trial
court had ruled that the creation of the trust meant the insurers had immediate obliga-
tions to perform for the total (nonbankruptcy) value of the future claim stream. When
the Court of Appeals reversed, this no doubt produced a collective sigh of relief from
the insurance industry (and their reinsurers).
There are two bankruptcy elements in these modern asbestos-driven bankruptcies that,
when combined with prior rulings of courts dealing with bankruptcy effects on insur-
ance, yielded an extraordinary result: obligations of insurers to pay the future asbestos
obligations of the policyholder-debtor immediately and in full. Before turning to the
Fuller-Austin decision itself, it is important to understand what debtors like Fuller-Austin
were trying to achieve.
The first step in an asbestos-driven bankruptcy is to take the asbestos claims stream and
estimate its value. The debtor then needs to satisfy this creditor claim in the bankruptcy.
The debtor does this by setting up a trust and funding it with cash (from itself and
sometimes its corporate parent), stock, and pre-existing insurance rights (under policies
held by the debtor for years in which asbestos injury took place).
Afterestablishingthetrust,thedebtorreceivesa channeling injunction that bars the asser-
tion of any asbestos-related claim against itself (and sometimes against nondebtors (see
Susan Powers Johnston and Katherine Porter, Extension of Section 524(g) of the Bankruptcy
Code to Nondebtor Parents, Affiliates, and Transaction Parties, 59 BUSI NESS LAWYER 511–12
(2004)), and the injunction further funnels all claims to the trust. In other words, by pay-
ing “up front” to establish the trust, the debtor is able to emerge from bankruptcy shorn
of its asbestos liabilities without fear of any future claims. The trust in turn is charged
with resolving the asbestos claims and sets up an administrative compensation process,
usually with relaxed standards of proof, to “adjudicate” the tort claims. The claimant
may have the right further to bring an action in court, though punitive damages are
typically barred.
This is the model that was used in the Johns-Manville bankruptcy. The model was con-
firmed, expanded, modified, and codified by Congress in 1994 when the bankruptcy
code was amended with the addition of Section 524(g) (11 U.S.C. §524(g)), a provision
specially designed to deal with asbestos-driven bankruptcies. While certain procedural
and substantive changes were implemented in §524(g), from the debtor’s perspective
one key was that §524(g) made clear that future claims (claims by persons exposed to as-
bestos but who at the time of the bankruptcy filing had no legal claim) would have their
claims channeled to the trust as well. Dealing with “futures” has been the Achilles’ heel of
several nonbankruptcy deals in the class-action context. See Ortiz v. Fibreboard Corp., 527
U.S. 815 (1999); Amchem v. Windsor, 521 U.S. 591 (1997). The express conferral of power
on bankruptcy courts to limit the right to sue of future claimants was therefore quite
significant. Many attorneys and commentators viewed §524(g) as making bankruptcy
the asbestos claims control solution that class actions had failed to become—or at least
enough of a solution until such time as Congress enacts a comprehensive asbestos reform
scheme (none of the authors is holding his breath on that prospect).
How did all this impact insurance companies? In most jurisdictions, the courts have
adopted a model of asbestos insurance recoveries where insurers fromthe 1940s through
the mid-1980s together are liable to pay the policyholder’s defense costs and costs of
INSURANCE IN THE COURTS 233
settlements and judgments. There remained key questions in the insurance cases con-
cerning the order of payment by insurers, which principally was an issue for the excess
insurance carriers. (Primary insurers always pay first and primary policy limits are rou-
tinely exhausted for all applicable policy years by the claims facing a typical asbestos
defendant.)
The question regarding order-of-payment is whether, if one were an excess insurer in
1970 that wrote coverage excess of $50 million, an amount that would represent about
one-quarter of one year’s asbestos expense for a major defendant, the insurer is required
to perform once the insured/asbestos-defendant pays $50 million or whether the insurer
is effectively excess to the sum total of all primary and excess coverage, both before and
after its policy period, that attaches lower than $50 million. This is the conflict between so-
called “vertical” allocation favored by policyholders and “horizontal” allocation favored
by excess insurers. See, e.g., United States Gypsum Co. v. Admiral Insurance Co., 643 N.E.2d
1226 (1991) (holding that an umbrella carrier was excess to policies before and after its
policy year).
If one assumes a constant level of $50 million annual coverage, the 1970 excess carrier
might then be excess to hundreds of millions of dollars in lower level “underling” cover-
age spread throughout many years. Consequently, under a horizontal allocation system,
a high level excess insurer will not be reached until later years—or may never be reached
at all—because of the multi-year (even multi-decade) nature of the asbestos mass tort
and the continuous triggering of policies over the years that has obtained in most courts.
Policyholders dislike this result because it can, under some circumstances, make higher
level excess insurance practically unavailable or at least unavailable unless the policy-
holder pays large sums of its own money in addition to the deductibles and retentions
associated with its policies. Over a twenty-year period, for example, some of the “lower”
(e.g., under $50 million) layers of insurance may have become insolvent, requiring the
policyholder to fill this gap with its own funds. Further, the nature of litigation means
that it will take longer for the policyholder to demonstrate that the high level excess
insurance has attached even in cases where the policyholder (or third-party claimant)
gets to collect it. This imposes transaction costs (e.g., legal fees) and business uncertainty
upon the policyholder.
The key strategic point is that the objective of excess carriers in multi-year mass tort cases
is to obtain judicial support for horizontal allocation and to defer as long as possible the
time at which they are required to perform. The policyholder’s strategy is typically the
opposite, as it seeks to obtain immediate access to all its insurance earlier in the process
so that it might pursue omnibus settlement of asbestos mass tort claims or at least obtain
maximum coverage at minimal cost even if a global settlement is not achieved. In light
of the size of excess policy limits, the likelihood that asbestos liability will eventually
consume an entire insurance program, and the value of holding onto money as long as
possible so as to “earn out” the value of claims, time was, and remains, a friend of liability
insurers. Excess insurers have in essence been banking on deferring their obligations to
pay as a means of softening the blow of asbestos-related coverage.1
1And this appears to have been an effective strategy. Analysts have estimated that despite
the seemingly endless and crushing asbestos litigation of the past thirty-five years, asbestos

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