Insurance Advocate June 4, 2012 by C Acunto

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VOLUME 123, NUMBER 11 / June 4, 2012

New York • New Jersey • Connecticut • Pennsylvania • Washington D.C.

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Since 1889

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June 4, 2012

CONTENTS

[ IN THE ASSOCIATIONS ]

Phillip J. Friou Named Chairman of LICONY

he Life Insurance Council of New York, Inc. (LICONY) elected Phillip J. “Jack” Friou to serve as Chairman of the Board of Directors at its Board Meeting on May 3. Mr. Friou is Executive Vice President of Aflac New York. Jack Friou is also Senior Vice President & Director of Government Relations for the parent company, Aflac, a national insurance company specializing in supplemental life and health insurance products. He has worked for Aflac over 37 years and has served in a variety of executive positions, including President of Aflac New York. His current responsibilities include representing the company on all state political and government pol- PHILLIP J. “JACK” FRIOU icy matters in the 50 states. Jack serves on the Boards of various insurance related Associations and actively represents his company among national insurance trade associations. “It will be my personal pleasure to work with Mr. Friou in his role as LICONY Chairman,” Thomas E. Workman, President of LICONY said. “I look forward to working together with him on the issues and challenges facing our industry.” LICONY is the domestic trade association representing the life insurance industry in New York. Its member companies provide the vast majority of life, disability income, long-term care insurance and annuity benefits for New Yorkers. LICONY’s membership includes 66 life insurance companies and 20 allied professional firms.

[ COVER STORY ]

[DEPARTMENTS] In the Associations . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Forward . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Face to Face, By Michael Loguercio . . . . . . . . . . . . . . . 6 Insight, By Peter H. Bickford . . . . . . . . . . . . . . . . . . . . 10 Exposures & Coverages, By Jerome Trupin, CPCU . . 14 On the Level, By N. Stephen Ruckman . . . . . . . . . . . 34 Courtside, By Lawrence N. Rogak . . . . . . . . . . . . . . . . 36

2012 LICONY BOARD MEMBERS Chairman Phillip J. Friou, Executive Vice President, Aflac New York Chairman-Elect Bridget M. Healy, EVP & Chief Legal Officer, ING / ReliaStar Life Insurance Company of NY

Classiﬁeds. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43 Looking Back. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44 The Last Word. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46

Secretary-Treasurer Donald L. Barnes, Vice Chairman, President & CEO, Presidential Life Insurance Company Past Chairman Thomas E. Rattmann, Chairman, President & CEO, Columbian Mutual Life Insurance Company

continued on page 18

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[ FORE WORD ]

Steve Acunto

Let’s not boast, but…

n this issue of the Insurance Advocate, Steve Ruchman uses the word mensch which now possesses the universal meaning of “stand up guy”. This is not an expression new to insurance in these parts, given its provenance from the Yiddish quarters of New York. For many years, the insurance industry has been an unsung hero in the provision of aid and benefit to so many people of so many stripes, through grants, scholarships and just overall generosity that the application seems a fitting one again and again. To prove my point, below the photo of C. Edward (Chuck) Chaplin, President of MBIA, and Bill Fishlinger, President of WRM America, receiving honors from the College of Mt. St. Vincent for their generosity and their work supporting the college’s scholarship fund, I dug up a picture from December 25, 1943 edition of the Insurance Advocate that I happened to come upon some time ago when I was looking for old fashioned WWII Christmas news. In the picture, you will see that American Surety presented a $25,000.00 check – remember the year was 1943 – to establish an Insurance Education Fund. This is typical of the generosity that the two gentlemen honored by Mt. St. Vincent at the New York Public Library displayed and should be a rallying point for the industry. We just don’t toot our horns enough, because, as generous people the last thing L-R: WILLIAM FISHLINGER, PRESIDENT OF WRM AMERICA WITH you want to do is wear HIS WIFE JOAN AND C. EDWARD (CHUCK) CHAPLIN, PRESIDENT OF that generosity out in MBIA AND HIS WIFE KAREN public – it seems always to detract from it. Insurance people usually need to be persuaded to be recognized and that’s nice up to a point. The industry has expected its good work to stand on its own and be recognized by the general public. Somehow, someone, somewhere will devise a means of getting this word across without being bragadaccio. For now, the Insurance Advocate will continue to feature such generous people as Bill Fishlinger and Chuck Chaplin and will reach back to remember those who did so in the past to say: “Thank you for your generosity. You make us all look good.”[IA]

VOLUME 123, NUMBER 11 JUNE 4, 2012

EDITOR & PUBLISHER Steve Acunto, 914-966-3180, x110 sa@cinn.com CONTRIBUTING EDITOR Peter Molinaro CONTRIBUTORS Peter H. Bickford Jamie Deapo Michael Loguercio Sari Gabay-Raﬁy Lawrence N. Rogak N. Stephen Ruchman Jerry Trupin PRODUCTION & DESIGN ADVERTISING COORDINATOR Creative Director Gina Marie Balog, 914-966-3180, x113 g@cinn.com SUBSCRIPTIONS P.O. Box 9001, Mt. Vernon, NY 10552 914-966-3180, x117 circulation@cinn.com PUBLISHED BY CINN Group, Inc. P.O. Box 9001, Mt. Vernon, NY 10552 (914) 966-3180 Fax: (914) 966-3264 President and CEO Steve Acunto

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[ FACE TO FACE ]

By Michael Loguercio

It’s The DEADLIEST Time of the Year!

o here we are Memorial Day… and all I keep hearing from those I know are, “Can you believe the summer is here already?” Quite frankly it felt like summer was here all winter, but this weekend means that it’s time to open the pool, power wash the deck, freshen up the flower beds, and maybe just relax! Those of you who know me and have been read-

AT&T's survey found that while 97 percent of teens know texting while driving is dangerous, 43 percent admit sending a text while driving and 75 percent say the practice is common among their friends. The survey found teenagers feel pressure to respond quickly to text messages…and adults are setting a poor example by texting while driving.

Another nemesis of our industry is also upon us, so please don’t forget that June 1st is the beginning of hurricane season, which runs through November 30th, and already we are beginning to see circular motion storms brewing in the southeast and along the Mexican borders. Michael Loguercio

ing this column for years already know that my fig tree was unwrapped at Easter, so that’s one less chore that I need to do before hitting the lounge chair on the deck! However, besides this weekend being the unofficial commencement of the summer of 2012, Memorial Day brings with it a plethora of issues that can not only wreak havoc upon this thing of ours, but may also cause a tremendous amount of grief and suffering for many families throughout the land. With prom, graduation and summer almost upon us, Memorial Day to Labor Day are considered the "100 deadliest days" for U.S. teen drivers on the road. According to a UPI report, Patricia Jacobs who is the president of AT&T in New England said that their company has joined forces with local law enforcement and elected officials to bring awareness, through presentations in high schools, of the dangers of distracted driving. "While we are proud of the work we've put into spreading the word to teens about the dangers of texting and driving, more remains to be done," Ms. Jacobs said in a statement. "As our new study indicates, while teens know that texting and driving is dangerous, far too many of them admit that they are still doing it anyway." 6 June 4, 2012 / INSURANCE ADVOCATE

The U.S. Department of Transportation has also said that in a survey of 6,000 people within the United States alone, their results revealed that 90% of those surveyed considered texting while driving unsafe. However, only 1/3 of those who responded from within the 18-20 age bracket said that they would say something about it to the multitasking driver, such as asking them to stop text messaging while driving. The main reason for this is because those drivers who are texting are most likely within this same age group. The DOT goes on to say that it is initiating a public relations campaign to encourage passengers to remind their friends to keep their eyes and minds on the road. “Distracted driving is an epidemic on our roadways, and these new findings show that our youngest drivers are particularly at risk," Secretar y of Transportation Ray LaHood said in a written statement. "We are encouraging young people across America to speak up if the driver in their car is distracted." The DOT campaign will include a contest for the public to design a distracteddriving logo that will be available for use on Twitter, Facebook and other social media channels. Displaying the logo on

messages will act as a reminder to the recipients who happen to be behind the wheel that they should be watching the road, not a smart phone. According to UPI, per a poll taken by the Pew Internet & American Life Project, the volume of texting among teens has risen from 50 texts a day in 2009 to 60 texts a day this year, while the frequency of teens' telephone voice calls has fallen drastically. Among the teens surveyed, 63 percent said they exchange text messages every day with people in their lives, surpassing phone calling by cell phone by 39 percent; face-to-face socializing outside of school by 35 percent; social network site messaging by 29 percent; instant messaging by 22 percent; talking on landlines by 19 percent, and e-mailing by 6 percent. The survey continues to say that more and more teenagers have smartphones, with 23 percent of all those within the ages of 12-17 saying they have a smartphone. Smartphone ownership is the highest among older teens: 31 percent of those ages 14-17 have a smartphone, compared to just 8 percent of youth ages 12-13. The poll was conducted by telephone with a sample of 799 teens ages 12 to 17 years old and their parents living in the continental United States. The margin of error was 4.8 percentage points. BTW (by the way), TWD (texting while driving) isn’t the only form of electronic distraction on our roads today. There are those using global positioning devices, iPods, and even the car radio which now with Sirius we have hundreds of channels to choose from, causing a distraction while we’re searching between Lady Gaga, One Direction, Frank Sinatra or the New York City traffic and weather. In addition, not only do we have to be aware of drivers of cars, there are other distracted “travelers” on our roads that we may not be immediately mindful of. For instance, Illinois lawmakers are posing a piece of legislation that would ban texting while biking. The Illinois House Transportation Committee voted in favor of a bill that prohibits bikers from texting continued on page 8

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[ FACE TO FACE ] continued from page 6

while in motion, the St. Louis (Mo.) PostDispatch reported a couple of months ago. The bill, proposed by state Rep. Kelly Cassidy, (D-Chicago), allows bicyclists to use hands-free devices while biking and text when the bike is stopped and pulled to the side of the road. Opposition to the legislation came from state Rep. Michael Unes, (R-East Peoria), who questioned whether the ban would be difficult to enforce and stop cyclists from using other devices such as global positioning satellite systems. Stay tuned as I will have more on this story, and I will follow up to see if other states follow suit...BRB! Another nemesis of our industry is also upon us, so please don’t forget that June 1st is the beginning of hurricane season, which runs through November 30th, and already we are beginning to see circular motion storms brewing in the southeast and along the Mexican borders. According to a report by the National Weather Service, NOAA, (The National Oceanic and Atmospheric Administration)

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is predicting a near-normal hurricane season in the Atlantic and Eastern Pacific basins. In the Central Pacific region they predict an “at or below-normal” hurricane season. Typically, the season average is 12 named storms, according to NOAA forecasters, but with this August marking the 20th anniversary of Hurricane Andrew, the category-5 hurricane that devastated South Florida, causing more than 26 billion dollars in damage, The National Weather Service's Chris Vaccaro says Andrew's lesson is, “Be ready. Hurricane Andrew was the first storm in a very late-starting season that only produced 6 storms.” Robert Dietrick, also with NOAA, said that a near-normal season is likely, with a total of 9 to 15 named storms. He also feels that one to three of these storms are likely to form into major hurricanes within the category 3, 4 or 5 range. Now although this most recent prediction indicates less major storm activity than in recent years, according to NOAA forecasters “…expect to see a continuation of overall conditions associated with the high-activity era that began in 1995.” Judy Curry, who chairs the School of Earth and Atmospheric Sciences at Georgia Tech University, said this increased activity in the Atlantic could last another decade. “We have been lucky in the last few years because a lot of the biggest storms have simply fizzled out in the open ocean without striking land.” Ms. Curry also said that we should expect to see continued high activity in the North Indian Ocean, where that tropical storm season

begins in September, and this area is especially vulnerable. “One of the problems is that in this part of the world you don’t get very good tropical cyclone warnings…you get maybe two days," she said. That short amount of time was certainly not nearly enough time to warn and save the more than 100,000 people who perished in tropical cyclone Nargis, which passed over Burma in 2008. Whether it pertains to being aware of distracted drivers or a hurricane rolling up the coast, my recommendation is what I learned in the Cub Scouts years ago, and that is to “Be prepared”, (or was it in high school...no, that’s another story)! Until next time be safe out there, and I will TTYL! Ciao for now! [IA] Michael Loguercio is the Regional Sales Manager for Webcetera-EZ Lynx; active Past President of the Young Insurance Professionals of New York State; current ACT/AUGIE, Professional Insurance Agents of New York State, Independent Insurance Agents and Brokers of New York State, Council of Insurance Brokers of Greater New York committee member; and in 2010 was honored with the NY-YIP Insurance Professional of the Year award. In his community, Michael is President of the Longwood Central School District Board of Education on Long Island, NY; and is a member of The Middle Island, NY, Rotary Club and Central Brookhaven Lion’s Club. He is a regular Contributor to the Insurance Advocate and may be contacted at 631-345-9359 or michael@webcetera. com. You may also follow him on Twitter @MLoguercioJr; and on Facebook @ Michael Anthony Loguercio Jr.

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What Life Insurance Means for New York

Total annual payments in New York equivalent to 461,000 jobs paying $52,000 per year. (New about $48,000 in 2010.)

105,000 jobs 21 percent of all finance and insurance sector employment in New York.

Eight million individual life insurance policies securing the future for New Yorkers and their families.

$2 trillion in life insurance coverage in New York alone. (By contrast, at the end of 2010, the assets of all 401(k) retirement plans in the entire United States totaled $3.1 trillion.)

Every business day the life insurance industry in New York pays an average of $90 million to state residents who have wisely chosen to buy life insurer products to protect them They recognize that this solid, stable financial industry

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INSURANCE ADVOCATE / June 4, 2012 9

INA 6-4-12_INA 6-4-12 6/1/12 11:44 AM Page 10

[ INSIGHT ]

By Peter H. Bickford

“A Billion Here, a Billion There, and Pretty Soon You're Talking Real Money." (Attributed to Everett M. Dirksen, US Senator from Illinois, 1950-1969)

ased on a very unscientific twoitem sample – the recent J.P. Morgan trading loss and the Executive Life of NY (ELNY) loss – the minimum point for media outrage apparently is $2 billion. How else can one explain the media attention to the $2 bil-

for all life insurance company failures to $558 million to cover funding of the ELNY restructuring plan -- but nothing more (The comparable Assembly bill, A9607, was pending before the Assembly Ways and Means Committee as of the preparation of this column). Therefore, once

…before you p/c-philes conclude that at least the life industry is getting its comeuppance in the ELNY case, consider this: the ultimate cost of the ELNY shortfall may actually be as great or even greater for p/c companies as for life companies! Peter H. Bickford

lion J.P. Morgan mess and lack of media attention for the mere $1.6 billion ELNY insolvency? You would think that a $1.6 billion loss occurring entirely on the rehabilitator’s watch would warrant more attention. Perhaps when the consequences of the ELNY insolvency are fully understood the attention will follow. In addition to the financial loss to individual annuitants and policy owners, the financial and reputational consequences to regulators and the life insurance and structured settlement industries loom large and potentially long lasting. Consider, for example, the consequences for the NY State life insurance guaranty funds. The ELNY liquidation will result in the complete exhaustion of New York’s two life guaranty funds. As interpreted by the superintendent of financial services, the old Article 75 fund, covering pre-1984 contracts issued by NY insurers but with only a $50 million aggregate cap, and the Article 77 fund covering contracts issued to NY residents whenever issued, with a $500 million aggregate cap, will be tapped out. Senate Bill 6507A, passed by the Senate on March 29, 2012, would increase the Article 77 $500 million aggregate cap 10 June 4, 2012 / INSURANCE ADVOCATE

ELNY is liquidated no funds will be available for any future life insurance company insolvency in New York without an act of the Legislature. But why is there any cap on these funds? There are no caps on any of the three property/casualty funds -- the Property/Casualty Insurance Security Fund, the Public Motor Vehicle Liability Security Fund and the Workers’ Compensation Security Fund. In addition, there are two other major statutory differences between the life funds and the p/c funds: • The life funds are post-assessment funds, while the p/c funds are preassessment funds. In other words, the life companies only have to cough up funds when needed for an insolvency, while the p/c companies are required to pay in advance and are assessed continuously or whenever a fund dips below a certain level. • The life funds are managed by independent entities with boards of directors from member life companies. The p/c funds are basically bank accounts controlled by the superintendent as liquidator, with no participation by p/c companies.

There is another major difference – the cost to the life versus the p/c companies. As indicated, the maximum that the life companies can be assessed for all life insolvencies under current law is $550 million - $50 million under Article 75, and $500 million under Article 77. Prior to the ELNY liquidation recently approved, there are no publicly known life insolvency events requiring calls on these funds. Contrast this with the record of the p/c funds. Through 2010, NY property/casualty companies have paid into the three p/c funds a net total of almost $1.9 billion, and those funds, including the interest earned over the years, have been drawn upon by the liquidator to pay claims against insolvent companies totaling $3.7 billion! That is 6½ times the cost to the life companies, and that does not even count the various invasions of the p/c funds by the State over the years, which is another story altogether. So why do the life funds warrant such preferred status? Before ELNY and its problematic book of annuity contracts, the life industry in NY has always managed to have the books of financially troubled life companies assumed by other life companies, thus avoiding the need to call upon the life guaranty funds. When Article 77 was added in 1985 providing a ten-fold increase in the cap from $50 million to $500 million, the supporting memoranda briefly referred to the historic need for a cap to protect the solvency of life insurers but acknowledged that the $50 million cap in Article 75 was too low. There was no discussion of how this number was determined, or why life companies needed this cap protection while p/c companies apparently did not. But before you p/c-philes conclude that at least the life industry is getting its comeuppance in the ELNY case, consider this: the ultimate cost of the ELNY shortfall may actually be as great or even greater for p/c companies as for life companies! How is that possible? Remember that after taking all the traditional life products out of continued on page 12

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[ INSIGHT ] continued from page 10

ELNY back in 1992 (see my article on the ELNY insolvency, “Soggy Saga,” in the February 20, 2012 issue of Insurance Advocate), the remaining book consisted entirely of annuity contracts, and most of those contracts had been purchased by p/c companies to fund structured settlements of policy claims. In structured settlements, there are two basic kinds of annuity pur-

chasers: so-called “buy and hold” companies that remain obligated for the original settlement even after the purchase of the annuity; and those owners that made a “qualified assignment” of the settlement obligation upon purchase of the annuity, and who are therefore released from further obligation under the original settlement. Because most of the annuities were purchased before qualified assignments were de rigueur, the contract owners – the

In structured settlements, there are two basic kinds of annuity purchasers: socalled “buy and hold” companies that remain obligated for the original settlement even after the purchase of the annuity; and those owners that made a “qualified assignment” of the settlement obligation upon purchase of the annuity, and who are therefore released from further obligation under the original settlement.

p/c companies – may be obligated to make up the shortfall. Also, even if they had entered into qualified assignments, the ELNY court placed considerable pressure on the companies owning policies to cover any shortfall. After applying the $700 million commitment by the various state life guaranty funds (funded by assessments on life companies) and another $70 million or so from a consortium of life insurance companies for certain enhancements to the ELNY annuitants, a shortfall of more than $900 million remains unfunded. Although there are no publicly available statistics on the percentage of the remaining ELNY shortfall covered by solvent p/c companies, or how many of them are “buy and hold” owners versus qualified assignments, it is conceivable that p/c companies may end up footing the bill for the bulk of that remaining $900 million. Don’t get the idea that I am against the life industry and the life guaranty funds. Heck no! If they can continue to get the legislature to limit their exposure for the failure of other life companies, and if they can continue to get the p/c companies to help pay for these failures – I’d say: “I’ll have what they’re having!” [IA] 12 June 4, 2012 / INSURANCE ADVOCATE

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e ay e-pay

first rehab life 速

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[ EXPOSURES AND COVERAGES ]

By Jerome Trupin, CPCU

Pollution, Certificates of Insurance, and Duty to Defend Let’s look at some different points of view on three perennial liability insurance problems: Pollution, Certificates of Insurance, and Duty to Defend.

Pollution May Not Mean Pollution “A rose is a rose is a rose,” but pollution is not always pollution. In the early 1970s, faced with enormous pollution liability claims arising from newly enacted environmental legislation, the insurance industry introduced the first of a series of pollution exclusions. The first iteration eliminated coverage for pollution claims unless the pollution was “sudden and accidental.” That seemed like a reasonable solution. Insurers were facing claims for pollution that had been going on for 50 or even 100 years and could generate hundreds of millions of dollars in claims. They felt they couldn’t assume that liability. On the other hand, they were willing to cover claims arising from “sudden and accidental” occurrences, for example a malfunctioning heating plant that resulted in carbonmonoxide poisoning. Unfortunately, but probably not surprisingly, insureds and their attorneys successfully argued that “sudden and accidental” was ambiguous. Courts across the country accepted the argument that “sudden and accidental” could reasonably be interpreted to mean “unexpected or unintended.” Insurers responded by introducing what’s referred to as “absolute” pollution exclusions. (I’ve placed quotation marks around “absolute” because most pollution exclusions do provide some coverage for pollution claims by means of exceptions to the exclusion.) The basic absolute exclusion wording has been modified a number of times. In

Many courts have ruled that not all pollution is excluded despite the seemingly clear language. They hold that a reasonable interpretation of the pollution exclusion is that it applies only to traditional environmental harms.

its current form, it excludes bodily injury or property damage arising out of the “actual, alleged or threatened discharge, dispersal, seepage, migration, release or escape of pollutants.” Pollutants are defined as: "any solid, liquid, gaseous or thermal irritant or contaminant, including smoke, vapor, soot, fumes, acids, alkalis, chemicals and waste. Waste includes materials to be recycled, reconditioned or reclaimed.”1 There are certain exceptions to the exclusion, but for the most part, it appears to be all encompassing.2 That’s not how courts read the exclusion. Many courts have ruled that not all pollution is excluded despite the seemingly clear language. They hold that a reasonable interpretation of the pollution exclusion is that it applies only to traditional environmental harms. Typifying this approach, the judge in the US 6th Circuit Court of Appeals wrote: “Without some limiting principle, the pollution exclusion clause would extend far beyond its intended scope, and lead to some absurd results. To take but two simple examples, reading the clause broadly would bar coverage for bodcontinued on page 16

1 CG 00 01 12 07 © ISO Properties, Inc., 2006 2 Among other occurrences that are now excepted from the exclusion is carbon-monoxide poisoning resulting from smoke, fumes, vapor or soot produced by or originating from equipment that is used to heat, cool or dehumidify the building,

14 June 4, 2012 / INSURANCE ADVOCATE

Jerome Trupin, CPCU

Jerome Trupin, CPCU, is a partner in Trupin Insurance Services located in Briarcliff Manor, NY. He provides property/casualty insurance consulting advice to commercial, non-proﬁt and governmental entities. He is, in effect, an outsourced risk manager. Jerry has been an expert witness in numerous cases involving insurance policy coverage disputes and has taught many CPCU and IIA courses. Jerry has spoken across the country on insurance topics and is the co-author of over ten insurance texts used in CPCU and IIA programs including Commercial Property Risk Management and Insurance and Commercial Liability Management and Insurance. He regularly contributes articles to CPCU Interest Group Newsletters, the Insurance Advocate, and other publications. He can be reached at cpcuwest@aol.com. Thanks to Jerry Trupin for this article and to the CPCU Society’s Risk Management Interest Group newsletter for letting us reprint it.

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[ EXPOSURES AND COVERAGES ] continued from page 14

ily injuries suffered by one who slips and falls on the spilled contents of a bottle of Drano, and for bodily injury caused by an allergic reaction to chlorine in a public pool. Although Drano and chlorine are both irritants or contaminants…one would not ordinarily characterize these events as pollution.”3 The decision cited other examples of events involving pollutants that were held not to trigger the pollution exclusion. These included injuries arising from an individual's ingestion of malathion during a municipal pesticide-spraying operation, paint damage to vehicles due to the spray painting of a bridge, an apartmentdweller's ingestion of lead paint, and a release of asbestos particles during installation, handling and removal of insulation.4 Courts in other states agree with insurers that all pollution is excluded. These include courts in Florida, Maryland, Mississippi, Pennsylvania, Texas, and others.5 Courts in one state, Indiana, will not enforce the standard pollution endorsement at all. Indiana courts hold that the exclusion is ambiguous and require that the specific pollutant be named to make the endorsement enforceable.6 New York courts lean towards the traditional-environmental-harm approach. A recent example is a case involving the Upper West Side New York City delicatessen. Barney Greengrass (also know as the “The Sturgeon King”). A residential tenant in the same building sued the Sturgeon King for bodily injuries allegedly caused by the odors emanating from the store. Two courts applying New York law (the Federal District Court and the U.S. Court of Appeals for the Second Circuit) ruled that the claim was not excluded by the pollution exclusion because the odors were not environmental-type harms.7

In Sevenson Environmental Services, Inc. et al v Sirius Am. Ins. Co.9 the court held that Sirius was not obligated to defend Stevenson because there was no proof that the insurer or its agent had notice of Stevenson’s status as an additional insured.

There are two learning points in this for us: (1) Don’t accept every pollution liability declination. The absolute pollution exclusion is far from absolute, and (2) Present quotations for pollution liability coverage to your insureds. An insured may be successful in gaining coverage in its CGL policy for a pollution-type claim, but it’s an expensive proposition and many times the insured will lose.

Certificate of Insurance Issued by Agent Suppose that a certificate of insurance shows the certificate holder as an additional insured, but the policy has not been endorsed to provide that coverage and does not contain an effective automatic additional insured endorsement. If the certificate was issued by an agent of the insurance company, is the insurance company barred by the doctrine of estoppel8 from denying coverage because the certificate was issued by its agent? That was one of the problems dis-

cussed at the May 9, 2012 Westchester CPCU Coverage Conundrums seminar in Stamford, CT. The consensus of the group and the four insurance attorney panelists was that coverage cannot be created by estoppel. New York courts, however, sometimes go the other way on the issue. In Sevenson Environmental Services, Inc. et al v Sirius Am. Ins. Co.9 the court held that Sirius was not obligated to defend Stevenson because there was no proof that the insurer or its agent had notice of Stevenson’s status as an additional insured. (The additional insured endorsement required that the additional insured’s name be on file with the insurance company.) However, the court did say: “For estoppel based upon the issuance of a certificate of insurance to apply… the certificate must have been issued by the insurer itself or by an agent of the insurer.” (Emphasis added).

Learning Point While in the best of all possible worlds, the additional insured will review the pertinent insurance policy, for us mere mortals, the most we can realistically do is review the actual endorsement that grants additional insured status. If the endorsement shows the name of the additional insured, that’s great. If it says “on file with the insurer,” the additional insured needs confirmation from the insurer or its authorized agent that its name is actually on file. If it says “agreed in writing in a contract or agreement,” then the additional insured must be sure that there is, in fact, such a contract.

Duty to Defend is Broader than Duty to Indemnify It’s accepted law in New York and most other states that the duty to defend is broader than the duty to indemnify 10 . continued on page 18

3 Meridian Mutual Insurance Company v. Kellman. 197 F.3d 1178 (6th Cir. 1999). 4 Ibid. 5 Ibid (The Meridian decision cited above lists a number of such cases. 6 Elsie D. Allen “Indiana Solidifies Its Treatment Of Pollution Exclusions As Generally Ambiguous” CM Report, Clausen Miller, May 2012 http://www.clausen.com/index.cfm/fa/firm_pub.article/article/4f9baf8b63744251ad9688a81478fb7b/Indiana_Solidifies_Its_Treatment_Of_Pollution_Exclusions_As_Generally_Ambiguous.cfm 7 Barney Greengrass, Inc. v. Lumbermans Mut. Cas. Co., 2010 U.S. Dist. LEXIS 76781 (S.D.N.Y. July 27, 2010) 8 Estoppel is a legal principle that bars a party from denying or alleging a certain fact owing to that party's previous conduct, allegation, or denial. 9 Supreme Court Of The State Of New York Appellate Division, Fourth Judicial Department 09-02516 June 11, 2010. 10 One New York case setting out the breadth of the duty to defend is BP Air Conditioning Corp. v. One Beacon Ins. Group, 8 N.Y.3d 708, 840 N.Y.S.2d 302 (2007).

16 June 4, 2012 / INSURANCE ADVOCATE

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[ EXPOSURES AND COVERAGES ]

[ IN THE ASSOCIATIONS ]

continued from page 16

continued from page 3

Under that doctrine, if one cause of action, say negligence, is alleged in the lawsuit, the insurer must defend all the causes of action alleged by the plaintiff even if some of them, such as intentional acts, are clearly not insured. All that is required is that the insured is potentially covered under the policy for one of the counts. In his May 19, 2012 Binding Authority email newsletter11, Randy Maniloff, a leading insurance coverage attorney, discussed an unusual duty to defend situation. The convoluted facts of the case do not concern us; the important points for our purpose are that two companies provided coverage for the insured and that one of the policies contained an unusual provision. Chicago Title’s policy was primary and Philadelphia Insurance’s was excess. Chicago Title’s policy contained the unusual provision. It read: “[Chicago Title] will not pay any fees, costs or expenses incurred by the insured in the defense of those causes of action which allege matters not insured under the policy.”12 The question Maniloff proposes is: “Did Chicago Title’s policy language, which limits the duty to defend to solely potentially covered claims, trump Illinois’s long-standing rule that if an insurer has a duty to defend one count of a complaint, it has a duty to defend all counts of the complaint?” The court held that the broad duty to defend is not based on policy wording; it arises as a matter of law. It concluded that “Chicago Title may not contract around this duty.” There is also an Ohio case based on the same wording that held the same way13. These are lower court cases, but Maniloff feels they’re important because they demonstrates how deeply duty-todefend is embedded in the law. I agree. Some insurers offer non-duty to defend policies; generally the cost of defense is a covered expense usually in excess of a retention or deductible, but the insured selects counsel. That makes sense for large corporations that want to control

Getting a defense for your insured can be an enormous benefit even if coverage for indemnity is doubtful. Defense can be extremely expensive. In addition, faced with an expensive defense obligation, the insurer may elect to settle the case to cut its losses.

the management of the claim and have the sophistication to do so. Small firms and most mid-size firms don’t have those skills. What’s more, non-duty to defend forms don’t cover the costs to defend the portions of the claim that aren’t covered by the insurance. Learning Point: Getting a defense for your insured can be an enormous benefit even if coverage for indemnity is doubtful. Defense can be extremely expensive. In addition, faced with an expensive defense obligation, the insurer may elect to settle the case to cut its losses. [IA]

Sheila K. Davidson, EVP, Chief Legal Officer & GC, New York Life Insurance Company Kyle L. Jennings, Executive Vice President & General Counsel, United States Life Ins. Co. Matthew L. Kurzweil, Senior Vice President & Corporate Controller, TIAA-CREF Thomas J. Moran, Chairman, President & CEO, Mutual of America Life Insurance Company Deanna M. Mulligan, President & CEO, The Guardian Life Insurance Co. David J. Sloane, Chairman, President & CEO, Genworth Life Insurance Company of NY David J. Walsh, President & CEO, Amalgamated Life Insurance Co. Timothy A. Walsh, President & CEO, Farm Family Life Insurance Co. James D. Wehr, President & CEO, The Phoenix Companies, Inc.

Serving New York, New Jersey, Pennsylvania and Connecticut Since 1889 www.insurance-advocate.com

11 http://www.whiteandwilliams.com/binding.html 12 Philadelphia Indemnity Insurance Company v. Chicago Title Insurance Company U.S. District Court, Northern District of Illinois Case No. 09 C 7063 May 11, 2012. 13 Little Italy Dev., LLC v. Chi. Title Ins. Co., No. 1:11 CV 212, 2011 WL 2532663 (N.D. Ohio June 24, 2011).

18 June 4, 2012 / INSURANCE ADVOCATE

Directors Bruce W. Boyea, Chairman, President & CEO, Security Mutual Life Insurance Company of NY

Michael A. Zarcone, Senior Vice President - Global Government Relations & Secretary, MetLife

EXECUTIVE OFFICERS OF LICONY FOR 2012: Thomas E. Workman, President & Chief Executive Officer Diane D. Stuto, Executive Vice President Jana Lee Pruitt, Executive Vice President John M. Kissoon, Vice President

INA 6-4-12_INA 6-4-12 6/1/12 11:45 AM Page 19

ADVERTORIAL

By Michael Fliegelman, CLU, ChFC, AEP, RFC

Collaborate With a Winning Team

ost of us make financial decisions in silos. We talk to all of the right people: attorneys, life insurance agents, bankers, investment advisors, and property and casualty agents, one at a time, and on an individual basis. Each professional will answer questions and give advice based on his or her expertise, which may be very different from another type of professional’s answers and advice. This has nothing to do with the individual quality of each professional. It’s just that they are not communicating as a team. It’s a clear case of the right hand does not know what the left hand is doing. This lack of communication could prove costly to you or to your clients. Financial teams are just like sports teams. Sometimes sports teams acquire great players, but the players don’t work well together because they only see the game from each individual’s perspective, which overwhelms the needs of the group. Every individual effort is outstanding, but from the team perspective all of the plays are disjointed, unproductive and do little to advance the cause of winning the game. The same thing can happen with money management and financial planning, resulting in a kind of “financial overload” for both you and for your clients. If your clients are hearing different opinions that are contradictory, then this overload can overwhelm them and stall the decision-making process. While your clients are in stall mode, you are losing valuable time and money. The irony is that the longer your clients stall, the more likely it is that they are losing money too! And no one is winning the game. You and your clients need to have a clear vision of how financial decisions are made, when these decisions should be made, and how every decision is an integral part of a larger whole. Everyone on the team is working together to keep his eye on the ball. How do we put together a winning team? The answer is simple. Bridge the gap between the various experts by working with a collaborative, multi-disciplinary group that involves accountants and attorneys as

well as financial planners. All of the right professionals need to be on board: attorneys, life insurance agents, bankers, investment advisors, and property and casualty agents. Then all of the facts need to be on the table so they can be evaluated from a collaborative perspective. Multiple viewpoints means what needs to happen is a holistic assessment. All of the professionals on the team collaborate by communicating with one another so the entire team comes to consensus and forms a collective opinion about the entire financial picture. Then clients will get relevant, accurate information and avoid the threat of overload, confusion and financial paralysis. By having the right team in place, your clients will have more confidence in the overall plan and vision for the future. Many of today’s professionals need to take a holistic approach to their financial matters because it is the only way to win the game for both your team and your clients. Ultimately, everyone sees things from their own perspective in life, but working with a solid team affords your clients with a much wider range of experience and a greater depth of expertise that creates the best possible analysis of each client’s financial situation. The multidisciplinary approach incorporates all aspects of the financial plan, and will help your clients increase their awareness of what issues they may have, what problems they may encounter, and what steps they may want to take in the foreseeable future. Keep in mind that every winning team needs a good coach. Finding the right combination of professionals is as challenging a task as it is to recruit the right players to create a winning sports team. A good coach can identify the players who will work well together and guide them with the right action plan. If you feel your plan lacks coordination and integration and could benefit from this type of collaborative group planning, please call me for a no cost, no obligation initial consultation. As always, I am here to guide you through the process of putting together a winning financial team that will benefit you and your clients.

INSURANCE ADVOCATE / June 4, 2012 19

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[ COVER ]

Reprinted with the permission of Willis. 20 June 4, 2012 / INSURANCE ADVOCATE

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[ COVER ]

illis North America, the global broker has published its Directors and Officers Liability (D&O) Insurance Dictionary, offering firms a comprehensive overview of terms that are likely to be used in describing their D&O insurance and liability exposures. This Willis publication, updated in response to recent significant changes to the litigation environment facing executives and their firms, as well as related developments in D&O insurance coverage, is a useful tool for risk management practitioners and those making key decisions about financial and executive matters. The dictionary details over one-hundred terms and provides important context for why the term may be relevant. The updated publication includes new terms that have entered the vernacular, including: • Bump-up claims: In the context of an acquisition, these are claims by shareholders of the company-to-beacquired alleging that the company has been undervalued. These actions seek to have the purchase price raised or “bumped-up.” • Clawback: Generally, money or benefits that were distributed and later taken back under special circumstances. Both Sarbanes-Oxley and the Dodd-Frank Act create circumstances where compensation may be “clawed back” from executives following financial statements at their companies. • Entity versus insured exclusion: A recent (favorable) variation on the Insured vs. Insured exclusion found in a D&O policy. It precludes coverage for claims brought by the company or insured organization against other insureds. So the company itself can’t sue its Directors or Officers and gain coverage for their defense or settlement under the D&O policy. • Double derivative claim: A rare derivation on derivative suits, this is a lawsuit brought by a shareholder of a parent corporation on behalf of a wholly owned subsidiary for alleged wrongs to a subsidiary. They generally occur where shareholders have lost standing to maintain a standard derivative action due to the acquisi-

“In the rapidly evolving environment of executive risk, keeping up with the latest terms and technical components of a D&O program can be a challenge. Our goal was not to just describe what something plainly is, such as “Application,” but also to provide context as to why the term may be relevant” - Ann Longmore, E.V.P., Willis’ Executive Risks Practice

tion of the corporation in a stock-forstock merger; the shareholder, in his new capacity as a shareholder of the acquirer, then reasserts the claim double derivatively. • Updated information as it relates to Sections 11, 12, & 15 of the 1934 Act dealing with securities offerings, including IPOs. Commenting on the dictionary, Ann Longmore, Executive Vice President, WNA FINEX, said, “In discussions regarding D&O insurance, we invariably mingle the language of law, finance and insurance; all otherwise separate and distinct disciplines with their own unique concepts and terms of usage. This makes every conversation potentially full of pitfalls for unwary individuals knowledgeable in their own areas of expertise, but not so much when addressing insurance matters.” “In the rapidly evolving environment of executive risk, keeping up with the latest terms and technical components of a D&O program can be a challenge. Our goal was not to just describe what something plainly is, such as “Application,” but also to provide context as to why the term may be relevant,” said Longmore.

Ann Longmore is Executive Vice President of Willis' Executive Risks practice. Based in New York, she has been with the company 20 years, where she specializes in D&O, Fiduciary, and Employment Practices Liability and frequently writes for Willis' Executive Risks Alert. Before Willis she held legal positions in the Department of Labor's ERISA Enforcement Division, the New York Stock Exchange and the Bankruptcy Court in New York's Eastern District.

Francis Kean is an Executive Director in Willis' FINEX Global, where he specializes in insurance for Directors & Officers (D&O) of companies. He joined Willis in 2010 and has 25 years of experience as a leading litigation lawyer specializing in professional indemnity, financial institutions and directors and officers liability in the London insurance market.

Synopsis presented on the following pages. INSURANCE ADVOCATE / June 4, 2012 21

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D&O GLOSSARY 10(b)(5), Rule: A rule created by the U.S. Securities and Exchange Commission (SEC), under the ‘34 Act which prohibits any act or omission causing fraud or deceit in connection with the purchase or sale of any security. It is the most frequently alleged violation in D&O securities claims: _ Rule 10b-5: Employment of Manipulative and Deceptive Practices: “It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange, _ (a) To employ any device, scheme, or artifice to defraud, _ (b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading, or _ (c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security." ‘33 ACT: The Securities Act of 1933 deals with the offer and sale of securities. Prior to the ’33 Act, this was regulated primarily by state law (usually referred to as “blue sky laws”). Enacted in the aftermath of the U.S. stock market crash of 1929 and during the ensuing Great Depression, the ‘33 Act left existing state securities laws in place. The Act requires issuers to fully disclose all material information that a reasonable investor would require in order to make up his or her mind about the potential investment. It also requires offers or sale of securities using the means and instrumentalities of interstate commerce to be registered with the SEC unless an exemption exists under the law. The term "means and instrumentalities of interstate commerce" is interpreted very broadly, making it virtually impossible to avoid this statute. Any use of a telephone, for example, or the mails, would probably be enough to subject the transaction to the statute. See Section 11, Section 12, Section 15. ‘34 ACT: The Securities Exchange Act of 1934 (also called the Exchange Act), governs the secondary trading of securities in the U.S., that is, trading between shareholders on a stock exchange (in contrast with the ’33 Act which regulates the initial sale of securities from the original issuing firms to investors). The Act and related statutes form the basis of regulation of the financial markets and their participants in the U.S. In regulating the secondary trading of securities, the ’34 Act often deals with persons other than the issuer; most frequently, this includes securities brokers or dealers. See 10(b)(5). ADMITTED COVERAGE: Insurance which is purchased from an insurance company licensed in the state/country in which the policy is purchased. Insurance is regulated locally, as a general rule, and where there is local property or persons that 22 June 4, 2012 / INSURANCE ADVOCATE

would be covered by the insurance, local country insurance regulators may require admitted (local) policies to be used. See: Non-admitted insurance. ADR (AMERICAN DEPOSITARY RECEIPT): An ADR is a stock that trades in the U.S. which represents a specified number of shares in a foreign corporation. ADRs are bought and sold on American markets just like regular stocks, and are issued/sponsored in the U.S. by a bank or brokerage firm. U.S. financial institutions purchase a bulk lot of shares from the company, bundle the shares into groups, and reissue them on a stock exchange, with the foreign company providing detailed financial information to the sponsor institution. There are three different types of ADRs issued: See: ADRs Level I, II and III. ADRS, LEVEL I: ADRs which are not listed on any U.S. stock exchange, but are traded in the over-the-counter (OTC) market, most commonly on the Pink Sheets electronic market. They offer a foreign company the opportunity to diversify their shareholder base by giving U.S. investors an easy way to purchase securities while remaining exempt from U.S. reporting requirements under SEC Rule 12g3-2(b) and SOX. Registration of these ADRs under the ‘33 Act only requires the filing of a shortform registration statement, and the underlying ordinary shares are exempt from registration. These facilities have been growing due to the implementation of more stringent reporting and regulatory requirements under SOX for Level II or III ADRs and the ‘34 Act. A drawback is that Level I programs cannot be used to raise capital in the U.S. ADRS, LEVEL II: ADRs which are listed on a U.S. stock exchange and may better position a firm to move to a Level III program to raise capital, as they may qualify to use a shortform registration statement (not available to Level I issuers). Level II ADR programs must comply with the full registration and reporting requirements of the ’34 Act. ADRS, LEVEL III: Are the most prestigious of the three ADRs and is where an issuer raises capital in the U.S. by floating a public offering of its ADRs on a U.S. exchange. Level III ADRs must comply with various SEC rules, including the full registration and reporting requirements of the ’34 Act. AGGREGATE LIMIT OF LIABILITY: An insurance term which refers to the total amount that the insurers will potentially pay under a given insurance policy. For D&O insurance, this would generally include defense costs, settlements and judgments. This amount is not increased by the number of claims made under the policy, the number of insureds who seek payment under the policy, or otherwise. The retention or deductible is not included or added to the Aggregate Limit of Liability. Any retention or deductible on the policy must be spent by the insured before any payment will be due under the policy. ALLOCATION: A determination of the portion of a loss that will be covered by an insurance policy when less than 100% of the loss is covered. It refers to the determination of the precise

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[ COVER ] portion of a loss that will be allocated to the insurance policy (and therefore payable by the insurer) and which portion will not. Allocation issues arise when the insurance doesn’t cover all of the defendants in a claim and/or when the policy doesn’t cover all of the allegations in a claim. In the D&O world, allocation issues had historically arisen when both a company, or entity, and its insured directors and officers were named in a suit, but the entity was not covered by the policy. Under these circumstances, insurers took the position that a portion of loss relating to defense costs, settlement or judgment should be allocated to the entity and, therefore, not covered by the policy. There has been a substantial amount of litigation regarding the issue of allocation and, as a result, most D&O carriers now offer entity coverage in some form, or contractually agree to a pre-set allocation. See: C-Side or Entity Coverage. APPLICATION – MAIN FORM: A formal written submission for D&O insurance that asks for all pertinent information about the company applying for insurance, including financial information about the company and any subsidiaries, identification of all directors and officers sought to be covered, current insurance information, and claim history, among other things. The most significant feature of a main form application is that it expressly asks about potential claims or circumstances that could lead to claims and requires that the signatory essentially warrants (often on behalf of all potential insureds) that no such potential claims or circumstances exist. Where potential claims or circumstances are indicated on the main form application, the insurance typically would not cover those potential claims or circumstances. Where it is later determined that at the time the main form application was signed, an insured knew or should have known of the existence of a potential claim or circumstance likely to lead to a claim, the insurer may seek to rescind or revoke the entire policy, as to all insureds. This is in contrast to a Renewal Application, which typically does not ask warranty questions. See: Severability. APPLICATION – RENEWAL: A renewal application is typically shorter than a main form application and does not usually require a warranty that no potential claims or circumstances exist. A-SIDE COVERAGE: D&O insurance coverage for the directors and officers for situations when the company legally or financially cannot (or possibly just does not) indemnify them for the costs of defense, settlements or judgments resulting from claims made against them. The traditional D&O policy includes both A-Side and B-Side coverage (and today, C-Side as well). Note that the Aside of a D&O policy generally has no retention or deductible, because individuals are not expected to bear the retention themselves. Today, many companies purchase dedicated A-Side policies (with no B- and C- side coverage). These forms usually con-

tain fewer exclusions and other limitations, but as a note of caution, the terms of dedicated A-Side policies can vary significantly. Some are triggered only if the company is not legally permitted or financially able to indemnify the Ds and Os. Others are more liberal and apply where the company simply does not indemnify the individual. See: Presumptive Indemnification. B-SIDE COVERAGE: Coverage under a traditional D&O policy to pay the company for amounts it pays, or would be obligated to pay, on behalf of its directors and officers for defense costs, settlement amounts or judgments resulting from claims made against them relating to their service to the firm. Most D&O claims fall under the B-side of the policy, since most companies are legally required and financially able to indemnify their directors and officers. The B-side of the policy usually has a retention which is paid by the company. In the U.S., where there is a long-standing tradition and legal basis for indemnification, companies almost always indemnify their directors and officers, and therefore, B-side coverage is most often utilized. See: Presumptive Indemnification. BUMP-UP CLAIMS: In the context of an acquisition, these are claims by the company-to-be-acquired’s shareholders alleging that the company has been undervalued. These actions seek to have the purchase price raised or “bumped-up.” See Bumpup Exclusion. BUMP-UP EXCLUSION: An exclusion found in many if not most D&O policies, this precludes coverage for settlements or court awards resulting from Bump-up claims or claims broadly based upon, arising from, or in consequence of the actual or proposed payment of allegedly inadequate consideration in connection with its purchase of securities by the company. CAPACITY or INSURED CAPACITY or COVERED CAPACITY: The role or position in which the insured individual was acting when the acts at issue were alleged to have occurred. Under a D&O policy, directors and officers are insured for acts taken in their capacity as directors or officers. If an individual who just happens to be a director or officer of a company is sued unrelated to his or her service to the company, then the individual was not acting in his or her capacity as a director or officer and so would not have the benefit of the D&O policy. Capacity issues can arise when an individual acts in more than one capacity (i.e., a shareholder). CLAIM: The coverage trigger for a D&O insurance policy. This is exceedingly contract-specific. Most D&O policies would cover legal proceedings (including arbitration and mediation) along with written demands where there is an allegation of a wrongful act by a Director or Officer, but the definition of claim usually varies based on who is insured – with broader coverage for Ds and Os than for the entity or company. continued on page 24

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Where a public company is involved, coverage may be triggered only for Securities Claims. Today, much of the focus is on pre-claim investigations, where there is an inquiry but no specific allegation of wrongful acts by an insured. See: Investigative Cost Coverage. CLAIMS-MADE: A claims-made insurance policy is one that covers claims that are first asserted during the policy, generally without regard to when the alleged wrongful acts occurred (unless the policy specifically excludes claims arising from acts that occurred prior to a specific date). The opposite of a claims-made policy is an occurrence policy which responds to covered events that arose during the coverage period (past or present) – regardless of when those claims are reported. As a result, occurrence policies are significantly more expensive and not available for D&O coverage. CLAIMS-MADE AND REPORTED: A claims-made policy that specifically requires that any claim made during the policy period also be reported to the insurance carrier during that same policy period. D&O policies are usually very specific as to when the insured must provide notice to the insurer of a claim and the notice requirements may be identified as a condition precedent to coverage. Most D&O policies are claims-made and reported policies. Many policies require notice as soon as practicable during the policy period or during some identified period (most commonly, 60 days) after the end of the policy, sometimes referred to as a post-policy reporting window. THE CLASS ACTION FAIRNESS ACT (CAFA): A federal law enacted to reduce forum shopping by plaintiffs in class actionfriendly states. Signed into law in 2005, it was intended to reduce perceived abuses of the class action structure by expanding federal courts’ original jurisdiction, relaxing limitations on defendants’ ability to remove actions from state court, hindering federal courts’ authority to remand actions back to state court, and regulating settlements. CLAWBACK: Generally, money or benefits that were distributed and later taken back under special circumstances. Both SOX and the Dodd-Frank create circumstances where compensation may be “clawed back” from executives following financial restatements at their companies. CO-DEFENDANT COVERAGE: Coverage granted to individuals or entities that would otherwise not be covered by the D&O policy, so long as at least one insured under the policy is also named as a defendant in the same Claim. CO-INSURANCE: The percentage of all loss that is the company’s sole responsibility. Sometimes co-insurance applies only to defense costs, or only to settlements and judgments, but usually it applies to all loss under a D&O policy. Today, most 24 June 4, 2012 / INSURANCE ADVOCATE

D&O policies do not contain a co-insurance provision. COMBINATION or COMBINED POLICY: See MULTI-LINE POLICY. CONTINUITY: Continuous coverage without gaps. The issue of continuity most commonly arises when there is a change in insurance carriers as the new insurers may add wrongful acts dates (or other limiting wording) on new policies that precluded coverage for acts that occurred prior to their inception. Alternatively, some carriers require warranties that may have the same or similar limiting effect. See Warranties. CONTROL-MASTER PROGRAM: This refers to a type of D&O program structure where there is both a global master policy and separate locally admitted policies, all tied in to a single global aggregate limit of liability or coverage in the master policy. C-SIDE COVERAGE (OR ENTITY COVERAGE): Coverage under a D&O policy for claims against the company or entity (typically limited to Securities Claims where the company is publicly traded). Historically, D&O policies didn’t provide entity coverage, as the intent of the policy was to protect the directors and officers from the risk of personal liability. However, the company itself was typically named in lawsuits along with the directors and officers, especially in the securities context. Heated debates over allocation then arose over just what portion of defense costs, settlement amounts and/or judgments should properly be credited to the insured directors and officers and what should be credited, or allocated, to the uninsured company. The result is that D&O policies in the U.S. now typically include entity or C-Side coverage or have an express allocation provision. See: Allocation. CONDUCT EXCLUSIONS: This refers to the exclusions found in virtually every D&O policy addressing intentional illegal conduct, fraud and illegal personal profiting by insureds. DARCSTAR: Directors’ All Risk Cover (DARCSTAR™) is an innovative new D&O product introduced by Willis in London for non-U.S. D&O clients. The groundbreaking new D&O policy seeks to eradicate the indemnification uncertainties in D&O insurance (especially prevalent outside the U.S.) and cut through the complexities of traditional D&O cover to advance all directors’ costs in the event of an allocation dispute. In less than half the length of a standard D&O policy, it delivers broad and relevant cover in an easy to understand policy that offers directors and officers significantly enhanced protection. DEDUCTIBLE: In the D&O world, the terms deductible and retention are often used interchangeably. The term refers to the amount of covered loss that the company has to pay before the policy will come into play. [It should be stressed that these terms are NOT interchangeable when used as respects other types of insurance.]

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[ COVER ] A policy’s deductible or retention only applies to covered loss. Accordingly, if there is an allocation because some part of a claim is not covered by the policy, then the allocation must be determined before the deductible or retention is applied. For example, several defendants are sued, some of which are insured under a D&O policy. It costs a total of $5 million to defend and settle the suit and the insurer and insured agree to allocate 50% of the costs of defense and settlement to the insureds. Since the deductible or retention only applies to “covered loss”, the allocation must occur before the deductible or retention is applied. In this case, the allocation results in a potential maximum of $2.5 million being covered by the insurance. However, it takes $1 million in paid loss by the company before the assumed policy deductible or retention of $500,000 is satisfied; the insurer then pays only 50% of the remaining $4 million loss or $2 million. See: Allocation. DEFENSE OUTSIDE THE LIMITS: This refers to a provision where the defense costs provided under a D&O policy would be paid in addition to, or “outside” the aggregate limit of liability. Sadly, for those seeking coverage, such a provision is not available in today’s D&O marketplace. This means that all costs and expenses paid by the insurer in the defense of the claim are “inside” the limits and serve to erode or reduce the limit of coverage provided under the D&O policy. Accordingly, if an insured has a $10 million policy, and spends $2 million on defense costs alone, there is only $8 million left to satisfy a settlement or judgment, or deal with other claims, assuming that the policy’s retention has already been met. DERIVATIVE DEMANDS: A procedural requirement in many states which requires a shareholder who wants to bring a derivative suit to first make a demand on the board of directors that it rectify the perceived wrong. Failure to bring a derivative demand, absent limited exceptions, such as futility, can act as a strict bar to a derivative suit. See: Derivative suits. DERIVATIVE SUITS: A lawsuit, usually by a shareholder of a corporation, brought under state law on behalf of the corporation, to enforce or defend a legal right or claim of the corporation. Made against both individual directors or officers and the company itself, the stated goal of a derivative suit is to put the company back in the position that it would have been in but for the breach of duty by the executives. The corporation is therefore both a defendant and the nominal plaintiff, while the relief which is granted goes to the corporation itself. Typical allegations include the failure to properly manage or supervise the company and/or conflicts of interest. In the world of D&O liability and insurance, these suits have special significance, as settlements and court awards of derivative claims are generally understood to be non-indemnifiable and thus fall within the A-Side of D&O policy. See: Derivative demands. DIFFERENCE IN CONDITIONS (DIC): An insurance provision sometimes found in excess insurance which states that the excess policy will drop down within an insurance program and

in-fill coverage where the excess coverage is broader, paying a claim (or portion of a claim) otherwise uncovered under an underlying policy. See: Primary Insurance and Follow Form. DISCOVERY: An additional extended period of time after the end of the D&O policy during which the insureds can notify the insurer of claims made against them (“discovered”) during the extended period for alleged wrongful acts that took place during or prior to the original policy period. Most D&O policies will have two alternatives: both an embedded post-policy reporting window (usually 30, 60 or 90 days during which to report claims that were made against the insureds during the policy period) and a multi-year option. The multi-year option is generally only available where coverage is not renewed with the carrier. It will have a specific length of time and cost (usually a percentage of the premium originally paid for the expiring policy). Note that the discovery or extended reporting period usually does not have its own, additional limits of coverage but instead, is an extension of the original aggregate limit of liability in place immediately prior to the election of discovery. The right to purchase discovery (or an extended reporting period) can be triggered mid-term in a D&O policy upon a particular occurrence, such as the acquisition of the company by another firm or group of owners acting in concert. DODD-FRANK ACT: The Dodd-Frank Wall Street Reform and Consumer Protection Act became law in 2010 as a response to the global financial crisis and the resulting calls for sweeping overhaul of the U.S. financial system. The emphasis in the mammoth new law is on addressing systemic risk and protecting the economy as a whole. While it deals largely with firms in the financial sector, it also creates new rules for U.S. public companies in the areas of executive compensation (and clawbacks), proxy voting and whistleblowing. DOMESTIC PARTNER EXTENSION: This provision extends coverage to domestic partners of directors and officers (similar to the Spousal Extension) who are sued solely because of their position as a domestic partner. Domestic partners may be sued in jurisdictions where a judgment against a director or officer would not otherwise be fully collectible because his or her domestic partner has a significant ownership interest in the assets of director or officer. See: Spousal Extension. DOUBLE DERIVATIVE CLAIM: A rare derivation on derivative suits this is a lawsuit brought by a shareholder of a parent corporation on behalf of a wholly owned subsidiary for alleged wrongs to a subsidiary. They generally occur where shareholders have lost standing to maintain a standard derivative action due to the acquisition of the corporation in a stock-for-stock merger; the shareholder, in his new capacity as a shareholder of the acquirer, then reasserts the claim double derivatively. See: Derivative Suit.

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DUTY TO DEFEND: A contract right and obligation of an insurer to appoint counsel, develop and implement defense strategy, and generally take care of a claim against an insured. Typically, private and not-for-profit D&O policies generally are duty-todefend contracts, while those for publicly-traded companies do not have duty to defend provisions. The fact that public company D&O policies are not duty-todefend policies means that it is the insured’s responsibility to retain defense counsel and make defense decisions. Even without a defense obligation, however, the insurer usually has a contract right to participate in the defense of a claim covered by the D&O policy. Different insurers want to participate to different degrees but usually this includes approval over the selection of counsel, the reasonableness of defense expenses and settlement approval. See: Effective Association. EEOC: The U.S. Equal Employment Opportunity Commission (EEOC) enforces federal laws that make it illegal to discriminate against a job applicant or an employee based on a protected category (such as race, color, religion, sex [including pregnancy], national origin, age, disability or genetic information) along with illegal employment retaliation against a person who complained about discrimination, filed a charge of discrimination, or participated in an employment discrimination investigation or lawsuit. The Commission investigates charges of discrimination against employers covered by federal law. Where they determine that discrimination has occurred, they will try to settle the charge. If this isn't successful, they have the authority to file a lawsuit to protect the rights of individuals and the interests of the public; in the alternative, they may issue a "right to sue" letter to potential plaintiffs allowing the individuals to bring their own legal actions. Most employers with at least 15 employees are covered by EEOC laws (20 employees in age discrimination cases). EFFECTIVE ASSOCIATION: This term is used by insurers to stress the amount of participation they desire in the claim handling process. Some insurers want to have a say in motion practice, trial strategy and settlement negotiations. Effective association usually means more than keeping the insurer informed of the progress of the claim, but less than having an actual duty to defend. This term has not been examined in any detail by a court to date. Some carriers have established claim handling guidelines (usually not referenced in the actual D&O policy) that can provide additional insight into a carrier’s expectations. EMPLOYMENT PRACTICES CLAIM: Usually, this means a claim by an employee against his or her employer (or prospective or former employer) and perhaps against other individuals employed by the employer relating to the terms of employment. Separate policies are sold that specifically address these types of claims and each such policy has its own definition. Some D&O policies include specific provisions clarifying that the D&O policy includes elements of employment practices coverage. Employment practices claims are usually defined to 26 June 4, 2012 / INSURANCE ADVOCATE

include, at a minimum, wrongful termination, failure to promote, breach of employment contract, discrimination and harassment. ENDORSEMENT: A separately negotiated clause (sometimes referred to as a rider) in the insurance contract that is not part of the main form or boilerplate of the policy. Endorsements are added to modify or amend the basic or boilerplate policy. Many insurers have standard required endorsements that must go on every account and are not considered negotiable. Most states also require certain amendatory provisions to the basic form and these are found in state amendatory endorsements, usually dealing with cancellation, non-renewal and discovery. ENTITY COVERAGE: See C-Side Coverage. ENTITY VERSUS INSURED EXCLUSION: A recent (favorable) variation on the Insured vs. Insured exclusion found in a D&O policy. It precludes coverage for claims brought by the company or insured organization against other insureds. So the company itself can’t sue its Ds or Os and gain coverage for their defense or settlement under the D&O policy. See: Insured vs. Insured exclusion. ERISA: The Employee Retirement Income Security Act of 1974 (ERISA) is the U.S. statute which regulates privately sponsored pension and welfare benefits provided for employees and their beneficiaries. The Act: • Broadly defines the term “fiduciary” and creates a high level of personal liability for ERISA fiduciaries: the prudent-expert rule • Instructs ERISA fiduciaries that their primary duty is to the plan and plan beneficiaries • Acknowledges the fact that many fiduciaries may wear two hats as employees of the organization and fiduciaries of the employer’s plan • Limits an organization's ability to exculpate or hold harmless such fiduciaries • Mandates the purchase of an ERISA surety bond which protects plan assets against theft • Permits the purchase of ERISA Fiduciary Liability insurance EXCESS INSURANCE: Companies who want a substantial amount of D&O coverage may not be able to buy or may prefer not to purchase it all from a single insurer. In that case, companies will buy insurance from more than one insurer and each insurer will have a different attachment point, at which time their insurance may be implicated by a claim. The first insurer that would be called upon by the insured is referred to as the primary insurer. Excess policies are specifically identified as such and generally triggered only after the primary insurer and all intervening insurers have paid, have committed to pay, or are otherwise obligated to pay, their full limits. Excess policies may follow form (duplicate the wording) of the primary policy or provide broader coverage. See: Difference in Conditions.

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[ COVER ] EXHAUSTION OF LIMITS (AKA SHAVING OF LIMITS) PROVISION: This refers to a policy provision relevant to excess layers of coverage. A number of U.S. courts have held that a plain reading of some excess D&O insurance policies requires the actual payments of full policy limits by all underlying carriers before additional excess insurance is triggered. The outcome of such decisions, if unaddressed, would be the potential loss of excess coverage if someone other than an underlying carrier paid all or part of a claim. In response, exhaustion of underlying limits provisions were negotiated to address the situation where someone else – the company itself, a third party, excess insurance under a difference in conditions provision – pays part or all of a claim. Note that the provision does NOT provide that the excess carrier itself will drop down, but rather that it will recognize the erosion of the underlying limits by payment by someone other than an underlying insurer. EXTENDED REPORTING PERIOD: See Discovery. EXTRADITION COSTS COVERAGE: A coverage clarification for the (reasonable and necessary) costs associated with responding to extradition demands which may be made against a director or officer in relation to a D&O claim. This is usually found in either the definition of loss in a D&O policy or within the definition of the claim. FINRA: The Financial Industry Regulatory Authority (FINRA) is the independent regulator for all securities firms doing business in the U.S. Its chief role is to protect investors by maintaining the fairness of the U.S. capital markets. It touches every aspect of the securities business: from registering and educating industry participants to examining securities firms, writing rules, enforcing those rules and the federal securities laws, informing and educating the investing public, providing trade reporting and other industry utilities,, and administering the largest dispute resolution forum for investors and registered firms. It also performs market regulation under contract for the major U.S. stock markets, including the New York Stock Exchange, NYSE Arca, NYSE Amex, The NASDAQ Stock Market and the International Securities Exchange. FOLLOW FORM: This term is usually used in an excess policy and means that the excess insurance incorporates by reference all of the provisions of the primary policy, except as may be specifically changed in the excess policy itself. The variation of this is a difference-in-conditions policy or provision where the excess coverage is intended to be broader than the underlying or primary insurance. See: Difference in Conditions. FOREIGN CORRUPT PRACTICES ACT (FCPA): The U.S. Foreign Corrupt Practices Act makes it unlawful for persons and entities to make payments to foreign government officials to assist in obtaining or retaining business. Since 1977, these antibribery provisions have applied to all U.S. persons and certain foreign issuers of securities. After amendment in 1998, the antibribery provisions of the FCPA now also apply to foreign firms and persons who cause, directly or through agents, an act in

furtherance of such a corrupt payment to take place within the territory of the U.S. The FCPA requires companies whose securities are listed in the U.S. to meet its accounting provisions which are designed to operate with its anti-bribery provisions. These provisions require relevant corporations to (1) make and keep books and records that accurately and fairly reflect the transactions of the corporation and (2) devise and maintain an adequate system of internal accounting controls. Violations of the FCPA can result in fines, penalties, and for the individuals involved, possible jail time. Today, most major nations around the globe have local provisions similar to the FCPA. See: UK Bribery Act. FRAUD-ON-THE-MARKET: In D&O securities fraud cases, a legal theory under which the plaintiffs are presumed to have relied (versus needing to prove reliance) upon the defendant's material misrepresentation regarding a security traded in the open market where the (mis)representations affected the price of the security. FREEDOM OF SERVICES (FOS): Under this convention, an insurance policy issued in any one European Union member country is deemed to be legal, binding and enforceable in any other EU country. This is directly relevant for EU countries when considering rules on non-admitted coverage, as such rules might otherwise impede the free movement of insurance services. Within the European Union, Article 56 of The Treaty on the functioning of the European Union provides that any restrictions on "freedom to provide services" within the Union are prohibited. Article 57 specifies that the provisions on the free movement of services cover all industrial and commercial activities – which would include insurance. This is further expanded to include Iceland, Liechtenstein and Norway under the European Economic Area (EEA) Agreement which guarantees the freedom to provide services on a non-discriminatory basis anywhere within these countries and the EU. HAMMER CLAUSE: Although the term of art is not actually used in a D&O policy, it refers to a provision typically found in the defense section of a D&O policy which relates to the carrier’s right to consent to a settlement. Most D&O policies give the insured the right to consent, and therefore, to withhold consent, to covered settlements. It applies in situations where the carriers and the claimants want to settle a claim, but the insureds refuse. It provides that in the event that the insureds’ refusal to settle a claim results in additional costs (i.e., the case settles for more, or results in a higher judgment) then the insurer is not liable for those additional amounts. For the hammer clause generally states that the insurer’s liability for any subsequent settlement is limited to the amount for which the case could have been settled, plus defense costs incurred to date. Some carriers may be willing to delete the hammer clause on some policies or to modify it to continued on page 28

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provide some proportional additional coverage. INDEMNIFIABLE: This refers to a company’s ability to hold its directors and officers harmless for claims against them in their corporate capacity. The ability to indemnify a D or O arises under the local law which permitted the creation of the organization; in the U.S. this usually means the relevant state law under which the entity was organized. Such rules typically provide for mandatory as well as permissive (more expansive) indemnification. There are also legal exceptions or limitations to indemnification. See: Non-Indemnifiable. Delaware Code, Title 8. Corporations, Chapter 1. General Corporation Law, Subchapter IV. Directors and Officers Indemnification of officers, directors, employees and agents. § 145 (a) A corporation shall have power to indemnify any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (other than an action by or in the right of the corporation) by reason of the fact that the person is or was a director, officer, employee or agent of the corporation, or is or was serving at the request of the corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise, against expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by the person in connection with such action, suit or proceeding if the person acted in good faith and in a manner the person reasonably believed to be in or not opposed to the best interests of the corporation, and, with respect to any criminal action or proceeding, had no reasonable cause to believe the person's conduct was unlawful. The termination of any action, suit or proceeding by judgment, order, settlement, conviction, or upon a plea of nolo contendere or its equivalent, shall not, of itself, create a presumption that the person did not act in good faith and in a manner which the person reasonably believed to be in or not opposed to the best interests of the corporation, and, with respect to any criminal action or proceeding, had reasonable cause to believe that the person's conduct was unlawful. INDEPENDENT DIRECTOR LIABILITY (IDL) COVERAGE: A newer form of A-Side coverage which responds to claims solely against the independent or non-executive directors (that is, without coverage for inside directors or any officers). Typically, this is the last layer of coverage after the depletion of all other insurance in the tower. INSURANCE PREMIUM TAXES (IPTS): Insurance is a service and many jurisdictions impose a tax on insurance premiums (or that portion of a premium allocable to that jurisdiction). 28 June 4, 2012 / INSURANCE ADVOCATE

INVERTED WARRANTY: Rather than the insureds signing a warranty when coverage is first purchased, or where additional, new limits of coverage are being added, a policy provision is added which precludes coverage for any claims arising out of or attributable to matters that the insureds knew about at the time of coverage, that could (reasonably) lead to a D&O claim being made against them. See: Warranty. INVESTIGATIVE COST COVERAGE: Sometimes referred to as Inquiry Coverage, this refers to what are typically considered to be pre-claim costs relating to informal investigations where documents or interviews are sought from a company’s executives, but where there is no actually alleged wrongful act by or involving such individual. INSURED VERSUS INSURED EXCLUSION: This exclusion was found in virtually all U.S. D&O policies and precludes coverage for claims by any insured under the policy against any other insured. The exclusion (also referred to as the “one v. one exclusion” and the “1v1 exclusion”) was intended to preclude collusive suits between insureds (i.e., you sue me, our insurance will pay, and we will recover under the policy); however, it is not limited to only collusive suits. Any claim by an insured against another insured is precluded from coverage unless it falls within one or more of the many caveats to this exclusion. See: Entity versus Insured Exclusion INTERRELATED WRONGFUL ACTS: Most D&O policies include a provision or definition of what is “interrelated” in order to treat the potential host of claims that might arise out of a single event or series of events – as a single D&O claim. This means that if more than one claim is made which alleges the same or similar acts, then even if the claims are not consolidated by their respective courts, they will be treated by the insurer as if they were consolidated into a single claim. The good news is that a single retention applies to the interrelated claims, but the bad news is that so does a single aggregate limit of liability. INITIAL PUBLIC OFFERING (IPO): Refers to the first time a private firm sells stock to the investing public. In the U.S., this would be under the requirements of the ’33 Act. See: Secondary Offerings. MULTI-LINE POLICY: This type of policy provides more than one kind of insurance coverage. For example, D&O insurance may be sold as a package with Fiduciary Liability Insurance, Employment Practices Liability Insurance, and/or Commercial Crime or Fidelity coverage. This is how D&O coverage is typically purchased at private firms and not-for-profit organizations. There may be a shared aggregate limit of liability or separate limits of coverage for the differing types of coverage. MULTI-YEAR POLICY: Most D&O policies are for a one-year period, which commits both insurer and insured to that time

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[ COVER ] frame. Other than multi-year discovery policies, most carriers are highly reluctant to write D&O insurance for longer periods. NON-ADMITTED COVERAGE: Insurance issued by an insurer not licensed in that location (state, country, etc.). Insurance is regulated locally, as a general rule. Local country insurance regulators may require locally issued admitted policies to be used where there is property or persons in the local country that would be covered by the insurance. Otherwise, non-admitted coverage may be unenforceable, or in the worst cases, illegal, in jurisdictions which mandate admitted insurance. See: Admitted insurance. NON-INDEMNIFIABLE: While a company may desire to protect and hold its Ds and Os harmless by indemnifying them for all claims against them, there may be relevant legal exceptions as well as possible financial constraints to doing so. Just as the ability to indemnify a D or O arises under the local law which permitted the creation of the organization [in the U.S. this usually means state law], this is also where we will find legal restrictions placed on this power. When considering the Delaware Corporations Code, for example, we see that the power to indemnify an individual exists if “…the person acted in good faith and in a manner the person reasonably believed to be in or not opposed to the best interests of the corporation, and, with respect to any criminal action or proceeding, had no reasonable cause to believe the person's conduct was unlawful.” [Delaware Code, Title 8. Corporations, Chapter 1. General Corporation Law, Subchapter IV. Directors and Officers, § 145 (a) Indemnification of officers, directors, employees and agents.] See: Indemnifiable. NOTICE OF FACTS OR CIRCUMSTANCES: While reporting actual claims to a D&O carrier is mandatory, most D&O policies also allow for the discretionary reporting of facts or circumstances that, while not claims, are reasonably believed to potentially result in claims. The positive reason for providing a carrier with notice of facts and circumstances is that if these facts and circumstances do later result in a claim, that claim will be covered by the earlier policy under which the notice of facts and circumstances was given. However, such notice will require some elements of specificity. A simple notice to the carrier that the insured is at risk that someone will sue them for something, is insufficient to meet the requirements of this provision. The downside is that if a notice of circumstances is provided and it lacks specific details, there may be both a disagreement as to whether the notice was sufficient to trigger coverage under the earlier policy and a prior claim exclusion on a later policy which may preclude coverage under the subsequent/current policy. OUTSIDE DIRECTORSHIP LIABILITY (ODL) COVERAGE: This is an extension of coverage to include claims against a director or officer for acts taken in the officer’s or director’s

capacity as a director of another company, as long as the officer or director is acting in that “outside” director capacity at the request of his or her employer. OTHER INSURANCE CLAUSE: All D&O policies contain Other Insurance Clauses which are intended to indicate that if other insurance applies to a claim, then the other insurance applies first. This clause is widely quoted in coverage coordination disputes. While different insurers use different language in this section, all generally indicate that their insurance is excess over any other insurance that might be applicable to the claim. Courts have interpreted Other Insurance Clauses, finding that most are equivalent and therefore, all other coverage issues being equal, the policies will attach on a proportionate basis. Courts vary as to whether this proportionate basis will be determined based on differing limits of liability, or some kind of analysis of which policy the court believes to be the most applicable. Companies may ask their own directors or officers to act as directors on unrelated outside company boards because of a particular business deal in the works, to protect a security interest, to enhance a business relationship, or for any number of other reasons. OUTSIDE DIRECTORSHIP LIABILITY, or ODL coverage is usually on a “double excess” basis which means that the insurance will apply as excess over the outside company’s indemnification obligations and then excess over the outside company’s insurance. If coverage is on a “triple excess” basis, then in addition to exhausting the insurance and indemnity at the other organization, coverage only applies excess of indemnification from this firm. ORDER OF PAYMENTS PROVISION: See Priority of Payments Provision. PANEL COUNSEL: A number of major D&O carriers have a pre-approved list of defense firms to respond to D&O claims, often referred to as the “panel counsel” list. [Even if a D&O policy is not a duty-to-defend contract, the carrier usually reserves the right to approve defense costs and often the firm(s) selected to defend the D&O claim.] PINK SHEETS: This is a daily publication compiled by the National Quotation Bureau with bid and ask prices of overthe-counter (OTC) stocks. Pink sheets also refers to OTC trading generally. Unlike companies which trade on a stock exchange, companies quoted on pink sheets don’t need to meet minimum requirements or file with the SEC. OTC Pink companies choose the level of information they provide to investors and may have limited or no public disclosure. [Pink sheets got their name because they were actually printed on pink paper. Companies traded on the pink sheets will have a stock symbol ending in PK.]

continued on page 30

INSURANCE ADVOCATE / June 4, 2012 29

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[ COVER ] continued from page 29

PREDETERMINED ALLOCATION (PDA): Where A- and BSide D&O coverage is purchased, without entity or C-Side coverage, a way of addressing the uncertainty as to how shared costs will be handled by the policy when both the insured executives and the uninsured company are tagged with a claim. This is done by presetting the percentage of the joint expenses that will be attributed or allocated to the insured persons versus the uninsured entity. There may be different percentages for defense costs versus settlements and court awards. This percentage allocated to the insured persons could be as high as 100%. See: Allocation. PRIMARY INSURANCE: The first layer of insurance coverage which will respond to a claim. It sets out the basic terms and conditions which may then be followed by the additional excess insurance, if the excess is written as follow form. PRIORITY OF PAYMENTS (AKA ORDER OF PAYMENTS) PROVISION: A provision often found in or added to D&O insurance policies addressing the order in which the policy’s proceeds will be applied if the amount of insurance is exceeded by the size of the claim payment to be made. Generally it provides that claims are paid for persons before parties (entities) and nonindemnifiable claims prior to indemnifiable claims. In D&O jargon, this is “A before B before C” when referring to the traditional insuring agreements. This can aid in understanding the intent of the parties as to how the policy’s proceeds shall be administered. Also see: A-Side, B-Side and C-Side coverages. PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995: The Reform Act was designed to reduce the number of frivolous federal securities suits in the U.S. It provides that investors cannot proceed with a case unless they already have facts that strongly suggest a deliberate wrongful act. Previously, some cases could proceed with minimal evidence and use pre-trial discovery to search for more, depending on the jurisdiction. Now, plaintiffs need such evidence just to begin, which may be difficult to obtain. The Act imposes new rules on securities class action lawsuits. It allows judges to decide the most adequate plaintiff in class actions and mandates full disclosure to investors of proposed settlements, including the amount of attorneys' fees. It bars bonus payments to favored plaintiffs and permits judges to scrutinize lawyer conflicts of interest. Some of the main provisions in this Act include: • A safe harbor for forward-looking statements • Limitations on joint and several liability • Increased pleading and proof requirements • Class action procedural reforms PRESUMPTIVE INDEMNIFICATION: The insurer presumes that the company will indemnify its directors and officers to the fullest extent allowed by law. The D&O insurer not only hopes that the company will take care of its directors and officers in the event of a claim but typically states in a D&O policy that it will presume that the company has done so when interpreting the terms of the D&O contract. 30 June 4, 2012 / INSURANCE ADVOCATE

Indemnification is central to determining whether the A-Side or the B-Side of a traditional D&O policy has been triggered, which determines whether there is an applicable deductible or retention to be paid (the B-Side having a retention which can range from the low 5 figures into the tens of millions of dollars). Under a standalone A-Side policy, this analysis may be critical to determining if there is any coverage at all for a claim. PRIMARY INSURANCE: Insurance designated as primary is the first insurance to be applied in connection with a claim, versus excess coverage. PROXY: A written authorization by a shareholder for another person to represent him/her at a shareholders' meeting and exercise voting rights. REINSURANCE: A mechanism used by insurers to pass on some of the risk that the insurer is assuming or underwriting – it is essentially insurance for the insurer. Reinsurance is not available directly to the insured to pay claims. RESCISSION: As in securities parlance, this means undoing a transaction so that each side to the transaction is back to where they started before the transaction took place. In the D&O insurance context, an insurer who attempts to rescind wants to negate the policy, as if it never existed, by giving the insured its premium back. Rescission is an extreme remedy that is not often asserted. Proving a basis for rescission differs from state to state but generally requires that the insurer be able to show that the insured made material misrepresentations regarding the risk being insured and that, but for the misrepresentations, the insurer would not have issued the policy. RETENTION: See: Deductible. RETROACTIVE DATE: D&O policies with retroactive dates, or retro dates, provide coverage for wrongful acts that allegedly occurred any time after this date (precluding coverage for wrongful acts that occurred prior to that date). Some insurers identify the retro date as the inception date of the first D&O policy issued to the organization and continuously renewed. ROAD SHOW: A tour taken by a company preparing for a security offering in order to attract interest in the deal. Attended by institutional investors, analysts and money managers by invitation only. RUN-OFF: A D&O policy automatically converts into a “runoff ” policy when there has been a change in control of the company, or the company ceases to exist. Most D&O policies contain a Change in Control provision stating that once a change in control has occurred, then coverage will continue only for claims arising from wrongful acts that allegedly occurred prior to the date of the change in control. In the context of a corporate transaction, the Merger or Sales Agreement will typically include a provision requiring the continuation of discovery coverage for a multi-year period for the target com-

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[ COVER ] pany. Coverage is usually requested for six years to protect (and collateralize any indemnification) for the Ds and Os for acts taken prior to the transaction. See: Discovery.

SARBANES-OXLEY ACT (SOX): U.S. legislation enacted in 2002 in response to the corporate governance and financial scandals of the day. Its goal was to heighten corporate responsibility and transparency.

SECURITIES LITIGATION UNIFORM STANDARDS ACT (SLUSA): A federal law, SLUSA amends the ’33 Act and ’34 Act to preempt state-based securities class actions alleging fraud under state law ”in connection with the purchase or sale” of securities. After the Private Securities Litigation Reform Act was passed in 1995, many plaintiffs sought to escape its new restrictions by avoiding federal court altogether. For a short period, state law-based securities class actions became common. Congress subsequently enacted SLUSA in 1998 to stem the shift from federal to state courts and to prevent state private securities class action lawsuits from being used to frustrate the objectives of the Reform Act. See: the Private Securities Reform Act.

SECONDARY OFFERINGS: The issuance of new stock for sale to the public from a company that has already made an initial public offering (IPO). Usually made by companies wishing to refinance or raise capital for growth. The additional shares may be primary shares (shares actually being sold by the company itself) or may come from large existing holders of the stock. See: ’34 Act.

SEVERABILITY: In the D&O context, severability means that the wrongful acts or misstatements of one insured will not void the contract or otherwise adversely impact coverage thereunder for other insureds. Severability typically comes up in two ways: Severability of the exclusions and Severability as to the application.

SECTION 11: A provision in the ’34 Act (dealing with securities offerings, including IPOs) which assigns accountability where a registration statement contained an untrue statement of a material fact or omitted to state a material fact necessary to avoid misleading the investing public. Those potentially liable include: (1) every person who signed the registration statement, (2) every person who was a director of (or person performing similar functions) the issuer at the time of the filing of the registration statement, (3) every person who consented to being named in the registration statement as being or about to become a director, (4) accountants who prepared or certified the registration statement and (5) every securities underwriter with respect to the security.

SEVERABILITY OF THE EXCLUSIONS: Such a provision states that if the conduct of one insured implicates an exclusion (for example, the illegal personal profiting exclusion) then while coverage will be denied to that individual insured, coverage for the other insureds will not be negatively impacted. Most D&O policies automatically include a statement about severability either at the beginning or end of the exclusions section, or directly underneath the exclusions relating to wrongful conduct.

S-1: Document filed with the Securities and Exchange Commission announcing a company's intent to go public. Includes the prospectus; also called the registration statement.

SECTION 12: A provision in the ’34 Act (dealing with securities offerings including IPOs) which holds liable anyone who sells or offers to sell a security by means of a prospectus or oral communication, which includes an untrue statement of a material fact or omits to state a material unknown fact to the person purchasing such security. The purchaser may sue to recover the purchase price for such security with interest, less any related income received, upon tendering the security, or for damages if he no longer owns the security. SECTION 15: A provision in the ’34 Act (dealing with securities offerings including IPOs) which holds everyone liable who controls any person liable under section 11 or 12, jointly and severally with and to the same extent, unless the controlling person had no knowledge of or reasonable ground to believe in the existence of the facts giving rise to the liability. See: Section 11 and Section 12. SECURITIES CLAIM: Securities claims are the most severe of all D&O claims and also have a high frequency level. Most D&O policies today define securities claim, usually in the context of providing the entity some coverage if a claim occurs. Definitions vary with the broadest being any claim brought by or on behalf of a security holder.

SEVERABILITY AS TO THE APPLICATION: This provides that if the signer of the application and/or any warranties made a material misstatement or misrepresentation which induced the carrier to issue the D&O policy, that individual’s misstatement or misrepresentation will not void the coverage for all other insureds. Some D&O policies automatically provide severability of the application. Other insurers are typically willing to consider providing severability. See: Warranty. SPIN DOCTOR COVERAGE: A possible sublimit of coverage in a D&O policy for the services of a media relations expert in relation to specified events that might lead to or have resulted in a D&O claim. Usually not subject to the policy’s deductible. SPOUSAL EXTENSION: Extends coverage to spouses of directors and officers who are sued solely because of their position as a spouse. Spouses run the risk of being sued primarily in community property states where a judgment against a married director or officer would not be fully collectible because his or her spouse has a significant ownership interest in the assets of a director or officer. Spousal extensions expressly do not provide coverage for claims against a spouse alleging wrongful act by the spouse. TAIL COVERAGE: See: Discovery and Run-off.

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INSURANCE ADVOCATE / June 4, 2012 31

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[ COVER ] continued from page 31

TERRITORY: The geographic scope of coverage. However, even where a D&O policy has a worldwide Territory clause, this does not mean that the carrier will necessarily pay claims locally. If non-admitted coverage is not permitted in that jurisdiction, the carrier may instead pay where the D&O insurance contract was (legally) made rather than where the claim was brought. U.K. BRIBERY ACT: The new U.K. law focuses on bribery, historically illegal under prior legislation and common law in the U.K., but for which there had been only limited enforcement activity. Companies subject to the Bribery Act include companies with operations or a presence in the U.K. The Act is similar to but not the same as the U.S. anti-bribery provisions; in some respects, surpassing the FCPA. See: Foreign Corrupt Practices Act. VENTILATED LIMITS: An insurance program with multiple layers of coverage, where the same carrier(s) provide more than one layer separated by intervening coverage supplied by other carriers (example: the same carrier is on both the first and fifth layers of a D&O program, while the third carrier also provides the eight and twelfth layers). WARRANTY: Typically seen when D&O coverage is first purchased, or where additional, new limits of coverage are being added, the warranty from the insureds would be relied upon by the insurers and attests to the lack of knowledge by the insureds as to anything that could (reasonably) lead to a D&O claim being made against them. Anything that they are aware of would be excluded from the new coverage. This statement can be made by one or more persons and might be made on behalf of (and binding on) all parties to be covered by the insurance. See: Inverted Warranty

“WELLS NOTICE”: A preliminary decision by SEC staff recommending civil action. At times, the Commission has moved to formal legal action very quickly after issuing such a notice. WHISTLEBLOWER: A person (usually an insider at an organization, but potentially a client, customer, business partner or other) who raises a concern about wrongdoing occurring at the organization. Whistleblowers may make their allegations externally (to regulators, law enforcement agencies, to the media or to groups concerned with the issues) or internally (to other people within the accused organization). Until recently, if such activities were legally protected, this was done largely under state law. With SOX and Dodd-Frank, both federal laws, this has changed for employees of public companies. Edition: 11.11 Copyright©2012 For past issues of our publications on other topics of interest, please visit the Executive Risks website. This document and our Executive Risks Alerts and Newsletters provide a general overview and discussion on a wide range of topics. They are not intended, and should not be used, as a substitute for legal advice in any specific situation, nor guidance on any particular insurance policy or program. Available online via download at: http://blog.willis.com/downloads/d-o-dictionary/ or visit http://www.willis.com/Client_Solutions/Services/ Directors_and_Officers/

Thanks Willis for permission to reprint this copyrighted material. 32 June 4, 2012 / INSURANCE ADVOCATE

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[ ON TH E LEVEL ]

By N. Stephen Ruchman

Mensches

ately, I’ve noticed a trend in advertising by direct writers. They’re focusing on the advantages of buying insurance from a local agent. Even that dreadful lizard has opened up local offices (albeit few and far between) so it can

description as someone who is a mensch. For my readers who are unfamiliar with the term, it means someone of integrity and noble character—a stand-up guy ... Exactly the kind of person with whom you would trust your loved ones and cherished

Study after study has been released proving that insurance buyers believe local agents provide better support and services; that they can explain coverages more clearly and that local agents can identify potential losses and provide more comprehensive coverages.

N. Stephen Ruchman

attract customers who seek local experts and compete with independent insurance agents. I’ve always said a professional independent agent’s strongest assets are his or her local presence, knowledge and familiarity with our neighbors and friends. It is our best point of differentiation and truly is the best reason for an insured to work with an independent agent rather than an 800-number carrier. Study after study has been released proving that insurance buyers believe local agents provide better support and services; that they can explain coverages more clearly and that local agents can identify potential losses and provide more comprehensive coverages. A recent study released by Deloitte went even further, noting that 75 percent of insurance consumers also believe local agents will be their advocates in getting claims paid quickly and fairly; that they would receive more objective advice from local agents; and that local agents better represent their interests and take care of all their insurance needs beyond either auto or homeowners’ coverage. And, of course they said it’s more convenient to buy coverage through an agent. There’s an inherent trait that causes this. My Jewish friends will recognize the 34 June 4, 2012 / INSURANCE ADVOCATE

valuables. Great insurance people are mensches. A few mensches in our industry come to mind, and I’m pleased to say some of them have been deservedly recognized recently. The first is President of CRC Services, Marc Rothschild. I have the honor of working with Justin Fries and of chairing the UJA-Federation of New York’s Long Island Insurance Division 2012 Annual Dinner in June. At that dinner, the federation will honor Marc. The funds raised at this event will go toward the good work that UJA does for people in the metropolitan area and around the world. Marc also raises money for the Mental Health Association of Nassau County through golf outings and other activities. Marc’s selfless and generous work to serve this oftenneglected population allows MHANC to educate the community-at-large and assist people get to the services they need. Peter Resnick, executive vice president of Interboro, is another mensche. Peter and I have served on both the UJA-Federation board and on the board of PIANY for years. The Federation honored Peter for his work in 2004 and this year at the PIANJ/PIANY Joint Annual Conference in Atlantic City, PIANY will honor him

again for his work with many charitable organizations. One of these is Ally Oop for Autism, which was founded by Peter’s son Justin. He and his family run the boys and girls 3-on-3 basketball tournament, which has raised about $600,000 over the past six years to help children and families battling autism. Peter’s another one of those guys who is active all over the industry. He’s been on the board of PIANY, and its Young Insurance Professionals affiliate. He’s a member of the New York Insurance Exchange Markets subcommittee; a member of the Downstate Insurance Association; an active past president of the Council of Insurance Brokers of Greater New York; and he is immediate past chair of the Insurance Committee for the United Jewish Appeal. Another quintessential volunteer is David Isenberg. A veteran of the insurance industry for nearly 50 years, David recently retired as president of D.C. White Agency, a division of the Lancer Insurance Group. He served as president of PIANY in 2002-03 and served on virtually every committee at the association and as secretary of PIA Management Services, the umbrella corporation that manages the Glenmont, N.Y.-based Professional Insurance Agents associations of New York State, New Jersey, Connecticut and New Hampshire. Finally, it seems like David is receiving recognition for the work he has done for so many people in the industry. He was honored by PIANY at both MetroRAP in January and at Long Island RAP in April for distinguished service for his contributions and support to the regional insurance community. Earlier this month, ELANY recognized him at its Annual Members Meeting at Battery Gardens Inside Battery Park in Manhattan. What a fantastic venue. And, just as David always does, rather than focus on himself, he has redirected all the attention he’s recently received to raise awareness of the challenges that children with learning disabilities face, sharing his own story in such a sincere, heartfelt way, that I’ve seen audiences cry. There’s a chicken-and-egg element of

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[ COURTSI DE ]

By Lawrence N. Rogak

Surety Claims are "Insurance" for Purposes of Priority When Insurer Is In Rehabilitation

ore than a decade ago, on October 10, 2001, Supreme Court, New York County (Lehner, J.) granted the application of the Superintendent of Financial Services ("the Superintendent") to be appointed as rehabilitator ("Rehabilitator") of Frontier Insurance Company ("Frontier") pursuant to Article 74 of the Insurance Law ("Article 74"). In a Decision & Order dated July 9, 2010, this Court determined that it was necessary to: "(1) examine the progress that the Rehabilitator has made in removing the causes and conditions' that have made this rehabilitation proceeding necessary (see Insurance Law ยง 7403 [a]); (2) require the Rehabilitator to develop and submit to the Court for its approval a plan of rehabilitation for restoring Frontier to solvency, including an assessment of how long continued rehabilitation efforts are expected to take; and (3) give Interested Parties an opportunity to be heard regarding the efficacy of the Rehabilitator's past efforts and to comment on his future plans." The Decision & Order explained that these measures would assist the Court in "discharging its responsibility to oversee this statutory receivership, ensure openness and transparency, allow Interested Parties a meaningful opportunity to be heard, promote public confidence in the rehabilitation process, and allow for development of a factual record that may be useful in guiding this proceeding in the future." By Order to Show Cause dated January 13, 2012, the Rehabilitator proposed a plan of continued rehabilitation for Frontier ("Plan of Rehabilitation" or "the Plan"). The Plan proposes an ongoing run-off of Frontier's liabilities, with additional protection for "Claims under Policies", as such term is defined in the Plan. The Plan does not establish a detailed timetable for restoring Frontier to solvency, but includes annual milestones over the next five years for reducing the amount of the insolvency. The 36 June 4, 2012 / INSURANCE ADVOCATE

The Plan does not establish a detailed timetable for restoring Frontier to solvency, but includes annual milestones over the next five years for reducing the amount of the insolvency.

Rehabilitator contends that these efforts are warranted to ascertain whether Frontier's liabilities for "Claims under Policies" and then its other liabilities can be satisfied. The Rehabilitator further submits that continued rehabilitation efforts are preferable to immediate liquidation for at least three reasons: (1) the existence of an experienced staff at Frontier with significant institutional knowledge; (2) the ability in rehabilitation to effectively and efficiently coordinate the payment of liabilities and the collection of reinsurance proceeds; and (3) the delays in payment of claims attendant to the liquidation process. Of particular significance to this application is the Plan's definition of "Claims under Policies". The Plan defines this term as "claims under policies of insurance . . . for losses incurred, third party claims, claims for unearned premiums, and all claims of a security fund, guaranty association or the equivalent except claims arising under reinsurance contracts" (Plan 1.2 [c]). This definition was intended to exclude claims under surety bonds, fidelity bonds, contract bonds, performance bonds,

indemnity bonds and similar instruments. In addition to writing various lines of property and casualty insurance, Frontier had a significant book of surety business when it entered rehabilitation. The Plan estimates Frontier's liabilities for "Claims under Policies" at $93.2 million as of September 30, 2011. The Rehabilitator proposes to continue to pay these claims in full, but recognizes that "Frontier's $69.9 million in admitted assets and the earnings thereon, when matched with administrative expenses . . . , may not prove sufficient . . ." However, the Rehabilitator contends that it is premature at this time to reach a final conclusion as to whether all "Claims under Policies" can be paid in full. The Plan further estimates Frontier's liabilities for surety claims at $24.5 million. This estimate, a substantial discount from a book value in excess of $100 million, reflects the Rehabilitator's belief that he can achieve highly discounted settlements of surety claims. This expectation, in turn, derives from the Rehabilitator's position that claims under surety contracts are entitled to lesser priority in liquidation than claims under Frontier's other insurance contracts. Accordingly, while the Rehabilitator proposes to attempt to negotiate the resolution of surety claims and other liabilities that are not "Claims under Policies", he does not intend to pay such claims without prior Court approval, and the Plan does not contemplate that these claims can be paid at their full book value. In response to the Order to Show Cause, the Court received objections and/or comments from interested parties ("Interested Parties"). The issues raised by these submissions fall largely into five general groupings. First, several Interested Parties question whether a plan for the long-term run-off of Frontier's liabilities continued on page 38

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and marshaling of assets represents a "rehabilitation" of Frontier within the meaning of Article 74. Second, a number of Interested Parties assert that the Plan does not comply with Neblett v Carpenter (305 US 297 [1938]), which requires a plan of rehabilitation to provide claimants with no less favorable treatment than they would receive in liquidation. Third, the same objectors argue that the Plan's treatment of surety claims is inconsistent with Insurance Law § 7434 (a) (1), which establishes a hierarchy of priority classes, requires claimants within a particular class to be paid in full before claimants in a lower priority class receive anything, and prohibits the creation of subclasses. Fourth, questions and concerns were raised regarding many of the factual premises and assumptions underlying the Plan and whether continued rehabilitation would actually benefit Frontier's claimants and other creditors. Finally, certain objectors maintain that access to additional information concerning Frontier and the rehabilitation is necessary in order to even evaluate the Plan. The second and third categories of objection — whether the Plan's treatment of surety contracts complies with Carpenter and Insurance Law § 7434 (a) (1) — implicate a threshold legal question: whether surety claims are entitled to class two priority status under Insurance Law § 7434 (a) (1) (ii). If surety claims are entitled to class two status in liquidation, the Rehabilitator's exclusion of surety claims from the definition of "Claims under Policies" would result in surety claimants receiving less favorable treatment in rehabilitation than they would in liquidation, Such a conclusion would also mean that the Plan disadvantages the subclass of class-two claimants who assert surety claims, thereby implicating Insurance Law § 7434 (a) (1). A hearing on the Order to Show Cause was held on April 27, 2012. All in attendance agreed with the Court that an appropriate starting point for review of the Plan of Rehabilitation would be a ruling on the threshold question of whether surety claims are entitled to class two priority in liquida38 June 4, 2012 / INSURANCE ADVOCATE

Every claim in a priority class must be paid in full before claims in a lower priority class receive any payment (Insurance Law § 7434 [a] [1]). And by prohibiting the establishment of sub-classes, the statute requires all claims within the same priority class to be treated in a like manner…

tion pursuant to Insurance Law § 7434 (a) (1). This Decision & Order follows.

ANALYSIS A.Statutory Background Prior to the 1999 amendments to Insurance Law § 7434, New York law did not divide the claimants and creditors of an insolvent insurer into priority classes. Subject to limited exceptions not relevant here, all creditors of an insolvent insurer — including policyholders, security and guaranty funds, trade suppliers and holders of reinsurance claims — shared ratably in the liquidation estate after the payment of administrative expenses (see Matter of Union Indem. Ins. Co. of NY, 2009 NY Slip Op 30387 [U] [Sup Ct, NY County 2009]). This system of pro-rata distribution was found to have created at least three problems: (1) the disposition of complex reinsurance claims delayed the closing of liquidation estates; (2) New York's distribution process was out of conformity with federal law and the laws of our sister states; and (3) the use of an insolvent insurer's assets to pay claims for "taxes and assessments, rein-

surance claims, or claims for goods and services" diminished the funds available for insurance policyholders and security and guaranty funds (Sponsor's Mem, Bill Jacket, L 1999, ch 134 [McConnell Aff., Ex. 6]; Matter of Union Indem, supra). In an effort to address these concerns, the State Legislature amended Insurance Law § 7434 in 1999 to establish nine priority classes (L 1999, ch 134 ["Chapter 134"]). Every claim in a priority class must be paid in full before claims in a lower priority class receive any payment (Insurance Law § 7434 [a] [1]). And by prohibiting the establishment of sub-classes, the statute requires all claims within the same priority class to be treated in a like manner (id.). At issue here is whether surety claims are entitled to class two priority, as defined by Insurance Law § 7434 (a) (1) (ii). Class two claims receive priority over all claims other than administrative expenses. If surety claims do not fall within class two, then they fall into class six, the broad catch-all for the unsecured "claims of general creditors" (id. [a] [1] [vi]), except for the claims of the federal government and state or local government, which fall within classes three and five respectively. Class two claims are defined in Insurance Law § 7434 (a) (1) (ii) as follows: "All claims under policies including such claims of the federal or any state or local government for losses incurred, third party claims, claims for unearned premiums, and all claims of a security fund, guaranty association or the equivalent except claims arising under reinsurance contracts." The Rehabilitator's definition of "Claims under Policies" draws upon this statutory definition, but adds language limiting "policies" to those "of insurance." B. Prior Litigation This Court previously addressed the class priority of surety contracts in the context of claims asserted by the Kentucky Coal Employers' Self-Insurance Guaranty Fund and the Department of Workers' Claims of the Commonwealth of Kentucky continued on page 39

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[ COURTS ID E ] ("Kentucky Coal claimants"). In response to an argument made by the Rehabilitator, the Court determined, on a provisional basis, that surety claims were entitled to class two priority (ITMO Frontier Insurance Company [Receivership No: FICSUR060012], Decision and Order of November 16, 2009). However, the Court invited reargument, and upon the Rehabilitator's application, vacated its provisional ruling and declined to decide this "important question of first impression under New York law" (ITMO Frontier Insurance Company [Receivership No: FIC-SUR060012], Decision and Order of December 16, 2010). The Court reasoned that the priority to be accorded to surety claims and the applicability of Insurance Law § 7434 (a) (1) in the context of a rehabilitation proceeding raised "novel questions of considerable importance to the insurance industry that were not adequately presented to the Court in the prior motion practice and were not strictly necessary to resolve the issues presented for determination" (id.). Accordingly, the Court does not rely upon its prior, vacated determination in any respect herein and considers these issues de novo with the benefit of the additional legal arguments ably presented by the attorneys for the Rehabilitator and the Interested Parties. C. Analysis In any case involving a question of statutory interpretation, it is the duty of the Court to "discern and give effect to the Legislature's intent" (Matter of Ramroop v Flexo-Craft Print., Inc., 11 NY3d 160, 165 [2008]). "As the clearest indicator of legislative intent is the statutory text, the starting point in any case of interpretation must always be the language itself, giving effect to the plain meaning thereof " (Majewski v Broadalbin-Perth Cent. School Dist., 91 NY2d 577, 583 [1998]). "[W]here the language of a statute is clear and unambiguous, courts must give effect to its plain meaning" (Pultz v Economakis, 10 NY3d 542, 547 [2008] [internal quotations omitted]). The Court therefore begins, as it must, with the text of Insurance Law § 7434. Class two claims broadly are defined as "[a]ll

Nonetheless, in enacting the Insurance Law, the New York State Legislature has declared that surety bonds, fidelity bonds, contract bonds, performance bonds and indemnity bonds all represent a "kind[] of insurance which may be authorized in this state"…

claims under policies", except for "claims arising under reinsurance contracts"(Insurance Law § 7434 [a] [1] [ii]). While the term "policy" is not defined in Insurance Law § 7434 or elsewhere in Article 74, the term ordinarily is understood as referring to "a document containing a contract of insurance" (Black's Law Dictionary [9th ed 2009]). In construing the term "policies", the Court is mindful of the significant distinctions between suretyship and insurance. The "usual view, grounded in commercial practice, [is] that suretyship is not insurance" (Pearlman v Reliance Ins. Co., 371 US 132 n 19 [1962]). Nonetheless, in enacting the Insurance Law, the New York State Legislature has declared that surety bonds, fidelity bonds, contract bonds, performance bonds and indemnity bonds all represent a "kind[] of insurance which may be authorized in this state" (Insurance Law § 1113 [a] [16]). Thus, the Insurance Law defines a "contract of insurance" to include a "contract of warranty, guaranty or suretyship"(id. § 1101 [a] [1], [3]), so long as it is made "as a vocation and not as merely incidental to any other legitimate business or activity" (id. [b] [1] [B]). In addition to defining suretyship as a "kind of insurance" under New York law and a surety bond as a "contract of insur-

ance", the State Legislature has determined that surety obligees denied payment due to an authorized insurer's insolvency are entitled to receive the protection of the State's Property/Casualty Insurance Security Fund ("Security Fund") in the same manner and to the same extent as other insurance policyholders. Thus, Article 76 of the Insurance Law ("Article 76") defines an "insurer" to include an entity authorized to issue surety bonds and defines the term "policy" to include surety bonds (id. § 7602 [c], [d]; see id. § 7603 [a] [1] [B]). In fact, for purposes of Article 76, the Legislature defined "policy" by reference to the insurance products emanating from an authorized insurer, consistent with the ordinary meaning of the term (see id. and supra). Accordingly, the question before the Court is not whether suretyship is insurance under New York law or whether a surety bond is an insurance contract. Through its enactment of the Insurance Law, the State Legislature has clearly and expressly answered these questions in the affirmative. And as the Court of Appeals explained long ago: "All insurance in this State . . . is that which the authoritative cases in this State and our Legislature define it to be" (Davis Yarn Co. v Brooklyn Yarn Dye Co., 293 NY 236, 247248 [1944]). Rather, the narrower argument advanced by the Rehabilitator is that while suretyship may be a "kind of insurance" and surety bonds "contract[s] of insurance", surety claims are not claims under "policies", as the Legislature used such term in Insurance Law § 7434 (a) (1) (ii). In making this argument, the Rehabilitator asserts that surety instruments generally are referred to as "surety bonds" or "surety contracts" in the Insurance Law and elsewhere. Accordingly, the Rehabilitator reasons that the Legislature's use of the term "policy" in Insurance Law § 7434 (a) (1) (ii) — unaccompanied by any reference to, or express inclusion of, "surety bonds" or "surety contracts" — demonstrates an intention to exclude surety claims from class two priority. For the reasons that follow, the Court continued on page 40

INSURANCE ADVOCATE / June 4, 2012 39

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disagrees. As an initial matter, the Rehabilitator's argument is refuted to some extent by other provisions in the Insurance Law that refer to surety bonds as "policies", as well as by the Superintendent's own implementing regulations. Insurance Law § 2307 (b) requires the Department of Financial Services to pre-approve the form of insurance "policies". In agency regulations predating the enacting of Chapter 134 by more than two decades, the Superintendent recognized that "surety bond forms", "surety bonds" and "court fiduciary and judicial bonds" all constitute a type of insurance "policy" within the meaning of the Legislature's enactment (see 11 NYCRR § 66.0). Moreover, while surety instruments are most commonly referred to as "surety bonds" within the Insurance Law, the Legislature also has described them as "surety policies" on occasion (see Insurance Law § 3426 [l] [2]). The treatment of surety bonds as policies of insurance under New York law is further evidenced in the decisions of our State's appellate courts. Thus, almost a century ago, the Court of Appeals explained: "Although the instrument denominates itself a bond,' it is a contract or policy of insurance" (First Natl. Bank of E. Islip v National Sur. Co., 228 NY 469, 472 [1920], citing People ex rel. National Surety Co. v Feitner, 166 NY 129 [1901] [emphasis added]). To similar effect is a more recent pronouncement of the Appellate Division, First Department, predating the enactment of Chapter 134 by only three years: "A [surety] bond is treated as apolicy of insurance" (Matter of Union Indem. Ins. Co. of NY of State of NY, 225 AD2d 379, 379 [1st Dept 1996], aff 'd 92 NY2d 107 [1998] [emphasis added]). Against this backdrop of the State Legislature having defined suretyship as a "kind of insurance" and a surety bond as a "contract of insurance", the legislative precedent for using the term "policy" to include surety contracts, the Superintendent's longstanding construction of the statutory term "policy" as including surety contracts, and the New York appellate decisions referring to and construing 40 June 4, 2012 / INSURANCE ADVOCATE

while relegating the claims of general creditors of the insolvent insurer, such as those for "taxes and assessments . . . [and] good and services", to a lower priority status (see Sponsor's Mem, Bill Jacket, L 1999, ch 134, supra). And where a particular type of insurance was to be excluded from class two, the legislative history of Chapter 134 specifically references the exclusion and articulates the Legislature's policy rationale for it. Relatedly, the Rehabilitator fails to articulate a persuasive basis for the Legislature to have treated surety claimants no better than general unsecured creditors of an insolvent insurer. While the surety and fidelity claims pending against Frontier arise from varied factual circumstances, many of these insurance contracts were mandated by federal or state law to secure important financial and legal obligations. By way of example, the Kentucky Coal claimants seek to recover against surety bonds given by self-insured employers for the purpose of assuring continued workers' compensation payments to injured coal workers. The bonds that Callon Petroleum seeks to recover upon were given to secure funding for environmental remediation and cleanup costs. And the bonds given in favor of the United States served to promote compliance with our Nation's immigration and customs laws. Indeed, the inclusion of surety claims within Article 76 and the Security Fund, which serves to protect surety claimants from the inability of an authorized insurer to meet its obligations due to insolvency, is strong evidence of the Legislature's recognition of "the importance of [surety] insurance coverage to individuals and society"(see Sponsor's Mem, supra). In light of this compelling demonstration that the Legislature used the term "policy" within Insurance Law § 7434 (a) (1) (ii) in its ordinary sense as referring to a document evidencing a contract of insurance, the Rehabilitator attempts to support his cramped construction of the term "policy" by reference to a single out-of-state judicial decision. In Grode v Mutual Fire, Marine & Inland Ins. Co. (572 A2d 798 [1990], the

While the surety and fidelity claims pending against Frontier arise from varied factual circumstances, many of these insurance contracts were mandated by federal or state law to secure important financial and legal obligations.

surety "bonds" as "policies", it is clear that the Legislature used the term "policy" within Insurance Law § 7434 (a) (1) (ii) in its ordinary sense of referring to "a document containing a contract of insurance" (Black's Law Dictionary [9th ed 2009]). And there is no question that a surety bond is a contract of insurance under New York law. Accordingly, the Rehabilitator's argument that the Legislature's use of the term "policy" was intended to exclude surety claimants from class two priority sub silentio is unconvincing. Indeed, where the Legislature intended to exclude a particular type of insurance contract from class two priority, it said so directly. Thus, Insurance Law § 7434 (a) (1) (ii) expressly excludes from class two "claims arising under reinsurance contracts". This exclusion of "reinsurance contracts" from claims under "policies" is particularly significant in light of the fact that reinsurance agreements, like surety contracts, generally are not referred to as "policies" in the Insurance Law (see e.g. id. §§ 7402 [d] ["contract of reinsurance"], 7405 [c] ["reinsurance contract"]. 7425 [d] ["reinsurance agreement"]). In fact, there is nothing in the legislative history of Chapter 134 supporting the notion that the Legislature intended to treat claims under surety insurance less favorably than other insurance claims. Rather, the legislative history refers generally to the need to protect the interests of insureds,

continued on page 42

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Commonwealth Court of Pennsylvania, a trial-level court, determined that certain surety contracts were not entitled to the same priority in liquidation as claims made under traditional risk-insurance policies. In reaching this conclusion, the Commonwealth Court first relied upon "the fundamental differences . . . between bilateral contracts of insurance and tripartite surety bond agreements", concluding that "surety bonds are in the nature of commercial guarantee instruments rather than policies of insurance" (id. at 806). Second, while recognizing that Pennsylvania regulated the issuance of surety bonds, the Grode court nonetheless adopted "the usual view, grounded in commercial practice, that suretyship is not insurance" (id., quoting Pearlman, 371 US at 140 n 19). And even accepting "that surety bond coverage might be regarded as insurance because it is regulated by the Commonwealth insurance laws," the Court found "no abuse of discretion in subordinating the claims of the [obligee] lenders, who have recourse against investors through their own collection efforts, to those of policyholders, who will

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recover only what they can from [the insolvent insurer's] estate and guarantee funds (id. at 807). Finally, the Grode court relied upon the fact "the legislature has excluded [surety claims] from coverage under The Pennsylvania Insurance Guaranty Association Act", reasoning that "[t]his exclusion evidences an intent not to afford surety holders the protections given . . . to consumers of insurance" (id. at 807). This Court concludes that Grode is distinguishable and, in any event, lacks persuasive force under the principles of New York law articulated herein. In denying surety claimants the protections accorded to other insurance beneficiaries, the Grode court attached particular significance to the decision of the Commonwealth's Legislature to exclude surety bonds from its guaranty association act (id.). In contrast, New York's Legislature clearly and unambiguously included surety claims within the ambit of its Security Fund, thereby evincing a contrary intention to protect surety claimants. Further, while Grode relied upon certain basic differences between surety and insurance products, all insurance in New York "is that which the authoritative cases in this State and our Legislature define it

to be . . . and has nothing to do with what would popularly be thought to be [insurance]" (Davis Yarn, 293 NY at 247-248). Having previously declared that suretyship is a "kind of insurance" and a surety bond a "contract of insurance", our State Legislature enacted Chapter 134 secure in the knowledge "that surety bond coverage [is] regarded as insurance" in New York (Grode, 572 A2d at 807) and that a surety contract generally is deemed to be a "policy of insurance", despite its frequent denomination as a "bond" (First Nat'l Bank, 228 NY at 472 [internal quotation omitted]). Finally, it is important to note that the Grode opinion addressed only one particular type of surety instrument: "Financial Surety Bonds for Limited Partnerships", which insured lenders against investor defaults in connection with commercial loans. The Commonwealth Court found "no abuse of discretion in subordinating the claims of the lenders" under these "commercial guarantee instruments" because of the obligee-lenders' "recourse against investors through their own collection efforts". Here, in contrast, the issue is one of pure statutory construction, there is no discretion to "circumvent the [statutory]

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[ COURTS I D E ] priority classes" based upon the equitable considerations seemingly relied upon in Grode (Insurance Law § 7434 [a] [1]), many of the claims against Frontier involve bonds required by federal or state law to serve important governmental objectives, and most claimants lack any practical recourse against their principals. Accordingly, this Court joins the New Jersey courts in rejecting Grode (see In re Integrity Ins. Co., 251 NJ Super 501 [Superior Court, Chancery Division 1991]).[FN10] Based on the foregoing, the Court concludes that in construing Insurance Law § 7434 (a) (1) (ii), the term "claims under policies" includes claims under "fidelity and surety insurance", as such term is defined in Insurance Law § 1113 (16).

CONCLUSION Having determined that surety claims are entitled to class two priority in liquidation, the Court concludes that the proposed Plan of Rehabilitation accords surety claimants with less favorable treatment than they would receive in liquidation, in contravention of Carpenter and the principles of federal constitutional law articulated therein. While the Court recognizes the deferential standard of review applicable to the Rehabilitator's actions, a plan of rehabilitation cannot be approved where it is inconsistent with law (seeCPLR 7803 [3]). Under the circumstances, the Court therefore disapproves the Plan and remits the matter to the Rehabilitator to allow him to exercise his sound discretion in the first instance. He may propose a revised plan of rehabilitation consistent with the legal principles set forth herein. Alternatively, if he and the Superintendent deem further efforts to rehabilitate Frontier to be futile in light of the inclusion of surety claims within class two, the Superintendent may apply to this Court for an order of liquidation (Insurance Law § 7403 [c]). Finally, in view of the relatively short time frames contemplated for the foregoing actions, the Court denies the oral application of the Kentucky Coal claimants for an order divesting the Rehabilitator of the authority to continue to pay "Claims under Policies", as such term is used within the Plan. However, should significant delays result, the Court will entertain appropriate applications for relief.

Accordingly, it is ORDERED that the Rehabilitator's application for approval of the Plan of Rehabilitation is denied, and the matter is remitted to the Rehabilitator for further proceedings in accordance with this Decision & Order; and it is further ORDERED that within sixty (60) days from the date of this Decision & Order, either: (a) the Rehabilitator shall develop a revised plan of rehabilitation in accordance with the legal principles set forth herein and apply for judicial approval of said plan; or (b) the Superintendent shall apply for an order of liquidation; and it is further ORDERED that any such application shall be made in the same manner and upon the same notice as the instant application, provided, however, that notice of the presentment of the Order to Show Cause (and any requests for the extension of the deadlines established herein) shall be given to any Interested Party who filed comments and/or objections in connection with the instant application; and finally it is ORDERED that the Rehabilitator shall forthwith: (a) cause this Decision and Order to be posted on the Liquidation Bureau's internet web site; (b) serve this Decision and Order with notice of entry upon any Interested Party who filed comments and/or objections in connection with the instant application; and (c) provide such notice to other interested parties, including claimants and creditors of Frontier, as he deems appropriate; and finally it is ORDERED that any relief not granted herein is denied. This constitutes the Decision and Order of the Court. The original of this Decision and Order is being transmitted to counsel for the Rehabilitator; all papers are being transmitted to the Albany County Clerk. The signing of this Decision and Order shall not constitute entry or filing under CPLR Rule 2220. Counsel is not relieved from the applicable provisions of that Rule respecting filing, entry and Notice of Entry. Dated: Albany, New York May 23, 2012 RICHARD M. PLATKIN A.J.S.C [IA]

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Matter of Frontier Ins. Co . 2012 NY Slip Op 22139 Decided on May 23, 2012 Supreme Court, Albany County, Platkin, J. INSURANCE ADVOCATE / June 4, 2012 43

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[ LOOKING BACK… Insurance Advocate, 61 years ago]

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[ LOOKING BACK… Insurance Advocate, 61 years ago]

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[ THE LAST WORD ]

Edmund Kelly Named President of AAIS; New Yorkers Among Leaders

heaton, Ill. Edmund J. Kelly of Boulder, Col. was recently chosen president of the American Association of Insurance Services (AAIS), an organization that develops policy forms and rating information used by more than 700 P/C companies throughout the U.S. Kelly's appointment was announced by Paul Baiocchi, the longtime president of AAIS who will continue as chief executive officer of the organization through a period of transition. Baiocchi has been with AAIS for 36 years, 25 of them as president and CEO. He made the announcement of Kelly's appointment at the 2012 AAIS Main Event executive conference, recently concluded in La Jolla, Calif. Kelly has a rich and varied career in P/C insurance, including two years as CEO of Paris Re America Ins. Co., seven years as president and COO of ICAT Holdings LLC (a catastrophe risk entity), four years as chief financial officer for a specialty division of Royal Sun Alliance, and three years as vice president of finance and operations for a workers compensation company. Prior to his insurance career, Kelly worked 11 years as a senior manager for Ernst & Young; he is a certified public accountant. "As we begin the leadership transition, I am extremely pleased with what AAIS has accomplished over the years," said Baiocchi in his CEO address at the AAIS Main Event conference, recently concluded in La Jolla, Calif. "For me," Baiocchi added, "it has been

"I am honored to have been selected as the next leader of this outstanding organization and I am very excited about its future."

EDMUND

a privilege to lead this group of highly skilled, dedicated individuals. I'm excited to have Ed on board, and I look forward to working with him as we prepare the road ahead for AAIS." In subsequent comments, Kelly said: "I am looking forward to working over the next several months with Paul, a well-recognized leader in property/casualty insurance. "Over the past 25 years, Paul has assembled a talented team of professionals that has consistently delivered a high level of customer service to its member companies," Kelly added. "During that time, AAIS has consistently brought innovative solutions to the industry, demonstrated most recently with the successful multistate filing of its Homeowners By-Peril Rating Plan. "I am honored to have been selected as the next leader of this outstanding

organization and I am very excited about its future." As president, Kelly will be a member of the AAIS board of directors, as will Baiocchi, as CEO. Other members of the AAIS board elected or reelected at the Main Event include: • Christopher Taft, president and CEO of J. KELLY Preferred Mutual Ins. Co., New Berlin, N.Y. (chairman of the board) • Herman Bontrager, president and CEO, Goodville Mutual Casualty Co., Goodville, Pa.; • R. Douglas Haines, president and CEO of Buckeye Insurance Group, Piqua, Ohio; • Stuart C. Henderson, president and CEO of Western National Insurance Group, Edina, Minn.; • Judy S. Jackson, a director of NLC Insurance Companies, Norwich, Conn.; • Jeffrey B. Kusch, president and CEO of Austin Mutual Ins. Co., Maple Grove, Minn.; • Jack Rader, chief marketing officer, Farmers Alliance Companies, McPherson, Kan.; and • Richard Zick, president and CEO, Utica First Ins. Co., Utica, N.Y. [IA]

FOR ADVERTISING OR SUBSCRIPTION INFORMATION Call 914-966-3180 New York and New Jersey’s Leading Insurance Magazine Since 1889. www.insurance-advocate.com 46 June 4, 2012 / INSURANCE ADVOCATE

INA 6-4-12_INA 6-4-12 6/1/12 11:46 AM Page 47

Workers’ Compensation Safety Groups 50% of Service Fee paid to Brokers for the first THREE policy terms!* Group 534 – almost all construction classes eligible Group 533 – woodworkers, lumberyards, and building material dealers

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INA 6-4-12_INA 6-4-12 6/1/12 11:46 AM Page 48

EXPECT BIG THINGS

FROM APPLIED UNDERWRITERS.

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Send submissions to sales@auw.com or call 877-234 - 4 450. ©2012 © 2 0 12 Applied A p p li e d Underwriters, U n d e r w r i t e r s , Inc. I n c . A BBerkshire e r k s hir e H Hathaway a t h a w a y CCompany. o m p a n y. SSolutionOne o lu t i o n O n e ® aand nd EEquityComp q u it y C om p ® ppatent a t en t pending. p en d i n g .