The opinion of the court was delivered by: RONALD M. WHYTE
Plaintiff Raychem Corporation ("Raychem") moves for summary judgment on the breach of contract claim, the first claim for relief in its complaint against Federal Insurance Company ("Federal"). Raychem requests that this court order Federal, pursuant to the terms of the Executive Liability and Defense Coverage insurance policy it sold to Raychem, to pay the full settlement amount and defense costs, less deductible, incurred in Cytryn et al. v. Cook, et al. ($ 8,896,887) plus prejudgment interest.
[Federal] shall pay on behalf of [Raychem] all loss for which [Raychem] grants indemnification to each insured person as permitted or required by law, which the insured person has become legally obligated to pay on account of any claim first made against him. . ., during the policy period . . . for a wrongful act committed, attempted or allegedly committed or attempted, by such insured person(s) before or during the policy period.
(Langlois Decl., Ex. 1 at § 2.2 (emphasis added).)
The Policy defines "loss" as:
the total amount which any Insured person(s) becomes legally obligated to pay on account of each claim . . . made against them for wrongful acts for which coverage applies including . . . settlements, costs and defense costs. Loss does not include fines or penalties imposed by law or matters uninsurable under the law pursuant to which this policy is construed.
(Langlois Decl., Ex. 1 at § 2.31 (emphasis added).) "Defense costs" means those losses "consisting of costs, charges and expenses incurred in defending, investigating or monitoring legal actions. . ." Only "wrongful acts" are insured under Clause 2. "Wrongful act" is defined as:
any error, misstatement, misleading statement, act, omission, neglect, or breach of duty committed, attempted, or allegedly committed or attempted, by any insured person, . . . in his insured capacity, or any matter claimed against him solely by reason of his serving in such insured capacity.
(Langlois Decl., Ex. 1 at § 2.31 (emphasis added).)
In December 1989, shareholders of Raychem filed a class action lawsuit in federal court ("the Cytryn action") against Raychem and twelve of its present or former directors and officers, each of whom were insured persons under the policy during the class period. The suit alleged causes of action for common law fraud, negligent misrepresentation and violations of state statutes, along with a Section 10(b) claim,
on behalf of a class of investors who bought Raychem stock or call options between January 27, 1988 and January 11, 1989 ("the class period"). This court dismissed the state law claims in the Cytryn action on July 2, 1990. Although the Cytryn defendants sought to dismiss the Section 10(b) claim as well, the court found the allegations to be legally sufficient to state a claim under Section 10(b). Thus, when the lawsuit settled in December 1991, only the Section 10(b) claim was pending.
The Section 10(b) claim alleges that during the class period the insured officers caused Raychem to issue at least 13 false or misleading statements regarding Raychem's fiscal year 1988 earnings and fiscal year 1989 prospects. The alleged misrepresentations fall into three groups: alleged false or misleading published statements in press releases, quarterly shareholder reports, and Raychem's 1988 Annual Report of financial results for Raychem's fiscal year 1988; alleged false or misleading statements in press releases, SEC filings, and by the insured officers at an August 1988 meeting of industry analysts regarding financing for, and expenses of, Raynet Corp. (Raychem's fiber optics subsidiary); and unjustifiably optimistic statements in Raychem's 1988 Annual Report regarding Raychem's fiscal year 1989 prospects.
The individual defendants and other Raychem managerial employees embarked upon a scheme to artificially inflate Raychem's reported income for its 1988 fiscal year by various manipulative devices including the postponement of and failure to record expenditures, improper capitalization of costs that would otherwise be recorded as expense, the shipping of merchandise as much as six months before the scheduled shipping date and improperly recording revenues from such shipments, and the structuring of the receipt of revenues of Raynet so that Raynet expenses would be offset in fiscal 1988 rather than in subsequent years, and would contribute to Raychem's reported income in its 1988 fiscal year.
The named defendants included individuals who, during the class period, served as Raychem's CEO, President and Chief Operating Officer, Senior Vice President and CFO, Treasurer, Vice President for Finance, and Senior Vice President for Telecommunications Sector (as well as Raynet's President). All of these persons have submitted declarations averring that they either made, supervised the preparation of, or approved the alleged misleading statements. The remaining named defendants managed corporate divisions within Raychem and supervised the preparation of divisional forecast and strategic plans as part of Raychem's strategic planning process each year. According to the declaration of Francis Lunger, the accounting firm Price Waterhouse audited Raychem's fiscal year 1988 financial results. (Lunger Decl. P 3.) Price Waterhouse, however, was not named in the Cytryn complaint.
Raychem, on behalf of itself and the individual defendants, gave notice of the claims in the Cytryn complaint to Federal on January 31, 1989. Raychem retained Heller, Ehrman as defense counsel on behalf of Raychem and the individual defendants. Several of the individual defendants with potentially divergent interests also retained "shadow counsel" to monitor the litigation on their behalf Defense counsel provided Federal with all the pleadings filed in the Cytryn action, with an analysis of liability prepared by defense counsel, and with the damages analysis of an expert consultant retained by defense counsel. Defense counsel also briefed Federal on several occasions on the status of defense counsel's factual investigation of the Cytryn claims. Federal interviewed all but two of the individual defendants.
Following pretrial discovery, the Cytryn parties participated in numerous settlement conferences presided over by Magistrate Judge Infante, all of which Federal attended pursuant to order of the court. On December 12, 1991, a settlement agreement was reached between the parties, under which defendants were obligated to pay plaintiffs $ 19.5 million. Federal's representatives participated in the settlement conferences and acknowledged the terms of the settlement reached on the record at the final settlement conference. Raychem and Federal funded the settlement provisionally on December 23, 1991. Federal paid $ 11.25 million into the settlement fund and Raychem paid $ 8.25 million. An April 22, 1992 resolution of Raychem's Board of Directors authorized Raychem to indemnify the individual defendants for all settlement obligations ($ 8.25 million) and defense costs ($ 1,646,887) incurred in the Cytryn action.
A. The Standard for Summary Judgment
Federal Rule of Civil Procedure 56(c) provides for summary judgment where no genuine issue exists as to any material fact and where the moving party is entitled to judgment as a matter of law. Under 56(c), the burden falls on the moving party to establish that there is no genuine issue of material fact. Celotex Corp. v. Catrett, 477 U.S. 317, 322-23, 91 L. Ed. 2d 265, 106 S. Ct. 2548 (1986). The moving party may meet this burden by presenting evidence which, if uncontradicted, would entitle it to a directed verdict at trial. Once it has done so, the burden shifts to the non-moving party to present specific facts showing that contradiction is possible. British Airways Board v. Boeing Co., 585 F.2d 946, 950-952 (9th Cir. 1978), cert. denied, 440 U.S. 981, 60 L. Ed. 2d 241, 99 S. Ct. 1790 (1979).
A party opposing summary judgment may not rest upon the mere allegations or denials contained in the pleadings. S/he must set forth, by affidavits or other admissible evidence, specific facts demonstrating the existence of an actual issue for trial. A mere "scintilla" of evidence will not suffice; the non-moving party must show that the fact-finder could reasonably find for the non-moving party. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 106 S. Ct. 2505, 2512, 91 L. Ed. 2d 202 (1986). "If the evidence is merely colorable . . . or is not significantly probative, summary judgment may be granted." Eisenberg v. Insurance Co. of North America, 815 F.2d 1285, 1288 (9th Cir. 1987) (citing Anderson, 106 S. Ct. at 2512). In making this determination, the court must take the non-moving party's evidence as true and all inferences are to be drawn in the light most favorable to the non-moving party. Eisenberg, 815 F.2d at 1289.
Although the insured has the burden of proving the contract of insurance and its terms, as well as the loss, the insurer bears the burden at trial of proving that a statutory or policy exclusion or limitation applies. Clemmer v. Hartford Ins. Co., 22 Cal. 3d 865, 879-80, 151 Cal. Rptr. 285, 587 P.2d 1098 (1978); Executive Aviation, Inc. v. National Ins. Underwriters, 16 Cal. App. 3d 799, 806, 94 Cal. Rptr. 347 (1971).
Insuring Clause 2 limits coverage to indemnification "as permitted or required by law." Defendant argues that the law does not permit Raychem to indemnify its directors and officers. The parties agree that the burden of proving that indemnification is permitted by law rests with plaintiffs.
Insuring Clause 2 also limits coverage to "losses", which under the policy's definition of loss does not include matters "uninsurable under the law". Federal argues that Raychem may not obtain insurance for reckless, willful, or criminal conduct. Federal nonetheless contends that Raychem bears the burden of proof on this issue because the phrase is located in the definition of "loss." In Clemmer v Hartford Insurance Co., 22 Cal. 3d 865, 879-880, 151 Cal. Rptr. 285, 587 P.2d 1098 (1978) the court pointed out that the provisions of California Insurance Code section 533 (insurer is not responsible for a loss caused by the willful act of the insured) have been held to be the equivalent of an exclusionary clause and that the burden of showing that the loss is uninsurable is on the insurer. Therefore, Federal bears the burden of proving that the requested claims are matters "uninsurable under the law."
Furthermore, Insuring Clause 2 limits coverage to "wrongful acts" committed by any insured person. Federal argues that uninsured parties committed some of the wrongful acts and that the settlement liability should be allocated between insured and uninsured parties. Relying on differences in state law, some courts have placed the burden of proving allocation on the insurer, while others have placed it on the insured.
California has not directly addressed the issue. However, the better reasoned cases support the conclusion that the initial burden should be on the insured. The party seeking coverage must show the existence and extent of a loss covered by the policy. Further, the insured has better access to information relevant to allocation than does its insurer, particularly, as here, where the insured chose counsel for itself and its officers and controlled the defense. Therefore, the court concludes that Raychem has the burden of making a prima facie showing that the settlement and defense costs incurred in Cytryn related to the settlement of covered claims against the insured individuals. Since as discussed below, Raychem has made that showing, Federal has the burden to raise a genuine issue of material fact with respect to this point to defeat summary judgment.
Raychem cites Morgan v Midland Nat'l Ins. Co., 3 Cal. 3d 553, 564, 91 Cal. Rptr. 153, 159, 476 P.2d 825 (1970) and California Union Ins. Co. v. Aquarius, 113 Cal. App. 3d 243, 248, 169 Cal. Rptr. 685, 687 (1980) and argues that the burden is on Federal to prove that Raychem should be allocated some responsibility for payment of the indemnity and defense costs. However, both cases construed policies containing a broad defense obligation which is not contained in a D & O policy, and thus offer little assistance here.
Finally, defendant argues that under the policy's definition of "wrongful act", the act must occur in the insured's "insured capacity." Plaintiffs bear the burden of proving that the actions occurred in the insureds' "insured capacities," as this argument involves proving that their actions occurred within the definitional terms of the policy's coverage.
C. Was Raychem's indemnification of its Directors and Officers "permitted by law"?
Insuring Clause 2 limits indemnification "as permitted or required by law." Federal argues that Raychem's indemnification of its directors and officers was ...