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Mercury Casualty Co. v. Jones

California Court of Appeals, Third District, Sacramento

February 10, 2017

MERCURY CASUALTY COMPANY, Plaintiff and Appellant,
v.
DAVE JONES, as Insurance Commissioner, etc., Defendant and Respondent PERSONAL INSURANCE FEDERATION OF CALIFORNIA et al., Interveners and Appellants; CONSUMER WATCHDOG, Intervener and Respondent.

         APPEAL from a judgment of the Superior Court of Sacramento County No. 34201380001426CUWMGDS, Shelleyanne W.L. Chang, Judge. Affirmed.

          Hinshaw & Culbertson, Richard G. De La Mora and Spencer Y. Kook, for Plaintiff and Appellant.

          Kamala D. Harris, Attorney General, Diane S. Shaw, Senior Assistant Attorney, Stephen Lew, Supervising Deputy Attorney General, for Defendant and Respondent.

          Hogan Lovells, Vanessa O. Wells, Victoria C. Brown, Jenny Q. Shen, Lisa K. Swartzfager, for Interveners and Appellants.

          Harvey Rosenfield, Pamela M. Pressley, Jonathan Phenix; Zohar Law Firm, Daniel Y. Zohar and Todd M. Foreman, for Intervener and Respondent.

          Robie, J.

         This appeal arises out of an application Mercury Casualty Co. (Mercury) filed in 2009 to increase its homeowners' insurance rates. In denying the increase Mercury requested, the California Insurance Commissioner (the commissioner) made two decisions that are at issue on appeal. First, the commissioner determined that under subdivision (f) of section 2644.10 of title 10 of the California Code of Regulations, which disallows, for ratemaking purposes, all “[i]nstitutional advertising expenses, ” Mercury's entire advertising budget had to be excluded from the calculation of the maximum permitted earned premium because “Mercury[] aims its entire advertising budget at promoting the Mercury Group as whole” rather than “seek[ing] to obtain business for a specific insurer and also provid[ing] customers with pertinent information” about that specific insurer.[1] Second, the commissioner determined that Mercury did not qualify for a variance from the maximum permitted earned premium under subdivision (f)(9) of section 2644.27 because “Mercury failed to demonstrate the rate decrease [that resulted from application of the regulatory formula] results in deep financial hardship.”[2]

         Mercury and certain insurance trade organizations referred to collectively as the Trades[3] unsuccessfully sought to challenge the commissioner's decision in the superior court. On appeal from the superior court's judgment against them, Mercury and the Trades raise three main issues. First, Mercury and the Trades contend the commissioner and the superior court erred in interpreting and applying section 2644.10(f) with regard to what constitutes institutional advertising expenses. Second, the Trades contend section 2644.10(f) violates the First Amendment to the United States Constitution because the regulation imposes a content-based financial penalty on speech. Third, Mercury and the Trades contend the commissioner and the superior court erred in determining that Mercury did not qualify for the constitutional variance because the commissioner and the court wrongfully applied a “deep financial hardship” standard instead of a “fair return” standard.

         Finding no merit in these arguments, or any of the other arguments offered to overturn the judgment, we affirm.

         FACTUAL AND PROCEDURAL BACKGROUND

         We begin with some brief background on the area of the law involved here. “At the November 8, 1988, General Election, the voters approved an initiative statute that was designated on the ballot as Proposition 103. The measure made numerous fundamental changes in the regulation of automobile and other forms of insurance in California. Formerly, the so-called ‘open competition' system of regulation had obtained, under which ‘rates [were] set by insurers without prior or subsequent approval by the Insurance Commissioner....' [Citation.] Under that system, ‘California ha[d] less regulation of insurance than any other state, and in California automobile liability insurance [was] less regulated than most other forms of insurance.' [Citation.] The initiative contained, among others, provisions relating to the rollback of rates for insurance within its coverage for the period extending from November 8, 1988, through November 7, 1989. (For purposes here, a rate is the price or premium that an insurer charges its insureds for insurance.)” (20th Century Ins. Co. v. Garamendi (1994) 8 Cal.4th 216, 239-240 (20th Century).) “For the period extending from November 8, 1988, through November 7, 1989 (hereafter sometimes the rollback year or simply 1989), as a temporary regulatory regime of rate reduction and freeze evidently designed to allow the setting up of a permanent regulatory regime to follow, Proposition 103 itself sets a maximum rate for covered insurance at 80 percent of the rate for the same insurance in effect on November 8, 1987 (hereafter sometimes the 1987 rate). [¶] For the period extending from November 8, 1989, into the future, Proposition 103 institutes a permanent regulatory regime comprising the ‘prior approval' system, under which, in the words of Insurance Code section 1861.05, subdivision (a), the Insurance Commissioner must approve a rate applied for by an insurer before its use, looking to whether the rate in question is ‘excessive, inadequate, unfairly discriminatory or otherwise in violation of' specified law -- considering the ‘investment income' of the individual insurer and not considering the ‘degree of competition' in the insurance industry generally.” (20th Century, at p. 243.)

         “In Calfarm Ins. Co. v. Deukmejian (1989) 48 Cal.3d 805');">48 Cal.3d 805 [258 Cal.Rptr. 161, 771 P.2d 1247] (hereafter sometimes Calfarm), [the Supreme Court] upheld, inter alia, Proposition 103's provision requiring rate rollbacks.” (20th Century, supra, 8 Cal.4th at p. 240.) The court “reviewed Proposition 103 against challenges under the United States and California Constitutions, including a claim that the rate rollback requirement provision was on its face invalid as confiscatory and arbitrary, discriminatory, or demonstrably irrelevant to legitimate policy in violation of the takings clause of the Fifth Amendment and article I, section 19 and the due process clause of the Fourteenth Amendment and article I, sections 7 and 15. In the course of [the court's] analysis, [the court] rejected the point.” (20th Century, at pp. 243-244, fn. omitted.)

         Five years after Calfarm, in 20th Century, the Supreme Court “review[ed] the implementation of Proposition 103's rate rollback requirement provision by the Insurance Commissioner.” (20th Century, supra, 8 Cal.4th at p. 240.) The court ultimately upheld the commissioner's actions. (Id. at p. 329.)

         With that background in mind, we turn to the facts of the present case. In May 2009, Mercury filed an application with the Department of Insurance to increase its rates on its homeowner's multi-peril line of insurance, which consists of policy form HO-3 (residential homeowners' insurance), policy form HO-4 (renters and tenants insurance), and policy form HO-6 (insurance for condominium owners). Originally, Mercury sought an overall rate increase of 3.9 percent. As the administrative proceeding regarding Mercury's application continued, however, Mercury filed updated applications, so that Mercury ultimately sought an overall rate increase of either 8.8 percent or 6.9 percent. (The reason for the difference is not material here.)

         In June 2009, Consumer Watchdog submitted a petition to intervene in the proceeding, combined with a petition for a hearing on Mercury's application. The commissioner granted the petition to intervene in July 2009 but deferred ruling on the petition for a hearing until two years later, when, in May 2011, the commissioner issued a notice of hearing on his own motion and on Consumer Watchdog's petition.

         In October 2011, Mercury submitted the prefiled direct testimony of various witnesses, including Robert S. Hamada and David Appel. As a financial economist, Hamada was asked “to provide an economic application of th[e] variance... in [section 2644.27(f)(9)], and to determine whether the maximum permitted return is quantitatively ‘confiscatory' to the providers of Mercury's capital.” Hamada asserted that “[t]o do this, it is necessary to lay out an economic interpretation of ‘fair' return to use as a benchmark to quantify whether a statutorily-determined return is ‘confiscatory.' ” For his part, Dr. Appel was also asked to opine (among other things) whether it was appropriate for Mercury to seek a variance under section 2644.27(f)(9).

         The commissioner and Consumer Watchdog filed motions to strike some of Mercury's prefiled direct testimony, including the testimony of Hamada and some of the testimony of Appel. In ruling on those motions, the administrative law judge (ALJ) explained that to qualify for the variance under section 2644.27(f)(9), Mercury had to “demonstrate [that] the maximum earned premium under the ratemaking formula results in an inability to operate successfully. Put differently Mercury is permitted to show the maximum rate will cause deep financial hardship to Mercury's enterprise as whole.” Finding that neither Hamada nor Appel “provide[d] evidence that the regulatory rate, as applied to Mercury, prevents Mercury from operating successfully, ” the ALJ struck Hamada's “statements pertaining to confiscation” and those portions of Appel's testimony contending that the “regulatory rate of return is confiscatory.” The ALJ later made similar rulings as Mercury tried several more times to offer testimony from Hamada and Appel concerning “fair return.”

         In its posthearing brief, Consumer Watchdog argued that all of Mercury's advertising expenses should be excluded from the rate calculation as institutional advertising expenses because the evidence showed that none of Mercury's advertising in California was aimed at obtaining business for a particular insurer; instead, “Mercury's ads and campaigns promote a fictional entity called ‘Mercury Insurance Group.' ”

         For its part, Mercury argued that under the language of section 2644.10(f), “advertising is not ‘institutional advertising' if it is aimed at obtaining business for an insurer or it provides consumers with information pertinent to the decision whether to buy the insurer's product.” Mercury further argued that “Mercury's advertisements are all aimed at obtaining business for Mercury or its affiliate insurance companies and providing information to consumers on why they should buy a Mercury product.”

         In its posthearing brief, the Department of Insurance argued that under 20th Century, “[c]onfiscation occurs when proposed regulatory action would impose deep financial hardship on the regulated entity.” The department further argued that its “rate proposal, far from convincingly demonstrating deep financial hardship and an inability to operate successfully, would allow Mercury to successfully operate in California” because “[a]ccording to Mercury's own calculations, the [department's] proposal would result in $3, 670, 645 of expected operating profit” -- a “ ‘total return of less than 5%' ” -- and such a return “would not constitute deep financial hardship.”

         For its part, Mercury argued that under 20th Century, “in deciding whether rates produced by the formula are ‘confiscatory, ' courts are required to determine if they would deny an insurer the opportunity to earn a ‘just, reasonable and fair return.' ”

         In January 2013, the ALJ submitted her proposed decision, which the commissioner adopted in full in February 2013. As relevant here, the commissioner found that “Mercury General Corporation is the parent company for Mercury Casualty and 21 other entities. Mercury General provides no services to customers and receives all its operating resources directly from its insurance affiliates, most notably Mercury Casualty.” “In 2008, 2009 and 2010 Mercury General Corporation's advertising expenses totaled $26 million, $27 million, and $30 million respectively.” “Mercury General and all its affiliates advertise under the name ‘Mercury Insurance Group, ' ” and “Mercury does not allocate advertising expenditures to specific insurance affiliates nor does the advertising department distinguish between insurance entities when generating advertising campaigns.” Based on these findings, the commissioner determined that under section 2644.10(f), “Mercury's entire advertising budget must be excluded from the rate application” because “Mercury[] aims its entire advertising budget at promoting the Mercury Group as whole” rather than “seek[ing] to obtain business for a specific insurer and also provid[ing] customers with pertinent information” about that specific insurer. The commissioner also determined that Mercury did not qualify for the constitutional variance under section 2644.27(f)(9) because “Mercury failed to demonstrate the rate decrease results in deep financial hardship.” Based on these (and other) determinations, the commissioner denied Mercury's application for an overall rate increase of 8.8 percent and instead approved an 8.18 percent rate decrease for policy form HO-3, a 4.32 percent rate increase for policy form HO-4, and a 29.44 percent rate increase for policy form HO-6.

         In March 2013, Mercury filed a petition for writ of mandate and complaint for declaratory relief in the superior court seeking review of the commissioner's decision. Consumer Watchdog and the Trades successfully petitioned for leave to intervene.

         In June 2014, the superior court issued its ruling denying Mercury's writ petition. As relevant here, the court rejected Mercury's argument that the commissioner “applied the wrong standard to assess whether Mercury could show confiscation to entitle Mercury to a variance.” Disagreeing with Mercury that the commissioner “should have assessed whether Mercury could earn a ‘fair rate of return' under the rate order, ” the court instead agreed with the commissioner “that the test for confiscation is ‘deep financial hardship' ” and “Mercury did not demonstrate ‘deep financial hardship' to support its request for a confiscation variance.” The court also rejected Mercury's argument that the commissioner “misinterpreted the regulation defining ‘institutional advertising.' ”

         In August 2014, Mercury appealed from the superior court's June ruling denying its writ petition, even though judgment had not yet been entered. In January 2015, the court issued a formal order denying Mercury's writ petition and dismissing Mercury's complaint for declaratory relief. The court also denied or dismissed all of the causes of action in the Trades' complaint in intervention. In doing so, the court addressed and rejected the Trades' argument that section 2644.10(f) violates the First Amendment.

         In February 2015, the court entered judgment against Mercury and the Trades. Mercury and the Trades timely appealed from that judgment.

         DISCUSSION

         I

         Section 2644.10(f) -- Institutional Advertising

         Section 2644.10(f) provides that “[i]nstitutional advertising expenses” “shall not be allowed for ratemaking purposes” and that “ ‘[i]nstitutional advertising' means advertising not aimed at obtaining business for a specific insurer and not providing consumers with information pertinent to the decision whether to buy the insurer's product.”

         In disallowing all of Mercury's advertising expenses as institutional advertising expenses, the commissioner explained that “institutional advertising is image advertising which strives to enhance a company's reputation or improve corporate name recognition. Such advertising does not promote a specific product or service but instead attempts to obtain favorable attention to the company as whole.” (Fns. omitted.) The commissioner then made the following findings regarding Mercury's advertising: “Mercury General and all its affiliates advertise under the name ‘Mercury Insurance Group.' The Mercury Insurance Group is not a legal entity in any state and not a licensed insurer in California. Mercury General's advertising department supports all of Mercury's affiliates and Mercury guides all its prospective customers to one telephone number. Mercury does not allocate advertising expenditures to specific insurance affiliates nor does the advertising department distinguish between insurance entities when generating advertising campaigns. All Mercury companies share a common website which identifies the company as Mercury Insurance Group.” (Fns. omitted.)

         The commissioner concluded that section 2644.10(f) “permits [in the context of ratemaking] only [expenses for] advertising that seeks to obtain business for a specific insurer and also provides customers with pertinent information. As Mercury[] aims its entire advertising budget at promoting the Mercury Group as a whole, ... Mercury's entire advertising expenditures must be removed from the ratemaking formula.”

         The superior court concluded that the commissioner's interpretation of section 2644.10(f) was “reasonable and consistent with Proposition 103's goals of consumer protection.” “Thus, if Mercury wished to include its advertising expenses in the ratemaking calculation, it was required to show that (1) its advertising was aimed at obtaining business for a specific insurer and (2) provided consumers with information pertinent to the decision whether to buy the insurer's product.” The court further concluded that the commissioner “properly concluded that Mercury's advertising was not directed at a ‘specific insurer' ” and for that reason the commissioner correctly excluded all of Mercury's advertising expenses from the rate calculation.

         A

         Mercury's Arguments On Appeal

         On appeal, Mercury contends the commissioner erred in disallowing all of Mercury's advertising expenses because the commissioner erroneously held that advertising qualifies as institutional advertising if either of the two criteria in section 2644.10(f) is met, when the regulation requires that both criteria be met. According to Mercury, “[t]he [c]ommissioner... improperly substituted the word ‘or' for the word ‘and' in the regulation.”

         We find no merit in this argument because section 2644.10(f) does not set forth two criteria that are to be separately analyzed and applied. Instead, the regulation sets forth a singular, unified definition of what constitutes “[i]nstitutional advertising.” Specifically, advertising is institutional if it is not aimed at obtaining business for a specific insurer and does not provide consumers with information pertinent to the decision whether to buy that insurer's product.

         Here, the commissioner concluded that all of Mercury's advertising qualified as institutional advertising within the meaning of section 2644.10(f) because Mercury aims its entire advertising budget at promoting the Mercury Insurance Group as a whole and the Mercury Insurance Group is not a specific insurer. If the commissioner was correct in his characterization of Mercury Insurance Group (which we address below), then the commissioner was also correct in his conclusion that all of Mercury's advertising qualifies as institutional advertising within the meaning of section 2644.10(f) because advertising that is aimed entirely at promoting an entity that is not a specific insurer is advertising that is not aimed at obtaining business for a specific insurer and does not provide consumers with information pertinent to the decision whether to buy that insurer's product.

         That brings us to Mercury's argument that the commissioner erred in concluding that Mercury's advertising was not aimed at obtaining business for a specific insurer because “all of Mercury's advertising was conducted under the name trade name ‘Mercury' rather than the technical corporate name ‘Mercury Casualty Company.' ” Mercury contends the commissioner was wrong in this regard “for several reasons.” Before addressing those reasons, however, we pause to more fully set forth the commissioner's exact ruling on this subject.

         Contrary to Mercury's argument, the commissioner did not conclude that Mercury's advertising was not aimed at obtaining business for a specific insurer because all of that advertising was conducted under the trade name “Mercury” rather than the technical corporate name “Mercury Casualty Company.” Instead, the commissioner's ruling was far more comprehensive and nuanced than Mercury's argument acknowledges. First, the commissioner found, by a preponderance of the evidence, “the following facts with regard to Mercury's advertising expenditures and methods”:

         “Mercury General and all its affiliates advertise under the name ‘Mercury Insurance Group.'[4] The Mercury Insurance Group is not a legal entity in any state and not a licensed insurer in California. Mercury General's advertising department supports all of Mercury's affiliates and Mercury guides all its prospective customers to one telephone number. Mercury does not allocate advertising expenditures to specific insurance affiliates nor does the advertising department distinguish between insurance ...


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