D & O Insurer Denial Not Vexatious

The Illinois Appellate Court for the First District, in an opinion written by Justice Reyes with Justices Gordon and Lampkin concurring, applying Illinois law, affirmed the Circuit Court’s decision that Liberty International Underwriters (“Liberty”) was not unreasonable or vexatious when it denied coverage under a directors and officers (“D&O”) policy because the claims against the insureds arose before the D&O policy took effect, and therefore, there was a bona fide coverage dispute.

The underlying dispute stems from Nine Group II, LLC’s (“Nine Group II”) sale of interests in another company that owned and operated entertainment venues in the Palms Hotel in Las Vegas.  Discussions regarding the potential sale began in early 2012.  A minority investor expressed dissatisfaction with various proposed terms for the same, including the purchase price.  Despite, the investor’s dissatisfaction, Nine Group II entered into an Interest Purchase Agreement dated August 3, 2012.  On August 24, 2012, before the anticipated closing of the Interest Purchase Agreement, an attorney for minority investors sent emails to the manager of Nine Group II regarding the “recent buyout offer and negotiations.”  The email set forth six “key terms of any agreement regarding a buyout of their interest in Nine Group II” and stated that if a satisfactory agreement was not reached, “we will have no choice but to pursue this matter through litigation.”  Based on various concerns, the original agreement was terminated on or about August 25, 2012.  An Amendment to the Interest Purchase Agreement was entered into as of September 6, 2012 and the deal closed shortly thereafter.  The amended agreement modified purchase price and other key terms, but also included a “reaffirmation” provision which stated that the original agreement otherwise continued to be in full force and effect and was ratified by the parties.

During the deal negotiations, with the help of its broker, Nine Group II applied for a D&O policy with Liberty.  Liberty issued Nine Group II “Directors & Officers and Company Liability” insurance on a claims-made basis for a policy period of August 27, 2012 to August 27, 2013.

On September 18, 2012, Nine Group II’s attorney forwarded the August 24, 2012 email from the minority investors with the subject line of “[p]otential demand” to its broker. The broker responded that the August 24, 2012 email could possibly be construed as notice of a potential claim, and therefore, Liberty should be put on notice.  On October 17, 2012, Liberty was notified regarding the August 24 emails.

On March 15, 2013, a minority investor filed suit in Nevada against the members of Nine Group II, with Nine Group II being listed as a nominal defendant.  The complaint asserted claims for breach of fiduciary duty, minority member oppression, breach of the covenant of good faith and fair dealing, and civil conspiracy.  Some of the claims were based on alleged events prior to implementation of the then current management.  Other claims were based on the operations of the Las Vegas venues, as well as the sale of certain of Nine Group II’s membership interests.

Nine Group II notified Liberty of the Nevada action on March 28, 2013 and April 19, 2013, both before and after service of the complaint.  On June 11, 2013, Liberty informed Group Nine II that there was no coverage available under the D&O policy for the Nevada action because the allegations in the complaint and the August 24, 2012 emails reflected that the claims arose prior to the policy period, which began on August 27, 2012.

Nine Group II then filed suit in the Circuit Court of Cook County alleging breach of contract, bad faith pursuant to Section 155, and seeking a declaration that it is entitled to coverage and indemnification from Liberty for the Nevada Lawsuit.  The parties filed cross motions for summary judgment.  The Circuit Court denied the parties’ motions on breach of contract and granted Liberty’s motion on bad faith.  The Circuit Court found that Liberty “met its burden as a matter of law that there was a bona fide coverage dispute, and that there was no question of fact as to whether Liberty’s denial for claim coverage was reasonable or vexatious.”

The parties disputed the appropriate standard for review.  The Appellate Court agreed with Nine Group II and reviewed the summary judgment rulings on the Section 155 claim de novo.  On appeal, the Nine Group II argued that: (1) the Circuit Court erroneously ruled there was a bona fide dispute regarding coverage; (2) Liberty’s failure to adequately communicate or to timely investigate the claim violated its own policies and constituted bad faith; and (3) genuine issues of material fact exist as to whether Liberty denied coverage in bad faith.

The key question in a Section 155 claim is whether an insurer’s conduct was vexatious and unreasonable.   Under Illinois law, Section 155 costs and sanctions are inappropriate when a bona fide dispute regarding coverage exists.  Relying in part on the fact the Nine Group II’s own attorney acknowledged via email to its broker that the email from the minority investor’s attorney was a potential demand, the Appellate Court found that there was a bona fide dispute regarding whether the Nevada action was covered by the policy based on the coverage period.  The Appellate Court was “unconvinced” that Liberty failed to adequately investigate the claim and communicate with the plaintiffs throughout the investigation process, citing to various communications in the record.  Lastly, the Appellate Court stated that it could not find that Liberty engaged in vexatious and unreasonable conduct with respect to the timing of its June 2013 coverage determination when the underlying complaint was served in April 2013.

The Appellate Court also disagreed with Nine Group II that there was a genuine issue of material fact.   “Where parties have filed cross-motions for summary judgment, they agree that only a question of law is involved and invited the court to decide the issues based on the record.”  Thus, the Appellate Court found as a matter of law that Liberty did not act vexatiously or unreasonably in denying coverage for the Nevada action under the D&O policy.  Nine Group II, LLC v. Liberty International Underwriters, Inc., 2020 IL App (1st) 190320-U (May 28, 2020).