(Article from Insurance Law Alert, February 2020)
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Applying California law, a Missouri federal district court ruled that language in excess policies was ambiguous as to whether it required excess insurers to “drop down” and provide coverage following a primary insurer’s insolvency. In addition, the court ruled that coverage under the excess policies was contingent upon horizontal exhaustion of all applicable primary policies, but that issues of fact existed as to the period of continuous loss. O’Reilly Auto Enters. v. U.S. Fire Ins. Co., 2020 WL 520129 (W.D. Mo. Jan. 31, 2020).
The coverage dispute arose out of underlying asbestos-related claims. O’Reilly, successor-in-interest to the original policyholder, sought a declaration regarding the defense and indemnity obligations of excess insurers Columbia Casualty Company and Continental Casualty Company. The excess insurers sought summary judgment on two issues: (1) that they were not obligated to “drop down” due to the insolvency of Home Insurance Company, the primary insurer underlying both excess policies; and (2) that they owed no duty to defend or indemnity under the principle of horizontal exhaustion because other primary policies (issued by United States Fire) were not exhausted. The court denied the motion.
The court ruled that excess policy language was ambiguous as to the excess insurers’ duty to “drop down” following Home’s insolvency. The court explained that policies can preclude “drop down” obligations if they expressly state that excess liability is triggered when primary insurance is “exhausted by payment of the underlying policy limit.” However, the excess policies at issue contained the following language: “if the applicable limit of liability of the underlying insurance is less than as stated in the schedule of underlying insurance because the aggregate limit of liability of the underlying insurance has been reduced this policy becomes excess of such reduced limit of liability.” The court deemed the term “reduced” ambiguous, explaining that it may or may not include reduction by Home’s insolvency. Construing this ambiguity in favor of coverage, the court ruled that the excess insurers were obligated to bear the risk of Home’s insolvency. In so ruling, the court rejected the excess insurers’ contention that a separate “loss” provision, which defined loss as “sums paid as damages in settlement of a claim or in satisfaction of a judgment,” operated to preclude “drop down” coverage absent actual payment by underlying insurance.
With respect to horizontal exhaustion, the court noted that under California law, the presumption is that excess coverage does not attach until all applicable primary policies have been exhausted. To overcome this presumption, a policy must include language stating that it is “excess to a specifically described policy and that coverage attaches only when the limits of the specific policy are exhausted.” The excess policies did not contain this language. Rather, they defined “loss” as sums paid after deductions for “all recoveries, salvages and other insurances.” In addition, other provisions referenced “other insurance,” further supporting the position that the excess policies were not intended to attach until all primary insurance had been exhausted.
Notwithstanding this finding, the court held that it was not in a position to grant the excess insurers’ summary judgment motion as to whether their obligations were subject to the exhaustion of U.S. Fire’s primary policies. The court explained that “the principles of horizontal exhaustion apply only where the period of continuous loss is the same for the primary and excess policies at issue.” Here, the excess insurers failed to show the absence of a genuine dispute regarding the period of continuous loss and whether it spanned coverage periods in which U.S. Fire issued primary policies.