In an opinion issued after a grant of rehearing, the California Court of Appeal, Second Appellate District, Division Three, issued a writ of mandate directing the trial court to vacate an order on threshold legal issues interpreting an umbrella insurer's defense obligations under an umbrella liability policy. The Court of Appeal concluded that, because the policy's "retained limit" provision did not say it was applicable to the duty to defend, the insurer owed an immediate or "first dollar" duty to defend the insured with respect to claims within the scope of that coverage.
The City of Modesto sued Legacy Vulcan Corp. ("Vulcan") and others. It alleged the use of perchloroethylene, which Vulcan had manufactured, resulted in environmental contamination. Vulcan tendered the suit to its insurer, Transport Insurance Company ("Transport"), under an Excess Catastrophe Liability Policy ("Policy").
Under the terms of the Policy Transport agreed to indemnify Vulcan for "ultimate net loss" in excess of the "retained limit." The "retained limit" was defined as the greater of: (a) the limit of liability of the underlying insurance in Schedule A plus the applicable limits of "any other underlying insurance," or (b) the amount stated in "Item 3" in the policy declarations ($100,000) "because of personal injury, property damage or advertising injury not within the terms of the coverage of the underlying insurance listed in Schedule A."
The Policy further required Transport to defend Vulcan if the conditions of one of two clauses were met. In Clause 1, Transport agreed to defend claims "not within the terms of the coverage of underlying insurance but within the terms of coverage of this insurance." In Clause 2, Transport agreed to defend if the "limits of liability of the underlying insurance are exhausted." "Underlying insurance" was not a specifically defined term but the policy contained a "Schedule of Underlying Insurance" listing specified policies.
Transport brought a declaratory relief action against Vulcan. Transport and Vulcan stipulated the trial court could decide certain threshold legal issues before trial. The trial court made three legal rulings: (1) the phrase "within the terms of this insurance" means actual coverage, not potential coverage; (2) Transport has no duty to defend until self-insured retentions are exhausted; and, (3) all primary insurance must horizontally exhaust before Transport's coverage will apply.
Vulcan sought a writ of mandate. It argued: (1) the Clause 1 duty to defend extends to potentially covered suits; (2) the phrase "underlying insurance" in Clause 1 referred only to scheduled underlying insurance, not to any underlying insurance; and, (3) the horizontal exhaustion rule did not apply. The Court of Appeal agreed.
The Court read Clause 1 in the context of the Policy as a whole. It concluded that, for purposes of determining the duty to defend afforded by the umbrella coverage, "underlying insurance" referred only to the scheduled underlying insurance. The Court reasoned that clause (a) of the retained limit definition referred to scheduled underlying insurance and all other underlying insurance and clause (b) of that definition referred to scheduled underlying insurance. In contrast, the duty to defend provisions in Clauses 1 and 2 referred to "underlying insurance" without qualification. This difference in usage of "underlying insurance" in the policy created an ambiguity. The Court pointed to the "Schedule of Underlying Insurance" as reasonably suggesting the unmodified reference to "underlying insurance" in Clause 1 was intended to refer only to the insurance listed on that schedule.
The Court further concluded Transport's duty to defend under the umbrella coverage was akin to a primary obligation. The phrase "not within the terms of the coverage of underlying insurance" in Clause 1 referred to the fact of coverage, not whether underlying insurance was exhausted. The ordinary rules regarding an insurer's duty to defend therefore applied and Transport's defense obligation was triggered by a potential for coverage.
The Court of Appeal also rejected Transport's contention that its defense obligation was subject to the retained limit. It found Transport's duty to defend under Clause 1 was an immediate, first dollar, obligation. The Court noted no general rule applies to retained limits in isolation, i.e. without regard to the particular policy provisions. Thus, absent language expressly subjecting an umbrella insurer's defense obligations to the retained limit, the insured would reasonably expect it was entitled to an immediate defense when the umbrella coverage applies. Transport's umbrella coverage expressly limited only the duty to indemnify to amounts in excess of the retained limit.
The Court of Appeal further held the horizontal exhaustion rule did not apply. Transport's defense obligation was not dependent on exhaustion of any insurance.
Accordingly, the Court of Appeal granted the petition and issued a peremptory writ directing the trial court to vacate its order and conduct further proceedings consistent with the Court of Appeal's ruling.
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This opinion is not final. It may be withdrawn from publication, modified on rehearing, or review may be granted by the California Supreme Court. These events would render the opinion unavailable for use as legal authority.
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