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AR Capital, LLC v. XL Specialty Insurance Co.

Superior Court of Delaware

December 12, 2018

AR CAPITAL, LLC, Plaintiff,
v.
XL SPECIALTY INSURANCE COMPANY, BEAZLEY INSURANCE COMPANY, EVEREST NATIONAL INSURANCE COMPANY, ILLINOIS NATIONAL INSURANCE COMPANY, ALTERRA AMERICA INSURANCE COMPANY, ARGONAUT INSURANCE COMPANY, QBE INSURANCE COMPANY, and CATLIN INSURANCE COMPANY, Defendants. VEREIT, INC., Intervenor-Plaintiff,
v.
AR CAPITAL, LLC, Defendant.

          Submitted: June 18, 2018

         Upon AR Capital LLC's Motion for Partial Summary Judgment on Defense Costs - GRANTED in Part and DENIED in Part

         Upon VEREIT, INC.'s Cross-Motion for Summary Judgment - DENIED

         Upon VEREIT, INC.'s Partial Motion to Dismiss AR Capital LLC's First Amended Counterclaims II - VI - GRANTED

          Jennifer C. Wasson, Esquire, Carla M. Jones, Esquire, Potter Anderson & Corroon LLP, Attorneys for Plaintiff.

          Robin L. Cohen, Esquire, Natasha Romagnoli, Esquire, McKool Smith, PC, One Bryant Park, Attorneys for Plaintiff.

          StephenB. Brauerman, Esquire, SaraE. Bussiere, Esquire, Bayard, P.A., Attorneys for Intervenor-Plaintiff

          Joseph D. Jean, Esquire, Alexander D. Hardiman, Esquire, Benjamin D. Tievsky, Esquire, Pillsbury Winthrop Shaw Pittman LLP, Attorneys for Intervenor-Plaintiff.

          MEMORANDUM OPINION

          William C. Carpenter, Jr., Judge

         Before the Court are: (1) AR Capital LLC's ("AR Capital") Motion for Partial Summary Judgment on Defense Costs, (2) VEREIT, Inc.'s ("VEREIT") Cross-Motion for Summary Judgment, and (3) VEREIT's Partial Motion to Dismiss AR Capital LLC's First Amended Counterclaims II - VI. For the reasons set forth below, AR Capital's Motion for Partial Summary Judgment is GRANTED in Part and DENIED in Part, VEREIT's Cross-Motion for Summary Judgment is DENIED, and VEREIT's Partial Motion to Dismiss AR Capital, LLC's First Amended Counterclaims II - VI is GRANTED.

         I. FACTUAL AND PROCEDURAL BACKGROUND

         VEREIT and AR Capital

         This action stems from a dispute between VEREIT, its excess insurers, and AR Capital. On September 6, 2011, VEREIT and AR Capital entered into two agreements: an Acquisition and Capital Services Agreement and a Management Agreement (collectively, the "VEREIT Agreements").[1] AR Capital performed management and advisory services related to VEREIT's investments and operations.[2]The parties terminated the VEREIT Agreements on February 28, 2013, and January 8, 2014, respectively.[3]

         On September 7, 2014, VEREIT's Board of Directors' Audit Committee began investigating certain reporting irregularities.[4] The investigation was disclosed to the public on October 29, 2014, and VEREIT released restated financial results for the first two quarters of 2014.[5] In March 2015, VEREIT issued additional financial restatements, including for 2013, while AR Capital had served as VEREIT's manager.[6]

         Almost immediately after VEREIT's audit was publicly disclosed, the U.S. Securities and Exchange Commission ("SEC") got involved. On November 13, 2014, the SEC issued an Order Directing Private Investigation and Designating Officers to Take Testimony (the "SEC Order of Investigation").[7] The SEC Order of Investigation targeted VEREIT and its directors, officers, "partners, subsidiaries, and/or affiliates, and/or other persons or entities directly or indirectly" involved in VEREIT's activities. In addition to the Order of Investigation, the SEC issued a subpoena to AR Capital, demanding documents regarding AR Capital's external management of VEREIT, its knowledge with respect to VEREIT'S finances, and the services it performed in connection with VEREIT's financial filings.[8]

         The disclosure of VEREIT's financial reporting issues also prompted litigation. VEREIT, AR Capital, and individuals associated with both entities were named as defendants in a number of lawsuits filed by shareholders alleging, among other things, that VEREIT, AR Capital, and its directors perpetuated a multi-year long accounting fraud.[9] This led to one consolidated class action[10] and at least seven opt-out actions pending in various jurisdictions.[11]

         In November 2014, AR Capital and its officers and directors hired two law firms to defend against the underlying matters.[12] To date, the law firms have incurred approximately $14.5 million in defense costs.[13]

         The Insurance Tower

         VEREIT purchased primary and excess insurance coverage for the policy period of February 7, 2014 to February 7, 2015. Defendant XL Insurance Company ("XL"), VEREIT's primary insurer, provided $10 million in coverage, including defense costs (the "Primary Policy").[14] Seven excess insurers (the "Excess Insurers")[15] issued policies above the Primary Policy, as summarized in the following chart (the "Excess Policies"):[16]

Policy Layer

Insurer

Limit of Liability

Primary

XL

$10 million

First Excess

Beazley

$10 million

Second Excess

Everest

$10 million

Third Excess

Illinois National

$10 million

Fourth Excess

Alterra

$10 million

Fifth Excess

Argonaut

$10 million

Sixth Excess

QBE

$10 million

Seventh Excess

Catlin

$ 10 million

         The Excess Policies generally "follow form" to the Primary Policy's terms and conditions.[17] Each Excess Policy would be triggered once the immediately preceding layer was exhausted by the underlying insurer or by the insured itself.[18]

         The relevant portions of the Primary Policy state the insurer will pay: (a) Loss for which a Company is required or permitted to indemnify an Insured Person resulting from a Claim made during the policy period for a Wrongful Act ("Side B Coverage"); and (b) Loss suffered directly by a Company resulting from a Securities Claim made during the policy period for a Company Wrongful Act ("Side C Coverage").[19] AR Capital is included in the amended definition of "Company" but limited to the time that it externally managed VEREIT and/or its Subsidiaries.[20]Additionally, AR Capital's Directors are included in the Primary Policy's definition of "Insured Person."[21]

         The policies differentiate between "Wrongful Acts" and "Company Wrongful Acts." "Wrongful Act" is defined to include "any actual or alleged" "act, error, omission, misstatement, misleading statement, neglect, or breach of duty by an Insured Person acting in their role with the Company."[22] A "Company Wrongful Act" refers to similar conduct by a Company in connection with a Securities Claim.[23]

         A "Claim" has multiple definitions, including:

• a written demand for monetary or non-monetary relief;[24]
• a civil action or proceeding;[25]
• an investigation of the Company for a Company Wrongful Act by the SEC or similar agency commenced by subpoena;[26]
• an investigation of an Insured Person commenced by subpoena even if the Insured Person has not been identified as someone against whom a claim will ultimately be made;[27] and
• any informal regulatory or administrative investigation of an Insured Person for a Wrongful Act.[28]

         "Securities Claim" is defined to include a Claim made against any Insured[29] for any actual or alleged violation of any federal, state or local regulation, statute or rule in connection with the purchase or sale of or offer to purchase or sell securities, which is brought either: (1) by any person in any way involving the purchase or sale or offer to purchase or sell securities of a Company, or (2) by a security holder of a Company with respect to that security holder's interest in the securities.[30] "Securities Claim" also includes any administrative or regulatory investigation of a Company, but only if and while such investigation is also continuously maintained against an Insured Person.[31]

         "Loss" covered under the Primary Policy includes "Defense Expenses," which are defined as "reasonable legal fees and expenses incurred in the defense of any Claim."[32] Defense costs are to be to be paid immediately as they are incurred upon the Insured's written request.[33] The Insurers could recoup amounts paid towards defense fees "if it is subsequently determined by a final, non-appealable adjudication" that the Loss is not covered under the policy.[34] Notably, the Insurers expressly disclaimed the duty to defend.[35]

         In November 2014, AR Capital notified XL that it had been sued in the Underlying Matters.[36] On April 15, 2015, XL acknowledged AR Capital's defense costs and began providing coverage on behalf of six officers and directors of AR Capital. However, XL denied coverage as to the corporate entity, asserting that there was no securities claim as defined by the policy.

         On or about May 7, 2015, AR Capital demanded coverage from all Insurers.[37]Then, on May 19, 2015, AR Capital requested indemnification from VEREIT.[38] Since the policy that covered AR Capital was purchased by VEREIT, defense invoices would be initially submitted and reviewed by VEREIT and, upon approval, forwarded to the carrier for payment. In fact, the Court was provided several emails from December of 2015 where invoices for AR Capital's defense were approved by VEREIT. Since both VEREIT and AR Capital were looking to the same policies for coverage, this process was less than ideal. It appears that, sometime in early 2016, counsel for AR Capital learned that VEREIT had failed to submit additional AR Capital defense invoices for payment. Instead, VEREIT had submitted invoices for their defense costs and had substantially utilized the policy limits of the XL and Beazley coverage.

         VEREIT, in discussing its own coverage with the Insurers, purportedly informed the Insurers that it spoke on behalf of all insureds, including AR Capital. Based off this representation, the Insurers began paying the defense costs submitted by VEREIT. One excess carrier, Beazley, tendered its entire policy limits to VEREIT, allegedly to AR Capital's detriment.[39] On April 15, 2016, AR Capital notified the Insurers that VEREIT did not speak for AR Capital, and demanded the Insurers copy AR Capital on all correspondence with VEREIT.[40]

         As a result of the foregoing, AR Capital initiated the instant litigation against the Insurers in April 2016, seeking a declaration that it was entitled to be treated fairly and equitably under the Primary and Excess Policies. According to AR Capital, the Insurers favored VEREIT over AR Capital, leaving AR Capital exposed to catastrophic losses.

         The Insurers moved to dismiss AR Capital's claim for failure to add VEREIT as a necessary party on May 31, 2016. On June 9, 2016, AR Capital moved for partial summary judgment on the issue of defense costs. Then, in October 2016, before the Court had decided the pending motions, VEREIT moved to intervene. As a result, the Insurers' pending Motion to Dismiss was rendered moot.

         On October 19, 2016, VEREIT filed a Complaint for Declaratory Relief against AR Capital.[41] In particular, VEREIT requests a determination by this Court that, to the extent both VEREIT and AR Capital are entitled to coverage for Defense Costs in connection with the Claims and/or Underlying Matters under the Policies:

(i) AR Capital must first seek coverage under its own liability insurance program, (ii) AR Capital is only entitled to reasonable and necessary defense costs from the Defendants subject to the terms, conditions, limitations and exclusions contained in the Policies, and (iii) any remaining costs must be reimbursed on a first come first served basis as invoices are submitted to the Defendants, as opposed to some other scheme of priority.[42]

         On November 7, 2016, VEREIT filed its opposition to AR Capital's Motion for Partial Summary Judgment and filed a Cross-Motion for Summary Judgment on the pending question of defense costs.[43] Since oral argument on the Motions, AR Capital settled with XL, the primary insurance carrier, and Beazley, the umbrella carrier which sits above the primary insurer in this matter.[44] Additionally, on February 10, 2017, AR Capital filed a First Amended Answer and Counterclaims in response to VEREIT's Complaint.[45] Unfortunately, the counterclaims filed by AR Capital have exploded the litigation beyond any reasonable common sense. As such, what should be cooperative litigation by two companies to maximize insurance coverage has turned into a fight between them (or at least their counsel), with coverage of legal fees still not provided. VEREIT moved to dismiss AR Capital's Amended Counterclaims II-VI on March 20, 2017. The Court was scheduled to hear argument on VEREIT's Motion to Dismiss on July 14, 2017; however, due to a family emergency of counsel, the hearing was postponed. The Court delayed its decision regarding the parties cross- motions for summary judgment to hear the Motion to Dismiss. Thus, this decision resolves all pending motions.

         II. DISCUSSION

         There is no dispute that AR Capital's status as an "insured" depends upon its own and its directors' status as parties to the Underlying Matters. As mentioned above, there are two types of coverage applicable to this lawsuit: Side B and Side C. Side B coverage involves claims based upon Wrongful Acts by an Insured Person. Side C coverage pertains to claims alleging Company Wrongful Acts.

         The parties all agree that AR Capital may be entitled to Side B coverage for claims prior to the date VEREIT became self-managed. The parties disagree, however, as to whether AR Capital is entitled to Side C coverage at all. The Court will examine whether AR Capital is entitled to Side C coverage first before examining the Insurers' duty to advance defense costs in the Underlying Actions.

         A. Side C Coverage

         VEREIT intervened in this lawsuit to protect its interest in the finite amount of available insurance proceeds. VEREIT's motion seeks a summary judgment ruling that AR Capital is not entitled to indemnification or defense costs, which is covered under Side C coverage for Company Wrongful Acts. In support of this position, VEREIT argues Endorsement 52 expressly limits AR Capital's coverage to Side B coverage, which covers losses resulting from Claims of Wrongful Acts. Unsurprisingly, AR Capital rejects VEREIT's construction of the Policies and insists it is entitled to entity coverage under Side C, as well as Side B coverage.

         Delaware contract law is well-settled. Clear and unambiguous policy language is read according to its plain and ordinary meaning.[46] Absent some ambiguity, Delaware courts will not disrupt or rewrite policy language under the guise of contract interpretation.[47] When the terms of an insurance contract are clear and unequivocal, the parties will remain bound by the plain meaning of the policy-as creating an ambiguity where none exists can, in effect, establish new contract rights, liabilities and duties to which the parties had not assented.[48] Further, "[u]nder general principles of contract law, a contract should be interpreted in such a way as to not render any of its provisions illusory or meaningless."[49] Thus, "[c]ontractual interpretation operates under the assumption that the parties never include superfluous verbiage in their agreement, and that each word should be given meaning and effect by the court."[50]

         It is true that contractual silence does not always make a contract unclear.[51]Delaware Courts have held that provisions not included in an agreement are not equivalent to ambiguous terms. However, the parties' course of performance "may be used to aid a court in interpretation of an ambiguous contract, [or] it may also be used to supply an omitted term when a contract is silent on an issue."[52]

         Considering these contract principles, the Court finds that Endorsement 52 and the definitions set forth in the policy created an ambiguity that can be easily resolved by the conduct of the parties and their insurers. Currently as written, Side C coverage pertains exclusively to "Company Wrongful Acts," a term the Policies explicitly distinguish from the separately defined "Wrongful Acts." Endorsement 52 states that AR Capital was added as a covered entity under the definition of Company, but if the intent as argued by VEREIT was to only add AR Capital as a Company to ensure coverage of its officers and directors, the remaining and disputed portion of Endorsement 52 would not be needed and would be surplusage. Simply stating that AR Capital is within the definition of Company would be all that is necessary to ensure this coverage.[53]

         Thus, the Court finds that the only way to logically read Endorsement 52 is to find that AR Capital is entitled to Side C coverage. In Endorsement 52, under the "Amend[ed] Definition of Company," AR Capital is included in the umbrella definition of Company.[54] The Court finds the remaining portion of the Endorsement was clearly intended to ensure that insurance coverage would only relate to the time they were acting as external managers for VEREIT. This would be critical to the insurers and at the time would be inconsequential to VEREIT. If the parties to this insurance policy wanted to exclude AR Capital from Side C coverage, distinguishing it from other "Company" entities, they could have simply stated so in the Endorsement. Even a non-lawyer with elementary comprehension of the English language could have created such an exception. To suggest the language in Endorsement 52 does so now is nothing more than a lawyer-created assertion that the Court rejects.

         The intervenor, VEREIT, asks the Court to read this amendment outlining Wrongful Acts to be an exclusion. Specifically, because the amended definition of Company is silent on Company Wrongful Acts, AR Capital is not entitled to receive such coverage-thus eliminating any right to Side C coverage. VEREIT suggests that the exclusion of Company Wrongful Acts from the amended definition was intentional and clearly prevents AR Capital from receiving such financial coverage. The Court does not agree with VEREIT's interpretation and finds such a conclusion to be flawed. The absence of a phrase does not automatically suggest an exclusion, [55] especially when the Policy states that "all other terms, conditions and limitations of this Policy shall remain unchanged."[56] Thus if the parties previously intended and agreed that AR Capital would be entitled to Side C coverage, this decision would remain unchanged. Looking at the parties' intent, as the Court did in Sonitrol, [57] the Court finds no evidence to suggest that Endorsement 52 was drafted to prohibit AR Capital from receiving Side C coverage. In fact, the purpose of Endorsement 52 was to "cover these entities [including AR Capital] for acts prior to internalization (1/8/2014) or better yet during the time that they were involved with managing."[58] Considering the documented purpose of Endorsement 52 with the admissions and eventual payments of Side C coverage from VEREIT Excess Insurers and supported by VEREIT itself prior to the present Motions, the Court finds VEREIT's interpretation to be "a futile attempt to frustrate the meaning, purpose, and intent of the parties' agreement."[59] Additionally, the Court finds the endorsement to be simply a sloppily and poorly written statement of the true intent of the parties and their insurers.

         The Court cannot reconcile why Endorsement 52 would have included AR Capital in the definition of Company and then limit coverage to only directors and officers of AR Capital and not the entity. When drafting this Policy, the parties expressly created two types of coverage and there is nothing to suggest that these policies were specifically written to provide Side C coverage only to VEREIT entities.[60]

         VEREIT also argues "[e]ven assuming that the Policies provided AR Capital with Side C coverage, AR Capital would still not be entitled to coverage because it has no securities that are involved in the Underlying Matters, a requirement for Securities Claim coverage in this case."[61] VEREIT claims that AR Capital cannot prove the Underlying Matters are covered under the definition of "Securities Claim."

         "Securities Claim" is defined in Endorsement 54 as a claim for:

... (1) any actual or alleged violation of any federal, state, local regulation, statute or rule (whether statutory or common law) regulating securities, including but not limited to actual or alleged violations of the foregoing in connection with the purchase or sale of, or offer to purchase or sell, securities which is:
(a) brought by any person or entity based upon, arising out of, directly or indirectly resulting from, in consequence of, or in any way involving the purchase or sale of, or offer to purchase or sell, securities of the Company; or
(b) brought by a security holder of a Company with respect to such security holder's interest in securities of such Company; or
(2) brought derivatively on behalf of the Company by a security holder of such Company.
Notwithstanding the foregoing, the term' Securities Claim' shall include administrative or regulatory investigations of, a Company, but only if and only during the time that such investigation is also commenced and continuously maintained against an Insured Person.[62]

         VEREIT asserts that "the Underlying Matters do not relate to the purchase or sale of AR Capital securities, a security holder's interest in AR Capital securities, or a derivative claim brought on behalf of AR Capital by a security holder of AR Capital."[63] AR Capital argues that VEREIT has misinterpreted the definition, and a Securities Claim need not be specifically related to AR Capital securities, which do not exist. The Court agrees.

         To trigger a Securities Claim, the matter must simply be "brought by a security holder of a Company with respect to such security holder's interest in securities of such Company," or more significantly be a federal, state or local investigation related to securities and an alleged violation of the regulation, statute or rule.[64] The allegations of the SEC investigation clearly would be encompassed under this definition. However, common sense would suggest that VEREIT's position is simply incorrect. This was a policy purchased by VEREIT which provided coverage for conduct occurring during AR Capital's management of VEREIT. As such, if there was fraudulent, misleading or perhaps illegal conduct relating to AR Capital management, the effect would be on the value of VEREIT securities and how AR Capital's conduct affected those securities.

         The bottom line is that AR Capital is entitled to Side C Coverage to the extent the provisions of the Policy are met. Therefore, AR Capital is to be paid for their claims up to the same amount VEREIT has already been paid by the excess insurers. Thereafter, AR Capital and VEREIT shall be paid its defense costs as they are incurred and submitted (first in, first out). AR Capital's Motion for Partial Summary Judgment on Defense Costs is granted.

         B. Duty to Advance Defense Costs

         The parties also disagree as to the proper standard for determining the Insurers' obligation to pay defense costs. AR Capital maintains that an insurer must provide a complete defense so long as any of the allegations in the underlying complaint potentially fall within the coverage of the policy.[65] This determination is made, AR Capital contends, based on the facts alleged in the underlying complaint, as opposed to how the causes of action are labeled therein.[66]

         Under Delaware law, where an insurer assumes a duty to defend, that duty is triggered if "the factual allegations in the underlying complaint potentially support a covered claim."[67] Here, however, it is clear that the Insurers disclaimed any "duty to defend." Rather, the Policies expressly obligate the Insureds to "defend and contest any Claim made against them, "[68] with the Insurers agreeing only to advance Defense Expenses upon written notice from the Insured "before the disposition of the Claim for which this Policy provides coverage."[69] Defense Expenses are defined as "reasonable legal fees and expenses incurred in the defense of any Claim."[70]

         The Court recognizes that a number of jurisdictions, including New York, distinguish between an insurer's duty to defend and its duty to pay defense costs.[71] These courts characterize the duty to defend as the broader of the two, requiring advancement of defense costs, even when only a portion of underlying litigation concerns "covered claims."[72] Where an insurer is obligated not to defend the policy holder but only to advance defense expenses, courts generally have acknowledged that the insurer is entitled to "differentiate between covered and non-covered claims."[73] Nevertheless, the Courts generally recognize that both duties arise "whenever the underlying complaint alleges facts that fall within the scope of coverage" and construe both duties "broadly in favor of the policyholder."[74]

         Where defense costs are concerned, the Court must look to the allegations made in the underlying complaints in order to determine whether a given action presents a claim covered by the policy.[75] However, "[t]he Court is not bound by the narrow language in a complaint filed against an insured," nor is its examination "limited to the plaintiffs unilateral characterization of the nature of [its] claims."[76]Rather, the test is whether the allegations of the complaint, when read as a whole, assert "a risk within the coverage of the policy."[77] Once established, the insurer is obligated to pay defense costs under the policy subject to a later crawl back of any uncovered expenses.

         AR Capital contends there are four categories of Underlying Actions which the Insurers must cover: (1) the VEREIT Class Action, (2) a number of opt-out actions filed throughout the country, (3) the SEC Order of Investigation, and (4) VEREIT's own internal audit. The Court must examine whether AR Capital's proffered proof ostensibly triggered the Insurers' duty to advance defense costs with respect to each category of Underlying Action.

         1. The In re ARCP ...


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