Construction Insurance and Real Estate
Timely articles covering the most pressing issues facing construction firms in the Midwest

Pollution Exclusion in D&O Policy Applied to Exclude Coverage for Alleged Business Torts
By: J. Kent Holland

When a property purchaser discovered pollution on its newly acquired property it filed suit against the seller and the seller agreed to pay certain cleanup costs. But the seller subsequently reorganized its corporate structure and asserted the cleanup costs could not be paid out the reorganized company. The seller then brought suit alleging the seller intentionally and wrongfully reorganized its corporate structure to escape the liabilities. The seller asked its directors & officers insurance carrier to defend the suit and the carrier refused to do so because it claimed a pollution exclusion in the policy barred coverage. The seller filed suit against it carrier and after much litigation, the carrier's position was ultimately found correct by an appellate court which held that because there was a relationship between the purchasers claims concerning wrongful reorganization and the pollution on the property, the policy's pollution must be applied to deny coverage.

The seller in this case was The Danis Companies (Danis or TDC). The purchaser was Waste Management, Inc. (WM) . The insurance carrier was Great American Insurance Company (Great American). Great American refused to advance defense costs for Danis because it asserted that a pollution exclusion in the D&O policy barred coverage on the underlying claim against Danis by WM.

Waste Management had acquired the landfill from Danis as part of a sale of all outstanding shares of certain companies from Danis to Waste Management. In connection with the stock purchase, Danis agreed to indemnify WM against liabilities arising out of ownership of any landfill. The indemnity covered environmental liabilities, but it was not limited to just environmental liabilities.

As a result of pollution found after the transfer the landfill, the Environmental Protection Agency (EPA) issued notices of liability to Danis and WM as potentially responsible parties under Superfund. WM demanded indemnification from Danis, and Danis eventually entered into a settlement agreement to indemnify WM for claims arising from environmental pollution, remediation, failure to remediate, toxic torts, bodily injury, and property damage. At some point, just before the settlement agreement was finalized, Danis underwent a major restructuring whereby Danis Building Construction Company (DBBC) was separated from Danis Industries Corporation (DIC) and The Danis Companies (TDC).

Waste Management alleged in its litigation against Danis that DBBC had been a profitable subsidiary of TDC and was split off to insulate DBBC from environmental liabilities to WM. Waste Management also claims that the recapitalization/split-off of DBBC stripped DIC and TDC of assets, leaving insufficient funds to satisfy the indemnification obligations owed to WM under the settlement agreement. WM's complaint further alleged breach of several agreements by Danis concerning responsibility for the landfill remediation and liabilities.

Great American denied coverage for Danis and refused to advance costs for the WM lawsuit, asserting that the pollution exclusion of the policy barred coverage. The policy language stated that the policy excludes claims ?based upon, arising out of, relating to, directly or indirectly resulting from or in consequence of, or in any way involving actual or alleged? pollution?;? provided, however, that this exclusion shall not apply to any derivative suit by a security holder of the Company if the security holder bringing such Claim is acting totally independent of any without the solicitation, assistance, active participation or intervention of any Director or Officer of the Company.

Danis filed suit against Great American for breach of contract and declaratory judgment. The trial court agreed with Danis that coverage was not excluded by the pollution exclusion. The state appellate court reversed, however, because it concluded, "The use of the modifying words" directly or indirectly? indicates that an indirect causal relationship is sufficient for the exclusion to apply. Consequently, even though we have found that the federal claims are intertwined with the pollution settlements, coverage for these claims would additionally be excluded as matters ?indirectly related to pollution

The reason the trail court concluded the pollution exclusion didn't apply was that it found the underlying federal claims revolved around allegations of corporate reorganization to escape liabilities. What the court essentially decided was that the alleged actions of the officers and directors in reorganizing and recapitalizing the corporate entities was the immediate cause of the harm alleged by Waste Management, and that these actions served as an intervening cause between the pollution and the damages incurred by Waste Management. Thus, as an ?intervening cause,? the damages resulting from that cause would be independent of the pollution and would not be excluded by the pollution exclusion.

Great American argued that the trial court was wrong to apply an ?intervening cause? approach. Although Great American admitted that the business torts create a separate cause of action, it argued that they are not independent causes of loss, because they could not have arisen in the absence of the underlying environmental liabilities.

The appellate court agreed with Great American that only one loss occurred, that being damage caused by the polluted site. The acts of the Danis companies concluded the court, did not cause a separate injury or loss; instead, the alleged wrongful acts were an attempt to avoid paying for the loss. This is not the typical situation in which one party commits a tort, and the negligent or wrongful act of another party operates to cause either sharing or a complete release of liability for the injury. To be an intervening cause, explained the court, the second negligent act must be both independent and new. The second act must not have occurred as a result of the first.

Applying these legal concepts, the appellate court found that the claims involved in the litigation by WM against Danis were not independent of the original pollution settlements but instead that the underlying settlements were part of the necessary predicate for liability of Danis is the federal case. The original pollution settlements and the alleged illegal transfers of assets are so intertwined and directly connected that pollution exclusion is applicable to all the claims asserted. For these reasons, the court held in favor of Great American and reversed the trail court decision.

Danis v. Great American Insurance Co., 2004-Ohio-6222 (November 19, 2004).

This article is part of the Construction Risk Management Library found at http://www.ConstructionRisk.com