Applying Oregon law that allows bad faith tort claims “only if the insurer is subject to a standard of care that is independent of the insurance policy itself,” an Oregon federal court has granted summary judgment to an insurer, holding that there was no special relationship between the insurer and the insured where the insurer did not assume the defense.  Kollman v. Nat’l Union Fire Ins. Co. of Pittsburgh, PA., 2015 U.S. Dist. LEXIS 25464 (D. Or. Mar. 2, 2015).  The court also held that despite the fact that the insurer incorrectly denied coverage based on the insured v. insured exclusion, there was no evidence that the insurer acted unreasonably or in bad faith in applying the exclusion to complex facts.

The insured, a company that produces and markets products derived from algae, was sued, along with its directors and others, by one of its shareholders and former employees.  The insured sought coverage for itself and the defendant directors under its D&O policy.  Relying primarily on the insured v. insured exclusion, and also on the fact that the claims against the company were not “securities claims” as defined by the policy, the insurer denied coverage and any defense-related obligation.  The jury in the underlying case ultimately awarded the plaintiff a $40 million verdict.  The plaintiff then brought suit against the insurer to recover the judgment, in which the company intervened, alleging that the insurer acted in bad faith in failing to settle for the policy limits of $5 million.  The district court held in 2007 that the insured v. insured exclusion did not apply to bar coverage for the individual defendants, but the underlying suits did not constitute a “securities claim” as to the company.  The United States Court of Appeals for the Ninth Circuit affirmed in 2013.

In deciding the insurer’s subsequent motion for summary judgment as to the bad faith claim, the court explained that it had previously concluded that the insurer had incorrectly denied coverage based on the insured v. insured exclusion because the plaintiff was a past executive of two entities only before they became subsidiaries of the insured entity, and therefore was not an insured.  The court observed that under Oregon law, a bad faith action against an insurer will not lie absent the insurer being subject to a standard of care that is independent of the insurance policy itself—a standard that arises when the insurer undertakes to defend the insured.  Such special relationship that arises when the insurer controls the litigation or exercises independent judgment on the insured’s behalf is absent where, as here, the insurer never assumes the legal defense.   The court also concluded that, even assuming a special relationship existed, the plaintiff had not shown that the insurer’s denial of coverage was unreasonable or in bad faith notwithstanding the contrary coverage determination by the court given the existence of precedent from outside Oregon supporting the insurer’s position that the insurer v. insured exclusion applied to claims brought by former directors of the insured entity’s subsidiaries.