Coverage for SXSW Refund Lawsuit Barred by Contract Exclusion

A magistrate judge of the United States District Court for the Western District of Texas has issued a report and recommendation to the District Court concluding that the contract exclusion in a directors and officers liability policy barred coverage for a lawsuit alleging breach of contract, unjust enrichment, and conversion in connection with the insured’s refusal to issue ticket refunds.  SXSW, LLC v. Fed. Ins. Co., 2022 WL 1648500 (W.D. Tex. May 24, 2022).  The magistrate judge also concluded that the underlying lawsuit sought coverage for “Loss,” and not disgorgement of ill-gotten gains, which are amounts uninsurable under Texas law.

The insured festival organizer sought coverage for a demand and class action lawsuit asserting breach of contract, unjust enrichment, and conversion in connection with the insured’s refusal to issue ticket refunds for cancellation of the festival in March 2020 due to COVID.  Among other reasons, the insurer denied coverage on the basis that (1) the festival organizer did not comply with the policy’s notice provision; (2) the lawsuit did not seek covered “Loss” under the Policy; and (3) the contract exclusion barred coverage.

The magistrate judge rejected the insurer’s argument that the festival organizer failed to comply with the policy’s notice provision because it provided notice of the lawsuit when it was filed rather than waiting until it was served with process. 

The insurer argued that the complaint did not seek “Loss,” which the policy defined to carve out any “amount uninsurable under the law,” by characterizing the plaintiffs’ claim for return of any amounts paid for tickets as a claim for disgorgement of ill-gotten gains.  The magistrate judge concluded that because no allegations had been asserted that the festival organizer fraudulently or illegally acquired payments from the plaintiffs, the complaint did not seek amounts uninsurable under Texas law and instead sought covered “Loss” under the policy.

However, the magistrate judge concluded that the contract exclusion, which precluded coverage for “any Claim . . . based upon, arising from or in consequence of any liability in connection with any oral or written contract or agreement,” applied to preclude coverage for the lawsuit.  The magistrate judge concluded that the exclusion applied not only to the breach of contract claim but also the unjust enrichment and conversion claims.  The unjust enrichment and conversion claims arose from the ticket sale contract, as the plaintiffs could not have brought these claims absent the ticket sale contract.  In so concluding, the magistrate judge stated that the contract exclusion did not render the policy illusory because the policy affords coverage for claims unrelated to a contract, and the exception to the exclusion provides coverage for claims if the insured would have been liable in absence of the contract or agreement.

After concluding the insurer had no duty to defend or indemnify, the magistrate judge concluded that the festival organizer’s bad faith claim must also fail because the insured had not demonstrated that the insurer’s conduct was extreme and produced damages independent of the policy claim, which is the standard under Texas law for bad faith claims to survive when the insurer properly denied coverage. 

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