California U.S. District Court says Katrina storm surge is not excluded by excess policy’s flood exclusion

A correspondent sent me the pdf of August 16 decision in Northrop Grumman v. Factory Mutual Ins. Co., a $1.2 billion lawsuit by Northrop alleging breach of contract for Factory Mutual’s failure to pay for Katrina losses at Northrop’s various shipbuilding facilities in Louisiana and Mississippi.  Northrop is based in Los Angeles, and this lawsuit was filed in California state court and removed by the insurer to federal district court.  For some strange reason, almost none of the entries shown on the district court’s electronic docket are available, so I’m hindered in reviewing the pleadings.  But from what I can determine from press reports, Northrop press releases and other sources, including debate in Congress over whether the federal government should advance money to Northrop to cover property damage and business interruption losses insurers haven’t paid for, it appears the amount being sought from Factory Mutual is actually about $350 million.  Those who have followed this case more closely may be able to enlighten me.    

Northrop purchased a $100 million primary policy that basically covered everything — no flood exclusion, no earthquake exclusion.  Factory Mutual had 15 percent of the coverage of the primary layer, and paid it.  Let’s keep in mind the layers of coverage here.  The primary layer of coverage was shared by some 30 insurers including Factory Mutual.  A second layer of Factory Mutual coverage began at $500 million in losses and continued up to $19 billion.

The key issue, as explained by federal judge Dean Pregerson, was whether the Factory Mutual excess policy clearly excluded Katrina storm surge under its flood exclusion. Pregerson said it didn’t, and because the exclusion was ambiguous, granted summary judgment to Northrop, a decision that is sure to be appealed to the Ninth Circuit.  Here is the language of the excess policy’s flood exclusion:

 Flood; surface waters; rising waters; waves; tide or tidal water; the release of water, the rising, overflowing or breaking of boundaries of natural on man-made bodies of water; of the spray therefrom; or sewer back-up resulting from any of the foregoing; regardless of any other cause or event contributing concurrently or in any other sequence of loss.

Now, you may remember that in other Katrina litigation, flood exclusions in homeowners policies have been upheld, and judges have said that storm surge — ocean water pushed ashore by hurricane winds — is a flood.  Those policies, however, have included the phrase "whether driven by wind or not," a phrase that was in the definition of flood in the Northrop primary policy but is not in the excess policy’s definition. (Remember, the flood definition didn’t apply to the level of damage under the primary policy because Northrop purchased coverage with no primary flood exclusion).  Judge Pregerson therefore saw the difference between the two policies as highly significant, and he also placed great importance on past policies Factory Mutual had sold Northrop that defined flood to include storm surge, and that Factory Mutual has sold other policies including "whether driven by wind or not." While both constructions of the policy — Northrop’s and Factory Mutual’s — he said, where there are two reasonable constructions the policy is construed against the insurer, black letter coverage law. 

His decision came down to the reasonable expectations of Northrop at the time it purchased the policy, and evidence was presented that went both ways.  Read the decision and you will see.  The case presents two curiosities for me, however: why Factory Mutual gave in to the choice of law as California, rather than Mississippi, which has case law stating that storm surge is flood, and why the decision makes no mention of the anti-concurrent cause language in the excess policy’s flood exclusion. 

Based on the limited record I’m able to review, these are my guesses. First, if the issue is one of reasonable expectations of the parties — what they believed the coverage was based on their negotiations before the policy was issued — Mississippi case law does not form a part of that calculus.  Second, if the issue is whether storm surge is defined as flood and whether it is flood, there is not a concurrent cause issue, because a loss involving analysis of concurrent or sequential losses requires, of course, more than one cause, one of which is not covered.  If all possible causes of the loss are covered, anti-concurrent, anti-sequential language is inoperable.  That’s my first, quick take on the case.  Your views, as always, may differ, and they may persuade me if you let me know of them.  Policy language controls, as always, and if a policy is interpreted to include wind-driven storm surge as flood, someone can interpret it as wind (it appears that 1998 damage to Northrop facilities by Hurricane Georges was in fact adjusted by Factory Mutual as wind damage). Is it in fact wind damage? I think no, merely because a catastrophe involves wind does not mean wind itself was the physical force that caused the loss.  However, because direct loss from wind does not appear to have been an issue with the excess layer of coverage, the door is open to a reductionist analysis that wind and water are not separate forces and are defined by implication as one force by the policy, in the context of the reasonable expectations of the parties.

One final point: many have made the observation that the rule of contra proferentem is justified by the disparity in bargaining power between insureds and insurers, a justification that does not hold true when the insured is a sophisticated corporation like Northrop, one of the biggest companies in the nation with gross revenues far in excess of Factory Mutual, and one that has extremely good friends like Sens. Thad Cochrane and Trent Lott, who pushed for Congressional earmarks benefitting Northrop to the tune of many millions of dollars. What do you think, should contra proferentem apply in a case like this? If not, how does a court draw the line and tell where an actual disparity in bargaining power exists and where it does not?  Should there be a per se rule that any coverage involving actual bargaining does not warrant the application of contra proferentem?

6 Comments

Filed under First Party Insurance

6 Responses to California U.S. District Court says Katrina storm surge is not excluded by excess policy’s flood exclusion

  1. I am not prepared to address your last question, however you previously questioned why the ruling does not mention the anti concurrent cause language. I find this equally puzzling. This language would seem to greatly benefit FM’s position. Why would FM not invoke this language in their arguement?

  2. I wish I knew. When I read a district court opinion, if I haven’t already looked through the briefing I do so to inform my understanding of the judge’s decision. However, none of the briefing in this case was accessible through the court’s CM/ECF electronic docket, although the entries are listed. So I don’t know what arguments Factory Mutual made. The choice of law issue was startling to me, because there are Mississippi cases upholding anti-concurrent language while California does not enforce such language. It would seem to me that one could make the argument that, even if storm surge is driven by wind, it in fact is not wind but rather water pushed by wind. Under the way the judge was looking at storm surge, wind would either be classified as a concurrent cause or the sole cause, but as I just mentioned, seeing wind as the sole cause seems like a stretch. Therefore water that is an excluded flood cannot be covered merely because a covered cause acts in combination. I have not been following this case closely, but that is probably the argument I would have made.

  3. Christopher Morrissey

    I wanted to address 2 points you questioned.
    first, with respect to Factory Mutuals failure to challenge the Ca filing, it has always been my understanding that the plaintiff has the choice of venue as long as either the cause of loss occurred in that venue or the defendant conducts business in that venue.
    Second, it is only my opinion, but whether or not Contra Proferentem should apply would seem to hinge on 2 factors.
    1st, the disparity, or lack thereof, in the parties financial means and, secondly, whether the plaintiff was at a significant disadvantage due to lack of expertise. However, even this would seem to be of little consequence since they clearly have the ability to hire counsel experienced in coverage/contract law, as I’m sure they did.

  4. Whether a given venue is proper, however, is a different question from which state’s law should be applied to the merits. Conflict of law analysis, of course, only works when there is an actual conflict of laws, not when the laws of two states are the same. But there is a substantial difference between Mississippi’s views on anti-concurrent language and California’s — California does not enforce such language. I’m perplexed by why FM did not argue the anti-concurrent langauge: if the court was inclined to see wind and water working together to cause one kind of damage, that is a perfect definition of concurrent causes, one of the few times a concurrent cause analysis would apply in all of the Katrina litigation.
    Second, I’m not personally familiar with any instance where a court didn’t use contra proferentem because the insured was more sophisticated than the insurer, nor do I remember reading any case that I can think of where this has happened.

  5. William

    I do not understand why the Judge said the exclusion was ambiguous. The policy clearly excluded waves; waves are wind-driven water. Why would the damage not be excluded?

  6. Your reasoning is good, the judge’s reasoning is not so clear — you might even say, ambiguous. I don’t understand how he can talk about interpretation of a property insurance contract without discussing causation, when the issue is whether the physical force that damaged property is a covered force or not. I’m tempted to be uncharitable to this decision, but because I don’t have access to all the pleadings at present, I feel I may be overlooking something.