922 F.2d 357 (7th Cir. 1990), 90-1044, Harbor Ins. Co. v. Continental Bank Corp.

Docket Nº:90-1044, 90-1090.
Citation:922 F.2d 357
Party Name:HARBOR INSURANCE COMPANY and Allstate Insurance Company, Plaintiffs-Appellees-Cross-Appellants, v. CONTINENTAL BANK CORPORATION, formerly known as Continental Illinois Corporation; and Continental Bank N.A., formerly known as Continental Illinois National Bank and Trust Company of Chicago, Defendants-Appellants-Cross-Appellees.
Case Date:December 17, 1990
Court:United States Courts of Appeals, Court of Appeals for the Seventh Circuit

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922 F.2d 357 (7th Cir. 1990)

HARBOR INSURANCE COMPANY and Allstate Insurance Company,



CONTINENTAL BANK CORPORATION, formerly known as Continental

Illinois Corporation; and Continental Bank N.A., formerly

known as Continental Illinois National Bank and Trust

Company of Chicago, Defendants-Appellants-Cross-Appellees.

Nos. 90-1044, 90-1090.

United States Court of Appeals, Seventh Circuit

December 17, 1990

Argued Sept. 12, 1990.

As Amended Dec. 20, 1990.

Rehearing Denied Jan. 29, 1991.

Page 358

[Copyrighted Material Omitted]

Page 359

A. Benjamin Goldgar, Dennis C. Waldon, James G. Heiring, Frank J. Roan, Keck, Mahin & Cate, Thomas D. Allen, Kathy P. Saxton, Jane A. Zimmerman, Wildman, Harrold, Allen & Dixon, Sara E. Cook, James P. DeNardo, McKenna, Storer, Rowe, White & Farrug, Thomas W. Conklin, Linda E. Unger, Conklin & Roadhouse, Chicago, Ill., for plaintiffs-appellees-cross-appellants.

Thomas P. Healy, Jr., Michele Odorizzi, Roger W. Barrett, Franklin P. Auwarter, Robert J. Kriss, Mayer, Brown & Platt, Leonard Ring, Debra A. Thomas, Ring & Associates, Chicago, Ill., for defendants-appellants-cross-appellees.

Before WOOD, Jr., POSNER, and FLAUM, Circuit Judges.

POSNER, Circuit Judge.

This suit involves the interpretation of an insurance policy for directors' and officers' liability issued by Harbor and Allstate to Continental Bank. The policy provides that if Continental sustains a loss as a result of a claim made against a director or officer for wrongful acts committed in the performance of his office, Harbor shall reimburse Continental Bank for the first $15 million of loss and Allstate shall reimburse it for the next $10 million. There is another condition: the claim must be one with respect to which Continental, under its charter, is required or permitted to indemnify a director or officer. We go to the charter and find that it permits Continental to indemnify any person "who was or is a party or is threatened to be made a party to any threatened, pending or completed action ... by reason of the fact that he is or was a director [or] officer ... against expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by him in connection with such action, ... if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the corporation."

The claims at issue in this case were made in the wake of the collapse of the Penn Square bank, from which Continental had bought $1 billion in loans, most of which proved to be uncollectible. Continental itself collapsed, and although it was saved at the last minute by the Federal Deposit Insurance Corporation its stock became virtually worthless, precipitating a flurry of lawsuits by investors who had bought the stock just before the collapse. National Union Fire Ins. Co. v. Continental Illinois Corp., 666 F.Supp. 1180, 1184 (N.D. Ill.1987). The suits charged securities fraud--specifically, that Continental had concealed the bad news about the Penn Square loans in order to keep up the price of its stock. Two of the suits are germane to this appeal. One, certified early on as a class action, named as defendants Continental plus twenty-five directors, officers, and employees of Continental identified only as "John Does." The other suit named as defendants Continental and five of its directors, identified by their proper names.

While the two suits were wending their way through the courts, Harbor and Allstate brought this suit against Continental for a declaration that they were not liable under the directors' and officers' policy. The reason given in the complaint was that the behavior of the directors had been so egregious that, even in the unlikely event that such conduct could be fitted within the good-faith proviso in Continental's charter, federal and state law would forbid Continental to indemnify the directors for any liability they incurred as a result of that conduct. Id. at 1186-91. The FDIC was named as an additional defendant because it controlled Continental at the time the suit was brought. The propriety of naming the FDIC as a defendant is not in question; and by doing so the plaintiffs obtained federal jurisdiction over Continental, 12 U.S.C. Sec. 1819(b)(2)(A); FDIC v. W.R. Grace & Co., 877 F.2d 614, 617 (7th Cir.1989), even though complete diversity of citizenship is lacking because Allstate and Continental are both citizens of Illinois.

A year after the filing of this suit, Continental settled the two securities cases for $17.5 million and then filed a counterclaim against Harbor and Allstate seeking reimbursement

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of $15 million from Harbor and the remaining $2.5 million from Allstate (the excess insurer). Harbor and Allstate now changed their tune. No longer did they argue that the directors' conduct had been so egregious as to make indemnification by Continental offensive to public policy. They argued that Continental had settled the cases prematurely; the directors had been guilty of no misconduct at all! The counterclaim was tried, resulting in a judgment for the insurance companies of nonliability from which Continental appeals. There is a cross-appeal which we shall take up at the end. The parties agree that Illinois law governs all substantive issues in both appeals.

We must first consider whether the district court had jurisdiction over the counterclaim insofar as it named Allstate as a defendant along with Harbor. The suit for declaratory judgment brought by the two insurance companies against Continental and the FDIC was within federal jurisdiction by virtue of the FDIC's being a party to the case. So if Continental's counterclaim against Allstate had been a compulsory counterclaim, it would not have needed an independent federal jurisdictional basis; it would have been within the district court's ancillary jurisdiction. Baker v. Gold Seal Liquors, Inc., 417 U.S. 467, 469 n. 1, 94 S.Ct. 2504, 2506 n. 1, 41 L.Ed.2d 243 (1974). The counterclaim against Harbor had an independent federal jurisdictional basis--diversity of citizenship. (Well, not quite, because the counterclaim was against Allstate as well as Harbor. However, after Newman-Green, Inc. v. Alfonzo-Larrain, 490 U.S. 826, 109 S.Ct. 2218, 104 L.Ed.2d 893 (1989), a want of complete diversity can be cured by the dismissal of the nondiverse party even on appeal.) But insofar as the counterclaim was directed against Allstate, it did not have an independent federal jurisdictional basis, and it was not compulsory because it had not existed when the main suit was filed. The authority for filing the counterclaim (against Harbor as well as Allstate) was Rule 13(e) of the Federal Rules of Civil Procedure, which provides that "a claim which either matured or was acquired by the pleader after serving a pleading may, with the permission of the court, be presented as a counterclaim by a supplemental pleading." (The court gave its permission.) A counterclaim founded on Rule 13(e), Allstate argues, is permissive; a permissive counterclaim requires an independent federal jurisdictional basis, Hartford Accident & Indemnity Co. v. Sullivan, 846 F.2d 377, 381 (7th Cir.1988); therefore Allstate, although not Harbor, should be dismissed.

The major premise is incorrect. The word "permission" in Rule 13(e) should not be equated to "permissive" in Rule 13(b). Rule 13(a) defines a compulsory counterclaim as one that "arises out of the same transaction or occurrence that is the subject matter of" the complaint. Rule 13(b) defines a permissive counterclaim as one that does not arise out of the same transaction or occurrence that is the subject matter of the complaint. Continental's counterclaim against Allstate arises out of the same transaction as the declaratory judgment complaint filed by Harbor and Allstate, and the only reason it is not a Rule 13(a) counterclaim is that it did not exist when the complaint was filed. This is an excellent, indeed compelling, reason; it just is not a reason that has anything to do with Rule 13(e).

A compulsory counterclaim is compulsory; unless set forth in the answer to the complaint it is waived. Fed.R.Civ.P. 7(a), 12(a), (b); Baker v. Gold Seal Liquors, Inc., supra, 417 U.S. at 469 n. 1, 94 S.Ct. at 2506 n. 1; Burlington Northern R.R. v. Strong, 907 F.2d 707, 710 (7th Cir.1990); Asset Allocation & Management Co. v. Western Employers Ins. Co., 892 F.2d 566, 572 (7th Cir.1989). It would be bizarre to attach this sanction to a counterclaim that could not have been filed with the answer because it did not exist when the answer was due. Rule 13(a) is therefore by its very terms confined to "claim[s] which at the time of serving the pleading the pleader has against any opposing party," normally the plaintiff. Rule 13(e) allows such claims, with the court's permission, to be added later. The reason that permission is required is that the course of

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the litigation may be unduly disrupted if new claims are belatedly injected; in that case permission will be denied and the defendant can bring his claim as an independent lawsuit.

Closely related claims should if possible be tried together to spare the parties and the American judicial system the diseconomies of multiple proceedings. That indeed is the premise of Rule 13(e). Continental's claim against Allstate is as closely related as it could be to Allstate's claim against Continental--as closely related as it would be if it were a compulsory counterclaim within the meaning of Rule 13(a). Every consideration of judicial economy that argues for ancillary jurisdiction over Rule 13(a) counterclaims--and those are the very considerations responsible for the doctrine of...

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