First Union v. US Fidelity, 1009

• Decision Date: 27 May 1999
• Docket Number: No. 1009,1009
• Citation: 126 Md. App. 499,730 A.2d 278
• Parties: FIRST UNION CORPORATION, et al. v. UNITED STATES FIDELITY AND GUARANTY COMPANY.
• Court: Court of Special Appeals of Maryland

730 A.2d 278

126 Md. App. 499

FIRST UNION CORPORATION, et al. v. UNITED STATES FIDELITY AND GUARANTY COMPANY.

No. 1009, Sept. Term, 1998.

Court of Special Appeals of Maryland.

May 27, 1999.

Warren E. Zirkle (Elizabeth F. Edwards, Brian C. Riopelle and McGuire, Woods, Battle & Boothe, L.L.P., Richmond, VA, James P. Gillece, Jr., Michael J. Kresslein and McGuire, Woods, Battle & Boothe, L.L.P., Baltimore, on the brief), for appellants.

Gerson A. Zweifach (Dennis M. Black, Julia B. Shelton, Williams & Connolly, Washington, DC, Richard C. Burch, Andrew Janquitto and Mudd, Harrison & Burch, Towson, on the brief), for appellee.

Argued before SONNER, BYRNES and PATRICE E. LEWIS (specially assigned), JJ.

SONNER, Judge.

In November of 1993, Mr. Dick Nelson, a well regarded customer of Signet Bank as well as a member of its advisory board, introduced two of his friends to one another. The meeting of those two friends led to the events that bring this case to us. Nelson owned a computer leasing company, Nelco, and one of his friends, Ed Reiners, had leased equipment from Nelco as an agent of a Fortune 500 company, Philip Morris. Reiners told Nelson about a new and secret undertaking called "Project Star" that Philip Morris was going to run "off shore," which was an effort to develop harmless tobacco by experimenting with human subjects. He said that, were such experiments to take place within the United States, it would be too controversial and perhaps illegal. At the very least, it would involve the scrutiny of federal agencies. For those reasons, Reiners said that the entire operation would take place outside of the United States. From the very beginning, he demanded strict confidentiality; the entire operation would have to be kept secret from all except a tightly limited few. Nelson understood.

In order to carry out the venture, Reiners maintained that he needed to lease $25 million worth of computer equipment. Nelson was in the computer leasing business and could help him there. Reiners would need a loan from a bank to do that and Nelson knew somebody who could help. Nelson quickly introduced Reiners to another very good friend, Connie Mooney, a "relationship manager" at Signet,¹ and also to two others, Mooney's boss and the chief credit officer at the bank. The five of them went to lunch, where Reiners explained the secret project to them. Even before the lunch, Nelson had passed on to Mooney what he understood about the transaction. This led her to draft a credit memorandum, in advance, seeking approval of a large loan to a company named "World Wide Regional Export," the company Nelson told her was the Philip Morris subsidiary formed to carry out the project and which was to be completely controlled by Reiners as the Chief Operating Officer.

Signet then processed the credit application for World Wide Regional Exports through the bank's lending process, which included submission to Signet's credit committee. Mooney had priced the proposed loan terms and calculated the expected profit to Signet, calculations that showed it to be a most profitable undertaking for the bank as well as for Nelson and his leasing company. In a little over a month, Signet approved the loan and, in mid-December, made the first disbursement. Over the next twenty-eight months, Reiners obtained $300 million to carry out what he called "Project Star."

The routine practice for banking institutions with loans of that size is to syndicate the loans with other banks. This deal, which Signet internally called the "Stealth Loans," had several features that made marketing difficult, primarily because Reiners had insisted that all those involved with the loan at Signet sign a confidentiality agreement not to reveal Philip Morris's involvement in Project Star or to contact anybody at the company's headquarters in Richmond. In addition, the loan, unlike others of a similar nature, was not secured by any of the computers and other equipment that Reiners had agreed to purchase with the funds that the bank had already advanced. In keeping with the confidentiality agreement, Signet was not able to verify the delivery of any of the equipment or to communicate directly with anyone at Philip Morris.

When Signet attempted to market the Stealth Loans to other institutions, the vast majority of them refused to have anything to do with the offer, in spite of the fact that the financial terms were "above market." On March 17, 1996, an officer of one of the skeptical banks, Term Credit of Japan, ignoring the confidentiality agreement, contacted Philip Morris to check on the legitimacy of Project Star and to verify the authority of Reiners to act on behalf of Philip Morris. An officer from Phillip Morris faxed back information disclosing that the entire Project Star was bogus. The defrauded officials from Signet contacted the Federal Bureau of Investigation. Two days later, Ed Reiners was under arrest and in federal custody.²

Signet was able to recover all but $35 million of the $300 million advanced to Reiners. This appeal is about who should bear that loss. Signet, as appellant, maintains that United States Fidelity and Guaranty Company ("USF & G"), which contracted with it to insure certain losses, should pay. On the other hand, the insurance contract, according to USF & G, excludes losses occasioned by frauds such as the one perpetrated on the bank by Reiners. USF & G consequently denied coverage and filed a complaint for declaratory judgment in the Circuit Court for Baltimore County. After a hearing on a motion for summary judgment, the court issued a six-page order granting USF & G's motion and entering judgment in its favor. In so doing, the court found specifically that two forged incumbency certificates, which Reiners submitted in order to establish his authority to act on behalf of Philip Morris, did not qualify for coverage as either "evidence of debt" or "instructions or advices."

Although appellant has raised several issues, this is essentially a dispute over the interpretation of the insurance contract that Signet negotiated with USF & G. The disputed terms were in Standard Form 24, a contract that resulted from negotiations between representatives of the banking and the surety industries. Signet interprets two provisions in Standard Form 24 to cover Reiners's fraud. Insuring Agreement (D)(2) provides coverage for loss resulting from

transferring, paying or delivering any funds or Property or establishing any credit or giving any value on the faith of any written instructions or advices directed to the Insured and authorizing or acknowledging the transfer, payment, delivery or receipt of funds or Property, which instructions or advices purport to have been signed or endorsed by any customer of the Insured or by any banking institution but which instructions or advices either bear a signature which is a Forgery or have been altered without the knowledge and consent of such customer or banking institution....

(Emphasis added.) Moreover, under Insuring Agreement (E), USF & G agreed to indemnify Signet for

Loss resulting directly from the Insured having, in good faith, for its own account or for the account of others,

(1) acquired, sold or delivered, or given value, extended credit or assumed liability, on the faith of, any original

....

(e) Evidence of Debt.

USF & G argues that Reiners, in the perpetration of his gigantic fraud, did not forge any papers that constituted evidence of debt. USF & G concedes that Reiners committed many dishonest acts, forged some signatures, and massively deceived those with whom he came in contact, but that none of those dishonest acts is covered by the terms of the contract. We agree.

A court should grant a motion for summary judgment when there is no genuine dispute as to any material fact and the moving party is entitled to judgment as a matter of law. Maryland Rule 2-501(e) (1998). In reviewing the granting of a motion for summary judgment, the proper standard of review is whether the trial court was legally correct. Beatty v. Trailmaster Prods., Inc., 330 Md. 726, 737, 625 A.2d 1005 (1993).

Signet first argues that the court below should have found the "incumbency certificates" that Reiners forged to be "evidence of debt" under Insuring Agreement (E)(1)(e) of the bond.

We initially note that Signet's interpretation of the bond is inconsistent with its history. Standard Form 24 has generally excluded losses caused by forgeries or loans made under false pretenses. Exclusion (a) provides that the bond does not cover "loss resulting directly or indirectly from forgery or alteration, except when covered under Insuring Agreements (A), (D), (E) or (F)[.]" The rationale underlying this exclusion is to deny coverage for poor loan underwriting. Indeed, "[t]he failure to follow sound business practices and verify authenticity is a business risk taken by banks and not an insured risk covered by the [b]ond." National City Bank of Minneapolis v. St. Paul Fire & Marine Ins. Co., 447 N.W.2d 171, 177 (Minn.1989).

With respect to the exceptions to Exclusion (a), the history of the bond reveals that they are to be construed narrowly. In 1980, representatives of the banking and surety industries amended Insuring Agreement (E) in order to narrow the number of documents that could qualify for coverage under that section. See Edgar L. Neel, Financial Institution and Fidelity Coverage for Loan Losses, 21 TORT & INS. L.J. 590, 614 (1986). Under the 1969 bond, Insuring Agreement (E) provided coverage for losses arising out of a bank's reliance on a forged "document." Because courts constructed this language broadly, the drafters of the 1980 amendments sought to limit its coverage by enumerating and defining the specific documents that come within its purview. The 1980 amendments to Standard Form 24 were also notable because the drafters, for the first time, included a definition of forgery, which turned out to be rather...