HOME INS. CO. OF IL (NH) v. Spectrum Info. Tech.

Decision Date15 July 1996
Docket NumberNo. 95 CV 3744 (FB).,95 CV 3744 (FB).
Citation930 F. Supp. 825
PartiesThe HOME INSURANCE COMPANY OF ILLINOIS (NEW HAMPSHIRE), Plaintiff, v. SPECTRUM INFORMATION TECHNOLOGIES, INC., Peter T. Caserta, Dana Verrill, A. Werner Pleus, John Rule, Albert Panico, John Sculley, Salvatore Marino, Andrew Migliorini, John P. Bohrman, A.C. Dalton, Joseph H. Allen, Edward N. Maskaly, Christopher T. McGowan, Ronald S. Glassner, Bernard H. Gudvi, Phillip E. Jennings, Kailas J. Rao, and John Does 1-100, Defendants.
CourtU.S. District Court — Eastern District of New York

Ohrenstein & Brown, New York City, for Home Ins. Co.

Brown & Wood, Jones, Day, Reavis & Pogue, New York City, for Peter Caserta.

Proskauer, Rose, Goetz & Mendelsohn, New York City, for John Sculley.

Cleary, Gottlieb, Steen & Hamilton, Goodkind, Labaton, Rudoff & Sucharow, New York City, for Spectrum Information Technologies, Inc.

Siff Rosen, P.C., New York City, Ross, Dixon & Masback, L.L.P., Washington, DC, for Aetna Casualty & Surety Co.

Peterson & Ross, New York City, for Agricultural Excess & Surplus Insurance Co.

Dominic F. Amorosa, New York City, for Albert Panico.

Mark B. Rosen, Hackensack, NJ, for Dana Verrill, A. Werner Pleus and John Rule.

Lehman & Gikow, New York City, for Joseph Allen.


BLOCK, District Judge:

Plaintiffs Home Insurance Company of Illinois ("Home") and Aetna Casualty and Surety Company ("Aetna") bring this action for declaratory relief and rescission pursuant to 28 U.S.C. §§ 157(d), 1334, and 2201, claiming that none of the defendants in this action (collectively referred to hereafter as "Spectrum" unless otherwise indicated) are entitled to directors' and officers' ("D & O") liability insurance coverage under Home's Renewal Policy ("Renewal Policy") or Aetna's Excess D & O Liability Insurance Policy ("Excess Policy"). Home and Aetna argue that they are entitled to rescind the Renewal and Excess Policies because Spectrum, through certain of its officers and directors, allegedly made material misrepresentations by failing to disclose in its applications for insurance an informal inquiry initiated by the Securities and Exchange Commission ("SEC") and, alternatively, that Spectrum's coverage is precluded by several of the policies' provisions.

The Court held a bench trial on February 28 and 29, 1996 on the rescission issue. The policy coverage issues are the subject of various partial summary judgment motions. For the reasons that follow, the Court determines that (1) Spectrum did not materially misrepresent or fraudulently conceal information in its applications for insurance coverage, and thus, Home and Aetna are not entitled to rescission; and (2) Spectrum's coverage is not precluded by the policy provisions to the extent that the claims are factually unrelated to a pre-existing policy period within the meaning of the Renewal and Excess Policies' exclusionary clauses as fully explained herein.


This action arises from the tentative settlement of a consolidated class action brought against Spectrum for alleged violations of the federal securities laws. The settlement includes the payment of approximately $10,000,000 to the class members by various parties involved in the litigation and is contingent upon Home's and Aetna's payment of the face amounts of the Renewal and Excess Policies, each in the sum of $2,000,000. (See Pl.'s Ex. 86.) The relevant facts — either undisputed in the summary judgment submissions or determined by the Court as a consequence of the rescission trial — follow.

A. 1993 "AT & T Lawsuits"

In June 1992, Home issued Spectrum a D & O liability and company reimbursement policy ("Original Policy"), which covered the period from June 26, 1992 to June 26, 1993 ("Original Policy Period"). As with all of the policies discussed herein, this policy was issued on a "claims made" basis.1 Aetna did not insure Spectrum during this period.

In May 1993, Spectrum shareholders who purchased their Spectrum common stock during that month brought several class action lawsuits against Spectrum. The complaints asserted, inter alia, violations of federal securities laws based on Spectrum's alleged May 1993 public misrepresentations of the value of a licensing agreement between Spectrum and AT & T.2 On June 21, 1993, The Honorable Leonard Wexler of the Eastern District of New York issued Pre-Trial Order No. 1 pursuant to Rule 50 of this Court's Rules for the Division of Business among District Judges and Rule 42(a) of the Federal Rules of Civil Procedure, which consolidated most of these lawsuits under the caption In re Spectrum Information Technologies, Inc. Securities Litigation ("AT & T Lawsuits"). (Margulis Aff. Ex. B.) Home has acknowledged coverage under the Original Policy for loss arising from the AT & T Lawsuits. (Home's Mem.Supp. Summ.J. at 3; Home 3(g) Stmnt. ¶ 6.)

B. SEC Inquiry

On May 21, 1993, the SEC sent a letter informing Spectrum that it had initiated an "informal inquiry into recent trading and disclosures involving Spectrum" ("SEC Inquiry"), and requested that Spectrum voluntarily produce copies of, inter alia, all press releases issued by Spectrum since the beginning of May 1993, Spectrum's agreement with AT & T, all correspondence between Spectrum and AT & T relating to the agreement, research reports and analyst recommendations issued with respect to Spectrum since the beginning of May 1993, and AT & T's May 18, 1993 press release relating to the technology which was the subject of the agreement. (Ahari Aff.Ex. 7.) The letter stated that the inquiry was "confidential and should not be construed as an indication by the Commission ... that any violations of law ... had occurred, nor should it be considered an adverse reflection upon any persons, entities or securities." Id. The letter did, however, refer to the SEC's Form 1662, attached to the letter, which described twenty-two routine uses of information provided to the SEC, including the investigation of possible securities laws violations. Id. In a subsequent letter dated October 8, 1993, the SEC requested additional information relating to the AT & T licensing agreement. (Ahari Aff.Ex. 10.) These inquiries allegedly did not become known to the public until January 25, 1994. (Second Am.Compl. ¶ 98; Margulis Aff.Ex. H at 60.)

C. Home's and Aetna's Applications for the Renewal and Excess Policies

On May 27, 1993, Spectrum applied for the Renewal Policy for the coming year with Home, the issuer of the Original Policy, and on June 4, 1993, Spectrum applied for the Excess Policy with Aetna, who had not previously insured Spectrum. Spectrum did not disclose the SEC Inquiry in either its application for insurance with Home or Aetna. Nor did Spectrum reveal the SEC Inquiry to Home during a meeting held on June 7, 1993 regarding its application for the Renewal Policy.

1. Home's Renewal Policy Application

Paragraph 7 of Home's application for the Renewal Policy inquired of Spectrum as follows:

Has the Applicant Corporation (or any subsidiary thereof) and/or any of its directors or officers been involved in the following within the past eighteen (18) months:
(a) any representative action, class action or derivative suit?
(b) any civil or criminal action or proceeding investigating or charging a violation of any federal or state security law or regulation?
(c) any other litigation other than ordinary routine litigation incident to the business of the Applicant Corporation (and/or its subsidiaries) and/or its directors and officers?

(Joint Pre-Trial Order ¶ 23.) Spectrum answered Paragraph 7(a) in the affirmative and expounded as follows:

Recent suits alledgesic that Spectrum inflated projected income from a recent AT & T deal. Spectrum feels that the suit is without merit and hopes they will be dismissed.

Id. at ¶ 24. Spectrum answered "no" to Paragraphs 7(b) and (c). Id. at ¶¶ 25-26.

Spectrum had also completed an application prior to the issuance of the Original Policy in June 1992 which contained the same Paragraphs 7(a), (b), and (c). Consistent with its answer to Paragraph 7(b) on the 1993 application, Spectrum did not disclose the fact that it was subject to a prior informal SEC inquiry, dated October 10, 1990, regarding sales of restricted stock by Spectrum's officers and directors and promotional materials issued by Spectrum between January 1988 and October 1990. (Joint Ex. 6; Pl.'s Ex. 1; Tr. at 233-35.)3

2. Aetna's Excess Policy Application

Paragraph 11(a)(2) of Aetna's application for the Excess Policy contained a similar question to that contained in Paragraph 7(b) of Home's application:

Has any person or entity proposed for this insurance been a party to any of the following: .... Any civil, criminal or administrative proceeding alleging or investigating a violation of any security law or regulation?

(Medina Aff.Ex. B). Spectrum provided the same substantive response to this question that it did to Paragraph 7(a) in Home's policy application:

Yes. Recent class action suit alleges Spectrum overstated potential revenue from a recent AT & T deal. Attorneys for Insured as well as auditors feel the suit will be dismissed.

Id. Paragraph 11 further asked:

(b) No claims have been made against any person(s) proposed for this insurance in their capacity as a director or officer of the Applicant, except as follows (include loss payment and defense costs. If answer is "none", so state).
(c) No person or entity proposed for this insurance is cognizant of any fact, circumstance or situation which they have reason to suppose might afford valid grounds for any claim such as would fall within the scope of the proposed insurance, except as follows (if answer is "none", so state).

Id. Similar to its responses to Home's Paragraphs 7(b) and (c), Spectrum referred to its answer in Paragraph 11(a)(2) in response to Paragraph 11(b) and answered "none" in response to Paragraph 11(c)....

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