Maine Bonding & Cas. Co. v. Centennial Ins. Co.

• Decision Date: 22 January 1985
• Citation: 693 P.2d 1296,298 Or. 514
• Court: Oregon Supreme Court
• Parties: MAINE BONDING & CASUALTY COMPANY, a New York corporation, Respondent on review, v. CENTENNIAL INSURANCE COMPANY, A New York corporation, Petitioner on review. CA A23760; SC 29943.

Page 1296

693 P.2d 1296

298 Or. 514

MAINE BONDING & CASUALTY COMPANY, a New York corporation, Respondent on review, v. CENTENNIAL INSURANCE COMPANY, A New York corporation,

Petitioner on review.

CA A23760; SC 29943.

Supreme Court of Oregon,

In Banc.

Argued and Submitted Jan. 24, 1984.

Decided Jan. 22, 1985.

[298 Or. 515-A] Michael A. Lehner, Portland, argued the cause, for petitioner on review. With him on the briefs and petition were Mitchell, Lang & Smith, Portland.

Emil R. Berg, Portland, argued the cause, for respondent on review. With him on the briefs were John R. Barker, and Wolf, Griffith, Bittner, Abbott & Roberts, Portland.

PETERSON, Chief Justice.

The resolution of this case turns upon the answer to this question: When an insured has a layer of "primary" liability insurance and a layer of "excess" liability insurance above the primary, what duty, if any, is owed by the primary liability insurer to the excess liability insurer?

This case involves a classic primary-excess insurance relationship resulting from the purchase by the insured, Great Balls of Fire, Inc., of two separate policies, one providing primary coverage and the other providing excess coverage. ¹ Great Balls of The negligence of Great Balls of Fire caused fire damage to the property and business of Gene Hamilton on March 2, 1977. Hamilton's claim against Great Balls of Fire ultimately was settled for $475,000, comprised of Centennial's $100,000 policy limits and $375,000 from Maine. After the Hamilton claim was settled, Maine brought this action against Centennial, contending that Centennial's wrongful acts in investigating and defending the Hamilton litigation caused Maine's share of the settlement to be higher than it otherwise would have been.

Fire purchased a property damage liability policy from defendant Centennial Insurance Company (Centennial), with policy limits of $100,000. Great Balls of Fire also purchased an excess property damage liability policy from Maine Bonding & Casualty Co. (Maine), with limits of two million dollars above the limits of the underlying Centennial policy.

A jury returned a verdict in favor of Maine in the sum of $62,000, and judgment was entered thereon, Centennial appealed, claiming that the trial court erred in denying its motion for directed verdict "because there was not sufficient evidence for a jury to find that Defendant acted in bad faith or breached its duty to the Plaintiff." The Court of Appeals affirmed. ² Maine Bonding & Casualty Co. v. Centennial Ins. Co., 64 Or.App. 97, 667 P.2d 548 (1983). We allowed review to consider the duty, if any, owed by a primary liability insurer to an excess liability insurer.

I THE INSURER'S LIABILITY TO THE INSURED

It is first appropriate to consider the nature of the relationship between a liability insurer and an insured. A liability insurance policy is a contract between the insurer and the insured containing promises by the insurer to perform specific duties. ³ Centennial's policy is typical. Among its other provisions, it contains agreements to pay and to defend. The policy provides:

"The company will pay on behalf of the insured all sums which the insured shall become legally obligated to pay as damages because of A. bodily injury or B. property damage to which this insurance applies, caused by an occurrence, and the company shall have the right and duty to defend any suit against the insured seeking damages on account of such bodily injury or property damage * * *." (Emphasis added.)

The policy also contains a "limits of liability" clause, which limits Centennial's duty to pay to "the limit of property damage liability stated in the declarations as applicable to 'each occurrence'." As stated, Centennial's property damage limit is $100,000.

Centennial's policy also gives it the right to control the defense of litigation against its insured and to settle any claim or suit "as it deems expedient." The right of the insurer to control the defense of the litigation carries with it the duty to exercise diligence and care toward the insured. Radcliffe v. Franklin Nat'l Ins. Co., 208 Or. 1, 21, 298 P.2d 1002, 1011 (1956).

In previous cases, we have held insurers liable to their insureds for failing to exercise due diligence in the defense of claims against insureds. Most claims by insureds against liability insurers involve claims that The common situation is one in which the policy has a limited amount available to pay claims, the claim or claims exceed the policy limits, and a judgment is returned against the insured in excess of the policy limits. On this point, Kuzmanich v. United Fire and Casualty, 242 Or. 529, 532, 410 P.2d 812, 813 (1966), states this rule:

the insurer failed to exercise good faith or due care in defending claims above the limits of liability.

"An insurer owes to its insured the duty of due diligence and good faith. In determining whether to settle claims against the insured, the insurer must act as if it were liable for the entire judgment that might eventually be entered against the insured. In addition, only a decision made by an insurer who exercises due diligence in apprising itself of the material facts is entitled to be considered as made in good faith."

To the same effect is Eastham v. Oregon Auto Ins. Co., 273 Or. 600, 607, 540 P.2d 364, 367 (1975):

" * * * Good faith requires the insurer, in handling negotiations for settlement, to treat the conflicting interests of itself and the insured with impartiality, giving equal consideration to both interests. With respect to settlement and trial, an insurance company must, in the exercise of good faith, act as if there were no policy limits applicable to the claim and as if the risk of loss was entirely its own. Bad faith is normally demonstrated by proving that the risks of unfavorable results were out of proportion to the chances of a favorable outcome. * * * "

Although our previous decisions have referred to concepts of "good faith," "bad faith" and "due care" in stating the duty, the insurer's duty to the insured comes down to this: In conducting the defense of a claim against an insured, including the investigation, negotiation, and litigation of the claim, the insurer must use such care as would have been used by an ordinarily prudent insurer with no policy limit applicable to the claim. The insurer is negligent in failing to settle, where an opportunity to settle exists, if in choosing not to settle it would be taking an unreasonable risk--that is, a risk that would involve chances of unfavorable results out of reasonable proportion to the chances of favorable results. Stating the rule in terms of "good faith" or "bad faith" tends to inject an inappropriate subjective element--the insurer's state of mind--into the formula. The insurer's duty is best expressed by an objective test: Did the insurer exercise due care under the circumstances.

The duty to defend is independent of and not limited by the duty to pay. The duty to defend requires that the insurer exercise reasonable care to protect its insured's interests, in addition to its own. This obligation may require that the insurer negotiate with a view to settling the case within the policy limits. Eastham v. Oregon Auto Ins. Co., supra, 273 Or. at 608, 540 P.2d at 368. Due care may require that an insurer make inquiries to determine if settlement is possible within the policy limits. Of course, an insurer cannot be held liable for failure to settle within the policy limits when no reasonable opportunity to settle exists.

Problems rarely arise when all claims, in the aggregate, do not exceed policy limits, because the interests of the insured and insurer are, for the most part, congruent. However, when the amount of a claim exceeds the policy limit, the interests of the insured and insurer begin to diverge because the insured alone has the responsibility to pay claims above the limits of liability. Generally, the greater the potential exposure above the policy limits, the greater the divergence between the interests of the insured and the insurer.

The duties of an insurer toward its insured are fairly well established and are not in dispute in this case. This case requires

us to consider the nature of the relationship between the excess and primary insurer to determine what duty, if any, is owed by the primary liability insurer to the excess liability insurer. We turn to that question.

II LIABILITY OF PRIMARY INSURER TO EXCESS INSURER

The purchase by an insured of a primary and an excess liability policy does not form a contractual relationship between the primary and the excess carriers. It does link them to the common insured.

One thing is clear. The excess policy is written with the existence of the primary policy in mind. Maine's policy in this case, on its declarations page, makes explicit reference to the Centennial primary coverage in a "schedule of underlying insurances." Maine's policy provides that its liability is "the excess of * * * the limits of the underlying insurances as set out in the schedule in respect of each occurrence covered by said underlying insurances." Maine's policy also contains this provision:

"It is a condition of this policy that the policy or policies referred to in the attached 'Schedule of Underlying Insurances' shall be maintained in full effect during the currency of this policy * * *."

One result of the primary-excess layers of coverage, such as we have in this case, is this: The excess carrier's obligation to pay begins where the primary insurer's ends--when the limits of the primary policy are exhausted. In this respect, the potential liability of the excess insurer is identical to that of an insured who has no excess coverage. The excess carrier is liable for the amount of any judgment in excess of the primary policy, up to the limits of the excess carrier's coverage. Above that amount, the insured remains liable. The result is that if the...