Midiman v. Farmers Ins. Exch.

• Decision Date: 04 November 1999
• Docket Number: No. B121020.,B121020.
• Citation: 90 Cal.Rptr.2d 85,76 Cal.App.4th 102
• Parties: MIDIMAN et al., Plaintiffs and Appellants, v. FARMERS INSURANCE EXCHANGE, Defendant and Appellant.
• Court: California Court of Appeals

90 Cal.Rptr.2d 85

76 Cal.App.4th 102

MIDIMAN et al., Plaintiffs and Appellants, v. FARMERS INSURANCE EXCHANGE, Defendant and Appellant.

No. B121020.

Court of Appeal, Second District, Division 4.

November 4, 1999.

As Modified December 3, 1999.

Ordered Not Officially Published May 10, 2000.^*

The Ford Law Firm, William H. Ford III, George H. Kim and Paul C. Cook, Los Angeles, for Plaintiffs and Appellants.

Tharpe & Howell, Timothy D. Lake, Stacey A. Miller; Pretty, Schroeder & Poplawski, Robert A. Schroeder, Los Angeles; Greines, Martin, Stein & Richland, Irving H. Greines, Robin Meadow and Robert A. Olson, Beverly Hills, for Defendant and Appellant.

CURRY, J.

An insured company contends it was forced to settle copyright and trademark infringement claims when its insurer refused to provide Cumis counsel.¹ The issue raised by this appeal is whether the insured was entitled to a presumption establishing (1) that the underlying claim was legitimate and that the insured was liable in the amount which it agreed to pay in settlement and, at the same time, (2) that the insured had valid defenses to the underlying claim which it was precluded from presenting by the insurer's refusal to pay for independent counsel, justifying recovery of lost profits from its insurer. We conclude that the insured was entitled to no such contradictory and illogical presumption. We further conclude, in connection with the insurer's cross-appeal, that the trial court erred in ruling that Cumis counsel was required at the inception of the underlying litigation.

FACTUAL AND PROCEDURAL BACKGROUND

Appellant Midiman and its partners, appellants Timothy D. Ryan, Gordon T. Odell, and Thomas A. Turner, Jr., (collectively referred to herein as Midiman) were in the business of manufacturing electronic musical devices and accessories, among which was a product known as the "MIDI GMan."²

The Roland Complaint

In September of 1996, Roland Corporation U.S. (Roland), filed a complaint in federal court, contending that Midiman and codefendants Dream S.A., its successor Atmel Corporation, and Crystal Semiconductor infringed copyrights and trademarks associated with Roland's "Sound Canvas" line of products, and engaged in unfair business practices under Business and Professions Code section 17200. Concerning the copyright infringement, the complaint alleged that Dream used a digital sampler to record Roland's copyrighted sounds; Crystal bought those sounds from Dream and manufactured a computer chip or set of chips incorporating the sounds; and Midiman bought the infringing chips and incorporated them into its "MIDI GMan" for sale to the general public. Concerning the trademark infringement, the complaint alleged that Midiman caused its MIDI GMan to be "falsely advertised" as a sound module "`featuring Roland-licensed sounds'" and as being "`Roland Sound Canvas Compatible,'" and orally communicated to potential customers that the product contained "`Roland sounds.'" Roland sought a preliminary injunction against all the named defendants, seeking to restrain all further advertisement and sale of the MIDI GMan and the chip sets.

The Insurance Policy

At the time, Midiman was insured under a commercial general liability policy issued by Farmers Insurance Exchange. The policy stated: "We [Farmers] will pay those sums that the insured becomes legally obligated to pay as damages because of `personal injury' or `advertising injury' to which this coverage part applies." The policy expressly applied to "`[advertising injury' caused by an offense committed in the course of advertising your goods, products or services...." The policy defined "advertising injury" to include "injury arising out of one or more of the following offenses: [¶] a. Oral or written publication of material that slanders or libels a person or organization or disparages a person's or organization's goods, products or services; [¶] ... [¶] c. Misappropriation of advertising ideas or style of doing business; or [11] d. Infringement of copyright, title or slogan."

Midiman's Tender of Defense and Demand for Cumis Counsel

Midiman tendered the Roland complaint to Farmers, which agreed to provide a defense through the firm of Cooper, Kardaras & Scharf. At the same time, Farmers reserved the right to seek reimbursement of any money or judgment paid on Midiman's behalf in connection with uncovered claims not arising from advertising injury and defense costs related to any such uncovered damages. Farmers based its decision on the following understanding of the essential facts: "[Roland] alleges defendant Atmel-Dream re-recorded and thereby copied their Sound Recording for use on competing products. The Atmel-Dream representative admitted that they had copied the Sound Recordings utilizing a digital sampler."³

Midiman demanded independent Cumis counsel of its own choosing, which Farmers refused to provide. A coverage attorney retained by Farmers prepared a series of detailed letters explaining why, in Farmers' view, despite the potential for noncoverage, Cumis counsel was not required. Concerning the alleged conflict of interest, the attorney stated: "Roland alleges that [Midiman] is marketing a product that competes with its products and which contains a chip that contains the pirated sounds. Roland also alleges that [Midiman] advertise[s] their product as containing `Roland-licensed sounds' and as being `Roland Sound Canvas compatible.' [¶] The key issues in Roland's lawsuit is whether the particular sounds are even copyrightable. If they are not, then Roland loses. If the sounds are copyrightable, the next issue is whether Roland engaged in conduct which would prevent it from enforcing its copyright as against [Midiman] or would require Roland to license the sounds to [Midiman]." The attorney further stated: "If Midiman's defenses are unsuccessful, then [Farmers] will have to pay the damages caused by infringements committed in the course of Midiman advertising its goods, products or services. Since [Farmers] will have to pay the damages caused by infringements committed in the course of Midiman advertising its goods, products or services, it would not be in Farmers' interests for appointed counsel to let Midiman lose." The attorney's letters made clear that "Farmers is not saying it will not pay a judgment if a jury finds Midiman's conduct was intentional or willful, rather than merely negligent." (Original italics.) Concerning the possibility that Farmers might seek reimbursement for legal services, "Mr. Cooper, on behalf of Cooper, Kardaras & Scharf, agreed that to the extent [Farmers] might seek reimbursement from Midiman for sums Farmers paid his firm, his firm would waive its fees so there would be nothing for which Farmers could seek reimbursement."

In response, Midiman's selected counsel from the firm of Irell & Manella submitted a letter stating why, in his client's belief, a conflict existed: "Farmers contends that its policy does not provide indemnity to Midiman unless the damages sought by Roland resulted from `advertising activities.' Disregarding our disagreement with this overly narrow interpretation of the Farmers policy, there are ample allegations of alleged copyright infringement in Midiman's advertising activities. For example, Roland alleges that the print advertisements for Midiman's products improperly exploited Roland's copyright and contained statements to the effect that the Midiman product was `Roland compatible.' Midiman also allegedly reproduced the copyrighted sounds at trade shows and other demonstrations to prospective customers. If Roland's charges arose from these advertising activities, even Farmers would concede that the damages are covered by its policy. If Roland's damages were not caused by these advertising activities, then it is apparently [Farmers'] position that its policy will not cover the loss. The counsel retained to conduct the defense can direct the discovery and the evidence so as to emphasize or minimize the significance of Midiman's advertising activities as to any damages awarded to Roland for copyright infringement. It is difficult to imagine a clearer instance where `the outcome of [the] coverage issues can be controlled by counsel first retained by the insurer for the defense of the claim.' Civ.Code § 2860(b). This is most certainly a proper case demanding the appointment of independent counsel."

Midiman's Settlement

Rather than accept the offered representation by Cooper, Kardaras & Scharf, Midiman decided to proceed on its own. Represented by counsel, it quickly settled with Roland prior to the hearing on the preliminary injunction, agreeing to stop all use of the offending chip and all manufacture and sale of the MIDI GMan. It further assigned to Roland 10 percent of anything it recovers in its suit against Farmers.⁴ It did not pay any cash to Roland.

Midiman's Complaint

After settling with Roland, Midiman brought suit against Farmers asserting claims for declaratory relief, breach of contract, and breach of the implied covenant of good faith and fair dealing. Midiman's theory was that it had equitable defenses to the Roland complaint which it was unable to put forth because it "was not financially able to mount a defense to an extended and complex litigation with Roland, one of the world's largest manufacturers of electronic musical equipment" and was unwilling to accept Farmers' offer of "conflicted" counsel. The complaint alleged that Farmers breached the implied covenant by, among other things, "unreasonably placing its own financial interests in the cost of the defense ahead of [Midiman's] interest in a competent and unconflicted defense" and that as a result, Midiman was entitled to recover "the value of all consideration provided by Midiman in settlement of the Roland action," (italics omitted) which, it contended, included "lost future profits" attributable to the MIDI GMan.

Motions for Summary Adjudication

Farmers...