Ryan v. Nat'l Union Fire Ins. Co. of Pittsburgh

Decision Date27 August 2012
Docket NumberDocket Nos. 10–4528–cv (L), 10–4700–cv (XAP).
PartiesBruce Charles RYAN, Plaintiff–Counter–Defendant–Appellee–Cross–Appellant, Russell William Newton, Robert Fitzpatrick, Merit Capital Associates, Inc., Plaintiffs–Appellees–Cross–Appellants, David W. Gwynn, Raquel Gwynn, Gwynn Financial Svc. Inc., Consolidated Plaintiffs–Counter Defendants, v. NATIONAL UNION FIRE INSURANCE COMPANY OF PITTSBURGH PA, Defendant–Counter–Claimant–Appellant–Cross–Appellee, AIG Tech. Svc. Inc., Chartis Claims, Inc., Defendants.
CourtU.S. Court of Appeals — Second Circuit

OPINION TEXT STARTS HERE

Peter M. Nolin, Sandak Hennessey & Greco, LLP (Stephanie A. McLaughlin, on the brief), Stamford, CT, for PlaintiffsAppelleesCross–Appellants.

Dennis O. Brown, Gordon & Rees LLP (Joseph R. Geoghegan, on the brief), Hartford, CT, for DefendantCounter–ClaimantAppellantCross–Appellee.

Before: WESLEY and LOHIER, Circuit Judges, and MURTHA, District Judge.*

LOHIER, Circuit Judge:

This appeal requires us to consider whether consequential damages, which are traditionally available for breach of contract claims, are also available for a claim of breach of a duty to defend an insured under Connecticut law, and if so, whether they may include damages for harm to reputation. The defendant National Union Fire Insurance Company of Pittsburgh PA (National Union) appeals from a judgment of the United States District Court for the District of Connecticut (Droney, J.) awarding the plaintiffs consequential damages, following a jury trial, for National Union's breach of its duty to defend the plaintiffs in a securities arbitration. The District Court found that National Union had breached its duty to defend and concluded that, in addition to being liable for the defense costs and underlying settlement, which it had already paid, National Union could also be liable for consequential damages for the breach of the duty to defend, including damages for injury to professional reputation and loss of future earning potential. On appeal, National Union challenges the District Court's determination that it breached its duty to defend, and also argues that consequential damages are not available in the context of an insurer's breach of a duty to defend.

The Connecticut courts have said very little either way about whether consequential damages are available solely for such a breach. Nor have they determined whether reputational damages, specifically, are compensable in an action predicated on an insurer's breach of its duty to defend. Although no case in Connecticut has awarded consequential damages solely for a breach of a duty to defend, we hesitate to prohibit recovery of such damages, which are generally permitted under contract law, when Connecticut has not clearly addressed the issue. Similarly, absent a precedential decision from the Connecticut courts, we are reluctant to foreclose claims for reputational damages in actions similar to this one. Accordingly, we certify the following two questions to the Supreme Court of Connecticut and stay resolution of this appeal and cross-appeal in the interim: 1

(1) Does Connecticut law permit a policyholder to recover consequential damages in a breach of contract action against an insurer predicated on the insurer's breach of its duty to defend?

(2) If consequential damages are available, may such damages include damages for harm to reputation and loss of income?

BACKGROUND

Plaintiffs Bruce Ryan, Russell Newton, and Robert Fitzpatrick were executives of Merit Capital Associates, Inc. (Merit), a securities broker-dealer. All three were insured by National Union under a Securities Broker/Dealer Professional Liability Insurance Policy (the “Policy”), which covered losses up to $1 million for each loss and $2 million in the aggregate for the period from August 23, 1999 to September 23, 2001. In August 2001 Michael Sowell, Merit's former client, filed a securities arbitration claim before the National Association of Securities Dealers (“NASD”) against the plaintiffs and David Gwynn, a registered representative working for Merit. In his Amended Statement of Claim (the “Sowell Claim”), Sowell claimed approximately $1 million in damages arising from Gwynn's mismanagement of his Merit account, which was opened in May 1998. Sowell alleged that Gwynn had “churned” his account by trading excessively for the sole purpose of generating commissions, fraudulently and negligently managed the account, and unlawfully solicited investments for some sham charter school businesses owned by Gwynn. He also alleged that the other Merit executives had negligently supervised Gwynn.

Plaintiffs submitted the Sowell Claim to National Union, seeking a defense and coverage under the Policy, which included three exclusions relevant to this appeal. First, exclusion (f) exempted coverage for losses arising out of wrongful acts or interrelated wrongful acts occurring prior to August 23, 1999. Second, exclusion (s) precluded coverage of discretionary accounts. Third, exclusion (t) barred coverage of claims involving entities outside of Merit.

Several months after initiating an investigation to confirm Sowell's allegation that he had given Gwynn discretionary control over his account, and after also arranging for separate counsel to represent Gwynn, National Union withdrew its defense. Although it subsequently received documents showing that Sowell's account was in fact not discretionary, National Union continued to deny the plaintiffs a defense. Meanwhile, the plaintiffs obtained replacement counsel, and Gwynn proceeded pro se in the NASD arbitration, although he borrowed funds to retain counsel to pursue coverage under the Policy. A few days before the arbitration, Gwynn, through counsel, again sought coverage from National Union, warning the insurer that he might allow the arbitration panel to enter a default judgment against him and assign his claims against National Union to Sowell.

By the time National Union provided Gwynn with defense counsel, it was too late. Although he had not agreed to a default judgment, Gwynn had already appeared pro se at the arbitration and compromised the plaintiffs' defense. The arbitration panel found Gwynn and the plaintiffs jointly and severally liable and awarded Sowell $1.125 million in damages. Gwynn and the plaintiffs requested that National Union settle with Sowell before the arbitration award was confirmed. When National Union failed to respond, the plaintiffs commenced this action alleging that National Union had breached its duties to defend and indemnify, acted in bad faith, and violated various provisions of Connecticut law not relevant to the question certified in this opinion. The plaintiffs sought to recover their “costs connected with the Sowell arbitration, damages related to regulatory proceedings initiated as a result of the Sowell arbitration award, and damage to the plaintiffs' reputations, earning potential, ability to conduct business and obtain certain licenses.” S.P.A. 5. Soon after the plaintiffs filed this lawsuit, National Union negotiated a $1 million settlement with Sowell, as part of which Sowell agreed to vacate the arbitration award and enter into a covenant not to sue National Union, the plaintiffs, or Gwynn. National Union then filed counterclaims against the plaintiffs seeking to recover these costs and alleging unjust enrichment, among other claims.

Arguing that it had no duty to defend because Sowell's allegations clearly fell within exclusions (s), (f), and (t) of the Policy, National Union moved for summary judgment to dismiss the plaintiffs' claims. The District Court denied the motion because it concluded that those exclusions did not preclude coverage under the Policy for all of the claims in the underlying Sowell Claim. 2

The plaintiffs' claims then proceeded to a jury trial. During the trial, the court determined that National Union had breached its duty to defend the Sowell Claim and granted the plaintiffs' motion for judgment as a matter of law on National Union's counterclaim of unjust enrichment. The court further concluded that by breaching its duty to defend, National Union was liable to indemnify the plaintiffs.

The District Court found that National Union had already paid the plaintiffs' attorneys' fees incurred in defending the Sowell arbitration and also paid to settle the arbitration. Accordingly, the only remaining issues for the jury to determine were: (1) whether the plaintiffs had proven that they had suffered “reasonably foreseeable” consequential damages from National Union's breach of its duty to defend, and (2) whether National Union had acted in bad faith and, therefore, whether the plaintiffs were entitled to compensatory and punitive damages. The plaintiffs contended that they had suffered consequential damages “in the form of injury to their professional reputations and future earning potential, as well as continued costs in addressing regulatory proceedings.” J.A. 584. They relied on evidence from an expert who testified that broker/dealers who have paid significant sanctions have trouble finding work, and on testimony from plaintiff Newton, who described his professional difficulties following the Sowell award.

In response, National Union argued that consequential damages were not available under Connecticut law. The District Court rejected National Union's argument and charged the jury that it could award consequential damages to the plaintiffs above the limits set forth in the Policy. The jury found that National Union had not acted in bad faith and thus awarded only consequential damages in the amounts of $350,000 for Ryan, $325,000 for Newton, $200,000 for Fitzpatrick, and $0 for Merit. In a post-trial motion, National Union insisted that consequential damages should be denied as a matter of law, as the plaintiffs had failed to prove that the damages were foreseeable and had failed to provide a...

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