(Article from Insurance Law Alert, January 2019)
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The Second Circuit ruled that Axis Insurance Company has no obligation to cover losses and expenses arising out of a Securities and Exchange Commission (“SEC”) investigation of Patriarch Partners, LLC, finding that coverage was foreclosed by a warranty signed by Patriarch’s sole director and officer. Patriarch Partners, LLC v. Axis Ins. Co., 2018 WL 6431024 (2d Cir. Dec. 6, 2018).
The coverage dispute arose out of an SEC “informal inquiry” of Patriarch that began in December 2009. Over the next few years, the SEC changed its description of the matter to an “informal investigation” and requested extensive information relating to the company’s business practices. The SEC also issued an internal order authorizing subpoenas and indicating that the SEC had information that tended to show that Patriarch had acted in possible violation of federal securities law. Although Patriarch maintained that it did not see a copy of that order until 2012, it conceded that its outside counsel learned of it in June 2011.
During this time frame, Patriarch maintained a tower of insurance consisting of a primary policy plus two excess layers of coverage. In August 2011, Patriarch’s broker recommended that Patriarch purchase a third layer of excess coverage and presented a quote from Axis. The quote was contingent upon Patriarch’s execution of a warranty representing that “neither the undersigned nor any other director or officer of Patriarch is aware of any facts or circumstances that would reasonably be expected to result in a Claim under the Captioned Policy.” Lynn Tilton, the sole director and officer of Patriarch, executed the warranty.
In March 2015, the SEC filed an administrative action against Patriarch. Patriarch sought defense and indemnity from Axis, which denied coverage on two bases: (1) that the SEC investigation was a “claim” first made before the Axis policy incepted and (2) that the warranty relieved Axis of its obligations because the SEC investigation constituted “facts and circumstances” of which Patriarch was aware that could reasonably have been expected to result in a claim.
A New York district court ruled in Axis’s favor, finding that the SEC investigation was a “claim” that was pending prior to the policy’s inception and coverage was thus barred by the “pending or prior claim” endorsement. The Second Circuit affirmed on different grounds. The Second Circuit held that coverage was foreclosed by the warranty because, at the time of its execution, Patriarch was aware of facts and circumstances that would reasonably be expected to result in a covered claim.
The Second Circuit rejected Patriarch’s assertion that the warranty excluded coverage only as to facts and circumstances of which Tilton herself was personally aware, noting that the warranty referred to “Patriarch” rather than Tilton individually. Additionally, the court rejected Patriarch’s contention that the warranty referred only to claims giving rise to losses in excess of $20 million, the attachment point of the Axis policy.