TRANSIT CASUALTY COMPANY v. SPINK CORPORATION (1978)

Transit Casualty Company, an excess insurer, sues Spink Corporation, its policyholder, and American Motorists Insurance Company, the primary insurer, for their refusal to settle death and injury claims growing out of a construction site accident. The jury awarded Transit Casualty damages of $460,000. Spink and American Motorists appeal.

Spink Corporation, a Sacramento engineering firm, was the consulting engineer on a construction project, owned by Carlson Development Company. Spink had a primary professional liability policy issued by American Motorists with maximum liability of $100,000 and a deductible of $15,000. Spink had also purchased an “umbrella” policy issued by Transit Casualty Company with a maximum coverage of $1,000,000. Both policies contained a standard provision, which we shall call the “settlement clause,” permitting the policyholder to refuse consent to settlement. The clause is quoted in the margin.¹

At the construction site, an unshored trench collapsed. Two employees of a subcontractor were killed and two injured. Heirs of Davis, one of the dead workmen, brought a suit against Carlson, the project owner, Gray, the prime contractor, Spink, the consulting engineer, and others. Negligence was claimed because, although safety inspectors had closed the site because of the danger presented by the unshored trench, two subcontractors continued to work on the trench. Plaintiffs charged Spink with negligent supervision of the job.

Carlson, the project owner, later filed a cross-action against Spink, alleging that Spink had negligently failed to include a hold-harmless clause in the prime construction contract and had failed to have the project owner listed as an additional insured on the prime contractor's liability and workers' compensation policies.

When the Davis complaint was filed, Spink notified its two insurers. American Motorists had a claim man in Sacramento. It employed a Sacramento law firm to defend Spink. Transit Casualty, the excess insurer, was represented by a claim man in Los Angeles. Because of the $15,000 deductible feature of its primary policy, Spink employed a Sacramento law firm as its personal counsel.

At first American Motorists' attorneys believed they could successfully defend Spink. Transit's claim man in Los Angeles was informed of that belief. As new facts came to light, the attorneys' initial optimism was replaced by recognition of potential liability for failure to supervise the job and for failure to protect the project owner by an indemnity clause. The attorney representing Spink's personal interests shared these premonitions of liability and so informed Spink officials. Although Transit Casualty's claim man in Los Angeles had requested that he be kept informed, he was not told of the new feeling of pessimism.

In June 1969, a month before trial of the wrongful death action, the Davis heirs offered to settle the case for a total of $300,000. The law firm retained by American Motorists to defend Spink recommended a $50,000 contribution to settlement. Spink's personal attorneys had conflicting opinions regarding Spink's potential liability. Officials of the Spink firm consulted with their insurance broker, who had a specialty of selling professional liability coverage to engineering firms. The broker thought that a settlement by Spink would impair the firm's insurability and would be disadvantageous for the engineering industry in general. He recommended that Spink refuse to settle. Spink officials accepted this recommendation.

When the trial opened in July 1969, the trial judge recommended acceptance of the $300,000 settlement offer. Spink's share of the recommended settlement would have been approximately $76,000. The defense law firm employed by American Motorists recommended a settlement to Spink. Although the claim representatives of American Motorists believed that the settlement would be advantageous, they did not insist that Spink settle. Officials of the Spink Corporation stated that they would not settle under any circumstances, because a settlement would impair their insurability and that of the engineering industry.

The American Motorists claim representatives did not inform Transit Casualty's Los Angeles claim man of these developments. The trial went badly for Spink; testimony and court rulings resulted in gloomy forecasts of liability. Transit Casualty's Los Angeles man was told of the pessimistic outlook and sent a lawyer to observe the trial. Settlement negotiations were not resumed. The jury returned a verdict of $632,000 against Carlson, Gray and Spink. The trial court then ruled that Spink was liable to Carlson on the latter's cross-complaint.

To satisfy the Spink Corporation's liability on the judgments held by the Davis' heirs and Carlson, the Spink firm put up $15,000, American Motorists $100,000 and Transit Casualty $175,000. In September 1970, Transit Casualty contributed $285,000 to settlement of the other death and injury claims resulting from the trench collapse. Transit then filed this suit. It charged that the unwarranted rejection of settlement by Spink and American Motorists had forced the Davis case to trial, thus increasing the settlement value of the other death and injury claims.

I

Transit Casualty's suit rests upon a variation of the duty-of-reasonable-settlement concept. Every insurance policy includes an implied covenant of good faith and fair dealing that neither party will injure the interests of the other; the duty requires an insurer to settle in an appropriate case; in deciding whether to settle, the insurer must give the interest of its insured at least as much consideration as its own; when a settlement within the policy limits is the most reasonable way of avoiding the danger of a claim exceeding the policy limits, good faith regard for the insured requires the carrier to settle the claim. (Crisci v. Security Ins. Co. (1967) 66 Cal.2d 425, 429, 58 Cal.Rptr. 13, 426 P.2d 173; Comunale v. Traders & General Ins. Co. (1958) 50 Cal.2d 654, 659, 328 P.2d 198.) Wrongful refusal to settle constitutes both a breach of contract and a tort. (Gruenberg v. Aetna Ins. Co. (1973) 9 Cal.3d 566, 574, 108 Cal.Rptr. 480, 510 P.2d 1032; Crisci v. Security Ins. Co., supra, 66 Cal.2d at p. 434, 58 Cal.Rptr. 13, 426 P.2d 173.)

The implied covenant of good faith and fair dealing does not burden the carrier alone; it is reciprocal, binding the policyholder as well as the carrier. (Comunale v. Traders & General Ins. Co., supra, 50 Cal.2d at p. 658, 328 P.2d 198; Liberty Mut. Ins. Co. v. Altfillisch Construction Co. (1977) 70 Cal.App.3d 789, 797, 139 Cal.Rptr. 91.)

In this variant of the refusal-to-settle syndrome, the excess insurer sues both the policyholder and the primary carrier. A recent California decision, Northwestern Mut. Ins. Co. v. Farmers' Ins. Group (1978) 76 Cal.App.3d 1031, 143 Cal.Rptr. 415, and decisions of other jurisdictions have sustained this kind of claim on the theory that the excess carrier is equitably subrogated to the position of the policyholder, whose vulnerability to liability in excess of the primary policy's limit was created by the primary carrier's refusal to settle. (Valentine v. Aetna Ins. Co. (9th Cir. 1977) 564 F.2d 292; American Fidelity & Cas. Co. v. All American Bus Lines (10th Cir. 1951) 190 F.2d 234; Peter v. Travelers Insurance Company (C.D.Cal.1974) 375 F.Supp. 1347; Continental Casualty Co. v. Reserve Ins. Co. (Minn.1976) 238 N.W.2d 862; Estate of Penn v. Amalgamated General Agencies (1977) 148 N.J.Super. 419, 372 A.2d 1124; cf. Universal Under Ins. Co. v. Dairyland Mut. Ins. Co. (1967) 102 Ariz. 518, 433 P.2d 966; Bloom, Recovery Against Primary Insurer by Excess Carrier for Bad Faith or Negligent Failure to Settle, Ins. Counsel J. (April 1969), p. 235; Knepper, Relationships Between Primary and Excess Carriers in Cases Where Judgment or Settlement Value Will Exhaust the Primary Coverage, Ins. Counsel J. (July 1953), p. 207.)

Equitable subrogation is a legal device which permits a party who has been required to satisfy a loss created by a third party's wrong to step into the shoes of the payee and recover from the wrongdoer. (Offer v. Superior Court (1924) 194 Cal. 114, 118-119, 228 P. 11.) An insurance carrier may recoup a loss inflicted on its policyholder by equitable subrogation to the policyholder's claim. (See, e. g., Continental Cas. Co. v. Zurich Ins. Co. (1961) 57 Cal.2d 27, 37, 17 Cal.Rptr. 12, 366 P.2d 455; Continental Cas. Co. v. Phoenix Constr. Co. (1956) 46 Cal.2d 423, 429, 296 P.2d 801.)

The subrogee's rights, of course, can rise no higher than the subrogor's. On this theory, American Motorists contends that the excess insurer, as subrogee, is defeated by the bad faith of the policyholder, who refused to settle within the limits of the primary policy.²

The primary insurer's contention rests on the assumption that equitable subrogation is a sine qua non of the excess insurer's suit. The assumption will not stand up. Equitable subrogation is a descendant of historic equity practice; it is utilized as a device to achieve a just result by clothing a party with a right of recovery when he would otherwise be defeated by lack of privity. (Meyer Koulish Co. v. Cannon (1963) 213 Cal.App.2d 419, 423, 28 Cal.Rptr. 757; see also Offer v. Superior Court, supra, 194 Cal. 114, 228 P. 11.) Viewed as an indispensable element of the excess carrier's claim, equitable subrogation is like the ancient mariner at the wedding. The inflation of personal injury verdicts has multiplied occasions for excess insurance. The buyer of separate primary and excess coverage occupies relationships with two carriers. Usually, these carriers have no contractual privity. Yet, when an accident occurs, they are made aware of each other. When the settlement value of the injury hovers over the upper limit of primary coverage, the two carriers face interacting problems of claim adjustment, settlement and defense. Each has a choice of mutual support or naked self-interest. The law, then, is unrealistic when it demands that either carrier use the policyholder as its stepping stone to mutual obligation. Triangular reciprocity is more rational.

Although it originated in the implied covenant of good faith and fair dealing, damage recovery for refusal to settle is more delictual than contractual. “Liability is imposed not for a bad faith breach of the contract but for failure to meet the duty to accept reasonable settlements . . ..” (Crisci v. Security Ins. Co., supra, 66 Cal.2d at p. 430, 58 Cal.Rptr. at p. 17, 426 P.2d at p. 177.) “The test (of liability) is whether a prudent insurer without policy limits would have accepted the settlement offer.” (Id., at p. 429, 58 Cal.Rptr. at p. 16, 426 P.2d at p. 176.) Imprudent failure of duty is the terminology of negligence law.

A number of duty-to-settle decisions have commingled the issues of good faith and negligence; many more have moved beyond the good faith criterion, viewing negligence alone as a sufficient standard. (See cases collected in Annotation, 40 A.L.R.2d 168, ss 6 and 7; cf. Palmer v. Financial Indem. Co. (1963) 215 Cal.App.2d 419, 428, 30 Cal.Rptr. 204; Davy v. Public National Ins. Co. (1960) 181 Cal.App.2d 387, 395, 5 Cal.Rptr. 488.) Enforceable norms of conduct need not depend upon the ancient artificiality of equitable subrogation. Good conscience was its progenitor. Good conscience is satisfied when reciprocal care forms the law's prime demand.

Four principles of care converge here:

First: Rowland v. Christian (1968) 69 Cal.2d 108, 111-112, 70 Cal.Rptr. 97, 99, 443 P.2d 561, 563, reminds us that the foundation principle of California negligence liability is section 1714 of the California Civil Code: “Every one is responsible, not only for the result of his willful acts, but also for an injury occasioned to another by his want of ordinary care or skill in the management of his property or person, except so far as the latter has, willfully or by want of ordinary care, brought the injury upon himself. . . .”

Second: Adjutant to this concept is the duty of care principle, that is, that reasonable foreseeability of harm creates a duty of care, subject to negation only by judicially discerned policy factors. (Weirum v. RKO General, Inc. (1975) 15 Cal.3d 40, 46, 123 Cal.Rptr. 468, 539 P.2d 36; Rodriguez v. Bethlehem Steel Corp. (1974) 12 Cal.3d 382, 399, 115 Cal.Rptr. 765, 525 P.2d 669; Dillon v. Legg (1968) 68 Cal.2d 728, 739-741, 69 Cal.Rptr. 72, 441 P.2d 912.)

Third: California observes the doctrine of comparative negligence, which diminishes a negligent plaintiff's recovery in proportion to the contributory force of his negligence. (Li v. Yellow Cab Co. (1975) 13 Cal.3d 804, 828-829, 119 Cal.Rptr. 858, 532 P.2d 1226.)

Fourth: When the negligence of multiple defendants causes the plaintiff's loss, each is individually liable for the entire loss; among themselves, these defendants may apportion their liability by the rule of comparative negligence, using cross-complaints as their procedural medium. (American Motorcycle Association v. Superior Court (Los Angeles County), California Supreme Court, filed February 9, 1978, 143 Cal.Rptr. 692, pp. 694-695.)

Applied to the interacting settlement obligations of a policyholder, his primary insurer and his excess insurer, these principles produce the following formulation: The parties occupy a three-way relationship which, regardless of privity gap, may engender reciprocal duties of care in the conduct of settlement negotiations; when a damage claim threatens to exceed the primary coverage, the reasonable foreseeability of impingement on the excess policy creates a three-way duty of care; if the plaintiff in an ensuing failure-to-settle suit has been contributorily negligent, its damage recovery from the other parties will be proportionately reduced; if all three parties have been negligent, their individual shares of the total loss may be fixed in a single lawsuit.

Resort to equitable subrogation as the foundation of the excess insurer's claim tends toward undesirable, all-or-nothing results. (See American Motorcycle Association v. Superior Court (Los Angeles County), supra, 143 Cal.Rptr. pp. 703-704.) It produces litigation success or defeat according to the measure of conduct over which the party lacked control. A theory of liability resting upon a direct duty of care promotes sharing of the loss according to the measure of each party's comparative fault. (Id., at p. 705.)

The three-way duty concept harmonizes with settlement realities. The policyholder pays for two kinds of liability coverage, each at a different rate. The premium charged by the primary insurer supports more localized claims adjustment facilities than those of the excess carrier. The latter is less frequently confronted with loss possibilities and, when it is, may employ local adjusters. The primary insurer is assisted, not impeded, by the active participation of another carrier with a stake in the negotiations. Self-interest will impel the primary carrier to take the lead when settlement value is well within its policy limits, the excess carrier when the claim invades its own policy limits. When settlement value hovers over the fringes of both policies, both carriers may collaborate. Each may disagree with the settlement sentiments of the other; agreement is more likely when each knows that a jury may ultimately pass upon the reasonableness of its conduct. The primary carrier's conflict of interest with the excess carrier is no more acute than its conflict with a policyholder without excess coverage. Either may sue it for refusal to settle. Neither carrier is likely to be intransigent if both know that intransigence will defeat or diminish a refusal-to-settle verdict. Triangual reciprocity advances the public interest in extrajudicial settlement.

II

Spink charges error in the jury instructions. The instructions informed the jury that the implied covenant of good faith and fair dealing bound all three parties, the policyholder as well as the carriers. The instructions thus adhered to conventional decisional doctrine. Spink contends that the settlement clause (fn. 1, ante ), which empowered the policyholder to refuse settlement, eliminated the policyholder's duty to settle.

As we understand the matter, this sort of clause is characteristic of professional liability policies but not of general liability policies. (Long, The Law of Liability Insurance, Vol. I, s 5.26, p. 5-142, fn. 1.) The parties have apparently found no decisional interpretations of the clause. The policyholder argues that reservation of consent to settlement is vital in a professional liability policy; it permits the insurance buyer to reject a settlement which will blemish his professional reputation; the policyholder buys the privilege of absolute rejection, guided only by concern for his professional standing and bereft of concern for the insurance carrier, who, after all, sold the policy burdened by the clause in question.

There is a public interest in extrajudicial settlement of lawsuits. (Valentine v. Aetna Ins. Co., supra, 564 F.2d at p. 297; Continental Casualty Co. v. Reserve Ins. Co., supra, 238 N.W.2d at p. 864.) The settlement clause tends to defeat that interest and will be narrowly construed. It does not defeat the covenant of good faith and fair dealing which is an implied term of the policy. That covenant contemplates that neither party will injure the right of the other to receive the benefit of the agreement. (Gruenberg v. Aetna Ins. Co., supra, 9 Cal.3d at p. 573, 108 Cal.Rptr. 480, 510 P.2d 1032.)

Thus the settlement clause does not permit unreasonable rejection of settlement. This circumscription does not rob the clause of meaning. In a suit charging the policyholder with unreasonable refusal to settle, the clause provides him an opportunity to convince the jury that a quiet malpractice settlement would have generated as much damage as a publicized malpractice verdict. When coupled with a large deductible for which the policyholder has personal liability, the settlement clause can be utilized to expose the carrier to liability out of all proportion to the loss facing the policyholder. Possibly carriers which sell these clauses ought to be seeking not selling insurance. The clause, at any rate, exhibits no inconsistency with the policyholder's obligation of good faith. Inclusion of that obligation in the jury instructions was not error.

Alternatively, Spink charges lack of substantial evidence to support the finding that it had violated its duty of reasonable settlement, claiming that the two insurance companies “clearly retained ultimate control over all settlement matters.” Nonconflicting evidence belies the claim. Either company could have invoked the second sentence of the settlement clause (fn. 1, ante ) to protect it from liability exceeding the offered settlement. Neither did so. By its rejection of settlement Spink Corporation alone invoked the clause. It had available to it the independent advice of its own attorneys. At the trial it produced no evidence that the settlement would have actually damaged its insurability or blemished its professional standing. The only testimony on the score of impaired insurability was entirely speculative. In the wrongful death action a plaintiffs' verdict far exceeding the primary coverage was reasonably foreseeable. The finding of imprudent refusal to settle was supported by substantial evidence.

Arguing in the same vein, Spink contends that its breach was not the proximate cause of Transit Casualty's loss. Proximate cause is a question of fact for the jury. (4 Witkin, Summary of Cal. Law, Torts, s 621, p. 2903.) Suffice it to say that substantial evidence supports the jury's implied finding that Spink's breach contributed to the Davis' verdict and to the ensuing settlements which impinged on the excess coverage.

Spink argues that the settlement offer was illusory in the absence of evidence that the offer included settlement or waiver of the lien of the workers' compensation carrier which had paid death benefits to Davis' survivors. Raised for the first time on appeal, the argument comes too late. In order to determine whether the workers' compensation carrier had an effective lien (per Witt v. Jackson (1961) 57 Cal.2d 57, 17 Cal.Rptr. 369, 366 P.2d 641) and whether waiver of the lien was a part of the settlement offer, factual inquiry was necessary. A party will not be permitted to urge a theory for the first time on appeal when the theory involves unsettled fact issues. (Bogacki v. Board of Supervisors (1971) 5 Cal.3d 771, 780, 97 Cal.Rptr. 657, 489 P.2d 537.)

III

American Motorists, too, charges lack of substantial evidence for the finding that it breached an obligation to the excess insurer. American Motorists' thesis is that its hands were tied by the settlement clause; that it had no control over the Spink firm, which had the independent advice of its own attorneys; that Spink's refusal to settle was the sole cause of the excess carrier's loss.

That either carrier's hands were tied by the settlement clause is simply untrue. If invoked, the second sentence of the clause confronted the policyholder with a large uninsured liability. By invoking that provision, either carrier could have parried the intransigence of the policyholder.

American Motorists' causation argument ignores the elementary proposition that a tortious injury may result from two independently concurring causes. As we have pointed out, all three parties shared reciprocal duties of care. American Motorists' representatives were tardy in informing Transit Casualty's claim man in Los Angeles that a loss threatening the excess coverage might be in the offing. Although their attorney recommended the settlement to Spink, American Motorists' representatives did not warn Spink that they might invoke the provision limiting their own exposure; neither did they give Transit Casualty information which might have permitted that company to invoke the provision. There was substantial evidence from which reasoning jurors could infer that the conduct of American Motorists' agents was a substantial cause of the breakdown in settlement negotiations.

IV

In an amendment to its answer, Spink Corporation had charged Transit Casualty with contributory negligence. Prejudicial error occurred when the trial court rejected jury instructions requested by Spink which would have presented the issue of Transit Casualty's contributory negligence.³

A clause in the excess insurance policy supplied the carrier an option to associate with the primary insurer in negotiation and defense of claims. The Davis' lawsuit was a wrongful death action which had a potential for a damage award greatly exceeding the primary coverage. A number of questions supplied the ingredients of a potential contributory negligence verdict whether the excess carrier should have played a more intensive role in the settlement negotiations; whether it had been imprudent in sinking into somnolence after learning of the primary carrier's initial optimism; whether it should have established its own sentry post in Sacramento or at least a dependable transmission line for settlement possibilities; and whether it should have parried the policyholder's invocation of the first sentence of the settlement clause by itself invoking the second sentence. There was substantial evidence to support a jury verdict fastening Transit Casualty with negligence which formed a concurrent cause of its loss.

Transit Casualty argues that it conformed to insurance usage and custom when it relegated the primary role to the primary insurer, a secondary role to itself. It contends that the policy clause establishing its option to participate in the defense endowed it with a “right” to remain inactive. These arguments amount to nothing more than a denial of negligence. Whether Transit Casualty's conduct measured up to reasonable care under the circumstances was a jury question.

Regardless of the excess insurer's contributory fault, the verdict would shift its entire loss. The verdict expressed the jury's finding that both Spink Corporation and American Motorist Insurance Company had been negligent in rejecting the settlement offer of the Davis' heirs. Both these defendants had available to them the partial defense of comparative negligence as a means of charging the excess carrier with a share of the loss. (Li v. Yellow Cab Co., supra, 13 Cal.3d at p. 829, 119 Cal.Rptr. 858, 532 P.2d 1226.) Spink sought but was denied instructions presenting that defense to the jury. After reviewing the record, we have found a reasonable probability that submission of these instructions would have resulted in a verdict diminishing the award. The rejection of the instructions thus caused a miscarriage of justice and requires reversal of the judgment. (Cal.Const., art. VI, s 13; People v. Watson (1956) 46 Cal.2d 818, 836-838, 299 P.2d 243.)

Judgment reversed.

FOOTNOTES

FOOTNOTE.  

1.  The Transit Casualty excess policy incorporated the terms of the American Motorists primary policy. The latter provided: “ . . . The company shall not settle any claim without the written consent of the insured. If, however, the insured shall refuse to consent to any settlement recommended by the company and shall elect to contest the claim or continue any legal proceedings in connection with such claim, then the company's liability for the claim shall not exceed the amount for which the claim would have been settled, plus the cost and expenses incurred, with its consent, up to the date of such refusal.”

2.  In approving subrogation as the basis of the excess carrier's claim, the Northwestern Mutual opinion (76 Cal.App.3d 1031, 143 Cal.Rptr. 415) did not confront a policyholder who had contributed to the demise of settlement. Here, in contrast, the jury has found the policyholder (along with the primary carrier) guilty of wrongful refusal to settle. This circumstance subjects the equitable subrogation theory to hard scrutiny. Unlike the Northwestern Mutual court, we must decide whether equitable subrogation is indispensable to the vitality of the excess carrier's refusal-to-settle claim.

3.  Transit Casualty presents a complex procedural argument designed to show that Spink was not entitled to the requested instructions. We have not ignored but do reject the argument.

FRIEDMAN,* Associate Justice. FN* Retired Associate Justice of the Court of Appeal sitting under assignment by the Chairperson of the Judicial Council.

JANES, Acting P. J., and EVANS, J., concur.