Mysterious Disappearance & Ambiguity: Now You See It, Now You Don’t; CGL Won’t Cover Cyber Liability Exposure; Two Crime Coverage Additions

MYSTERIOUS DISAPPEARANCE & AMBIGUITY: NOW YOU SEE IT, NOW YOU DON’T

The mysterious disappearance exclusion is now even more mysterious. It was once commonplace in property “all-risk” forms and some named peril forms added it to theft coverage by saying that mysterious shall be presumed to be due to theft. However, it has disappeared from most standard property forms. But not all, as Michael Britt’s father discovered when his son’s live-aboard sailboat went missing.

Michael’s father said that in early September 2011, Michael telephoned and told him that he was taking a job driving a commercial truck. Because he had to attend orientation for his new job in Oklahoma City, he said that he planned to sail from West Palm Beach to Jacksonville, store the boat in Jacksonville, and rent a car in Jacksonville to drive to Oklahoma City. Michael’s father said that Britt telephoned him on September 15, 2011 and told him he would arrive in Jacksonville later than anticipated, but would call when he arrived. Britt’s father said that that call never came and that no one had seen Britt or the sailboat since September 15, 2011, when the Coast Guard had made a random inspection of the boat.

In October 2011, Britt’s father contacted St. Paul to report the sailboat as lost. On February 14, 2012, Britt’s father was appointed conservator of his son’s estate and filed a claim with St. Paul Fire & Marine for the lost sailboat. St. Paul denied the claim saying that the disappearance of the sailboat fell under the mysterious disappearance exclusion in Britt’s policy. Britt’s father sued St. Paul for loss of the sailboat.1

The trial court granted summary judgment to Michael’s father. Summary judgment is granted when the court feels that there is no dispute as to the facts and that one party is entitled to judgment as a matter of law. Nevertheless, St. Paul appealed and the Alabama Supreme Court reversed in favor of St. Paul. It held that the boat’s disappearance was “so unknown, puzzling or baffling that it made the disappearance inexplicable and that a person of ordinary intelligence would hold it to be mysterious.” It sent Michael’s estate away empty-handed.

I asked Robert Tugander, Esq. at Rivkin Radler if he knew whether this issue had ever been litigated in New York. He referred me to a interesting New York case: McCormick & Company, Inc., v. Empire Insurance Group, et al.2 McCormick had stored 480 bags of black pepper at Jay Storage. When McCormick sent a truck to pick up the stored bags, 280 could not be found. Empire declined coverage citing an exclusion for mysterious disappearance that read:

Insurance provided under this policy shall not apply as respects any liability or expense for: … (l) Unexplained loss, mysterious disappearance, or loss or shortage disclosed on taking inventory.”

The court ruled that the words “disclosed on taking inventory” might apply to all three possible causes (unexplained loss, mysterious disappearance, or loss or shortage) and therefore might only exclude losses that involve an inventory calculation. Since insureds are entitled to the benefit of the interpretation that favors their position, the court granted McCormick’s motion for summary judgment.

In another case, the Court of Appeals (New York’s highest court) declined to apply this precedent to another mysterious disappearance claim, so McCormick may not be binding for future cases involving mysterious disappearance.3 Furthermore, since there is no standard wording, each case is governed by the facts in that case. What is fascinating about the McCormick decision is the court’s explanation of what is needed to establish ambiguity:

“Under New York law…any ambiguity in an insurance clause must be resolved against the insurer and in favor of the insured…. Upon review of the language…the Court concludes that the exclusionary clause in the Jay Storage policy is ambiguous and subject to two constructions. The defendants propose a construction in which each separate clause in the section could cover a different type of loss, so that an unexplained loss would be excluded from coverage.4

“Construing the ambiguous clause most favorably to the insured, the Court concluded that the policy must be read to apply only to inventory losses or losses appearing on taking inventory. Since it is undisputed that the missing pepper was delivered to Jay Storage’s warehouse and stored there…this loss is covered by the policy issued by the defendants to Jay Storage.”5

Notice that it isn’t necessary for the insured to show that its interpretation is the best possible interpretation, only that it is a plausible interpretation. To put it in baseball terms, in the event of a tie, the runner (think insured) wins.

CGL WON’T COVER CYBER LIABILITY EXPOSURE

Five Guys Burgers & Fries grew from a one-location carry-out burger joint in 1996 to a franchise chain of over 1,000 locations in 47 states and six Canadian provinces today. Unfortunately, it doesn’t look like its insurance kept pace.

One of its franchisees, RVST Holdings, a group of Five Guys franchises in upstate New York, stored customers’ credit card information on its own computer network. Hackers apparently penetrated network security and used the stolen credit card information to make numerous fraudulent charges. Schenectady-based Trustco Bank sued RVST alleging that RVST had failed to exercise reasonable care in safeguarding the information of Trustco cardholders. Trustco had refunded over $90,000 to its cardholders for fraudulent charges and wanted reimbursement for that expense.

RVST had no cyber coverage, so it sought coverage under its commercial property policy, but ISO had closed that door after the Ingram Micro (Ingram) disaster. For those of us without total recall, Ingram Micro, a wholesale distributor of microcomputer products, lost specialized computer programming due to a power failure. When power was restored, the computers reverted to their original programs rather than the specialized ones Ingram had installed. During the time it took to reprogram, Ingram was unable to do business. American Guarantee & Liability, which provided Ingram’s business income coverage, rejected its claim saying that computer data was not physical property and the policy required direct damage to physical property to trigger coverage. Ingram, of course, sued. The court ruled in its favor, holding that, in effect, loss of functionality equaled physical damage.6

The Ingram decision sent tremors through the insurance industry and, as is its wont when there’s an unfavorable court decision on a potentially serious issue, ISO jumped in with coverage changes. In keeping with the double-barreled defense strategy that ISO adopted for the pollution problem in the 1980s, it added electronic data (broadly defined) to the list of property not covered, as well as adding an additional coverage for electronic data. It might seem that an additional coverage expands coverage, but the limit for the new additional coverage is only $2,500; it is more an exclusion than a coverage. It’s true that the sublimit can be increased by entering a higher limit on the declaration page, but few insurers are willing to do that.

More pertinent to the RVST case, ISO also added an electronic data exclusion to the CGL form:

Exclusions

This insurance does not apply to:…

Damages arising out of the loss of, loss of use of, damage to, corruption of, inability to access, or inability to manipulate electronic data (again, broadly defined).

The court in the RVST case noted that it is settled law that an insurer’s duty to defend its insured is “exceedingly broad.” Nevertheless, it held that it is also settled law that an insurer is not obligated to provide a defense when it can “demonstrate that the allegations of the [underlying] complaint cast that pleading solely and entirely within the policy exclusions, and, further, that the allegations, in toto, are subject to no other interpretation.” The court felt that the insurer had met its burden of proof and sent RVST home with nothing more than a stack of legal bills.

PRACTICE POINT. Every insured that accepts credit cards needs cyber coverage. Even if they outsource credit card processing, they can still be dragged into a nasty lawsuit. In fact, outsourcing credit card processing may increase their chances of being sued because they can be named as a co-defendant along with all the other clients of the processing firm. This enables plaintiffs’ attorneys to increase the number of defendants who can fund the settlement and usually increases the size of the settlement.

TWO CRIME COVERAGE ADDITIONS; VOLUNTEERS & EMPLOYEE THEFT FROM A FIRM’S CUSTOMERS7; Crime Coverage for Volunteers

Volunteers don’t get paid, but they can cost a non-profit lots by helping themselves to the non-profit’s funds, as countless non-profits have found to their dismay.

In one case, the volunteer treasurer for a congressional campaign is accused of embezzling $238,000 from the campaign’s funds. To prove that lightning does strike twice, it’s alleged that he used some of the money he stole from the campaign to repay thefts from his previous employer.

A particularly egregious current example is the report that Preet Bharara, U.S. Attorney for the Southern District of New York, is investigating a multi-million dollar shortage in the Mahopac, NY Volunteer Fire Department’s accounts.8 (At this writing, it’s not known whether a volunteer or employee is implicated, but either way it’s clear that non-profits, like any other enterprise, need crime insurance.)

So, how is embezzlement by volunteers handled by crime insurance? The ISO crime form does not specifically mention volunteers, but coverage is limited to “employees,” which is defined as follows:

(1) Any natural person (a)…in your service or for 30 days after termination of service; (b) Whom you compensate directly by salary, wages or commissions (emphasis added); and (c) Whom you have the right to direct and control while performing services for you….

Volunteers do not receive salary, wages or commission. If they did, they would be employees, not volunteers. Embezzlement by volunteers can be added to crime coverage. ISO has two specific endorsements to add volunteers:

CR 25 09, “Include Volunteer Workers as Employees,” amends the definition of employee to include uncompensated individuals performing duties usual to employees or acting as funds solicitors during fund-raising campaigns.

CR 25 10, “Include Volunteer Workers Other Than Fund Solicitors as Employees,” amends the definition of employee to include any uncompensated natural person other than one who is a fund solicitor, while performing services for the named insured that are usual to the duties of an employee.

Insurance producers are often involved with non-profits. Before you start soliciting local fire departments, remember “physician heal thyself.” Tell the non-profits you’re involved with that they need crime coverage and get their accountant involved in helping them set a limit of coverage. (It’s Be-Kind-to-Your-E&O-Insurer Week!)

Crime Coverage for Employee Theft From a Firm’s Customers

In addition to property the insured owns or leases, the crime policy covers property that the insured holds for others, or for which the insured is legally liable, except for property inside the premises of a “client” of yours (emphasis added). So the question here is how do you cover loss to the excluded property of a client?

Again it’s ISO to the rescue. ISO endorsement CR 04 01 08 13 is available to add coverage for theft of a client’s money, securities and other property by the insured’s employee. Some caveats:

• “Client” means an entity for whom the insured performs services under a written contract. Insurance producers, for one, have numerous clients but seldom have written contracts with them. That’s true for many other firms. That doesn’t relieve them of possible liability for the loss of a client’s property. If they have the exposure, tell them they need both the endorsement and a contract.
• The guilty employee must be identified. Circumstances that point to an insured’s employee or employees may not be sufficient.
• The claim must be presented by the insured. The client does not have any rights under the endorsement.
• “Other property” is subject to the same limitations as in the basic form. That is, the lost property must be tangible and have intrinsic value. It does not include computer programs, electronic data or any other property specifically excluded.

Crime coverage, in the words of Rodney Dangerfield, “don’t get no respect.” That’s unfortunate. Even relatively modest entities can incur multi-million dollar losses ???estimates of the Mahopac loss run as high as $5,000,000 and the Roslyn School District lost over $10,000,000 to employee dishonesty a few years ago. Tell your clients about crime insurance and show how you can tailor it to their needs.