Dynamic Concepts – Right on the Facts – Wrong on the Law – Ed

EDITORIAL

Introduction

Dynamic Concepts[1] is a case with bad facts that made bad law. On the facts, the policyholder’s counsel was rude to everyone, refused to cooperate with anyone, tried (and failed) to “set up” an insurer for a bad faith claim, and failed to develop evidence of the breadth of the insurer’s reservation of rights or dependent counsel’s ethical conflicts of interest. As a result, the opinion features animated verbiage and obvious judicial angst. In the court’s rage, it makes numerous statements of law that are contrary to well established principles of the duty to defend. On the law, the opinion concludes: “A mere possibility of an unspecified conflict does not require independent counsel. The conflict must be significant, not merely theoretical, actual, not merely potential.” However, this statement is without valid precedential support nor is it supported by logical argument. Worse, other courts have blindly followed this erroneous dictum.

Right on the Facts

Independent Counsel Was Rude

The policyholder’s counsel wrote “letters [that] are noteworthy for their harsh, intemperate tone and lack of civility”, “turned nasty”, “refused to speak or meet with [dependent counsel], acerbically noting ‘there is no point in even calling my office’”, employed “unseemly haste to resolve a dubious Cumis situation”, issued an “ultimatum” to the insurer, and made a “drastic decision” to settle. “The trial court characterized [the policyholder’s counsel’s] response as ‘go fly a kite.’” The Court of Appeal noted independent counsel’s “shrill insistence”, “gamesmanship and tactical maneuvers”.

Independent Counsel Failed to Cooperate With Dependent Counsel and the Insurer

“[The policyholder’s] exclusion of insurer-appointed defense counsel from the settlement negotiations and its refusal to further communicate with [the insurer] fully justifies the judgment for [the insurer that it is not liable for the policyholder’s settlement]. . . . [The policyholder] had no legal basis to stonewall [the insurer] concerning the settlement.”

Counsel Tried to “Set Up” a Bad Faith Claim

The court criticized counsel who try to “cultivate conflicts with carriers rather than resolve them”, “strongly suggests an intent to promote a new lawsuit, rather than terminate an existing one”, “who ‘spend their wits and energies trying to maneuver the insurers into committing acts which the insureds can later trot out as evidence of bad faith’”, or concoct a bad faith claim out of whole cloth . . . with the ‘ingenious assistance of counsel.’” “Bad faith litigation is not a game, where insureds are free to manufacture claims for recovery. Every judgment against an insurer potentially increases the amounts that other citizens must pay for their insurance premiums.”[2]

The Policyholder Failed to Develop Evidence of the Insurer’s Breach

The evidentiary record was atrocious. In addition to behaving rudely, refusing to cooperate, and trying to set up a bad faith case, the policyholder failed to develop evidence that the insurer’s reservation of rights created disqualifying conflicts of interest. “[N]o breach of the insurer’s duty of defense has been established here.” “There is no basis on the record to . . . support for the proposition [the insurer] intended to offer merely a token defense for uncovered claims or that either [dependent counsel] were retained to act as ‘coverage spies’ to generate potential coverage defenses.”

The Policyholder Failed to Develop Evidence of the

Breadth of the Insurer’s Conflicts of Interest

The breadth of the insurer’s reservation of rights was not developed on the record. “The supposed Cumis conflict for the covered libel claim was vague, ephemeral and highly theoretical. . . . But [the insurer] never raised this exclusion in its reservation of rights letter or at any time until after [the policyholder]’s settlement with [the plaintiff], thereby precluding any actual conflict during the pendency of the underlying action. The existence of a conflict would have estopped [the insurer] from later raising the provision.” The court concluded that there was not conflict “especially where the issues listed in the underlying litigation do not coincide with the issues raised in the reservation of rights and where the insurer agrees to provide a full and complete defense without regard to coverage.”

The Policyholder Failed to Develop Evidence of the Dependent Counsel’s Ethical Conflicts

Absent evidence to the contrary, the court assumed that dependent counsel “was not retained to provide coverage advice to [the insurer] or to represent [the insurer]’s own interests.” “There is no basis on the record to presume they would have violated their stringent ethical responsibilities to completely defend [the policyholder] for all allegations of the entire complaint, covered or uncovered.” “But there is no evidence [the insurer] instructed [dependent counsel] to limit their activities regarding written discovery or depositions, or otherwise inhibited counsel’s ability to adequately defend the entire case.”

Right on the Law

The court correctly recognized that the “potential for conflict requires a careful analysis of the parties’ respective interests to determine whether they can be reconciled (such as by a defense based on total nonliability) or whether an actual conflict of interest precludes insurer-appointed defense counsel from presenting a quality defense for the insured.”[3]

Wrong on the Law

Dependent Counsel Does Represent the Insurer

The court stated that “[the insurer] offered to provide [the policyholder] with a defense by outside counsel whose only role was to defend [the policyholder], not represent [the insurer].” This statement is an Alice in Wonderland view of reality. Well established California law is clear that dependent counsel always represents the interests of the insurer.[4]

Limiting the Scope of Dependent Counsel’s Representation Requires the Policyholder’s Informed Written Consent

An insurer’s unilateral attempt to limit the scope of dependent counsel’s assignment does not satisfy Rule 3-310.[5] The court ignored that dependent counsel’s life blood is their relationship with the insurer.[6] Without reference to evidentiary support, the court concluded that dependent counsel “was not retained to provide coverage advice to [the insurer] or to represent [the insurer]’s own interests.”[7] Contrary to its own conclusion, the court correctly observed that “[i]f the attorney’s representation is to be limited in any way that unreasonably interferes with the defense, it is the insured, not the insurer, who should make that decision.”[8] As the Cumis court correctly observed: Decisions that impact potentially excluded liability “are numerous and varied. Each time one of them must be made, the lawyer is placed in the dilemma of helping one of his clients concerning insurance coverage and harming the other.”[9]

When Disqualifying Conflicts Exist, the Policyholder Controls the Defense

The court praised the insurer because it “further agreed to waive its contractual right to control the defense by ceding control to [independent counsel], with appointed counsel sitting only as second chair.” But this was not a gratuitous concession by the insurer – it simply reflects substantive California law. The insurer does not have the right to control the defense unless is concedes full coverage and faithfully fulfills its duty to defend. When the insurer reserves its right to deny coverage or fails to defend, it has no right to control the defense.[10]

Any Potential Coverage Triggers the Duty to Defend

The court stated: “But for the fortuity of the covered libel obligation, [the policyholder] would have been required to bear the entirety of the costs of the defense of the underlying action.” California law is clear that the duty to defend is not determined by whether covered or non-covered claims predominate. The Supreme Court rejected an insurer’s argument that no duty to defend arises if non-covered conduct “is the ‘dominant factor’. . . . The argument misconceives the role of the court in determining the duty to defend. We look not to whether noncovered acts predominate in the third party’s action, but rather to whether there is any potential for liability under the policy. Since an insurer has a duty to defend the entire third party action if any claim encompassed within it potentially may be covered . . . , the mere fact that [the insurer] could not indemnify [the policyholder] for the [non-covered conduct] did not eliminate its duty to defend other, possibly covered claims.”[11]

The Insurer Has 40 Days to Accept or Deny a Claim for Defense

The court stated: “Does the insurer breach its duty to defend when it assigns competent outside counsel pending a further analysis of the Cumis issue? . . . [T]he answers . . . is no.”[12] “In particular, insurers are entitled to a reasonable period of time to analyze a situation requiring a coverage decision. Under all these circumstances, we cannot place [the insurer] in the category of a nondefending carrier who unreasonably failed to provide any defense at all, thus allowing, or even forcing, its insured to unilaterally settle the underlying action.”[13] “The tripartite relationship between insurer, insured and insurance defense counsel[14] is complicated enough without adding an additional element of a short-fuse deadline for decisions with respect to Cumis counsel.”[15]

Contrary to the court’s statements, substantive California law is clear that an insurer must defend “immediately and entirely.”[16] Other than the Dynamic Concepts opinion, no standard contract provision, no statute, no regulation, and no common law pronouncement grants to an insurer exemption from the law during a grace period to analyze Cumis issues. Indeed, insurance regulations are expressly to the contrary, granting only 40 days to accept or reject a claim for a defense, with limited extensions for cause.[17]

Conflicts of Interest May Not Be Avoided by Conducting a Defense

The court stated that “insurer-appointed defense counsel may obviate any potential conflict involving uncovered claims by ‘proceed[ing] diligently to litigate the matters that he was charged with on behalf of his client [the insured]. At no time, the court finds, did [appointed counsel] prefer the [insurer’s] interest to those of his client, [the insured], nor did he allow questions of coverage – though he was informed of them – to interfere with his litigation decisions regarding the third party claims.”[18] However, Rule 3-310 is prophylactic in nature.[19]

“It seems doubtful that the conflict of interest can be avoided merely by the insurer’s instructing defense counsel to ignore coverage defenses.”[20] The Supreme Court has determined that one should prevent the wolf from entering the hen house at all, not admit it and then lament if it eats a chicken.

Lip Service Does Not Satisfy the Duty to Defend

The court stated: “Given the complexities of any Cumis analysis, [the insurer] did not breach any legal obligation to defend [the policyholder] when it offered to fully defend at its own expense through appointed counsel pending further coverage analysis of the Cumis issue.”[21] Contrary to this statement, California law is clear that an insurer’s letter stating that it will faithfully fulfill its duty to defend does not alone provide a defense.[22] Instead, the insurer must adequately fund the defense.[23]

Potential Conflicts Trigger Ethical Challenges

The court stated: “A mere possibility of an unspecified conflict does not require independent counsel. The conflict must be . . . actual, not merely potential.”[24] The court cited as precedence a case that held that an insurer was not required to hire separate counsel for a father and son because “while potentially adverse, [they] were not in actual conflict” and that the insurer was not liable for bad faith breach of the duty to settle because the plaintiff refused to settle with both the father and son.[25] The court also cited a well respected treatise that equates an actual conflict of interest with the existence of a coverage dispute.[26] In fact a few paragraphs later, the treatise correctly takes the opposite position: “Defense counsel’s duty to obtain ‘informed written consent’ applies to potential as well as actual conflicts. It is enough that the clients’ interests diverge with respect to a particular issue. Such divergence may ‘materially limit’ the attorney’s ability to represent both clients equally.”[27]

The California Supreme Court correctly observed that Rule 3-310(C) “states that at the outset, an attorney may not accept representation if there is a potential conflict; it does not require an actual conflict.”[28] A “distinction between ‘potential’ and ‘actual’ conflicts of interest . . . is invalid and unworkable. . . . [T]he existence of a conflict of interest should be identified early in the proceedings so it can be treated effectively before prejudice has occurred to either party.”[29] “A conflict arises once the insurer takes the view a coverage issue is present.”[30] “No matter how honest the intentions, counsel cannot discharge inconsistent duties.”[31] “A disqualifying conflict exists if ‘[i]nsurance counsel had . . . [an] incentive to attach liability to [the insured].’”.) “The test is whether the conflict ‘precludes the insurer-appointed defense counsel from presenting a quality defense for the insured.’”[32]

Disqualifying Conflicts Are Not Determined Relatively by Their “Significance”

The court also stated: “The conflict must be significant, not merely theoretical.”[33] There is no precedence for this statement. The court developed this test from whole cloth. In contrast to the courts conclusion, California law is clear that the Cumis rule is based on the Rules of Professional Conduct.[34] Rule 3-310 does not measure an attorney’s ethical obligations by any subjective assessment of whether the conflict is “significant.” The proposed new Rule 1.7 eliminates the unworkable distinction between actual and potential conflicts of interest and does not establish a “significant” test. Dependent counsel is not exempt from Rule 3-310.[35]


[1] Dynamic Concepts, Inc. v. Truck Ins. Exchange (1998) 61 Cal.App.4th 999.

[2] See, White v. Western Title Ins. Co. (1985) 40 Cal.3d 870, 900, fn. 2; J.B. Aguerre, Inc. v. American Guarantee & Liability Ins. Co. (1997) 59 Cal.App.4th 6, 18.

[3] Dynamic Concepts, supra, 61 Cal.App.4th at 1007-08.

[6] “As a practical matter . . . in reality, the insurer’s attorneys may have closer ties with the insurer and a more compelling interest in protecting the insurer’s position, whether or not it coincides with what is best for the insured.” (Purdy v. Pacific Automobile Ins. Co.(1984) 157 Cal.App.3d 59, 76). “Insurance companies hire relatively few lawyers and concentrate their business. A lawyer who does not look out for the Carrier’s best interest might soon find himself out of work.” (San Diego Navy Fed. Credit Union v. Cumis Ins. Society, Inc. (1984) 162 Cal.App.3d 358, 364). “[D]efense counsel and the insurer frequently have a longstanding, if not collegial, relationship” (Gulf Ins. Co. v. Berger, Kahn, Shafton, Moss, Figler, Simon & Gladstone (2000) 79 Cal.App.4th 114, 131). “In California, an attorney may usually, under minimum standards of professional ethics, represent dual interests as long as full consent and full disclosure occur.” (Lysick v. Walcom (1968) 258 Cal.App.2d 136, 147; See, also Ishmael v. Millington (1966) 241 Cal.App.2d 520, 528; Industrial Indem. Co. v. Great American Ins. Co. (1977) 73 Cal.App. 3d 529, 537).

[7] Dynamic Concepts, supra, 61 Cal.App.4th at 1002.

[8] Dynamic Concepts, supra, 61 Cal.App.4th at 1009, fn.9.

[9] San Diego Navy Fed. Credit Union v. Cumis Ins. Society, Inc. (1984) 162 Cal.App.3d 358, 365 (Cumis).

[11] Horace Mann Ins. Co. v. Barbara B. (1993) 4 Cal.4th 1076, 1084 (citations omitted).

[12] Dynamic Concepts, supra, 61 Cal.App.4th at 1006.

[13] Dynamic Concepts, supra, 61 Cal.App.4th at 1010 (citation and ellipses omitted.)

[15] Dynamic Concepts, supra, 61 Cal.App.4th at 1011.

[16] Buss v. Superior Court (1997) 16 Cal.4th 35, 48.

[17] “[E]very insurer . . . shall immediately, but in no event more than forty (40) calendar days later, accept or deny the claim, in whole or in part.” (Reg. §2695.7(b).) “If more time is required, every insurer shall provide the claimant with written notice of the need for additional time [and] specify any additional information the insurer requires in order to make a determination and state any continuing reasons for the insurer’s inability to make a determination. Thereafter, the written notice shall be provided every thirty (30) calendar days.” (Reg. §2695.7(c) (ellipses omitted).)

[18] Dynamic Concepts, supra, 61 Cal.App.4th at 1008, quoting from Native Sun Investment Group v. Ticor Title Ins. Co. (1987) 189 Cal.App.3d 1265, 1277.

[19] “The primary purpose of this prophylactic rule [3-310] is to prevent situations in which an attorney might compromise his or her representation of the client in order to advance the attorney’s own financial or personal interests.” (Santa Clara County Counsel Attorneys Assn. v. Woodside (1994) 7 Cal.4th 525, 546.) “[T]he purpose of [disqualifying conflicted counsel] must be prophylactic, not punitive.” (Gregori v. Bank of America (1989) 207 Cal. App. 3d 291, 308-09.)

[20] Croskey et al., Cal. Practice Guide: Insurance Litigation (The Rutter Group 2014) ¶7:788 (Croskey).

[21] Dynamic Concepts, supra, 61 Cal.App.4th at 1010.

[22] Lip service does not satisfy the duty to defend. The insurer’s duty requires it “to provide counsel with adequate funds to conduct the defense of the suit.” (Merritt v. Reserve Ins. Co. (1973) 34 Cal.App.3d 858, 882.) Reservation of rights “letters were only an expression of [the insurer]’s future intent to comply with its duty to defend, and not an actual acceptance or agreement to provide a defense or to appoint plaintiffs’ chosen counsel as Cumis counsel. [The insurer]’s payment of defense fees at the end of the litigation [was] the equivalent of a defense denial. [Any other rule] would encourage insurers to reject their Cumis obligations for as long as they chose.” (Housing Group v. PMA Capital Ins. Co. (2011) 193 Cal.App.4th 1150, 1156-1157 (emphasis added; citations, quotation marks and ellipses omitted).)

[23] “By definition, the duty [to defend] entails the rendering of a service, viz., the mounting and funding of a defense.” (Aerojet-General Corp. v. Transport Indemnity Co. (1997) 17 Cal.4th 38, 58.)

[24] Dynamic Concepts, supra, 61 Cal.App.4th at 1007.

[25] Lehto v. Allstate Ins. Co. (1994) 31 Cal.App.4th 60, 71.

[26] Croskey, supra, ¶7:855.

[27] Croskey, supra, ¶7:860.

[28] In re Celine R. (2003) 31 Cal. 4th 45, 56-57.

[29] Cumis, supra, 162 Cal.App.3d at 371, fn.7.

[30] Id. at 370.

[31] Id. at 364.

[32] Gulf Ins. Co. v. Berger, Kahn, Shafton, Moss, Figler, Simon & Gladstone (2000) 79 Cal.App.4th 114, 131; see also, Blanchard v. State Farm Fire & Casualty Co. (1991) 2 Cal.App.4th 345, 350; Croskey, supra, ¶7:772.

[33] Dynamic Concepts, supra, 61 Cal.App.4th at 1007.

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