Law Firm Battle Produces Allocation Decision

A dispute arising out of the Clifford Chance law firm's brief attempt to establish a California presence by recruiting a number of partners from the late, lamented Brobeck, Phleger & Harrison firm has resulted in a ruling under New York law on the proper standard to use in allocating loss between covered and uncovered parties under a management liability policy, according to a January 3, 2007 Law.com article entitled “Judge Rebuffs Clifford Chance’s Bid to Recover Costs of Brobeck Settlement” (here).

According to the article, in 2002, Clifford Chance recruited 17 partners from Brobeck’s San Francisco office (including the firm Chairman, Tower Snow) to open a California office. Brobeck declared bankruptcy the following year. A San Francisco Chronicle article detailing the firm’s dissolution can be found here. The Brobeck bankruptcy trustee and retired Brobeck partners apparently pursued claims against Clifford Chance and the departed Brobeck partners, alleging that partners' departure, induced by Clifford Chance, had precipitated Brobeck’s demise. In 2004, Clifford Chance agreed to pay $5.5 million to Brobeck’s bankruptcy trustee and an undisclosed amount to a group of retired Brobeck partners. The trustee’s claim and the circumstances surrounding the claim settlement are described here.

Clifford Chance sought to have its management liability insurer, Indian Harbor Insurance Company, pay the full amount of the settlement plus $2.3 million in legal fees. The insurer said it should have to pay only 40 percent of the settlement, arguing that the balance should be allocated to the former Brobeck partners, who were not covered under the Clifford Chance management liability policy.

In its motion for summary judgment, Clifford Chance argued that the court should apply the “larger settlement rule,” pursuant to which management liability insurers are barred from allocating loss to uninsured corporate entities unless those entities’ activities resulted in a larger settlement.

Manhattan Supreme Court Justice Bernard J. Fried found that there was no New York precedent for applying the “larger settlement rule.” The rule, he noted, had been developed in the Ninth Circuit (in the Nordstrom case) and in the Seventh Circuit (in the Caterpillar case) in cases involving the allocation of costs under policies that lacked explicit allocation provisions. The Clifford Chance policy contained language stating that the loss should be allocated between covered and uncovered parties taking into account “the relative legal and financial exposures of, and relative benefits obtained in connection with the defense and/or settlement of the Claim by the Insured and others.” Based on this language, the Court found that the appropriate test to apply is the “relative exposures” rule, pursuant to which loss is allocated between covered and uncovered parties according to their relative exposure to liability. The Court reserved for trial the question whether the insurer appropriately allocated 60 percent of the loss to the uncovered parties.

Disputes over allocation of loss between covered and uncovered parties have been relatively infrequent since the inclusion of entity coverage as a standard part of D & O liability policies in response to the Nordstrom and Caterpillar decisions. The inclusion of the corporate entity as an insured eliminated disputes that a portion of defense costs or settlement amounts were allocable to the corporate defendant, which would not have been covered under prior D & O policy forms. But in addition to the inclusion of entity coverage, insurers reacting to the Nordstrom and Caterpillar decisions also included as a standard feature of their policies allocation language of the type the Court applied in the Clifford Chance case. The interesting thing about the Court’s ruling is that shows how a court will interpret and apply the language when allocation disputes do arise. The Court’s ruling suggests that in future disputes, parties may be well advised to take into account the need for an allocation and attempt to negotiate rather than forcing a judicial resolution.