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June 23, 1980

HS EQUITIES, INC., Plaintiff,
HARTFORD ACCIDENT & INDEMNITY COMPANY, Defendant and Third-Party Plaintiff, vs. JOSEPH DECKER, Third-Party Defendant.

The opinion of the court was delivered by: METZNER

Plaintiff HS Equities, Inc. (HS), indemnitee on a brokers' blanket bond (fidelity clause) issued by defendant Hartford Accident & Indemnity Company (Hartford), seeks to recover from the defendant a loss it suffered allegedly due to the misconduct of its employee, Joseph Decker (Decker), the third party defendant.

This is a diversity case and the court has jurisdiction of the subject matter and the parties.

 HS is the surviving corporate entity of Hayden, Stone, Inc., a stock brokerage firm. It is engaged in liquidating the firm's business after a sale of its assets. Decker was a registered representative employed by Hayden, Stone, Inc. in its Albany office from June 1966 to September 10, 1970. Mr. and Mrs. Draicchio were his clients from early 1967 to sometime in the early part of 1970.

 In the fall of 1970 Mr. and Mrs. Draicchio instituted separate actions in the Western District of New York against HS and Decker, in which the complaints alleged that the plaintiff had been damaged by the defendants' misconduct in the handling of their accounts. On August 11, 1971, HS gave notice to Hartford of the pendency of the lawsuits and forwarded copies of the complaints to Hartford. Although nine months had elapsed since the filing of the complaints, nothing had transpired that could have prejudiced Hartford's position in the litigation. Nonetheless, Hartford declined to undertake the defense of the actions.

 The litigation proceeded slowly until June 25, 1975, when HS notified Hartford that the cases had been consolidated for trial to be held on July 15, 1975, and that HS had refused a demand by the Draicchios for $ 155,000 to settle the litigation. HS invited Hartford to participate in settlement negotiations which it expected would be renewed, and also asked if Hartford had any objections to HS settling the cases. Hartford replied that, since it had elected not to defend the suit, it would neither approve nor disapprove the settlement, that any settlement by HS would not prejudice its right to make claim under the bond, but that this did not constitute a waiver by Hartford of any defenses it had under the bond.

 The trial commenced as scheduled. After a week of trial devoted to Mr. Draicchio's testimony on direct, and only a couple of hours of testimony on cross-examination, the case went over to the following Monday, July 21, 1975. At the time of adjournment the court suggested that counsel further consider settlement. On Monday morning such discussions took place, and HS agreed to pay $ 130,000 in settlement of all claims.

 Counsel for HS also represented Decker. When Decker was served, he called HS inquiring what he should do, since he was innocent of any wrongdoing. HS told him that its counsel would represent him because their investigation at the time indicated that Decker had done no wrong, and that they would stand or fall together on what the jury determined on the trial. HS paid all the legal fees and did not request any contribution from Decker. Understandably, Decker made no objection.

 Decker, who lived in Albany, had to travel to Buffalo for deposition and the trial, and his expenses were paid by HS.

 Trial counsel was aware of the possibility of a conflict of interest in representing both HS and Decker. However, after speaking with the people at HS, reviewing the investigation that had been made by HS of the claims, and after speaking to Decker, counsel determined that no conflict existed. Counsel testified that nothing occurred through the time of the consummation of the settlement to change this view.

 At the time of the settlement, Decker was present and voiced satisfaction with the way the matter was handled. Counsel advised him that he could go home. HS paid the $ 130,000 and never sought contribution from Decker. However, at no time was Decker ever told that as a result of the settlement he was open to a claim by the indemnitor, Hartford, if it was called upon to pay HS under the bond.

 HS now seeks to recover the $ 130,000 under the bond issued by Hartford, claiming that the loss was due solely to Decker's misconduct. Hartford, in turn, claims over as subrogee against Decker.

 The jumping off point for deciding this case is the opinion by the Court of Appeals in HS Equities, Inc. v. Hartford Accident & Indemnity Company, 609 F.2d 669 (2d Cir. 1979) (Michael ). The parties there were the same as in the instant case, except that the registered representative and third-party defendant was a person named Michael. Hartford in both cases refused to assume the defense of the action. In addition, it is clear in this case that Hartford refused to enter the settlement negotiations. In both cases settlements were effected; in Michael before trial; here, during trial. In both cases Hartford formally denied liability after the settlements. In both cases Annucci, HS's insurance broker, testified on behalf of HS as to his conversations with Duffy of Hartford in early 1970 wherein Duffy stated that the bond did not cover the claims in these cases. It was only on the appeal in Michael that Hartford dropped those contentions. 609 F.2d at 672.

 In Michael the Court of Appeals said that one of the consequences attaching to Hartford's denial of liability is that the settlement by HS created presumptive evidence that Michael had committed acts of misconduct. I would hold on the facts of this case that refusal to defend and refusal to participate in the settlement negotiations alone trigger the presumptions discussed in Michael and referred to below.

 Another consequence "is that the burden was placed on Hartford to successfully contest matters which otherwise are presumed to have been established in the litigation against HS." 609 F.2d at 674. Once HS had advanced the fact of its settlement, "Hartford was obliged to show either bad faith, fraud, or factual or legal ...

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