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Federal Insurance Company v. Safenet

September 9, 2011

FEDERAL INSURANCE COMPANY, PLAINTIFF,
v.
SAFENET, INC., CAROLE ARGO, AND ANTHONY CAPUTO, DEFENDANTS.



The opinion of the court was delivered by: Naomi Reice Buchwald United States District Judge

MEMORANDUM AND ORDER

Plaintiff Federal Insurance Company ("Federal" or "plaintiff") brings this action against defendants SafeNet, Inc. ("SafeNet"), Carole Argo ("Argo"), and Anthony Caputo ("Caputo," and together with SafeNet and Argo, "defendants"), seeking a declaratory judgment and the rescission of certain insurance contracts. Presently before us are the parties' cross motions for summary judgment. In the motions, the parties request various declarations concerning their respective rights and obligations under the insurance contracts.

For the reasons stated herein, plaintiff's motion for summary judgment is granted in part and denied in part and defendants' cross motion for summary judgment is denied.

BACKGROUND

I. Factual Background

A. Parties

During the time periods relevant to this action, SafeNet was a public company that provided information security technology to public and private customers.*fn1 (PX-E (Form 8-K at 8).) SafeNet is incorporated in Delaware and its principal place of business is in Maryland. (Def. R. 56.1 ¶ 1.) Argo was the Vice President and Chief Financial Officer of SafeNet and Caputo was SafeNet's Chairman and Chief Executive Officer. (Pl. R. 56.1 ¶ 34; PX-R ¶ I.)

B. 2005/2006 Policies

From March 12, 2005 through March 12, 2006, SafeNet had two layers of directors and officers liability insurance. (Pl. R. 56.1 ¶¶ 1, 2, 29; Def. R. 56.1 ¶ 2.) National Union Fire Insurance Company of Pittsburgh, PA ("National Union") provided the first layer of insurance, which had a limit of liability of $10,000,000 ("First Primary Policy"). (Pl. R. 56.1 ¶ 2; Def. R. 56.1 ¶ 4.) Plaintiff provided the second layer of insurance, which provided $5,000,000 in excess coverage ("First Excess Policy"). (Pl. R. 56.1 ¶ 1; Def. R. 56.1 ¶ 4.) Subject to its terms and conditions, the First Excess Policy follows form to the First Primary Policy. (Pl. R. 56.1 ¶ 2; Def. R. 56.1 ¶ 3.)

The First Excess Policy covers three types of claims: (1) losses incurred by a SafeNet director or officer, arising from Wrongful Acts of the director or officer, where the losses were not indemnified by SafeNet; (2) SafeNet's losses arising from a securities claim made against it; and (3) SafeNet's losses arising from Wrongful Acts of a SafeNet officer or director, where SafeNet indemnified the officer or director.*fn2 (PX-B § 1.)

The First Excess Policy is a "claims made" policy. Pursuant to section 7 of the First Excess Policy: [a]n Organization or an Insured shall, as a condition precedent to the obligations of the Insurer under this policy, give written notice to the Insurer of a Claim made against an Insured or a Crisis as soon as practicable: (i) after the Named Entity's Risk Manager or General Counsel (or equivalent position) first becomes aware of the Claim; or (ii) the Crisis commences. (PX-B § 7(a).) Section 7 further provides that certain claims will relate back to the original notice of a claim. Specifically, section 7(c) provides that:

[i]f during the Policy period . . . an Organization or an Insured shall become aware of any circumstances which may reasonably be expected to give rise to a Claim being made against an Insured and shall give written notice to the Insurer of the circumstances . . . then a Claim which is subsequently made against such Insured . . . alleging, arising out of, based upon or attributable to such circumstances or alleging any Wrongful Act which is the same as or related to any Wrongful Act alleged or contained in such circumstances, shall be considered made at the time such notice of circumstances was given. (Pl. R. 56.1 ¶ 20; PX-B § 7(c); Def. R. 56.1 ¶ 39.) In the policy, a 'Claim' is defined as "(1) a written demand for monetary, non-monetary, or injunctive relief; (2) a civil, criminal, administrative, regulatory or arbitration proceeding for monetary, non-monetary or injunctive relief . . . ; or (3) a civil, criminal, administrative or regulatory investigation of an Insured Person . . ." (PX-B § 2(b).)

The First Excess Policy contains provisions concerning the accuracy of the information in the insurance application. In particular, Endorsement Number 4 provides that:

[i]n granting coverage under this policy, it is agreed that the Insurer has relied upon the statements, warranties and representations contained in the Application as being accurate and complete. All such statements, warranties and representations are the basis for the policy and are material to the risks assumed by the Insurer. . . (Pl. R. 56.1 ¶ 25.) The term 'Application' is, in turn, defined as "each and every signed application, any attachments to such applications, other materials submitted therewith or incorporated therein . . . and any public documents filed by an Organization with the Securities and Exchange Commission . . . prior to the inception date of this policy . . ." (Pl. R. 56.1 ¶ 24; PX-B at Endorsement No. 16.)

In addition, the First Excess Policy specifies circumstances that will void the policy. Specifically, Endorsement Number 4 states:

[t]he Insureds agree that in the event the particulars and statements contained in the Application are not accurate and complete, then this Policy shall be void as to any Insured who knew as of the inception date of the Policy Period of the facts that were not accurately and completely disclosed in the Application (whether or not the Insured actually knew the facts were not accurately disclosed in the Application) and as to any Insured to whom such knowledge is imputed.

(Pl. R. 56.1 ¶ 26.) Endorsement Number 4 further provides for imputation of knowledge to other Insureds. Notably, the endorsement states: "[f]or purposes of determining whether knowledge shall be imputed to an Insured: (1) knowledge possessed by a past or present, {i} chief executive officer or {ii} chief financial officer of the Named Entity shall be imputed to all Insureds . . ." (Pl. R. 56.1 ¶ 28.)

Notwithstanding the imputation provisions, the First Excess Policy provides coverage "for any Non-Indemnifiable Loss of any Insured Person to whom knowledge is imputed . . . provided that such Insured Person did not have knowledge of the facts that were not accurately and completely disclosed." (Pl. R. 56.1 ¶ 30.) A 'Non-Indemnifiable Loss' is defined in the First Excess Policy as "Loss for which an Organization has neither indemnified nor is permitted or required to indemnify an Insured Person pursuant to law or contract or the charter, bylaws, operating agreement or similar documents of an Organization." (Pl. R. 56.1 ¶ 31.)

In addition to outlining the circumstances that will void the policy, the First Excess Policy also details grounds for excluding coverage under the policy. For example, exclusion 4(a) states that: [t]he Insurer shall not be liable to make any payment for Loss in connection with any Claim made against an Insured: . . . (a) arising out of, based upon or attributable to the gaining of any profit or advantage to which a judgment or final adjudication . . . adverse to the Insured establishes that the Insured was not legally entitled. (PX-B § 4(a) & Endorsement No. 3.) In addition, exclusion 4(c) provides that:

[t]he insurer shall not be liable to make any payment for Loss in connection with any Claim made against an Insured: . . . (c) arising out of, based upon or attributable to the committing of any deliberate criminal or fraudulent act by the Insured if a judgment or final adjudication . . . adverse to the Insured(s) establishes that such deliberate criminal or fraudulent act was committed. (Pl. R. 56.1 ¶ 32.) For the purpose of determining the applicability of these exclusions, "only facts pertaining to and knowledge possessed by any past, present or future chairman of the board, president, chief executive officer, chief operating officer, chief financial officer, or General Counsel . . . of an Organization shall be imputed to an Organization." (Pl. R. 56.1 ¶ 33; PX-B § 4.)

Finally, the First Excess Policy contains a consent-to- settle provision. That provision states: [t]he Insureds shall not admit or assume any liability, enter into any settlement agreement, stipulate to any judgment, or incur any Defense Costs without the prior written consent of the Insurer. Only those settlements, stipulated judgments, and Defense Costs which have been consented to by the Insurer shall be recoverable as Loss under the terms of this policy. The Insurer's consent shall not be unreasonably withheld . . . (Pl. R. 56.1 ¶ 44.) 'Loss' is defined, in relevant part, as "damages, settlements, judgments . . . , Defense Costs and Crisis Loss; however, 'Loss' (other than Defense Costs) shall not include . . . (5) any amounts for which an Insured is not financially liable or which are without legal recourse to an Insured . . ." (Pl. R. 56.1 ¶ 43.)

C. 2006/2007 Policies

From March 12, 2006 through March 12, 2007, SafeNet again had two layers of directors and officers liability insurance. (Pl. R. 56.1 ¶¶ 3, 4; Def. R. 56.1 ¶ 2.) National Union provided the first layer of insurance coverage, which had a $10,000,000 limit ("Renewal Primary Policy"), and plaintiff provided a $5,000,000 layer of excess coverage ("Renewal Excess Policy"). (Pl. R. 56.1 ¶¶ 3-4; Def. R. 56.1 ¶ 8.) As with the earlier policies, the Renewal Excess Policy follows form to the Renewal Primary Policy, subject to its own terms and conditions. (Pl. R. 56.1 ¶ 4; Def. R. 56.1 ¶ 3.)

The Renewal Excess Policy covers the same categories of claims as its predecessor. (PX-D § 1.) Additionally, like the First Excess Policy, the Renewal Excess Policy is a claims made policy and it contains the same language concerning providing notice of claims and relation back. (Compare PX-D § 7 with PX-B § 7.) However, Endorsement Number 15 in the Renewal Excess Policy contains an additional provision that excludes coverage for, among other things, "any claim alleging, arising out of, based upon, attributable to or in any way related directly or indirectly, in part or in whole, to" events described in a specified prior notice of circumstances. (Pl. R. 56.1 ¶ 22; Def. R. 56.1 ¶ 43.) The definition of a 'Claim' is the same under both excess policies.

Like the prior policy, the Renewal Excess Policy sets forth circumstances that will void the policy. Specifically, Endorsement Number 7 states:

[i]n granting coverage under this policy, it is agreed that the Insurer has relied upon the statements, warranties and representations contained in the Application as being accurate and complete. All such statements, warranties, and representations are the basis for the policy and are material to the risks assumed by the Insurer. . . The Insureds agree that in the event the particulars and statements contained in the Application are not accurate and complete and materially affect either the acceptance of the risk or the hazard assumed by the insurer under the policy, then the coverage provided by this Policy shall be deemed void ab initio solely with respect to any of the following Insureds: (1) any Insured Person who knew as of the inception date of the Policy Period the facts that were not accurately and completely disclosed in the application, (2) an Organization . . . [seeking coverage for its losses arising from a claim made against an Insured Period to the extent that the Organization has indemnified such Insured Person], to the extent it indemnifies any Insured Person referenced in (1) above, and (3) an Organization . . . [seeking coverage for a loss arising from a securities claim against it] if any past or present chairman of the board, president, chief executive officer, chief operating officer, chief financial officer or general counsel (or any equivalent position) of an Organization knew, as of the inception date of the Policy Period, the facts that were not accurately and completely disclosed in the application, whether or not such Insured Person knew that such facts were not accurately and completely disclosed in the Application . . . (PX-D at Endorsement No. 7.) The definition of 'Application' in the Renewal Excess Policy mirrors the definition in the First Excess Policy and thus includes statements made in SafeNet's public filings. (PX-D Endorsement No. 6.)

The Renewal Excess Policy also specifies grounds for excluding coverage. The grounds for excluding coverage under the Renewal Excess Policy are materially identical to the exclusions under the prior policy. (Compare, e.g., PX-B § 4(a)-(c) & Endorsement No. 3 with PX-D § 4(a)-(c) & Endorsement No. 2.)

Finally, the Renewal Excess Policy contains a consent-to-settle provision identical to that in the prior policy. (PX-D § 8.)

D. Investigations and Litigation

1. Public Disclosures

As noted in our prior opinion, beginning in 2006, SafeNet began to experience legal trouble. Specifically, on February 8, 2006, SafeNet disclosed in a Form 8-K that "previously filed Forms 10-Q for the quarters ended June 30, 2005 and September 30, 2005" contained two material errors: "(i) . . . an understatement of lease restructuring charges of approximately $700,000; and (ii) . . . an understatement of the costs and revenues of the classified government business of approximately $600,000." (Pl. R. 56.1 ¶ 5; PX-E; Def. R. 56.1 ¶ 7.)

On May 18, 2006, SafeNet announced that it had received a subpoena "from the office of the United States Attorney for the Southern District of New York relating to [its] granting of stock options" and that it had "received an informal inquiry from the Securities and Exchange Commission requesting information relating to stock option grants to directors and officers . . . [and] to certain accounting policies and practices." (Pl. R. 56.1 ¶ 6; DX-7; Def. R. 56.1 ¶ 12.)

Shortly thereafter, SafeNet filed a Form 8-K in which it disclosed that it had formed a special committee to investigate its stock option granting practices. (Pl. R. 56.1 ¶ 7; Def. R. 56.1 ¶ 16.) In a later Form 8-K/A, dated September 27, 2006, SafeNet stated that it "has concluded that certain options grants made between 2000 and 2005 . . . were or likely were accounted for using incorrect measurement dates under applicable accounting rules . . . As a result, [SafeNet] expects that annual and interim financial statements for the periods from 2000 through March 31, 2006 will have to be restated." (Pl. R. 56.1 ¶ 8; PX-F; DX-15; Def. R. 56.1 ¶ 18.)

2. Civil Litigation

Various civil lawsuits were filed shortly after the above-mentioned disclosures. For example, on August 1, 2006, SafeNet shareholders commenced a class action suit against SafeNet, Argo, Caputo, and numerous other directors and officers of SafeNet ("Class Action"). (Pl. R. 56.1 ¶ 10; Def. R. 56.1 ¶ 17.) The plaintiffs in the Class Action alleged that the named defendants "issued false and misleading public statements pertaining to SafeNet's stock option grants and executive compensation policies and practices," "falsely portrayed ...


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