The opinion of the court was delivered by: Paul A. Engelmayer, District Judge:
Defendants Level Global Investors, L.P. ("Level Global"), Michael Alessi, Gregory Brenner, Anthony Chiasson, Joseph Chiasson, and David Ganek (collectively, with Level Global, the "Insureds") move for a preliminary injunction requiring plaintiff XL Specialty Insurance Company ("XL") to resume advancing, pursuant to a professional-liability insurance policy, their costs of defending themselves against, inter alia, a federal criminal investigation. For the following reasons, defendants' motion is granted.
A. November 2010 through March 2012: XL Advances Funds to Cover the Insureds' Defense Costs
Level Global is an investment advisor which manages hedge funds. As of 2010, it had approximately $4 billion in assets under management. SEC Compl.¶ 25. Both Chiassons, Alessi, Brenner, and Ganek were or are Level Global directors, officers, or employees.
On November 22, 2010, the Federal Bureau of Investigation executed a search warrant on Level Global's New York offices. Compl. ¶ 18. The same day, the United States Attorney's Office for the Southern District of New York (the "USAO") issued a grand jury subpoena duces tecum to Level Global. Id.
As publicly reported, these steps were part of a broad criminal investigation-which drew nationwide publicity-into alleged insider trading within the securities industry. As described in news reports, the government was investigating allegations that hedge funds, mutual funds, and other financial firms had obtained material non-public information regarding public issuers, including from so-called "expert networks" or third-party consultants, and traded on this information, in violation of the federal securities laws.*fn2
Soon thereafter, the Securities and Exchange Commission ("SEC") subpoenaed Level Global for records in connection with a parallel investigation. Compl. ¶ 18.
Level Global promptly notified XL of these claims. It sought coverage from XL under an Investment Fund Management and Professional Liability Coverage Policy (the "Policy") which Level Global had entered into with XL in April 2010, covering claims made between April 21, 2010 and April 21, 2011. Level Global sought coverage for the fees and costs incurred by the Insureds in defending against the USAO and SEC investigations.
XL acknowledged receipt of Level Global's notice. It began advancing the Insureds' defense costs in connection with the two investigations. Id. ¶¶ 18--19.
On January 17, 2012, Anthony Chiasson, Level Global's co-founder, was indicted (along with others not party to this litigation) in this District (the "Criminal Action"). The Indictment charges Chiasson with four counts of securities fraud and one count of conspiracy to commit securities fraud. Ind't ¶¶ 11, 31--32. It alleges that Chiasson received material non-public information regarding technology companies, including from a co-worker at Level Global regarding Dell, Inc. Id. ¶¶ 8, 11, 19. It alleges that Chiasson learned of Dell's quarterly earnings before they were publicly announced on May 29, 2008, and traded on that information, resulting in a $4 million trading gain. Id. ¶ 19. The Indictment alleges that Chiasson again received material non-public information in advance of Dell's August 28, 2008 earnings announcement, based on which Level Global shorted 700,000 shares of Dell stock, resulting in an approximately $53 million trading gain. Id. ¶ 22.
The following day, January 18, 2012, the SEC sued Anthony Chiasson and Level Global for securities fraud (the "SEC Action"). Compl. ¶ 26. The allegations in the SEC Action are similar to those in the Criminal Action.
The Court henceforth uses the term the "Government Actions" to refer, collectively, to (1) the Criminal Action, as against Anthony Chiasson, (2) the SEC Action, as against Anthony Chiasson and Level Global, and (3) the continuing criminal and SEC investigations of all the Insureds.
B. March 5, 2012: XL Ceases Advancing the Insureds' Defense Costs
On January 18, 2012, the USAO unsealed an Information against a former Level Global mid-level research analyst, Spyridon Adondakis. Id. ¶ 26. Adondakis had worked at Level Global between 2006 and May 2010. Unbeknownst to XL or the Insureds, the Information had been filed, and Adondakis had pled guilty to it, in a sealed proceeding, nine months earlier, on April 25, 2011. Id. ¶¶ 20, 24 & Ex. B. The Information charged Adondakis with securities fraud and conspiracy to commit securities fraud. Inf'n ¶¶ 2, 16.
In his guilty plea colloquy, also unsealed on January 18, 2012, Adondakis allocuted to these charges as follows:
From 2007 to 2010 I agreed, with others, to commit securities fraud. Namely, I agreed to obtain, directly and indirectly, material non-public information from employees of public companies. I knew that the inside information I received was disclosed by the company employees in violation of duties of trust and confidence. I agreed to share that information with the other individuals at other companies as well as with others at the hedge fund where I worked. When I gave the inside information to the others at the hedge fund where I worked, I knew the information would be used to execute trades. Moreover, I did in fact obtain such information and provide it to others. For example, on August 27, 2008, I spoke with others at the hedge fund where I worked and discussed with them inside information that I obtained indirectly from an employee at [Dell].
Compl. Ex. D at pp. 17--18.*fn3
By letter sent on March 5, 2012, XL notified the Insureds that-based on Adondakis's guilty plea allocution-it would no longer advance defense costs relating to the Government Actions. Naunton Decl. Ex. B. Up to that point, XL had advanced nearly three-quarters of the Policy's $10 million aggregate coverage limit. This included $4,721,677.68 advanced to Level Global, $1,800,408.54 to Ganek, $573,672.26 to Anthony Chiasson, $286,812.72 to Brenner, $48,223.05 to Joseph Chiasson, and $21,022.50 to Alessi. Id. at p. 7. Since March 5, 2012, XL has not reimbursed any such defense costs. These include fees and costs the Insureds had incurred before January 18, 2012, and between January 18, 2012 and March 5, 2012.
XL's basis for denying a duty to cover the Insureds-as explained in its letter-is a provision in the application that Level Global had submitted to XL in seeking the Policy (the "Application"). The Application was completed and signed by Jeremy Bohrer, Level Global's General Counsel and Chief Operating Officer, on April 16, 2010. Naunton Decl. Ex. C at p. 4. Question 8.b on the Application asks:
Is any person(s) or entity(ies) proposed for this insurance aware of any fact, circumstance or situation which might afford valid grounds for any claim such as would fall within the scope of the proposed insurance? (If "Yes," please explain by attachment to this Application.)
Id. at p. 2. Bohrer checked the box corresponding to "No." Id. Immediately following this question is the following statement:
Without prejudice to any other rights and remedies of the Insurer, any Claim arising from any claims, facts, circumstances or situations required to be disclosed in response to 8.a) or 8.b) above is excluded from the proposed insurance.
Id. (the "Prior Knowledge Exclusion" or "Exclusion") (boldface in original).
In its letter to the Insureds, XL took the position that the Exclusion applies to the Government Actions. It explained that, based on his plea allocution, Adondakis-a person "proposed for this insurance"-necessarily knew, as of the April 2010 date of the Application, of facts which could give rise to a claim, i.e., an investigation, prosecution, or lawsuit, based on his insider trading scheme while at Level Global. Naunton Decl. Ex. B at p. 6. XL demanded that the Insureds repay the funds it had previously advanced. Id. at p. 7.
On March 5, 2012, the same day it terminated coverage, XL commenced this lawsuit. XL seeks (1) a declaration that, under the Prior Knowledge Exclusion, XL has no duty to cover any Insured in connection with the Government Actions, as a result of Adondakis's admitted crimes while at Level Global between 2007 and 2010; and (2) restitution of all defense costs (more than $7.3 million) that it has advanced to the Insureds.
D. The Insureds' Motion for a Preliminary Injunction
On March 28, 2012, the Insureds moved for a preliminary injunction. Dkt. 4. They argue that, in the absence of an injunction compelling XL to resume advances for defense expenses, their ability to defend against the Government Actions will otherwise be irreparably harmed. Insureds' Br. 13--15. The Insureds argue that they are likely to succeed in demonstrating an entitlement to coverage under the Policy, because, when the Prior Knowledge Exclusion is read in tandem with other provisions in the Application, it is at best ambiguous whether it permits XL to terminate coverage for all Insureds, and, under New York law, ambiguities in an insurance contract are construed to favor the insured. Insureds' Br. 16--17.
The Insureds point, first, to a provision at the end of the Application. It appears immediately before Bohrer's signature. It states:
FOR THE PURPOSE OF THIS APPLICATION, THE UNDERSIGNED AUTHORIZED AGENT OF THE PERSON(S) AND ENTITY(IES) PROPOSED FOR THIS INSURANCE DECLARES THAT TO THE BEST OF THEIR KNOWLEDGE AND BELIEF AFTER REASONABLE INQUIRY, THE STATEMENTS HEREIN ARE TRUE AND COMPLETE. THE INSURER IS AUTHORIZED TO MAKE ANY INQUIRY IN CONNECTION WITH THIS APPLICATION. SIGNING THIS APPLICATION DOES NOT BIND THE INSURER TO COMPLETE THE INSURANCE.
Naunton Decl. Ex. C at p. 3 (the "Reasonable Inquiry Provision" or "Provision") (boldface and capitals in original). The Insureds argue that the Provision qualifies the Prior Knowledge Exclusion, such that when Bohrer answered "no" to Question 8.b, did not-and was not required to-attest omnisciently that no proposed Insured was aware of a basis for a claim. Rather, he was attesting-and was required to attest-only that he, on behalf of Level Global, was unaware, after a reasonable inquiry, that any proposed insured was aware of a basis for a claim. Accordingly, the Insureds argue, Adondakis' crimes-concealed from Bohrer-did not trigger the Exclusion. Insureds' Br. 18.
The Insureds also point to Condition K (a "Warranty" clause) in the Application, which provides:
No knowledge or information possessed by any Insured will be imputed to any other Insured. In the event that any of the particulars or statements in all material respects in the Application are untrue, this Policy will be void with respect to any Insured who had actual knowledge of the untruth in any material respect [sic] knew of such untruth.
Naunton Decl. Ex. A at p. 26; Insureds' Br. 19--20. The Insureds argue that, in excluding them from coverage, XL is, effectively, imputing Adondakis's criminal knowledge to the Insureds in violation of Condition K.
The Insureds separately argue that, regardless of whether they ultimately prevail on the underlying issue of whether the Prior Knowledge Exclusion bars coverage, they are entitled to advancement of defense costs until a court resolves that issue. Insureds' Br. 20--24; see also id. at 23 ("insurers are required to make contemporaneous interim advances of defense expenses where coverage is disputed, subject to recoupment in the event it is ultimately determined no coverage is afforded.") (internal quotation marks and citations omitted). They argue that XL does not have the unilateral right to cease advancement in midstream. Id.
On April 16, 2012, XL filed its opposition. Dkt. 19. XL argues that neither the Reasonable Inquiry Provision nor Condition K modifies the Prior Knowledge Exclusion, and that the Insureds thus fail to establish a likelihood of success on the merits. XL's Br. 9--11. XL also denies that it must await a judicial determination that the Exclusion applies before terminating coverage. It distinguishes the cases on which the Insureds rely as arising in the different context of insurer attempts to rescind a policy altogether. Id. at 19--22. XL also asks that, if an injunction is granted, the Insureds be required to post a bond. Id. at 22--24.
On April 26, 2012, the Insureds filed a reply brief. Dkt. 23.
On May 10, 2012, the Court held a nearly three-hour hearing on the motion. At the end of that hearing, the Court informed the parties that it intended to grant the Insureds' motion for a preliminary injunction, and that an appropriate opinion and order would follow.