166 A.D.3d 1
N.Y. App. Div.2018Background
- Bear Stearns faced an SEC enforcement action (2003–2006) alleging it facilitated late trading and deceptive market timing that generated hundreds of millions in profits for certain hedge fund customers.
- In 2006 Bear Stearns agreed, without admitting or denying findings, to pay $160 million in disgorgement and $90 million in civil penalties in the SEC order; plaintiffs here seek insurance coverage for $140 million of the disgorgement (excluding $20 million attributable to Bear Stearns’ own gains).
- Bear Stearns’ insurers denied coverage; plaintiffs sued for breach of contract and declaratory relief, claiming the disgorgement falls within the policies’ definition of “Loss.”
- On prior appeals, the New York Court of Appeals reinstated the complaint, concluding at the motion-to-dismiss stage that documentary evidence did not conclusively show the disgorgement was solely the insured’s ill‑gotten gains and leaving open factual issues about intent and exclusions.
- The motion court granted plaintiffs summary judgment, holding the $140 million was a covered loss because it represented third‑party gains and exclusions/public policy did not bar recovery; defendants appealed.
- The First Department reversed, holding Kokesh v. SEC recharacterized SEC disgorgement as a penalty (punitive/deterrent), which is uninsurable and thus not a “Loss” under the policies; defendants granted summary judgment on that basis.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether SEC disgorgement constitutes an insurable “Loss” under the policies | Disgorgement here was largely based on third‑party customer gains, so it is remedial/compensatory and covered | Kokesh establishes SEC disgorgement is a penalty intended to punish/deter and therefore uninsurable; not a covered “Loss” | Held for defendants: Kokesh characterizes SEC disgorgement as a penalty, so disgorgement is not a “Loss” under the policies |
| Whether public policy bars coverage for disgorgement of third‑party gains | Coverage should be allowed when disgorgement reflects profits of others, not the insured, so policy rationale against indemnifying ill‑gotten gains doesn’t apply | Allowing indemnity would undermine deterrence and permit insureds to shift punitive consequences to insurers | Held for defendants: public‑policy/penalty rationale applies regardless of whether disgorgement is based on insured’s or third parties’ gains |
| Application of personal‑profit and dishonest‑acts exclusions | Plaintiff: exclusions don’t apply because profits accrued to third parties and settlements weren’t adjudications of dishonesty | Defendants: exclusions bar coverage for wrongful acts and personal profit | Held: court’s decision rests on Kokesh; prior exclusion disputes were addressed in earlier appeals but not outcome determinative here |
| Effect of prior Court of Appeals ruling (law of the case) | Plaintiff: Court of Appeals already suggested third‑party disgorgement could be covered, so doctrine bars reconsideration | Defendant: Kokesh is an intervening change in law allowing reconsideration and reversal | Held for defendants: Kokesh is an intervening change of law; law‑of‑the‑case does not preclude reconsideration |
Key Cases Cited
- Kokesh v. Securities & Exchange Commission, 137 S. Ct. 1635 (2017) (SEC disgorgement is a penalty imposed for deterrence and punishment)
- Biondi v. Beekman Hill House Apt. Corp., 94 N.Y.2d 659 (2000) (fundamental principle that one should not benefit from one’s own wrong)
- SEC v. Contorinis, 743 F.3d 296 (2d Cir. 2014) (disgorgement can include profits that accrue to third parties)
- SEC v. Warde, 151 F.3d 42 (2d Cir. 1998) (tippee gains are attributable to tipper for disgorgement purposes)
- SEC v. Clark, 915 F.2d 439 (9th Cir. 1990) (tippers may be required to disgorge tippees’ profits)
- SEC v. First Pacific Bancorp., 142 F.3d 1186 (9th Cir. 1998) (use of disgorged funds for investor relief does not change remedial/punitive nature)
- Fishbach Corp. v. Tri‑State Motor Transit Co., 133 F.3d 170 (2d Cir. 1997) (disgorgement may function as a punitive sanction rather than pure restitution)