Stein v. Axis Insurance Co.
10 Cal. App. 5th 673
Cal. Ct. App.2017Background
- In 2007 Heart Tronics (Signalife) purchased D&O coverage from HCC and AXIS; HCC’s policy was amended to expressly cover defense expenses for civil and criminal proceedings, including appeals, and to cover persons who were the “functional equivalent” of officers.
- The HCC policy included a Willful Misconduct Exclusion: it disclaimed payment for losses caused by dishonest, criminal or willful acts but expressly excepted payment of Defense Expenses; if there was a “final adjudication” that an insured committed willful misconduct, the insured would have to repay any Defense Expenses.
- Mitchell Stein, a founder and de facto officer of Heart Tronics, was criminally convicted in 2013 of securities fraud; he appealed and tendered appellate defense costs to HCC, which denied coverage (partly claiming conviction was a “final determination”). The conviction was later affirmed by the Eleventh Circuit, which vacated sentence and remanded for resentencing; rehearing was pending.
- Stein sued HCC for fraud, breach of contract, breach of the implied covenant, and unfair competition for denying appellate defense costs; he also sued AXIS for conspiracy and related claims. Trial court sustained demurrers without leave to amend and dismissed the case against all defendants.
- On appeal, the Court of Appeal (2d Dist., Div. 1) affirmed dismissal as to AXIS and certain HCC-related entities but reversed as to Stein’s claims against HCC, holding HCC’s demurrer was improperly sustained on several grounds.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether appellate defense expenses are covered despite a Willful Misconduct Exclusion triggered by a “final adjudication” | Stein: Policy expressly covers Defense Expenses for appeals; exclusion’s “final adjudication” repayment provision should apply only after direct appeals are exhausted | HCC: A trial court conviction is a “final adjudication” (final until reversed) and thus exclusion bars coverage for appellate costs | Held: Reversed — policy’s text and context show Defense Expenses are covered during direct appeal; “final adjudication” does not bar coverage at that stage |
| Whether sham-pleading doctrine precludes Stein’s allegation he was a “functional equivalent” officer | Stein: Allegations and SEC pleadings support he was de facto officer during policy period | HCC: Stein previously took inconsistent positions in other proceedings, estopping him | Held: Reversed — prior statements did not conclusively contradict the complaint or preclude the allegation; sham pleading did not bar it |
| Whether fraud (promissory fraud) was pleaded with required specificity and within limitations | Stein: HCC agents represented Stein was covered; HCC intended not to perform; plaintiffs relied and suffered damages; discovery of denial in 2014 started the limitations period | HCC: Allegations insufficient on scienter, agency, falsity at time made; claim was time-barred from 2007 | Held: Reversed as to HCC — allegations of promissory fraud (intent not to perform) and delayed discovery were sufficiently pleaded to survive demurrer |
| Whether AXIS (a stranger to the HCC policy) can be liable for conspiracy, fraud, and breach of implied covenant related to HCC policy benefits | Stein: AXIS conspired with HCC and its agents (same agents) to induce purchase and then deny coverage; AXIS authorized agents’ representations | AXIS: As a nonparty to HCC policy, AXIS owed no duty under it; fraud allegations lack particularity and agency facts | Held: Affirmed dismissal as to AXIS — AXIS, as a stranger to the HCC contract, cannot be liable for conspiracy to frustrate HCC policy benefits; fraud/conspiracy allegations lacked required specificity |
Key Cases Cited
- Powerine Oil Co. v. Superior Court, 37 Cal.4th 377 (Cal. 2005) (principles of contractual interpretation and construing ambiguities against insurer)
- Mid-Century Ins. Co. v. Superior Court, 138 Cal.App.4th 769 (Cal. Ct. App. 2006) (an action is pending until final determination on direct appeal)
- Lazar v. Superior Court, 12 Cal.4th 631 (Cal. 1996) (elements and pleading requirements for promissory fraud)
- Fox v. Ethicon Endo-Surgery, Inc., 35 Cal.4th 797 (Cal. 2005) (discovery rule for accrual of causes of action and pleading delayed discovery)
- Applied Equipment Corp. v. Litton Saudi Arabia Ltd., 7 Cal.4th 503 (Cal. 1994) (conspiracy requires coconspirator to be capable of committing the underlying tort and owing duty to plaintiff)