John S. Pereira, Esq., acting as the Chapter 11 Trustee of the Estate of Payroll Express Corporation appeals from a final judgment of the United States District Court for the Southern District of New York (Shira A. Scheindlin, Judge) entered February 25, 1998 implementing an opinion and order dated August 6, 1997 granting summary judgment for Federal Insurance Company (“Federal”), and another opinion and order dated October 1, 1997 granting summary judgement for the London Excess Underwriters (“LEU”), and partial summary judgement for the Aetna Casualty & Surety Company (“Aetna”).
I. BACKGROUND
A. Facts
Payroll Express Corporation is a New Jersey corporation (“PEC-NJ”) which maintained its principal place of business in New Jersey during its period of operations, from the late 1960s to May 1992. Payroll Express Corporation of New York (“PEC-NY”) is a related corporation whose principal place of business was New York. The companies (collectively “PEC” or “Payroll Express”) provided payroll check cashing and cash distribution services in New Jersey and New York. Customers included nursing homes, hospitals, New York University, the New York City Transit Authority, and the Payroll Administration of the City of New York, among many others.
On a biweekly or monthly basis PEC’s customers wire-transferred millions of dollars into PEC’s bank accounts. Subsequently, PEC would arrive at the customer’s place of business on its payday and provide teller services to its employees, such as exchanging cash for an employee’s endorsed paycheck. Payroll Express would then return the cashed paychecks to the customer along with any unused portion of the money initially deposited into its account by the customer.
Not surprisingly, PEC’s customers required PEC to maintain full insurance coverage to safeguard their money while it was being held by PEC. Payroll Express thus obtained insurance to cover theft, including employee theft, from each of the defendant insurance companies, with Marshall & Sterling of Poughkeepsie, New York (“M & S”) acting as an insurance broker.
Until about July 1991, funds were diverted by simply failing to return unused monies to customers in a timely manner. After July 1991, the defalcating employees turned to another strategy. They engaged in a check-kiting scheme whereby they simultaneously inflated PEC account balances in two banks by continually depositing worthless checks of small amounts in each PEC bank account, drawn on the PEC account from the other bank. This fraudulent activity was discovered in May 1992. As of June 5, 1992, PEC had liabilities of approximately $36.2 million and assets of only about $3 million.
On July 13, 1993, Robert Felzenberg pleaded guilty to a federal Criminal Information charging him with felonies relating to the fraud at PEC. See United States v. Felzenberg, No. 93 CR. 460(SS),
On June 5, 1992, PEC-NJ and PEC-NY filed their respective Chapter 11 petitions with the United States Bankruptcy Court for the Southern District of New York. In re Payroll Express Corp., Chapter 11 Case No. 92-B-43150. On June 8, 1992, the Bankruptcy Court authorized the joint administration of both cases and on June 26, 1992, John S. Pereira, Esq. was appointed as Trustee of PEC.
In June 1993, the Trustee submitted a Proof of Loss prepared by Price Water-house, L.L.P. to LEU, Aetna, and Federal, seeking to recover a total of $33,666,080 under the policies for funds lost due to the fraudulent conduct of the Felzenbergs and other PEC employees. The Trustee submitted a supplemental proof of loss statement in July 1994. The insurance companies each denied the Trustee’s claim against its respective policy or policies.
1. The Aetna Policy
On or about February 19, 1976, Aetna issued to PEC-NJ a Comprehensive Dishonesty, Disappearance, and Destruction Policy (the “Aetna Policy”). The policy was amended to make it noncancellable unless PEC failed to pay the premiums. Aetna attempted to cancel the policy on May 2, 1980. PEC brought an action in federal district court for an injunction preventing Aetna from canceling the policy. The district court ordered the relief sought and this Court affirmed. See Payroll Express Corp. v. Aetna Cas. & Sur. Co.,
The Preamble and Insuring Agreement I of the Aetna Policy provide in pertinent part: “The Company ... agrees with the Insured ... to pay the Insured for: ... Loss of Money, Securities, and other property which the Insured shall sustain ... through any fraudulent or dishonest act or acts committed by any of the Employees, acting alone or in collusion with others.” Section 3 of the Conditions and Limitations portion of the Aetna Policy defines “employee” as:
any natural person (except a director or trustee of the Insured, if a corporation, who is not also an officer or employeethereof in some other capacity) while in the regular service of the Insured in the ordinary course of the Insured’s business during the Policy Period and whom the Insured compensates by salary, wages or commissions and has the right to govern and direct in the performance of such service.
Endorsement 28 of the Aetna Policy excludes PEC’s President Robert Felzen-berg from this definition of employee. Section 2(a) of the Exclusions segment of the Aetna Policy states that the policy does not apply “to loss due to any fraudulent, dishonest or criminal act by any Insured or a partner therein, whether acting alone or in collusion with others.”
2. The LEU Policies
LEU issued three policies to PEC effective February 7, 1992 for a twelve month period: (1) London Primary Layer Policy; (2) First LEU Excess Policy; and (3) Second LEU Excess Policy (collectively, the “LEU Policies”). The Primary Layer Policy and the First LEU Excess Policy provided coverage for “Employee Theft, Premises Loss and Transit Loss.” The Second LEU Excess Policy provided for “Employee Theft” occurring at PEC’s NJ and N.Y. offices; and “Premises Coverage” at those same two locations. The application form for these policies was submitted through M & S on January 16, 1992, and signed by Robert Felzenberg as PEC’s president.
Question 10 of the LEU application asked, “[h]as the proposer suffered a loss during the past five years? If “Yes” give brief details and amount involved.” Fel-zenberg replied, “YES, SECURITY SYSTEM FOR PREMISES & VAULT WAS BREACHED DURING NON OPERATING HOURS. BURGLARY AMOUNT WAS $1,500,000. OCCURRED ON 5/19/88 AT OUR [NY office] LOCATION.”
Question 36 inquired, “[i]s there any other information which is or may become material to the proposed insurance and which is not already disclosed to underwriters?” The response was “NONE.” Above the line on which Robert Felzen-berg signed his name was written the following:
I/WE HEREBY DECLARE THAT THE ABOVE STATEMENTS, PARTICULARS AND ANSWERS ARE TRUE AND THAT I/WE HAVE NOT SUPPRESSED OR MISSTATED ANY MATERIAL FACTS....
IT IS FURTHER AGREED THAT THE CONTINUED ACCURACY OF THE STATEMENTS, PARTICULARS AND ANSWERS SHALL BE A CONDITION PRECEDENT TO UNDERWRITERS’ LIABILITY UNDER THE PROPOSED INSURANCE.
Also pertinent to this appeal, the LEU Primary Policy provided that:
Employee or Employees means, respectively, one or more persons while in the regular service of any Insured in the ordinary course of the Insured’s business ... whom any Insured compensates by salary, wages and/or commissions and has the right to govern and direct in the performance of such service;. and shall also mean;
(A) Any non-compensated officer of any Insured....
(C) Any director or trustee of any Insured while performing acts coming within the scope of the usual duties of an Employee.
3. The Federal Policy
Effective February 7, 1986, PEC purchased a Crime Insurance Policy (the “Federal Policy”) from Federal, which is a member of the Chubb Group of Insurance Companies. Section 2. Exclusions of the Federal Policy provides that coverage “does not apply to: (H) loss unless reported and proved in accordance with Section 4.5 hereof; (I) loss unless discovered and written notice given to [Federal] within (1) sixty days following termination of this policy in its entirety.” Section 4.5 provides in pertinent part: “[u]pon knowledge
[a]t any time prior to the termination of this policy in its entirety ... the Insured may give written notice to [Federal] that it desires an extension of the period for discovery of loss under this policy from sixty days to one year and shall pay an additional premium for such extension.
Section 6.2 of the Federal Policy specifies that termination is effective “(A) thirty days after the receipt by the Insured of a written notice of termination from the Company” or “(B) upon the receipt by the Company of a written notice of termination from the Insured.” However, Endorsements No. 5 and 33 to the Federal Policy prohibit either party from canceling without first giving notice to two of PEC’s customers:
no change in or cancellation of this bond, whether by or at the request of the Insured or by the Company shall take effect prior to the expiration of forty five (45) days after notice by registered mail of such change or cancellation of this bond has been received by the office[s] of the Department of Finance of the City of New York [and] ... the New York City Transit Authority.
By letter dated December 6, 1988, PEC notified M & S of its intention to “non-renew” the Federal Policy, effective February 7, 1989. Marshall & Sterling forwarded that letter to Federal by fax. On February 10, 1989, Robert Felzenberg signed a “Cancellation Notice” prepared by Federal effective February 7,1989. No premiums were paid by PEC to Federal after that date. Payroll Express obtained substitute coverage from LEU for the loss payees of the Federal Policy from the date of its cancellation of the Federal Policy. It is disputed whether PEC or Federal ever notified the Department of Finance of the City of New York or the New York City Transit Authority of the cancellation.
B. Proceedings Below
On May 1, 1995, the Trustee commenced an adversary proceeding in the United States Bankruptcy Court for the Southern District of New York against Aetna, Federal, and LEU. The Trustee sued to enforce the terms of the various employee dishonesty insurance policies issued to PEC and to recover damages for the defendants’ alleged bad faith denial of coverage under the policies. The Trustee sought recovery under these insurance policies for losses caused by the dishonest and fraudulent acts of certain former employees at PEC in an amount in excess of $3 million. Defendants moved for a withdrawal of the reference of the adversary proceeding from the Bankruptcy court. On August 16, 1995, the district court granted the Defendants’ motions and withdrew the reference of the Trustee’s claims from the Bankruptcy Court as a non-core proceeding.
On December 1, 1995, the district court ruled from the bench that New Jersey law applies to the Trustee’s claims of bad faith denial of coverage. On January 23, 1996, the district court granted Aetna’s motion to dismiss the Trustee’s bad faith claim pursuant to Fed.R.Civ.P. 12(b)(6), but denied LEU’s motion to dismiss the Trustee’s bad faith claim. See Pereira v. Aetna Cas. & Sur. Co. (In re Payroll Express Corp.), No. 95 CIV. 4385,
In an opinion and order dated August 6, 1997, the district court granted Federal’s summary judgment motion pursuant to Fed.R.Civ.P. 56. See Pereira v. Aetna Cas. & Sur. Co. et al. (In re Payroll
The Trustee contended that the notice of loss to Federal was timely because Federal’s failure to provide proper notice to the New York City Transit Authority and Finance Department effectively extended the time PEC had to notify Federal of a loss as to those two loss payees, even if it did not negate PEC’s cancellation of the policy. Therefore, since the trustee filed for losses within sixty days of the trustee’s discovery of the loss, timely notice of loss was provided as to losses suffered by the New York City Transit Authority and New York City Finance Department as required by Section 4.5 of the Federal Policy. Id. The district court rejected all of the Trustee’s arguments because: (1) no premiums had been paid to Federal since 1989 as required under Section 4.8 to extend coverage to later discoveries; (2) the policy had no language that it was self-renewing upon ineffective notice of cancellation provided for in Endorsements 5 and 33; and (3) the purpose of the notice of cancellation is to protect the Insured from being left without coverage, which was not offended when the Insured canceled and then obtained substitute coverage for the loss payees who were to be notified of such cancellation. Id. at 501-02.
In a 51-page opinion and order dated October 1, 1997, the district court granted the summary judgment motion of LEU and partially granted the summary judgement motion of Aetna pursuant to Rule 56, giving a thorough treatment of the facts and issues in the case. See Pereira v. Aetna Cas. & Sur. Co. (In re Payroll Express Corp.),
As a threshold matter, the district court decided that under New York choice-of-law rules, New Jersey law should apply to the Trustee’s contract claims. The district court noted that under the New York choice-of-law test “it is difficult indeed to determine whether New York or New Jersey has a greater interest in this dispute.” Pereira,
In considering LEU’s motion for summary judgment, the district court first found that Felzenberg’s response to Question 10 on the LEU application was false because PEC had in fact suffered losses eighteen times during the previous five years, rather than once as indicated by Felzenberg. Id. The court rejected the Trustee’s arguments that there were issues of material fact as to: (1) whether LEU had actual or constructive knowledge of the other robberies, and (2) whether the undisclosed losses were immaterial to the application because of their size. Further, the district court rejected the Trustee’s argument that Question 10 is ambiguous. Accordingly, the district court found Fel-zenberg’s response to Question 10 to be a material misrepresentation voiding the LEU Policies ab initio. Id. at 355-59.
The district court also found as an alternative ground for voiding the LEU policies, that Robert Felzenberg’s response to Question 36 of the LEU application was a material misrepresentation because Fel-zenberg failed to disclose his defalcations. The district court rejected the Trustee’s arguments that the question was over-broad and ambiguous and that Felzen-
As to Aetna’s motion for summary judgment, the district court rejected Aetna’s theory that Robert and Barbara Felzen-berg were merely the equitable “alter egos” of PEC, and therefore, refused to credit Aetna’s argument that since the fraud was committed by the Insured itself, coverage was properly denied pursuant to Endorsement 2 of the Aetna Policy. Id. at 360-61. Instead, the court granted Aet-na’s motion on the grounds that the Fel-zenbergs were contractual alter egos of PEC. The district court reasoned that because the two Felzenbergs dominated and controlled PEC, neither could be considered an “employee” whose theft would be covered under the Aetna Policy. Id. at 361-63.
Regarding other PEC employees, the district court found that there was an issue of material fact as to whether Gillmore, Rose Felzenberg, Robert Gussow, and Howard Messer “independently caused losses to PEC through dishonest conduct” which would be covered by the! Aetna Policy. Id. at 363-64. However, the district court found “no probative evidence to suggest that any PEC losses were ‘due to’ the dishonest conduct of Alicia or Emily Fel-zenberg.” Id. at 364.
Finally, the district court decided the Trustee’s bad faith denial of coverage claim remaining against LEU. Citing Pickett v. Lloyd’s,
On December 1, 1997, Aetna and the Trustee stipulated to dismiss without prejudice all the remaining claims against Aet-na. On December 10, 1997, the district court entered judgment dismissing the Trustee’s Conformed Amended Complaint based on the court’s earlier orders granting summary judgment and the stipulation of dismissal. In an Amended Stipulation of Voluntary Dismissal dated February 24, 1998, the Trustee and Aetna agreed “to dismiss with prejudice all those claims against Aetna remaining to be tried pursuant to [the district court’s] October 1, 1997 Opinion and Order.” On February 25, 1998, the district court endorsed an Amended Final Judgment dismissing the Conformed Amended Complaint of the Trustee based on the orders granting summary judgment and the Amended Stipulation of Voluntary Dismissal. The Trustee filed a timely notice of appeal.
II. DISCUSSION
On appeal, the Trustee argues primarily that the district court failed to consistently preserve the corporate form of PEC. Namely, he asserts that the court erroneously disregarded the corporate form of PEC by imputing to the corporation the wrongdoing .of its president, Robert Fel-zenberg. The Trustee also contends that genuine issues of material fact exist to preclude summary judgment, that the district court erred in finding that the Trustee could not prove a claim of bad faith failure to investigate, that the court should not have assumed cancellation of the Federal Policy, and that the Trustee should not have to show that losses caused by non-principal employees were independently caused.
Reviewing the district court’s grant of summary judgement de novo, Young v.
In its motion for summary judgment, Aetna argued that the Felzenbergs were equitable alter egos of PEC and therefore the corporate form should be disregarded. Pereira,
The Trustee agrees with this holding, but says it is inconsistent with the court’s treatment of the corporate form when considering the effect of Robert Felzenberg’s misrepresentations on the application form for the LEU policies. As noted above, the district court found that Robert Felzen-berg made material misrepresentations in answering two questions on the LEU application form for which PEC was responsible, each of which served to void the policies ab initio. Pereira,
A. Adverse Domination Doctrine
Adverse domination is an equitable doctrine which operates to toll the statute of limitations for a corporation’s claims against its officers or directors when the persons in charge of the corporation cannot be expected to pursue claims adverse to their own interests. Republic of the Philippines v. Westinghouse Elec. Corp.,
In making his argument, the Trustee relies heavily on Shields v. National Union Fire Ins. Co. (In re Lloyd Securities, Inc.),
For several reasons we disagree with the Trustee’s contention that the district court erred by declining to apply the adverse domination doctrine in the present case. We first note that New Jersey has not adopted the adverse domination theory. See Levitt v. Riddell Sports, Inc. (In re MacGregor Sporting Goods, Inc.),
Adverse domination is a tolling doctrine. It was originally developed to toll the statutes of limitations applicable to a corporation’s claims against its officers and directors. In the fidelity insurance context, it has been applied to toll the time a corporation has to notify its insurer of employee theft. In both contexts in which the doctrine has been applied it is based on the recognition that since a defalcating officer or director cannot be expected to protect the interests of the corporation, knowledge of the theft should not be imputed to the corporation for the purpose of tolling an otherwise applicable time limitation on bringing a claim. See Resolution Trust Corp. v. Gardner,
The Trustee appears to argue that the same rationale should apply to misrepresentations made on an insurance application by a defalcating employee. The difficulty with the Trustee’s attempt to apply the adverse domination theory to the LEU policies is that no otherwise applicable time period, and therefore no tolling is implicated by the district court’s decision. The district court held that the LEU policies were void ab initio because Robert Felzneberg made material misrepresentations on the application. That holding has nothing to do with the timing of the corporation’s discovery of the wrongdoings for notice purposes.
To the extent that the court in Lloyd Securities based its determination that the material misrepresentations on the fidelity bond application should not be imputed to the debtor corporation on the adverse domination doctrine, the decision was, at best, an extension of the doctrine well beyond its equitable tolling roots. Whereas the equitable tolling of statutes of limitations and other time periods only exposes an insurer to losses of a sort the insurer has already agreed to absorb, ex
B. Adverse Interest Exception
The Trustee also invokes the adverse interest exception to general agency principles to justify why the debtor corporation should not be barred from enforcing the terms of the LEU policies despite Felzenberg’s misrepresentations. The general rule is that a representation made by an authorized agent of the principal is binding upon the principal. Carlson v. Hannah,
The New Jersey Supreme Court has yet to ascertain the operation and scope of the adverse interest doctrine, but we think it is clear that under New Jersey law, principles of agency operate to hold PEC responsible for the consequences of Felzenberg’s misrepresentations. A corporation, possessing an identity only in a legal sense, necessarily speaks through its agents. In an action for contract rescission, an agent’s misrepresentations bind the principal if the agent was authorized to represent the principal in obtaining the contract. Equitable Life Assurance Soc’y v. New Horizons, Inc.,
In Equitable Life the general manager of Linden Tool made misrepresentations as to his medical condition on an application for life insurance his employer wanted to take out on him as an essential employee.
Thus, the Trustee’s argument that the district court improperly disregarded PEC’s corporate form to impute Felzenberg’s fraud to PEC, mischaracterizes the holding. The district court’s conclusion that PEC is responsible for the misrepre
The Trustee attempts to distinguish Equitable Life, arguing that the agent in that case was acting to benefit the corporation by procuring the life insurance policy, whereas Robert Felzenberg was acting adversely to PEC’s interests and in his own behalf. Given the holding in Equitable Life, the Trustee must necessarily be arguing that even material misrepresentations will not serve to rescind an insurance policy when the Insured’s agent was acting adversely to the interests of the Insured. Arguably, Felzenberg was acting on behalf of PEC in procuring the LEU policies, not adversely to it. See Gordon v. Continental Cas. Co.,
A principal may not disavow an act of an agent while simultaneously taking advantage of the benefits of the fraudulently procured bargain. See Restatement (Second) of Agency § 282 cmt. h (1958)(a principal may not disclaim knowledge of the agent’s fraud and yet attempt to retain a benefit obtained by the fraud; this is a restitution principle preventing the unjust enrichment of the principal). In other words, the adverse interest exception acts as a shield for a principal, so that the adverse acts of its agent cannot be imputed to the principal to hold it liable for the misdeeds of the agent. A principal may not use the doctrine as a sword to force a third party defrauded by its agent to abide by the terms of the agreement. Cf. Munroe v. Harriman,
It is not possible, as the Trustee’s argument suggests, to excise the fraudulent statement from the transaction and retain the benefit of the remainder. Indeed, in the present case, a representative of LEU testified that the company would never have issued the policies had it known of the defalcations of the Felzenbergs and
Some courts have permitted an Insured to assert the adverse interest exception to recover under an insurance policy obtained by a defalcating employee on the Insured’s behalf, holding that the agent’s knowledge of his misdeeds could not be imputed to the Insured. See, e.g., Puget Sound Nat’l Bank v. St Paul Fire & Marine Ins. Co.,
In contrast, the position argued by the Trustee would cause the Insurer to bear the risk that a corporation’s agent will lie on a policy application to hide his own defalcations. The case cited by the Trustee to support this contention is inapposite to the present circumstances. In Phoenix Sav. & Loan, Inc. v. Aetna Cas. & Sur. Co.,
Nor do we find persuasive the Trustee’s alternative argument that even if a corporate principal may not use the adverse interest exception to benefit from a contract fraudulently obtained by the corporation’s agent, the corporation’s creditors may. The Trustee contends that in this case the debtor corporation will not benefit from any monies recovered under the insurance policies. Instead, any funds paid out by the Insurer will go only to PEC’s creditors, many of whom as customers of PEC were loss payees under the LEU policies. Despite the general rule that a Trustee is subject to the same defenses in a legal action as the debtor would be, Bank of Marin v. England,
However sound this result may be for a court applying Pennsylvania law, the Trustee cannot obtain it from a court implementing the law of New Jersey. Under New Jersey law, if the Insured cannot recover under an insurance policy, the Insured’s creditors cannot recover. Liberty Mut. Fire Ins. v. Kahlaid, Inc.,
Because we agree with the district court’s alternate holding that the LEU policies were void ab initio due to Robert Felzenberg’s materially false answer to Question 36, we need not reach the Trustee’s argument that the district court erred in holding that Felzenberg’s misrepresentation as to Question 10 was material as a matter of law. We have considered all of the other arguments advanced by the Trustee on appeal and find them to be without merit.
III. CONCLUSION
The district court correctly declined to disregard PEC’s corporate form, finding that the Felzenbergs were not alter egos of PEC. This finding was not inconsistent with holding PEC responsible for material misrepresentations made by Robert Fel-zenberg on the LEU application. Robert Felzenberg acted on behalf of PEC as the corporation’s agent in procuring the LEU policies. Under New Jersey law the corporate principal is responsible for the consequences of its agent’s material misrepresentations on an insurance application, even when the principal could have no knowledge of the agent’s deceptions. Neither the adverse domination theory nor the adverse interest exception serve to negate the consequences for PEC of Robert Felzenberg’s misrepresentations. Accordingly, the LEU policies were void ab initio. The judgment of the district court is AFFIRMED.
Notes
. For a more detailed description of PEC's business, see Payroll Express Corp. v. Aetna Cas. & Sur. Co.,
. We do not, however, consider the Trustee’s arguments on appeal pertaining to the fraudulent conduct of Gilmore, Gussow, Messer, and Rose Felzenberg since the Trustee entered into an Amended Stipulation of Voluntary Dismissal dated February 24, 1998 in which he agreed to dismiss with prejudice the claims remaining against Aetna pursuant to the district court’s Opinion and Order dated October 1, 1997.
. Under New Jersey law, a misrepresentation is material if it is "reasonably related to the estimation of the risk or the assessment of the premium." Massachusetts Mut. Life Ins. Co. v. Manzo,
. Although the district court did state that it rejected "plaintiffs attempt to interpose PEC’s corporate form to avoid the consequences of Robert Felzenberg’s material misrepresentations,” Pereira,
. The Trustee also cites Gordon,
. To the extent the Trustee is contending that the right of PEC’s creditors to recover under the LEU policies should be analyzed independently from PEC's right to recover, we disagree. A trustee may bring only those claims that a debtor could have brought prior to entering bankruptcy. Hirsch v. Arthur Andersen & Co.,