Duty to Defend is Broad but not Unlimited

Exclusions Defeat Claim for Defense & Indemnity
Genuine Dispute Dispels Claim of Bad Faith
Post 5167

In Diversified Restaurant Group, LLC, et al. v. Houston Casualty Company, et al., No. 25-cv-02344-EMC, United States District Court, N.D. California (July 31, 2025) Diversified Restaurant Group, LLC (DRG) and Golden Gate Bell, LLC (GGB) sued Houston Casualty Company (HCC), Pennsylvania Manufacturers Indemnity Company (PMIC), and Manufacturer's Alliance Insurance Company (MAIC) around the denial of insurance coverage for a lawsuit filed by a former employee who alleged sexual harassment and assault by a supervisor.

Insurance Policies and Denial of Coverage:

DRG and GGB had insurance policies with PMIC and MAIC, which included general liability, workers' compensation, and employer's liability coverage. Both PMIC and MAIC denied coverage for the underlying lawsuit, citing various exclusions in their policies.

Exclusions:

The PMIC policy included Employment Related Practices (ERP) and Employment Liability (EL) exclusions, while the MAIC policy had a C.7 exclusion. These exclusions were used to justify the denial of coverage for the claims made in the underlying lawsuit.

UNDERLYING LAWSUIT:

The former employee's lawsuit included claims of negligence, workplace sexual harassment, discrimination, and other related issues. The document details the specific allegations and the legal arguments surrounding the applicability of the insurance policy exclusions.

DUTY TO DEFEND:

The court emphasized that the duty to defend is broader than the duty to indemnify, but it is measured by the nature and kinds of risks covered by the policy. The court concluded that the insurers had no duty to defend the insureds in the underlying lawsuit due to the applicability of the exclusions .

The insurer's duty to defend is not extinguished until the insurer negates all facts suggesting potential coverage. Thus, an insurer may be excused from a duty to defend only when the third party complaint can by no conceivable theory raise a single issue which could bring it within the policy coverage. However, the duty to defend is not not unlimited; it is measured by the nature and kinds of risks covered by the policy.

Insurance Coverage Interpretation

Under California law, interpretation of an insurance policy is a question of law and follows the general rules of contract interpretation. Therefore, the mutual intention of the parties at the time the contract is formed governs interpretation. If the policy language is clear and explicit, it governs. The clear and explicit meaning of these provisions, interpreted in their ordinary and popular sense, unless used by the parties in a technical sense or a special meaning is given to them by usage, controls judicial interpretation.

In determining whether a claim creates the potential for coverage under an insurance policy, the court is guided by the principle that interpretation of an insurance policy is a question of law and the mutual intention of the parties at the time the contract is formed governs interpretation.

DISCUSSION

Finally, although Insureds attempt to impose a new carve-out to the “arising out of” phrase in the ERP Exclusion, arguing that only claims between an employee and an employer (as opposed to harassment between two co-employees) are “employment related,” the Insureds fail to cite to any case that imposes such an exception. Instead, courts have repeatedly construed “arising out of” broadly, even when it is present in an exclusion.

Because all alleged conduct in the Underlying Action against Moreno falls under the ERP Exclusion coverage, the Insureds have failed to establish any potential coverage under the PMIC Agreement and thus have failed to state a claim for breach of contract with PMIC.

The False Imprisonment and Sexual Assault Claims are subject to the ERP Exclusion

The Court need not address Insurers' argument contesting whether the claims of the Underlying Action are “occurrences” within the scope of coverage under Coverage A: whether or not they are “occurrences,” they would still be precluded by the ERP Exclusion.

Breach of Implied Contract and Breach of the Implied Covenant of Good Faith and Fair Dealing

A bad faith claim is subject to dismissal if the insurer shows a genuine dispute as to coverage. Given that ERP Exclusion and EL Exclusion of the PMIC Agreement and C.7 Exclusion of the MAIC Agreement apply to exclude coverage to DRG and GGB, the Insurers' denial to continue defense and indemnification under its policy was reasonable and legally justified. As such, the Insureds cannot maintain a statutory bad faith claim against Insurers for its refusal to defend and indemnify. Accordingly, the claims for breach of implied contract and claim for breach of the implied covenant cannot proceed against MAIC or PMIC.

Court's Decision:

The court granted the motion to dismiss filed by PMIC and MAIC, agreeing that the exclusions in the insurance policies precluded coverage for the claims made in the underlying lawsuit.

ZALMA OPINION

The USDC in an exceedingly long opinion reached the decision called for by the clear and unambiguous exclusions in the policies issued by the three insurer defendants resulting in the dismissal of the suit. The mere fact that a plaintiff sues for the tort of bad faith is not enough, facts and evidence, are required. Since the exclusions created a genuine dispute thereby eliminating the cause of action for bad faith.

You can find a permanent public version of the document here: https://public.fastcase.com/jaEE2PXzRXmZ99jOLMt1Iqfrihk%2bzXYKQAQqMk84Z%2bGq%2fci2oKl%2bGLBe8SNEAKEvYQtwr1H8F%2bUlbzuvGUGvLQ%3d%3d

(c) 2025 Barry Zalma & ClaimSchool, Inc.

Please tell your friends and colleagues about this blog and the videos and let them subscribe to the blog and the videos.

Subscribe to my substack at https://barryzalma.substack.com/subscribe

Go to X @bzalma;  Go to Barry Zalma videos at Rumble.com at https://rumble.com/account/content?type=all; Go to Barry Zalma on YouTube- https://www.youtube.com/channel/UCysiZklEtxZsSF9DfC0Expg; Go to the Insurance Claims Library – https://lnkd.in/gwEYk.