Defense Digest

Superior Court Defines Acceptable Discovery on Insurance Carriers

The recent decision of the Pennsylvania Superior Court in PECO Energy Company, et. al. v. Insurance Company of North America, et. al, 2004 Pa. Super 221; 852 A. 2d 1230; 2004 Pa. Super. Lexis 1406, raises a number of evidentiary issues that are significant to the handling of bad faith and coverage litigation.

The case involved a claim by PECO Energy, the Pennsylvania Department of Environmental Protection, and the United States Environmental Protection Agency against the Insurance Company of North America and a number of other liability and property insurers. The plaintiffs sought indemnity and reimbursement for costs incurred relating to environmental damage sustained at manufacturing plants and waste storage areas.

The action was filed in the Court of Common Pleas of Chester County, and the issues considered on appeal related to the trial court’s ruling on discovery requested by the plaintiffs.

The information sought related to reinsurance obtained by the defendant carriers, the reserves maintained by the defendants regarding the plaintiffs' claims, and information regarding other claims made against those carriers by insiders who were not parties to the present action. This information was sought through interrogatories and requests for production.

In the trial court, the defendants objected to the discovery of any of these materials. The basis of the objections was, inter alia, that the materials sought were privileged and not discoverable. The trial court ordered production of the materials but granted leave to the carriers to assert any applicable privilege to individual documents.

An appeal was taken. In its opinion, the Superior Court stated that the three evidentiary issues presented by the case were matters that had not been addressed by Pennsylvania appellate courts. It placed significant reliance upon federal cases that had addressed these issues. It held that the reinsurance information and the information regarding other claims were discoverable but that the information regarding reserves was not. The issues addressed by the court included reinsurance information, reserves, and other claims.

I. Reinsurance Information

The insurers argued that this information was not relevant and that it was not discoverable pursuant to the attorney-client, work product, and trade secret privileges.

The court initially found that reinsurance information was relevant because it had been found to be relevant to rebutting defenses of late notice and other defenses raised by the carrier in the case of Rhone-Poulenc Roroer, Inc. v. Home Indemnity Co., 1991 WL 237636 (E.D. Pa. 1991). It then considered the claims of commercial sensitivity of the information, privilege, and work product protection. It found no absolute prohibition against the exclusion of reinsurance information, and it said that concerns regarding commercial sensitivity would be alleviated by the Confidentiality Agreement entered into by the parties. It dismissed in a footnote the carriers’ public policy argument of the dangers associated with the production of reinsurance information, stating that the "reinsurance industry has endured despite the widespread discovery of such information" and that this fact belied the "ominous warning" asserted by the carriers.

The Rhone-Poulenc Court itself had reached different decisions regarding these issues. The opinion relied upon by the court in PECO Energy was filed on November 7, 1991. This opinion, written by the Honorable Edwin E. Naythons, related to a Motion for Reconsideration of a prior opinion written by Judge Naythons regarding the same issues. The prior opinion had been filed on October 1, 1991. The court had initially held that reinsurance information was not discoverable because it was not relevant to interpretation of the carrier’s policy with its insured. It also found that, because the primary relief sought was a declaratory judgment rather than money damages and the reinsurance carriers could not be liable to satisfy all or part of a judgment against the insured, their policies were, therefore, were not discoverable under FRCP 26 (b)(2).

Upon reconsideration, the court allowed the discovery of reinsurance information but maintained that this information would not be relevant to the interpretation of the underlying carrier’s policy. It said that any information regarding reinsurance would at best be evidence of undisclosed unilateral intention, which would not be material to the interpretation of the underling insurance contract. It did agree that discovery of information provided to reinsurance carriers relating to a late notice defense and the defense of misrepresentation of material facts by insureds would be permitted, stating that reinsurance appeared to be always discoverable for purposes of rebutting a defense.

Discovery of reinsurance information is a controversial subject. Arguments against such disclosure are set forth in an article written by Jeffrey S. Burman in the Rutgers Law Journal, 27 Rutgers L. J. 727 (Spring, 1996). In that article, Mr. Burman states, inter alia, with regard to the reasons why this discovery should not be permitted: "The insurer that wishes to deal in good faith with both its policyholders and its reinsurers finds itself caught in a precarious Catch-22. On the one hand, the insurer is contractually required to provide its reinsurers with timely and accurate information regarding the risk that the insurer bears. Reinsurers justifiably expect to receive this information, and have the right to associate in the defense or settlement of the dispute. On the other hand, the insurer, by disclosing what is often highly sensitive information, places itself in the vulnerable position of having the information disclosed during discovery in litigation with the insured."

It is submitted that, as a result of these concerns, where reinsurance information is sought during discovery, courts should be particularly careful to limit this discovery to the extent possible, consistent with the rights of all of the parties.

II. Reserves

The court held that no information regarding reserves was required to be provided. Again, it found no Pennsylvania appellate authority in existence, and it turned to federal case law for guidance. It again relied upon Rhone-Poulenc for the proposition that information regarding reserves has a tenuous relevance and constitutes work product material because a reserve assesses the value of a claim, while taking into account the probability of an adverse judgment, and that any reserve figure calculated with the help of counsel revealed the "…mental impressions, thoughts and conclusions of an attorney in evaluating a legal claim." It noted that the reason asserted for the discovery of this information was to obtain insight into the insurer’s analysis and positions concerning the claims at issue and that this was the exact type of information that was not permitted under the discovery rules.

In a significant footnote, the court referred to the court’s decision in the case of North River Insurance Co. v. Greater New York Mutual Insurance Co., 872 F. Supp. 1411 (E.D. Pa. 1995). It noted that, in that case, the court had permitted discovery of insurance reserve information for purposes of determining whether the carrier had acted in bad faith when negotiating a settlement. It stated that no such claim had been made in the PECO Energy case.

Discovery relating to reserves is generally permitted in bad faith litigation, but courts have reached differing views as to what is discoverable. In the case of Cantor v. The Equitable Life Assurance Society of the United States, 1998 WL 306208, cited in PECO Energy, a bad faith claim, the court found that the amount of the reserve that had been established was discoverable. It also stated, however, that collateral information relating to the reserves, such as the procedure for setting them or the interest rate earned on them, would not lead to the discovery of admissible evidence and, therefore, need not be provided. Other courts have found that the procedures or manner used to calculate the reserve may be pertinent to the issue of whether the insurer neglected to make a reasonable settlement offer. See, e.g. Fretz v. Mutual Benefit Insurance Company, 37 Pa. D & C. 4th 173 (Allegheny County, 1998).

In a recent decision on this issue, Judge Robreno refused to allow discovery of any reserve information. In Robinson v. Hartford Insurance Co., 2004 U.S. Dist. Lexis 8962 (E.D. Pa. May 11, 2004), the plaintiff requested, inter alia, the amount of the reserve established in the case and information regarding how the defendants establish a reserve. In his analysis of the request for this information, Judge Robreno referred to the notes of the Advisory Committee regarding the Federal Rules of Civil Procedure. He said that these rules recognized two types of discovery-core discovery, which was broadly discoverable, and discovery of information reasonably calculated to lead to the discovery of admissible evidence. He said that the discovery of reserve information fell into the latter category and, therefore, required a showing of good cause. He also noted that the Pennsylvania statute that required insurers to establish reserves appears to be designed to allow the Commonwealth to monitor the financial viability of insurance companies to ensure that they have adequate capital to meet claim obligations. He said that the establishment of a reserve is unrelated to litigation strategy and that the plaintiff in Robinson had not shown cause why this type of discovery should be had.

The court’s decision in PECO Energy clarifies any issues that may have existed regarding discovery of reserves in actions where bad faith is not alleged. The extent to which reserve information is discoverable in bad faith actions has not yet been resolved.

III. Other Claims

The claimants in PECO Energy requested the opportunity to review non-party insured’s claims against the defendant carriers to analyze whether coverage had been provided in the past for the types of claims now asserted and to disprove certain affirmative defenses. The carriers’ resistance to this discovery was based upon relevance, privilege, and the proprietary nature of the information. The court said that these assertions were not based upon binding precedent. The court allowed the requested discovery, once again relying upon a decision that had been rendered in the Rhone-Poulenc case, at 1991 WL 78200. The court said that the requests must be limited to environmental claims and that personal information relating to the insureds must be redacted from any files to be produced.

The Rhone-Poulenc requests for information had been limited to four other organizations that, likeRhone-Poulenc, processed blood derivatives, and it was agreed that the discovery would be limited to AIDS-related and other blood-derivative claims. The court limited discovery to the policies that the insurers sold to non-party insureds that contained an AIDS-related and other blood-derivative claims exclusions and which were written prior to the issuance of the policies before the court. The documents produced were to include the policies themselves and all claims and underwriting files concerning these policies.

The rule adopted in PECO Energy appears to allow discovery that is broader than that permitted in Rhone-Poulenc, as the only limitation mentioned is that it must not be unduly burdensome, should be limited to environmental claims, and personal information in the files should be redacted. Production of these materials may be costly and time-consuming for carriers, and courts will have to carefully monitor requests for these materials.

The PECO Energy case has been remanded, and it is currently pending in the Court of Common Pleas of Chester Court. The court's rulings regarding discovery in this case are significant, and they should be closely monitored.

*Bill is a shareholder in our Philadelphia, Pennsylvania office. He can be reached at (215) 575-4551 or wfoster@mdwcg.com.