CASE BRIEFS

A New York trial court will decide whether the 'disgorgement' portion of the largest securities regulatory settlement in history is covered under a $100 million Professional Liability policy. In a time of increasingly aggressive securities regulation the court's decision will likely have a wide impact on firms that have or are considering regulatory settlements.

The case stems from an investigation by the Securities and Exchange Commission and the NASD into how Credit Suisse First Boston (CSFB) allocated shares in 'hot' IPOs for which it served as an underwriter. In a civil suit filed in January 2002, the SEC charged that CSFB had violated federal securities laws and regulations as well as NASD rules by allocating IPO shares to customers who agreed to pay excessive commissions in unrelated securities transactions.  Shortly after the suit was filed CSFB agreed to settle. Without conceding any of the SEC's substantive allegations, CSFB nevertheless consented to the entry of a permanent injunction against 'sharing profits of CSFB customers in exchange for allocations of shares in [IPOs] underwritten by CSFB.' It also agreed to make payments of $100 million to the U.S. Treasury, the SEC and the NASD. Of that amount, $30 million was deemed to be a 'civil penalty' and $70 million was deemed to represent 'disgorgement of monies obtained improperly by CSFB ' '

After reaching its civil settlement, CSFB turned to the primary and excess liability insurers from whom it had purchased a $100 million 'Global Combined Specialty Insurance Policy'. Implicitly conceding that the $30 million fine was uninsurable, it demanded coverage of the $70 million 'disgorgement.' The insurers ' Vigilant Insurance Company, Lloyds, Continental Casualty, Travelers Casualty and Swiss Re ' responded with a denial of coverage and a declaratory judgment lawsuit in New York State Supreme Court.

The insurers argue that CSFB's disgorgement to the regulators is uninsurable as a matter of law and of public policy.  If the payment is deemed covered by liability insurance, 'CSFB would ' be permitted to keep the money it obtained improperly and accomplish indirectly what it was enjoined from doing directly. The deterrent effect of the SEC's disgorgement remedy would then, of course, be nullified.' They also argue that the disgorgement of improperly obtained money does not constitute an insurable 'loss' under the terms of the liability policy and the policy also excludes coverage for claims 'for the gaining of any profit of advantage to which the Insured(s) was not legally entitled ” Finally, the insurers argue that the disgorgement is subject to the policy's exclusion of coverage for reimbursement of fees or commissions based upon allegations that those fees or commissions were excessive. (Two of the insurers also argue that under the doctrine of 'judicial estoppel' CSFB's consent to the entry of a Consent Judgment bars it from re-litigating the regulators' finding that its conduct was unlawful.)

In response, CSFB offers four arguments of its own as to why the carriers must cover the disgorgement payment. First, it claims that the payment is a form of 'equitable relief' specifically covered by the policy's definition of a covered 'Loss'. The exclusions cited by the insurers do not apply because CSFB never admitted the truth of the regulators' allegations and because its payments to the government and the NASD do not constitute 'reimbursement.' Second, CSFB argues that because there has been 'no judgment establishing an insured's culpability,' the public policy objection to coverage does not apply. Third, it disputes the application of the 'judicial estoppel' because it says that doctrine only covers instances in which 'a party has successfully advocated a factual argument to court in one proceeding and then advances a contrary factual argument in a second action.' Finally, CSFB argues that, over and above the issue of coverage, it is plainly entitled to payment of its defense costs by the insurers.

The competing motions for summary judgment were argued before Justice Karla Moskowitz on January 23. Insurance Coverage Law Bulletin  will report her decision when it is announced.

The above Case Brief was written by Howard S. Schrader, Of Counsel for Piper Rudnick LLP, New York, and a member of this newsletter's Editorial Board

A New York trial court will decide whether the 'disgorgement' portion of the largest securities regulatory settlement in history is covered under a $100 million Professional Liability policy. In a time of increasingly aggressive securities regulation the court's decision will likely have a wide impact on firms that have or are considering regulatory settlements.

The case stems from an investigation by the Securities and Exchange Commission and the NASD into how Credit Suisse First Boston (CSFB) allocated shares in 'hot' IPOs for which it served as an underwriter. In a civil suit filed in January 2002, the SEC charged that CSFB had violated federal securities laws and regulations as well as NASD rules by allocating IPO shares to customers who agreed to pay excessive commissions in unrelated securities transactions.  Shortly after the suit was filed CSFB agreed to settle. Without conceding any of the SEC's substantive allegations, CSFB nevertheless consented to the entry of a permanent injunction against 'sharing profits of CSFB customers in exchange for allocations of shares in [IPOs] underwritten by CSFB.' It also agreed to make payments of $100 million to the U.S. Treasury, the SEC and the NASD. Of that amount, $30 million was deemed to be a 'civil penalty' and $70 million was deemed to represent 'disgorgement of monies obtained improperly by CSFB ' '

After reaching its civil settlement, CSFB turned to the primary and excess liability insurers from whom it had purchased a $100 million 'Global Combined Specialty Insurance Policy'. Implicitly conceding that the $30 million fine was uninsurable, it demanded coverage of the $70 million 'disgorgement.' The insurers ' Vigilant Insurance Company, Lloyds, Continental Casualty, Travelers Casualty and Swiss Re ' responded with a denial of coverage and a declaratory judgment lawsuit in New York State Supreme Court.

The insurers argue that CSFB's disgorgement to the regulators is uninsurable as a matter of law and of public policy.  If the payment is deemed covered by liability insurance, 'CSFB would ' be permitted to keep the money it obtained improperly and accomplish indirectly what it was enjoined from doing directly. The deterrent effect of the SEC's disgorgement remedy would then, of course, be nullified.' They also argue that the disgorgement of improperly obtained money does not constitute an insurable 'loss' under the terms of the liability policy and the policy also excludes coverage for claims 'for the gaining of any profit of advantage to which the Insured(s) was not legally entitled ” Finally, the insurers argue that the disgorgement is subject to the policy's exclusion of coverage for reimbursement of fees or commissions based upon allegations that those fees or commissions were excessive. (Two of the insurers also argue that under the doctrine of 'judicial estoppel' CSFB's consent to the entry of a Consent Judgment bars it from re-litigating the regulators' finding that its conduct was unlawful.)

In response, CSFB offers four arguments of its own as to why the carriers must cover the disgorgement payment. First, it claims that the payment is a form of 'equitable relief' specifically covered by the policy's definition of a covered 'Loss'. The exclusions cited by the insurers do not apply because CSFB never admitted the truth of the regulators' allegations and because its payments to the government and the NASD do not constitute 'reimbursement.' Second, CSFB argues that because there has been 'no judgment establishing an insured's culpability,' the public policy objection to coverage does not apply. Third, it disputes the application of the 'judicial estoppel' because it says that doctrine only covers instances in which 'a party has successfully advocated a factual argument to court in one proceeding and then advances a contrary factual argument in a second action.' Finally, CSFB argues that, over and above the issue of coverage, it is plainly entitled to payment of its defense costs by the insurers.

The competing motions for summary judgment were argued before Justice Karla Moskowitz on January 23. Insurance Coverage Law Bulletin  will report her decision when it is announced.

The above Case Brief was written by Howard S. Schrader, Of Counsel for Piper Rudnick LLP, New York, and a member of this newsletter's Editorial Board