Backroom Dealings Impair Coverage For High Stakes TCPA Class Settlement

In Central Mutual Insurance Co. v. Tracy’s Treasures, Inc., No. 1-12-3339, 2014 IL App (1st) 123339 (Sept. 30, 2014), the Illinois Appellate Court expressed great skepticism regarding an insured’s settlement of an underlying TCPA without the insurer’s knowledge. Central insured Tracy’s Treasures under primary and excess liability policies from 1997 – 2005 and 2002 – 2005, respectively.  Idlas filed suit in March 2007 against Tracy’s on behalf of himself and the putative class, asserting violations of the TCPA resulting from Tracy’s sending of junk faxes.  Central disclaimed coverage and filed a declaratory judgment action, but provided Tracy’s with a “courtesy defense,” assigning a lawyer to represent Tracy’s in the underlying TCPA lawsuit.  In November 2007, Tracy’s hired its own counsel who advised Central that he was being retained because of the conflict of interest created by Central’s denial of the claim.  Central consented to the substitution and agreed to pay his fees. Tracy’s new counsel failed to disclose to Central his ongoing settlement discussions with class counsel.  Only six weeks after new counsel substituted for counsel appointed by Central, Tracy’s reached a $14,000,000 settlement with the class, filed a motion to approve the settlement, and obtained preliminary approval of the settlement from the trial court, all without Central’s knowledge.  Conspicuously, the settlement amount was the exact amount the Central primary and excess policies provided in coverage. Central initiated the instant declaratory judgment action, alleging, in pertinent part, that the settlement between the insured and class was unreasonable, collusive, and the product of fraud.  The parties filed cross-motions for summary judgment.  While the court took umbrage with the settlement agreement entered into without Central’s knowledge, it deemed the issue of whether the agreement was collusive or fraudulent a question of fact for the trial court.   However, significantly, the court expressly held that Central’s relinquishment of the control of the underlying case did not estop Central from objecting to the settlement agreement because Central had paid the defense costs of its insured and also filed a declaratory judgment action preserving the coverage issues.  Therefore, because the settlement agreement was not binding on Central, Central was entitled to a full hearing on the reasonableness of settlement. Moreover, the court found strong indications that the settlement was collusive.  Notably, Central’s assertions that the failure to provide Central notice of the settlement approval hearings did not weigh into the court’s analysis of whether the settlement was reasonable or collusive because once Central acknowledged the conflict of interest and consented to the substitution, it had no right to control Tracy’s defense or settlement of the underlying action.  New counsel’s sole obligation was to represent Tracy’s interests, not Central’s. In addition, the court’s analysis of the reasonableness of the settlement was conducted under the “prudent uninsured” test, which examines (1) the decision whether to settle the underlying lawsuit, and (2) whether a reasonably prudent insured in Tracy’s position would have paid the $14,000,000 settlement based on a totality of the facts framework. Under the first prong, the court found significant that a prudent uninsured may very well have taken the following steps: (1) filed a motion to dismiss based on a two-year statute of limitations for TCPA claims, and (2) commenced third-party actions seeking contribution and indemnification from fax broadcasters.  Importantly, the court found dubious that a prudent uninsured would have agreed that it faced “staggering liability,” given that an overwhelming percentage of the putative class would not file a claim.  With regard to the second prong, the court noted that additional factors would include whether the settlement was the product of arm’s length negotiations, what facts were available to new counsel in the short time he was on the case, the viability of the dispositive motions, an evaluation of whether the trial court would enter a large verdict, and how the parties arrived at the $14,000,000 settlement.  In addressing all of the above issues, the court emphasized that it would be for the trial court to determine the questions of fact. The above ruling is very significant in clarifying the extent to which under-the-table agreements will not be tolerated when an insurer has taken the proper measures of defending its insured and filing a declaratory judgment action to preserve the coverage issues.  

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