Diversified Restaurant Group, LLC v. Houston Casualty Company

Background

Diversified Restaurant Group, LLC and Golden Gate Bell, LLC, referred to by the court as the “Insureds,” sued Houston Casualty Company (HCC), Pennsylvania Manufacturers Indemnity Company (PMIC), and Manufacturer’s Alliance Insurance Company (MAIC). The Insureds sought coverage for defending an underlying lawsuit brought by a former employee who alleged sexual harassment and assault by a supervisor. The underlying lawsuit asserted thirteen claims, including negligence, workplace sexual harassment, sex discrimination, civil-rights violations, retaliation, wrongful discharge, wrongful termination, and failure to pay final wages.

The Insureds alleged that PMIC had issued a general-liability policy, MAIC had issued a workers’ compensation and employer’s-liability policy, and HCC had issued employment-practices liability insurance. They alleged that the insurers failed to provide defense coverage and indemnity and asserted claims for breach of contract, breach of the implied covenant of good faith and fair dealing, and declaratory relief. PMIC and MAIC moved to dismiss under Federal Rule of Civil Procedure 12(b)(6), which permits dismissal when a complaint does not state a legally sufficient claim. HCC did not move to dismiss.

PMIC Policy

The court held that the employment-related-practices exclusion in PMIC’s policy barred coverage for the underlying action. Applying California law, the court examined the connection between the alleged conduct and the employee’s employment and whether the people involved had a relationship outside of employment. The court found a close employment connection because the alleged conduct occurred at work, involved a supervisor who had authority over the employee, and involved alleged failures by the Insureds to hire, train, supervise, investigate, and prevent the conduct.

The court held that the exclusion applied to all claims, including claims involving negligence, sexual harassment, potential sexual-assault and false-imprisonment theories, and claims based on the Insureds’ alleged employment-related omissions. The court concluded that the policy’s use of “arising out of” broadly connected the alleged injuries to employment-related practices. It rejected the argument that more serious alleged conduct, such as sexual assault or false imprisonment, fell outside the exclusion merely because those terms were not expressly listed.

The court also held that the employer’s-liability exclusion independently barred coverage under PMIC’s bodily-injury coverage. That exclusion applied to bodily injury to an employee arising out of employment or duties related to the insured’s business. The court treated the underlying employee’s alleged emotional and mental injuries as falling within the policy’s definition of bodily injury and found the required connection to employment.

The court did not decide PMIC’s separate argument that the underlying claims were not “occurrences,” because the employment-related-practices exclusion barred coverage regardless. It also held that the employment-related-practices exclusion applied to PMIC’s personal-and-advertising-injury coverage, including any potential false-imprisonment claim.

MAIC Policy

The court held that the C.7 exclusion in MAIC’s policy also barred coverage. That exclusion applied to damages arising from harassment, discrimination, termination, or personnel practices, policies, acts, or omissions. The court concluded that the alleged sexual assault and other conduct arose from personnel practices and employment-related acts or omissions, including the alleged failure to properly hire, train, supervise, and respond to reports about the supervisor’s conduct.

Implied-Covenant Claims and Disposition

The court held that the Insureds could not proceed against PMIC or MAIC on their claims for breach of the implied covenant of good faith and fair dealing because the exclusions made the insurers’ denial of defense and indemnity reasonable and legally justified. The court stated that a bad-faith claim is subject to dismissal when the insurer shows a genuine dispute about coverage.

After the hearing, the court granted a plaintiff’s motion for leave to submit supplemental material, but the court found that the additional material did not change its analysis. The court granted PMIC’s and MAIC’s motion to dismiss and dismissed PMIC and MAIC. The order did not rule on HCC because HCC had not moved to dismiss.