Domokos v. Scottsdale Insurance Company

Background

Marius Domokos and Lex Kosowsky sued Scottsdale Insurance Company over Scottsdale’s refusal to provide coverage under a directors’ and officers’ liability policy issued to their former employer, Shocking Technologies, Inc. The plaintiffs were additional insureds under the policy. The policy provided a $5 million limit, including defense fees and costs, and its discovery period was extended through August 1, 2016.

Zurvan Mahamedi brought a state-court action against Domokos and Kosowsky alleging deceit and negligent misrepresentation. The allegations concerned statements about Shocking’s financial condition and ability to pay Mahamedi’s invoices. The plaintiffs alleged that they incurred more than $100,000 in defense fees and other costs. Scottsdale declined to defend or indemnify them, relying primarily on a policy exclusion for prior and interrelated wrongful acts and its position that Mahamedi’s claim was first made before the policy took effect.

The First Amended Complaint asserted claims for breach of the insurance contract, including duties to defend and settle; breach of the implied covenant of good faith and fair dealing; violation of California Business and Professions Code section 17200; and punitive damages. Scottsdale moved to dismiss under Federal Rule of Civil Procedure 12(b)(6), which tests whether a complaint states a legally sufficient claim.

Request for Judicial Notice

Scottsdale asked the court to take judicial notice of the amended complaint filed in the underlying state-court action. Judicial notice allows a court to recognize facts that are not reasonably disputed and can be accurately determined from reliable sources. The court granted the request because filings in state-court proceedings are proper subjects of judicial notice. The court emphasized, however, that judicial notice established that the amended complaint was filed, not the truth of disputed facts described in that complaint, such as the contents of emails.

Potential Coverage

Applying California insurance law, the court held that the plaintiffs made an initial showing that the underlying action potentially fell within the policy’s coverage. The policy covered loss for which directors and officers became legally obligated to pay because of a claim first made during the policy period or extended period, based on a wrongful act occurring before the end of the policy period.

The court found that the plaintiffs were directors and officers under the policy, that their defense fees and costs could qualify as covered loss, and that Shocking appeared not to have indemnified them because of its bankruptcy. The underlying action was filed during the extended period and alleged misrepresentations, omissions, and misleading statements, which could qualify as wrongful acts under the policy.

Scottsdale’s Coverage Arguments

The court rejected Scottsdale’s argument that the November 6, 2012 email requesting payment of overdue invoices necessarily constituted a policy-defined “claim” made before the policy’s December 7, 2012 effective date. The email itself was not in the record, and the allegations describing it did not show a threat of legal action or a demand for damages rather than a request for payment under a contract. Scottsdale therefore failed, at the motion-to-dismiss stage, to establish that a claim was made before the policy took effect. The motion to dismiss the contract claims on that ground was denied.

The court also denied the motion based on the prior and interrelated wrongful acts exclusion. Although some alleged conduct occurred before December 7, 2012, the underlying lawsuit also relied on statements and conduct occurring afterward, including alleged efforts to induce Mahamedi to advance additional filing fees. The court concluded that Scottsdale had not shown at this stage that the exclusion precluded coverage for the entire action. The policy’s allocation provision also contemplated claims involving both covered and uncovered loss, and California law generally requires an insurer to defend an action containing both potentially covered and excluded claims.

The court rejected Scottsdale’s reliance on the breach-of-contract exclusion. By its terms, the exclusion concerned loss of the company rather than the losses for which Domokos and Kosowsky sought coverage. The underlying action asserted tort claims for concealment, deceit, and negligent misrepresentation, and the court concluded that those claims did not depend on the existence of a contract between the plaintiffs and Mahamedi. Scottsdale had not shown that the exclusion clearly and unmistakably barred coverage.

The court also denied the motion based on the creditor exclusion. The policy did not define “creditor,” and Scottsdale had not shown clearly and unmistakably that the exclusion applied to Mahamedi’s claims. At most, the scope of the exclusion was unclear, which was insufficient under California law to eliminate the insurer’s duty to defend.

Scottsdale further argued that the underlying action did not allege a covered “loss” or “wrongful act.” The court rejected that argument because the underlying action alleged tort claims rather than claims based on a failure to pay amounts owed. The motion to dismiss the contract claims on this ground was denied.

Related Claims and Disposition

Because Scottsdale had not shown as a matter of law that the policy did not provide coverage, the court concluded that the plaintiffs adequately pleaded their claim for bad faith. The plaintiffs alleged that Scottsdale withheld policy benefits unreasonably or without proper cause and acted with conscious or reckless disregard of its obligations.

The court also concluded that the California Business and Professions Code section 17200 claim was adequately pleaded because it depended on the sufficiency of the contract claims, which the court found sufficient at this stage. The court found the request for punitive damages adequately pleaded based on allegations of malice, oppression, or fraud.

The court granted Scottsdale’s request for judicial notice and denied Scottsdale’s motion to dismiss the First Amended Complaint. The order required Scottsdale to answer within 14 days and scheduled a case management conference for August 18, 2020. The court did not make a final determination that Scottsdale ultimately owed coverage; it ruled that the plaintiffs’ allegations were sufficient to proceed past the motion-to-dismiss stage.