Stem, Inc. v. Scottsdale Insurance Company

Background

Stem, Inc. sued its liability insurer, Scottsdale Insurance Company, for allegedly refusing to cover losses connected to a 2017 shareholder lawsuit. Stem asserted breach of contract and breach of the implied covenant of good faith and fair dealing, and sought declaratory relief, compensatory and punitive damages, and attorneys’ fees.

The underlying shareholder lawsuit involved two transactions: Stem’s 2013 Series B financing and a $1.5 million loan that board member David Buzby made to Stem in 2017. The shareholders alleged that the financing diluted shares held by people who had received stock through a settlement of an earlier employment dispute, and that the Buzby transaction was self-dealing.

Stem had obtained consecutive Business and Management Indemnity policies from Scottsdale covering October 2011 through October 2019. The policies generally covered certain losses and legal costs connected to claims against Stem’s directors and officers, but included exclusions for claims related to earlier matters, known circumstances, inaccurate insurance applications, and claims involving two insured parties.

When Stem applied for the first policy in 2011, it answered “no” to a question asking whether it had been involved in litigation, administrative proceedings, demand letters, or investigations during the prior three years. The court concluded that the 2010 employment dispute included a demand letter and that the application contained a misrepresentation relevant to the coverage analysis.

Summary-judgment rulings

The parties filed cross-motions for summary judgment. Summary judgment is a decision without a trial when the evidence shows no genuine dispute about a fact that could affect the result and one party is entitled to judgment under the law.

The court concluded that the 2017 shareholder lawsuit involved two separate insurance “Claims”: one based on the 2013 Series B financing and one based on the 2017 Buzby loan. It ruled that the financing claim was connected to the 2010 employment dispute. As a result, several policy exclusions applied, including the interrelated wrongful acts, prior or pending litigation, breach of application, and insured-versus-insured exclusions. Scottsdale therefore was not required to cover Stem’s losses arising from the financing claim.

The court reached the opposite conclusion concerning the Buzby loan claim. The shareholder complaint did not specifically connect that transaction to the 2010 employment dispute, and Scottsdale did not provide evidence establishing such a connection. The court also concluded that the alleged conduct qualified as a covered “Wrongful Act” because the claim focused on Buzby’s conduct as a director, even though he used his personal funds for the loan. Scottsdale therefore was required to cover the losses for which Stem had indemnified its directors and officers and that arose from the Buzby loan claim.

Good-faith claim and other damages

Stem also claimed that Scottsdale breached the implied covenant of good faith and fair dealing by denying coverage and failing to conduct a meaningful investigation. The court granted Scottsdale summary judgment on that claim. It held that Scottsdale acted reasonably because genuine disputes existed about whether the shareholder lawsuit contained one claim or two and whether the claims were connected to the earlier employment dispute. The court stated that its partial ruling against Scottsdale did not establish that Scottsdale had acted in bad faith.

The court also granted Scottsdale summary judgment on Stem’s requests for punitive damages and attorneys’ fees, which Stem sought in connection with the alleged breach of the implied covenant. The court otherwise denied Stem’s motion and vacated the scheduled trial and related pretrial deadlines.