Amtrust International Underwriters DAC v. 180 Life Sciences Corp.

Opinion

AMTRUST INTERNATIONAL UNDERWRITERS DAC, Case No. 22-cv-03844-BLF

Plaintiff, v. ORDER GRANTING 180 LIFE SCIENCES CORPORATION’S MOTION Defendant. [Re: ECF 62] __________________________________

180 LIFE SCIENCES CORP.,

Counterclaimant, v. AMTRUST INTERNATIONAL

Counterdefendant. __________________________________ Third-Party Plaintiff, v.

COMPANY, Third-Party Defendant.

This order addresses a motion for partial summary judgment filed by 180 Life Sciences Corp. (“180 Life”) in this insurance coverage action relating to the directors and officers (“D&O”) liability provisions of policies issued by AmTrust International Underwriters DAC (“AmTrust”) and Freedom Specialty Insurance Company (“Freedom”) (collectively, “the Insurers”). See Mot., ECF 62. As relevant here, the parties dispute whether the policies provide coverage for 180 Life’s (“Krauss”) and George Hornig (“Hornig”), in connection with subpoenas issued to them by the Securities and Exchange Commission (“SEC”). 180 Life seeks partial summary judgment that an “Advancement” clause in the policies requires the Insurers to advance the subpoena-related expenses to 180 Life pending a final coverage determination. The Insurers oppose the motion. 180 Life’s motion is GRANTED as discussed below. KBL’s Purchase of Policies, Merger, and Name Change to 180 Life The facts giving rise to this litigation are set forth in the Court’s order addressing 180 Life’s prior motion for partial summary judgment, and need not be repeated in full here. See Prior Order, ECF 59. In brief, 180 Life previously was known as KBL Merger Corp. IV (“KBL”). See id. at 14. KBL purchased a claims-made Directors and Officers and Public Company Liability Policy from AmTrust with a policy limit of $3 million. See id. at 3. KBL also purchased an Excess Insurance Policy from Freedom that follows form to the AmTrust policy and provides $2 million of coverage excess of the AmTrust policy. See id. KBL thereafter changed its name to 180 Life in conjunction with a November 6, 2020 merger (“the Merger”) that involved the resignation of its chief executive officer, Krauss, and all directors, including Hornig. See id. at 4. 180 Life’s Advancement of Subpoena-Related Expenses to Krauss and Hornig The SEC opened an investigation into the Merger and issued subpoenas to Krauss and Hornig. See McGovern Decl. ¶ 8, ECF 62-1. Another court has ordered 180 Life to advance to Krauss the expenses she incurs in connection with the SEC subpoenas. See id. ¶ 9. To date, 180 Life has advanced millions of dollars in subpoena-related expenses to Krauss. See id. ¶ 10. 180 Life also has advanced more than $100,000 in subpoena-related expenses to Hornig. See id. Present Action 180 Life demanded coverage under the AmTrust and Freedom policies for the subpoena- related expenses advanced to Krauss and Hornig. AmTrust then filed the present declaratory relief action, asserting that 180 Life is not an insured under the AmTrust policy issued to the pre-Merger entity KBL, and that in any event the subpoena-related expenses are subject to policy exclusions. Freedom, seeking (as relevant here) coverage for the subpoena-related expenses. Freedom answered, asserting that no coverage is available under the Freedom policy. 180 Life’s Prior Motion for Partial Summary Judgment 180 Life filed a prior motion for partial summary judgment, seeking determinations that it is the named insured under the policies and that the policies provide coverage for the subpoena- related expenses. See Prior Mot., ECF 41. Any potential coverage falls under Coverage B of the policies, set forth below (bold in original). The Court’s citations are to the AmTrust policy; as noted, the Freedom policy follows form to the AmTrust policy.

Coverage B: Company Reimbursement Coverage The Insurer shall pay Loss of a Company arising from a Claim first made against an Individual Insured during the Policy Period or the Extended Reporting Period, if applicable, for any actual or alleged Wrongful Act of such Individual Insured, but only when and to the extent that such Company has indemnified such Individual Insured for such Loss. McGovern Decl. Ex. 1 (AmTrust Policy) at 13, ECF 62-2. The term “Loss” is defined to include “Defense Costs which the insured is legally obligated to pay[.]” Id. at 36. The Court granted 180 Life’s motion in part, concluding that 180 Life is the named insured under the policies, the SEC subpoenas are Claims under the policies,1 and the subpoena-related expenses are Defense Costs constituting Loss within the basic scope of coverage. See Prior Order at 15-17. However, the Court denied 180 Life’s request for a determination that the policies provide coverage for those Defense Costs, finding that 180 Life failed to show that the Insurers cannot rely on the policies’ Change in Control Exclusion to defeat coverage. See id. at 17-19. 180 Life’s Current Motion for Partial Summary Judgment 180 Life now seeks partial summary judgment that an “Advancement” clause in the policies obligates the Insurers to advance the subpoena-related Defense Costs to 180 Life pending a final coverage determination regarding the SEC subpoenas. The Insurers oppose the motion. 1 More precisely, the SEC investigation is a “Claim” under the policies. The policies define “Claim” to include “a civil, criminal, administrative or regulatory investigation” of an Individual Insured; where the investigation is conducted by the SEC, the investigation becomes a “Claim” after service of a subpoena on the Individual Insured. AmTrust Policy at 34 (italics added). The A party may obtain summary judgment by showing that “there is no genuine dispute as to any material fact and the movant is entitled to judgment as a matter of law.” Fed. R. Civ. P. 56(a). “The moving party initially bears the burden of proving the absence of a genuine issue of material fact.” In re Oracle Corp. Sec. Litig., 627 F.3d 376, 387 (9th Cir. 2010). “Where the moving party meets that burden, the burden then shifts to the non-moving party to designate specific facts demonstrating the existence of genuine issues for trial.” Id. “The court must view the evidence in the light most favorable to the nonmovant and draw all reasonable inferences in the nonmovant’s favor.” City of Pomona v. SQM North America Corp., 750 F.3d 1036, 1049 (9th Cir. 2014). “Where the record taken as a whole could not lead a rational trier of fact to find for the nonmoving party, there is no genuine issue for trial.” Id. (quotation marks and citation omitted). 180 Life seeks partial summary judgment that the policies’ “Advancement” clause requires the Insurers to advance the subpoena-related Defense Costs to 180 Life immediately, pending a final coverage determination regarding the SEC subpoenas. The Advancement clause reads as follows:

B. Advancement Regardless of whether the defense is so tendered, the Insurer shall advance Defense Costs in excess of the applicable Retention on behalf of the Insured not less often than every 90 days and prior to final disposition of the Claim. Such advanced payments by the Insurer shall be repaid to the Insurer by each and every Insured, severally according to their respective interests, in the event and to the extent that any such Insured shall not be entitled under the Terms and Conditions of this Coverage Element to payment of such Loss. AmTrust Policy at 38. It is 180 Life’s position that the Advancement clause is triggered when there are “potentially covered” Claims, and that the SEC subpoenas are at least potentially covered Claims under the policies. In opposition, the Insurers argue that the Advancement clause is triggered only by “actually covered” Claims. The Insurers also argue that the motion must be denied under either standard, asserting that the SEC subpoenas are not even potentially covered Claims because they The Court first addresses whether the Advancement clause is governed by the “potentially covered” or “actually covered” standard. Next, the Court addresses whether the Advancement clause requires the Insurers to advance to 180 Life the subpoena-related Defense Costs that 180 Life has advanced to Krauss and Hornig. A. Whether the Standard is Potentially Covered or Actually Covered California law governs the interpretation of the insurance policies in this diversity case. See Encompass Ins. Co. v. Coast Nat’l Ins. Co., 764 F.3d 981, 984 (9th Cir. 2014) (“California’s substantive insurance law governs in this diversity case.” (quotation marks and citation omitted)). Under California law, “‘[i]nterpretation of an insurance policy is a question of law and follows the general rules of contract interpretation.’” MacKinnon v. Truck Ins. Exch., 31 Cal. 4th 635, 647 (2003) (quoting Waller v. Truck Ins. Exch., Inc., 11 Cal. 4th 1, 18 (1995)). Policies are interpreted broadly to afford the greatest possible protection to the insured. Id. at 648. D&O policies may impose a duty to reimburse defense costs, but the duty to reimburse generally “is limited to defense costs related to actually covered claims, as opposed to defense costs related to potentially covered claims.” Health Net, Inc. v. RLI Ins. Co., 206 Cal. App. 4th 232, 259 (2012) (emphasis in original). That is because D&O policies typically provide for the recovery of defense costs only as covered loss for which indemnification is to be paid. See id. A D&O policy may fall outside this general rule, however, where it contains language extending the insurer’s duty to reimburse defense costs to potentially covered claims. See id. In Health Net, the California appellate court determined that policy language requiring the insurer to reimburse the insured for “defense costs incurred in defense of any Claim or Law Suit brought against the Insured alleging a Wrongful Act” was sufficient to obligate the insurer to reimburse defense costs “for potentially covered claims, not merely actually covered claims.” Id. (italics in original). In Gon v. First State Ins. Co., 871 F.2d 863, 868 (9th Cir. 1989), the Ninth Circuit applied California law in finding that the potentially covered standard applied to a D&O policy requiring the insurer to pay potentially covered legal expenses as they were incurred by the directors. The Ninth Circuit acknowledged that the insurer “may be advancing legal fees that it will have great covered by the policy.” Id. at 869. However, the Gon court found that it would be impractical to apportion legal fees between covered and uncovered claims based solely on the face of the complaint, “where coverage is not yet clear, because the facts are not fully developed,” and that attempting to do so “may deny the insureds the benefits of the protection they purchased.” Id. The Ninth Circuit concluded that, although the insurer “is entitled to apportion the expenses between covered and uncovered claims and persons, it cannot do so at the expense of the insured.” Id. at 868. Accordingly, the Gon court held that the insurer “must pay all legal expenses as incurred, subject to apportionment and reimbursement for defense of uncovered claims or persons after settlement or judgment in the underlying [ ] action.” Id. at 869. Applying these principles in the present case, the Court finds that the policies require the Insurers to advance defense costs for potentially covered claims as they are incurred. As noted above, the Advancement clause provides that “the Insurer shall advance Defense Costs . . . not less often than every 90 days and prior to final disposition of the Claim.” AmTrust Policy at 38. The Advancement clause provides further that “[s]uch advanced payments by the Insurer shall be repaid to the Insurer” in the event the “Insured shall not be entitled . . . payment of such Loss.” Id. This language clearly contemplates advancement of Defense Costs for potentially covered Claims, subject to recoupment by the Insurer if it ultimately turns out that the Claims are not actually covered. The Court finds that the inclusion of this language in a separate Advancement clause distinguishes the policies in this case from typical D&O policies that require payment of defense costs only after they have been shown to be a component of indemnified loss. Even if the Court were to find other constructions of the policy to be plausible (and it does not), the policies must be interpreted broadly to afford the greatest protection to 180 Life. The Court’s reading of the Advancement clause is consistent with the decision of another court in this district, Braden Partners, LP v. Twin City Fire Ins. Co., No. 14-CV-01689-JST, 2017 WL 63019 (N.D. Cal. Jan. 5, 2017). In Braden, the policy required that the insurer advance to the insured expenses incurred in connection with claims made against the insured “prior to disposition of such claims.” Id. at *10 (italics in original). The Braden court reasoned that, “Because [n]o coverage of the policy until that suit is resolved, this language necessarily contemplates potential, rather than actual, coverage.” Id. (quotation marks and citation omitted). The Braden court also found it significant that the policy defined “Claim” as a judicial or other proceeding for a “Wrongful Act,” and defined “Wrongful Act” as “any actual or alleged error, misstatement, misleading statement, act. . . .” Id. (italics in original). Finally, the policy in Braden gave the insurer the right to repayment of the defense costs in the event it turned out there was no coverage. Id. The Braden court concluded that, “This right to repayment after a final determination of coverage only makes sense if the duty to advance defense costs is triggered by potential coverage.” Id. Like the policy at issue in Braden, the policies in the present case require advancement of Defense Costs prior to disposition of the Claim; provide coverage for a Claim asserting any actual or alleged Wrongful Act; and grant the insurers a right to repayment of the Defense Costs in the event of a final determination of no coverage. This Court finds no reason to deviate from the persuasive reasoning of Braden, and likewise concludes that the potential for coverage standard applies to the Insurers’ duty to advance defense costs. The Braden court acknowledged that the Ninth Circuit has not offered clear guidance on the standard applicable to an insurer’s duty to advance defense costs, and that some district courts within the Ninth Circuit have found that duty to be limited to actually covered claims. See Braden, 2017 WL 63019, at *9 (N.D. Cal. Jan. 5, 2017) (collecting cases). The Insurers rely on a number of district court cases applying the actually covered standard in opposing 180 Life’s motion. The Court finds that reliance to be misplaced, as the cases cited by the Insurers are factually distinguishable. In Jeff Tracy, Inc. v. U.S. Specialty Ins. Co., 636 F. Supp. 2d 995 (C.D. Cal. 2009), the policy did not contain a separate advancement clause requiring advancement of defense costs subject to reimbursement in the event of a later determination that they are not covered loss. In U.S. TelePacific Corp. v. U.S. Specialty Ins. Co., No. CV 18-5083-DMG (AGRx), 2019 WL 2590171, *4 (C.D. Cal. June 18, 2019), aff’d, 815 F. App’x 155 (9th Cir. 2020), the policy did contain an advancement clause but it was expressly limited to “Defense Costs for which this Policy provides coverage.” To the extent any of the district court cases cited reasoning of Braden to be far more persuasive. Finally, the Insurers’ citation to the Ninth Circuit’s decision in Millennium Lab’ys, Inc. v. Allied World Assurance Co. (U.S.), Inc., 726 F. App’x 571, 574 (9th Cir. 2018), does not support their position, as the policy in Millennium did not require the contemporaneous advancement of the insured’s defense costs and instead provided for coverage of defense costs only as an ingredient of covered losses. After careful consideration of the policy language and the relevant case law, the Court concludes that the Advancement clause requires the Insurers to advance Defense Costs for potentially covered Claims. B. Whether Advancement of Subpoena-Related Defense Costs is Required Having concluded that the policies’ Advancement clause is governed by the potentially covered standard, the Court applies that standard in evaluating 180 Life’s request for an adjudication that the Insurers must advance the subpoena-related Defense Costs to 180 Life pending a final coverage determination. At the hearing, the Court stated its tentative view that 180 Life easily will prevail on its motion if the potentially covered standard applies. After revisiting the policy language in light of the oral argument made by AmTrust’s counsel, however, the Court finds that 180 Life’s motion presents a close question even under the potentially covered standard. As the party moving for summary judgment, 180 Life has the initial burden to show that the SEC subpoenas and related Defense Costs are potentially covered in order to trigger the Advancement clause. “Under California law, the burden is on the insured to establish that a claimed loss is within the basic scope of insurance coverage.” Mudpie, Inc. v. Travelers Cas. Ins. Co. of Am., 15 F.4th 885, 890 (9th Cir. 2021) (quotation marks and citation omitted). “[O]nce an insured has made this showing, the burden is on the insurer to prove the claim is specifically excluded.” Id. (quotation marks and citation omitted). As discussed herein, the Court previously found that the SEC subpoenas are Claims under the policies, and the subpoena-related expenses are Defense Costs constituting Loss within the basic scope of coverage. See Prior Order at 15-17. The Court noted in its prior order that, apart from arguing that 180 Life is not the named insured, the Insurers do not dispute that the SEC subpoenas constitute Claims under the policies. See id. at Defense Costs are within the basic scope of coverage. That is sufficient to shift the burden to the Insurers to show that the SEC subpoenas and related Defense Costs are specifically excluded under the policies, and thus not even potentially covered. The Insurers contend that the SEC subpoenas are specifically excluded under the Change in Control Exclusion. “[A]n insurer that wishes to rely on an exclusion has the burden of proving, through conclusive evidence, that the exclusion applies in all possible worlds.” Atl. Mut. Ins. Co. v. J. Lamb, Inc., 100 Cal. App. 4th 1017, 1039 (2002). The Change in Control Exclusion relied on by the Insurers provides as follows:

If during the Policy Period:

1. the Named Insured shall consolidate with or merge into any other entity or group of persons or entities acting in concert, or 2. any person or entity or group of persons or entities acting in concert shall acquire Management Control of the Named Insured, (1 and/or 2 herein referred to as a Change In Control), then this policy may not be cancelled thereafter and it shall not, in any event, apply to any Claim alleging in whole or in part any Wrongful Acts committed, attempted or allegedly committed or attempted by any Insured subsequent the date of such Change In Control. AmTrust Policy at 33. It is undisputed that there was a change in control on November 6, 2020, the date the Merger closed. Thus, coverage for the Claims at issue – the SEC subpoenas – is barred if they “alleg[e] in whole or in part any Wrongful Acts committed, attempted or allegedly committed or attempted by” Krauss and/or Hornig during the post-Merger period. The Insurers point out that the SEC subpoenas necessarily must be construed to allege Wrongful Acts by Krauss and/or Hornig to be covered Claims. As discussed above, any potential coverage for the SEC subpoenas and related Defense Costs falls under Coverage B of the policies, which provides in relevant part that “[t]he Insurer shall pay the Loss of a Company arising from a Claim first made against an Individual Insured . . . for any actual or alleged Wrongful Act of such Individual Insured” that has been indemnified by the Company. AmTrust Policy at 38 (bold in original, italics added). Because the SEC subpoenas must be construed to allege Wrongful Acts in order for coverage to exist at all, application of the Change in Control Exclusion turns on when the alleged Wrongful allege “in whole or in part” any Wrongful Acts committed or attempted by Krauss and/or Hornig after the Merger, the exclusion would apply. 180 Life appears to argue that the Insurers can defeat coverage only by providing conclusive evidence of actual Wrongful Acts by Krauss and/or Hornig after the Merger. For the reasons discussed above, the Court finds this argument to be inconsistent with the relevant policy language. To establish application of the Change in Control Exclusion, the Insurers must show that the SEC subpoenas are Claims “alleging in whole or in part any Wrongful Acts” committed or attempted after the Merger. AmTrust Policy at 33. This showing is difficult to make in the context of a subpoena rather than a civil complaint containing specific factual allegations of wrongdoing. The parties have not cited any case law providing guidance on how the Court is to determine whether the SEC subpoenas allege any Wrongful Acts committed or attempted post-Merger. On their face, the SEC subpoenas do not allege any Wrongful Acts at all; they merely request documents. See McGovern Decl. Ex. 3 (SEC Subpoenas), ECF 62-4. “When the claim is a subpoena or other investigative demand (rather than a complaint in a civil litigation), we consider whether the government is investigating the insured for a legal violation that falls within the policy’s coverage instead of whether the complaint states a claim that does the same.” Liberty Ins. Underwriters, Inc. v. Cocrystal Pharma, Inc., No. 22- 2242, 2023 WL 3067498, at *4 (3d Cir. Apr. 25, 2023). The SEC subpoenas fairly may be characterized as investigating Krauss and Hornig for a legal violation falling within the policies’ definition of Wrongful Act, which includes “any actual or alleged breach of duty, neglect, error, misstatement, misleading statement, omission or act by an Individual Insured in their respective capacities as such, or in their capacity as a controlling person within the meaning of Section 15 of the Securities Act of 1933, as amended or Section 20(a) of the Securities Exchange Act 1934, as amended; or for any matter claimed against such Individual Insured by reason of his or her status as an Executive, Employee, or Outside Entity Executive[.]” AmTrust Policy at 37. However, characterizing the SEC subpoenas as Claims for actual or alleged Wrongful Acts of Krauss and Hornig does not shed light on when the alleged Wrongful Acts were committed or attempted for The Insurers emphasize that the SEC subpoenas request documents from Krauss and Hornig relating to both pre-Merger and post-Merger time periods, and urge the Court to infer from those requests that the SEC subpoenas allege both pre-Merger and post-Merger Wrongful Acts. The Court cannot make that logical leap, especially in the absence of any case authority supporting it. Given that Krauss and Hornig resigned their positions as CEO and director, respectively, as of the date of the Merger, it is entirely possible that the SEC is investigating them for alleged Wrongful Acts only in the pre-Merger time period. In that scenario, the Change in Control Exclusion would not apply. It certainly is possible that the SEC also is investigating Krauss and Hornig for alleged Wrongful Acts in the post-Merger time period. That possibility was the basis for the Court’s partial denial of 180 Life’s prior motion. As stated in the Court’s prior order: “That Krauss and Hornig resigned from KBL in conjunction with the Merger does not mean that they cut off all involvement with KBL/180 Life as of that date. It also does not mean that they could not have committed a wrongful act after that date.” Prior Order at 18. Because of the possibility that Krauss and Hornig might be under investigation for conduct extending into the post-Merger time period, the Court declined 180 Life’s request for an adjudication that the Change in Control Exclusion cannot apply. See id. at 18-19. However, the possibility that the SEC may be investigating Krauss and Hornig for post-Merger misconduct does not conclusively establish that the Change in Control Exclusion applies. The Insurers assert in their opposition that it appears from the SEC subpoenas’ request for both pre-Merger and post-Merger documents that the SEC is investigating “both pre-Merger and post-Merger conduct that could possibly violate numerous federal statutes[.]” Opp. at 5, ECF 65. However, the Insurers have not presented any evidence that Krauss and/or Hornig are suspected of, or being investigated for, post-Merger misconduct. The Insurers’ speculation as to what the SEC may be investigating, and whether federal statutes have been violated, is insufficient to show that the Change in Control Exclusion applies to bar coverage here. 180 Life argues that coverage for pre-Merger Wrongful Acts would not necessarily be Opus Bank v. Liberty Ins. Underwriters, Inc., 621 F. App’x 405 (9th Cir. 2015). In Opus Bank, the Ninth Circuit discussed the effect of a policy exclusion for Wrongful Acts allegedly committed or attempted prior to the policy period. The insured requested that the insurer provide a defense for a civil action alleging both fraudulent misrepresentations made prior to the policy period and retaliatory misconduct made during the policy period. See id. at 405. The Opus Bank court held that the policy plainly covered the acts of retaliation occurring within the policy period, and that it was not clear from the policy that such coverage would be lost by the inclusion in the complaint of other acts occurring prior to the policy period. See id. at 406. Under those circumstances, the Ninth Circuit determined that any doubt regarding insurer’s duty to defend the complaint should be resolved in favor of the insured. See id. In this Court’s view, Opus Bank has little application in the present case. Unlike the complaint at issue in Opus Bank, which alleged separate wrongful acts occurring in separate time periods, the SEC subpoenas at issue here are something of a black box. However, as discussed above, the Court finds unpersuasive the Insurers’ arguments that the SEC subpoenas must be construed to allege Wrongful Acts committed or attempted during the post-Merger period based solely on the subpoenas’ request for documents relating to that period. It is the Insurer’s burden to show conclusively that the Change in Control Exclusion applies to bar coverage for the SEC subpoenas and related Defense Costs. They have not done so. The Insurers may be able to make this showing at a later date, upon a more factually developed record regarding the SEC investigation. If so, they will be able to recoup any Defense Costs advanced to 180 Life for Claims that turn out not to be covered. On the limited record before it, however, the Court finds that there is a potential for coverage for the SEC subpoenas and related Defense Costs, and thus that 180 Life is entitled to advancement of the subpoena-related Defense Costs consistent with the policies’ Advancement clause. Accordingly, 180 Life’s motion for partial summary judgment is GRANTED. // // // 2 (1) 180 Life’s motion for partial summary judgment is GRANTED. 3 (2) AmTrust is obligated under its policy to advance to 180 Life all Defense Costs in 4 excess of the retention threshold that 180 Life has advanced, and will advance, to 5 Krauss and Hornig in connection with the SEC subpoenas; 6 (3) Upon exhaustion of the AmTrust policy, Freedom is obligated under its policy to 7 advance to 180 Life all Defense Costs that 180 Life has advanced, and will 8 advance, to Krauss and Hornig in connection with the SEC subpoenas. 9 (4) This order terminates ECF 62. 10 11 Dated: February 12, 2024 a (12 fod infaeciie TH LABSON FREEMAN 13 United States District Judge © 15 16

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