Kiley, Cummings and Sprecher, Circuit Judges.
The question posed by this diversity case*fn1 is whether a bank employee's seemingly profitless and motiveless act assertedly causing a loss to the bank was "dishonest" under the terms of a blanket bond.
Transamerica Insurance Company (Transamerica), in consideration of an agreed premium, issued its Bankers' Blanket Bond, effective April 19, 1968, wherein it undertook to indemnify the Citizens State Bank, Hartford City, Indiana (Citizens), to an amount not exceeding $400,000 "from and against any losses sustained and discovered as hereinafter set forth."*fn2 Seven categories of losses were specifically described including "any loss through any dishonest, fraudulent or criminal act of any of the Employees, committed anywhere and whether committed alone or in collusion with others, including loss of Property through any such act of the Employees." The word "Employees" was defined to include "officers, clerks and other employees."
Frederick L. Gross (Gross) was the cashier at Citizens from June 15, 1962 until January 15, 1968, when he became a vice president, in which capacity he remained until his death on August 26, 1968.
The Indiana National Bank of Indianapolis, Indiana, (Indiana National) was Citizens' principal correspondent bank, in which Citizens carried an account to facilitate the collection of out-of-town items deposited with or cashed by Citizens.
The ordinary banking procedure was that all out-of-town checks and other items*fn3 were forwarded by mail on a daily basis by Citizens to Indiana National after either having been credited to the customer's account or cashed for the customer by Citizens. Citizens' account with Indiana National would be credited with all forwarded items. Indiana National would then endeavor to collect the items from the respective out-of-town drawee banks. If a check was dishonored by a particular drawee bank for insufficient funds or any other reason, the drawee bank would return the check to Indiana National, which in turn would return it to Citizens by mail and charge Citizens' account for it.
It was the normal function of Gross, first as cashier and later as vice president, to receive and assume the responsibility for handling items returned from Indiana National by (1) causing to be reflected in Citizens' books of account the diminution of Citizens' account with Indiana National and (2) rendering Citizens whole for such amounts either by charging the particular customer's account, by communicating with the customer in order to cause the customer to deliver or deposit cash with Citizens in reimbursement, or by sending the item through for collection again if that course promised potential payment.
Citizens at all times maintained a reconcilement ledger showing the balances of its accounts with all its corresponding banks including Indiana National. In accordance with an internal bank rule, no person authorized to draw checks against Citizens' accounts with its correspondent banks was authorized to maintain or make entries in the reconcilement ledger. Since Gross was authorized to draw checks, he was not permitted to make entries in the ledger; instead, entries were to be made by an employee, Agnes Schweier, who was to do so under Gross' supervision. Agnes Schweier became ill and retired on August 23, 1967 and died in October. Her duties were transferred to Mary Wood, who succeeded her as assistant to Gross.
About a year later, the Department of Financial Institutions of the State of Indiana in the course of its annual examination of Citizens reported a discrepancy of approximately $38,000 in Citizens' account with Indiana National. As a consequence of this report, on Saturday, August 24, 1968, the president of Citizens went to the bank to try to determine the source of the discrepancy. He telephoned Gross to ask him where the reconcilement ledger was located, whereupon Gross came to the bank. He told the president that he did not know where the ledger could be found and volunteered the statement, "Well, I have not taken anything."
On August 26, 1968, Gross died at the age of 43 years as the result of a self-inflicted wound caused by a bullet from a.45 caliber automatic pistol.
Immediately following Gross' death Citizens employed certified public accountants who were able to determine that the discrepancy in the Citizens-Indiana National account was caused by the failure to charge back to customers dishonored checks returned to Citizens by Indiana National. Neither the reconcilement ledger nor the dishonored checks were found at that time.
The current bank records were kept on the first and second floors of the bank building. On January 7, 1970, a trust officer of the bank, while searching in the bank basement for a real estate abstract, found the reconcilement ledger behind other record books in the dead storage filing vault and then found a large brown manila envelope leaning next to and hidden by a one-drawer filing cabinet located on the floor of the vault. Both the ledger and the envelope were so placed as to indicate that they had been purposefully concealed. The envelope contained, among other items, 101 dishonored checks which had been returned to Citizens by Indiana National as uncollected but not returned to nor charged against the customers involved.
An inventory of the items revealed that (1) 13 checks had previously been charged off by Citizens, (2) nine checks had been identified through the certified public accountants' special audit and had been collected from the respective drawers by Citizens, (3) 11 checks were collected from the drawers by Citizens after the envelope was found and (4) ...