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Koken v. American Patriot Insurance Agency

December 4, 2006

M. DIANE KOKEN, INSURANCE COMMISSIONER OF THE COMMONWEALTH OF PENNSYLVANIA, ACTING IN HER OFFICIAL CAPACITY AS STATUTORY LIQUIDATOR OF LEGION INSURANCE COMPANY AND VILLANOVA INSURANCE COMPANY, PLAINTIFF,
v.
AMERICAN PATRIOT INSURANCE AGENCY, INC., A WISCONSIN CORPORATION, AND LYSA JO SARAN, AN INDIVIDUAL, DEFENDANTS.



The opinion of the court was delivered by: James F. Holderman, Chief Judge

MEMORANDUM OPINION AND ORDER

On June 8, 2006, the court granted American Patriot Insurance Agency, Inc. ("American Patriot") and Lysa Jo Saran ("Saran") (collectively "Defendants") leave to file a Memorandum in Support of (1) Their Objections to the Magistrate's Order Dated May 9, 2006 and (2) Motion to Amend Case Management Scheduling Order. (Dkt. No. 83-2). For reasons stated below, the court denies Defendants' Objections to the Magistrate's Order Dated May 9, 2006 and finds the Motion to Amend moot at this point in the proceedings. Additionally, because the question of privilege has effectively been stayed, Defendants' Motion to Supplement the Record in Support of Defendants' Objections, (Dkt. No. 166), is also denied as moot.

PROCEDURAL HISTORY

M. Diane Koken ("the Liquidator"), Insurance Commissioner of the Commonwealth of Pennsylvania, is the statutory liquidator of two insolvent Pennsylvania insurance companies, Legion Insurance Company ("Legion") and Villanova Insurance Company ("Villanova"). On February 22, 2005, the Liquidator brought this case against American Patriot and its President, Saran, to recover approximately $4 million in premiums, credits, and commissions allegedly owed to Legion/Villanova under a Limited Agency Agreement between American Patriot and Legion. (Compl. ¶¶ 1, 3). American Patriot and Saran have denied the alleged contractual obligations and have asserted various affirmative defenses to liability, including that Legion and its related companies perpetrated a fraud upon American Patriot and its owners/shareholders, Diane and Kenneth Hendricks. (American Patriot's Answer, Dkt. No. 10 at 14-21; Saran's Answer, Dkt. No. 54, at 12-20).

By Order of the Executive Committee of the Court, this case was referred to Magistrate Judge Jan R. Nolan for purposes of discovery supervision. (Dkt. No. 56). On June 8, 2006, the court granted Defendants leave to file a Memorandum in Support of (1) Their Objections to the Magistrate's Order Dated May 9, 2006 and (2) Motion to Amend Case Management Scheduling Order. ("Defs.' Mem." Dkt. No. 83-2). During the course of briefing their Objections, Defendants also filed a Motion to Supplement the Record in Support of Defendants' Objections, requesting permission to supplement the record with the October 26, 2006 affidavit of H. James Agnew. ("Motion to Supplement" Dkt. No. 166). The court took Defendants' Motion to Supplement under advisement, noting the Liquidator's opposition to the motion in open court. (See Order of Nov. 2, 2006, Dkt. No. 169). Defendants also made an oral motion to supplement the record with deposition testimony of Eric Bossard, taken in relation to an arbitration hearing in 2003. With no objections from the Liquidator on this point, the court granted Defendants' oral motion, and Defendants filed the deposition testimony with the court. In response, the Liquidator filed a Motion for Protective Orders Regarding the Transcript of Eric Bossard and Confidentiality Agreement and Order from Reinsurance Arbitration, ("Motion for Protective Orders" Dkt. No. 171), which has been fully briefed and is the subject of a separate order by this court. Finally, in July of 2006, the court granted non-party witnesses Andrew Walsh, Richard Turner, and Glenn Partridge leave to file and brief a position paper with the court regarding Defendants' Objections.

FACTUAL BACKGROUND

In March of 1997, American Patriot established a "rent-a-captive" insurance program called the Roofers Advantage Program ("the Program"). This program was marketed to American Patriot by Mutual Risk Management, Ltd. ("Mutual Risk"), Commonwealth Risk Services, L.P. ("Commonwealth Risk"), Legion, Villanova, and Mutual Indemnity (Bermuda), Ltd. ("MIB") (collectively, the "Mutual Entities"). In order to set-up the Program, American Patriot executed the following documents: (1) a Proposal provided by Commonwealth Risk; (2) a Limited Agency Agreement between Legion and American Patriot; and (3) a Shareholders Agreement between American Patriot and Mutual Holdings (Bermuda), Ltd. ("Mutual Holdings"), the parent company of MIB.

Under the Program, Legion acted as an insurance company, issuing workers' compensation policies to roofing contractors on behalf of American Patriot. As the insurer, Legion had primary responsibility for all insured losses up to the applicable policy limits. Each year, Legion retained an Annual Aggregate Retention (10% of the gross written premium) to establish the "initial working layer" of coverage for losses and expenses under the Program. Once the losses and expenses in a Program year exceeded Legion's 10% retention, however, MIB would reimburse Legion for additional losses up to the Aggregate Attachment Point, per Reinsurance Treaty 103, using money from the net ceded premium to cover its expenses. Additionally, the Shareholders Agreement provided that American Patriot would indemnify MIB if the losses exceeded the net ceded premium, but were less than the Aggregate Attachment Point. Thus, together, MIB and American Patriot provided the "second layer" of reinsurance coverage. (Conversely, the Shareholders Agreement also allowed American Patriot to recover a profit if the net ceded premium were to exceed the Program losses.) In 1998, Diane and Kenneth Hendricks assumed American Patriot's rights and obligations under the Shareholders Agreement, retroactive to 1997.

At issue in this case is the liability distribution of both parties after the Aggregate Attachment Point. Defendants claim that all amounts exceeding the Aggregate Attachment Point become the responsibility of Legion, noting that if MIB has no liability, neither American Patriot nor the Hendricks have any obligation to indemnify MIB. The Liquidator insists that, pursuant to a 1993 Amendment to Reinsurance Treaty 103, only the first $5 million of exposure above the Aggregate Attachment Point is Legion's responsibility, which it covered through outside reinsurers. The Liquidator calls this the "third layer" of reinsurance coverage. The Liquidator claims that, pursuant to the 1993 Amendment, MIB then provided an additional "fourth layer" of reinsurance coverage up to an additional $5 million on any one program, but not to exceed $10 million for all programs in a given program year. Because MIB was allegedly liable to Legion for this level of coverage, the Liquidator argues that American Patriot and the Hendricks had potential exposure to this liability, as well.

At this point in the proceedings, the parties dispute two basic questions: (1) whether American Patriot is liable for Program losses above the Aggregate Attachment Point, pursuant to Reinsurance Treaty 103 and related Program documents, and (2) if so, whether this liability was the result of Legion's conspiracy to defraud American Patriot and the Hendricks.

In her Order of May 9, 2006, Magistrate Judge Nolan determined that these questions could and should be treated separately from one another for purposes of discovery and summary judgment. (See Dkt. No. 83-5, "May 9, 2006 Tr."). In order to properly set the stage for Magistrate Judge Nolan's Order, however, it is first necessary to describe in more detail the Defendants' allegations of fraud and the deponents' assertion of the attorney-client privilege.

1. The Alleged Fraud

Both parties agree that, in February of 2000, Saran and Diane Hendricks met with Eric Bossard ("Bossard"), Vice President of Legion, and James Agnew ("Agnew"), Vice President of Commonwealth Risk, to discuss Program renewal for the year 2000. Prior to this meeting, the Program had been experiencing increasing losses and the need for adjustments in the Program reserves. Concerned about these losses, Diane Hendricks raised questions at the February 2000 meeting about the extent of her personal exposure for workers' compensation losses. Defendants allege that Diane Hendricks specifically asked "whether Patriot's ultimate liability extended only to the Aggregate Attachment Point or beyond." (Defs.' Mem. at 6). In a nuanced argument, the Liquidator alleges that Diane Hendricks only asked if she was exposed to liability "further than the letters of credit" she had already supplied to MIB. (Pl.'s Resp. at 5).

Defendants base their understanding of what transpired next on the affidavits of Bossard and Agnew. Defendants allege that, in response to Diane Hendricks' questions, Agnew and Bossard met with Richard Turner ("Turner"), President of Commonwealth Risk, and Glenn Partridge ("Partridge"), Executive Vice President of Legion, to discuss American Patriot's liability beyond the Aggregate Attachment Point. Andrew Walsh ("Walsh"), Legion's in-house counsel, allegedly joined the conversation by telephone and told the men that Legion was the entity responsible for losses in excess of the Aggregate Attachment Point. Finally, Bossard, Agnew, Turner, Partridge, Walsh and David Alexander ("Alexander"), President of MIB, then allegedly determined to cook-up a plan to amend Reinsurance Treaty 103 so as to create liability for American Patriot beyond the Aggregate Attachment Point, and to convince American Patriot and/or the Hendricks to ...


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