| Right of Succession
Transfer of Insurance Coverage by Operation of Law
By Jordan Stanzler
© Copyright 2001 Daily Journal Corporation. All rights reserved.
The transfer of assets and liabilities from one corporation to another may give rise to the transfer of insurance benefits by operation of law. Under this doctrine, the sale of a business will result in the transfer of insurance benefits due to that business, despite the presence of an anti-assignment clause in an insurance policy. The doctrine of transfer by operation of law is particularly important when "long-tail" claims are brought against the successor corporation for injuries sustained before the transfer of assets took place. The doctrine may be the only means by which the successor can receive insurance coverage. Policyholders who have purchased assets without specifically acquiring insurance policies that cover those assets should be aware of the benefits and limitations of this legal doctrine.
The doctrine originally was recognized in Northern Insurance Co. v. Allied Mutual Insurance Co., 955 F.2d 1353 (9th Cir. 1992), where the Brown-Forman Corp. purchased California Cooler through an asset-purchase agreement that excluded from the sale the assignment of any contract that required consent to assign. A child born before the sale filed suit against Brown-Forman alleging fetal alcohol syndrome attributable to the consumption of alcohol by his mother during her pregnancy. Brown-Forman tendered the lawsuit to the insurance company that had insured California Cooler. The insurance company denied a defense, arguing that it had never consented to the assignment of the insurance policy.
The sales agreement between the two companies did not specifically assign the predecessor's insurance policies. Nevertheless, the 9th U.S. Circuit Court of Appeals held that the insurance policies were transferred by operation of law because the doctrine of successor liability transferred the liability from the predecessor to the successor: "We find that the benefits of Allied's Policy, including the right of defense, transferred by operation of law to Brown-Forman when Brown-Forman purchased substantially all California Cooler's assets."
The key fact here was that the loss already had occurred before the sale. There was no question that the predecessor's policy would apply if the sale had never taken place. The court explained that "the rationale for honoring 'no assignment' clauses vanishes when liability arises from pre-sale activity." Thus, the sale did not change the risk that the insurance company had agreed to insure.
Quemetco Inc. v. Pacific Automobile Insurance Co., 24 Cal.App.4th 494 (1994), refused to follow Northern. There, the predecessor company shipped sulfuric-acid waste to the Stringfellow acid pits years before it sold all of its assets to the successor in 1970. The insurance policies were not assigned to the successor, which never shipped waste to the site. In 1982, the successor was sued under the Superfund statute for damage caused by the predecessor's shipment of hazardous waste. The court refused to follow Northern on the grounds that no liability was passed in 1970 at the time of the sale because the liability was not created until the new environmental statute was passed and cleanup damages were assessed in 1987. The court also was concerned that the predecessor, even through a dissolved corporation, could still be sued and might need the insurance.
General Accidental Insurance Co. v. Superior Court, 55 Cal.App.4th 1444 (1997), flatly rejected the reasoning of Northern. In that case, the successor took over the predecessor's asbestos business under circumstances that resulted in a later judicial determination that the successor was liable for tort claims arising from the predecessor's business. The court concluded that any transfer of a policy by operation of law was a violation of the basic principles of insurance law because the insurance company never agreed to insure the successor corporation. The doctrine of transfer by operation of law was given new life by the recent decision of Henkel Corp. v. Lloyd's of London, 88 Cal.App.4th 876, rev. granted, 109 Cal.Rptr.2d 302 (2001), which followed Northern and questioned both Quemetco and General Accident. The predecessor corporation sold its metal-working chemical-products business to Henkel Corp. in 1979. The transfer documents did not specifically state anything about insurance. Years after the sale, Henkel was sued in mass tort litigation by employees of Lockheed, who claimed that they were injured by exposure to the predecessor's chemical products during the period of 1959 to 1976.
The 2nd District Court of Appeal held that the benefits of the predecessor were transferred to the successor by operation of law. The court ruled that Northern articulates the correct analysis in those successor-corporation cases where the loss already has occurred but a claim is not asserted until after the transfer to the successor: "No new contractual burden is imposed on the insurers; they need only defend a single party as to the very same claims which would have been asserted against the original named insured for the circumstances of the case."
In the court's view, the benefits of the predecessor's policy are transferred by operation of the law. But this concept, according to the court, should not be confused with the transfer of an insurance policy itself to a new policyholder that the insurance company has never agreed to underwrite. All that is being transferred is the right to receive benefits after a loss has taken place. Of particular importance to the court was the fact that the predecessor had been dismissed from the Lockheed litigation. Thus, there was no possibility that both the predecessor and the successor might be asserting rights to the same policies for the same loss. It is not clear what the court would have ruled had both companies been sued.
The court was particularly critical of the reasoning of Quemetco that there was no transfer of benefits because Congress had enacted a new statute, creating a new liability, after the transfer of corporate assets: "We see no significance, however, in the fact that CERCLA liability did not exist at the time of the transfer of assets of the predecessor to the successor corporation. Had the predecessor remained in business it would have been liable under the subsequently enacted CERCLA statute, and it would have been entitled to call upon the same liability policies." The court was also critical of General Accident for misreading Northern: "Northern did not purport to sanction what General Accident found so improper. It did not sanction the transfer of an insurance contract so as to create new unbargained-for burdens or to impose upon an unwilling insurer a new insured whose activities it had not agreed to underwrite. Rather, Northern simply affirmed a successor's right to call upon policy benefits already due to the predecessor for unasserted claims which arose as the result of the occurrence of injury or damage during the policy period."
The ups and downs of the transfer-by-law doctrine provide instruction for corporate attorneys planning the sale of assets or an entire business. The parties should make explicit agreements about the transfer of either insurance policies or the benefits of insurance policies. If no provision is made about insurance, however, the transfer-by-law doctrine may come into play. The doctrine will apply where there has been the sale of a business or of business assets that later gives rise to liability incurred before the sale. The purchaser is most likely to be successful in invoking the doctrine if the predecessor makes no claim to the insurance proceeds.
Jordan Stanzler is a partner with Stanzler Funderburk & Castellon in San Francisco and co-author of "Insurance Coverage Litigation" (Aspen 2000).
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