The United States District Court for the District of Oregon, applying Oregon law, has granted partial summary judgment in favor of an insured seeking defense costs, including in-house expenses, of an underlying litigation after the insurer breached its duty to defend. MegAvail, Inc. v. Illinois Union Ins. Co., 2007 WL 3232605 (D. Or. Nov. 1, 2007). The court denied summary judgment with respect to amounts paid to settle the underlying lawsuit, finding that the settlement payments were not damages flowing from the breach of the duty to defend and that questions of fact remained regarding the appropriate allocation of the settlement payments.

In the underlying action, six shareholders, including two former directors and officers, sued the insured company. The insurer declined to defend the claim, relying on the policy's I v. I exclusion. The company was financially unable to fund all of the legal fees incurred in the underlying litigation, and so it (i) relied upon certain officers and directors to provide certain services that would otherwise have been performed by outside counsel, and (ii) made a business decision to settle the case by repurchasing the plaintiffs' shares for $250,000. The $250,000 settlement consideration was financed by selling the same number of shares to a third party for that amount of money.

The company then filed an action against the insurer. In October 2006, the court held that the insurer had breached its duty to defend the insured in the underlying lawsuit brought by the shareholders and ordered the parties to proceed with discovery and litigation of the remaining issues related to the insurer's duty to indemnify, damages, and allocation of the settlement payments. This previous decision is summarized in the December 2006 Executive Summary.

The company moved for partial summary judgment on the damages allegedly resulting from the insurer's refusal to defend the underlying suit, including attorneys' fees, in-house expenses that the company claimed were incurred when certain directors and officers provided services that outside counsel would typically perform, and the settlement payments. The court granted summary judgment in favor of the company with regard to the attorneys' fees paid to outside counsel, which it found to be reasonable in terms of hours expended and rates charged. The court further found that the company could recover in-house costs that the company incurred by having its employees provide services that it could not afford a law firm to provide but denied summary judgment without prejudice because the company submitted no evidence from which the court could judge the reasonableness of the in-house expenses claimed.

The court concluded that, under Oregon law, the settlement costs could only be recovered under the indemnification terms of the policy, rather than as damages resulting from a breach of the duty to defend. The court then denied summary judgment with respect to the $250,000 in settlement payments on two grounds: First, the court had previously determined that the I v. I exclusion barred coverage as to the plaintiffs who were former directors because they were insureds under the policy but did not bar coverage as to the uninsured plaintiffs, who it found had acted independently of the former directors. The insurer therefore had a duty to indemnify the company for any settlement payments made to the uninsured plaintiffs but not for payments made to the former directors. Moreover, the court found that the insurer had presented some evidence that the company did not suffer a compensable loss when it settled the lawsuit because it essentially resold the shares that it purchased from the plaintiffs to a third party for the same amount that it paid the plaintiffs. The court therefore found that questions of fact existed with respect to the amount of the settlement payment that (i) should be allocated to the uninsured plaintiffs, and (ii) constituted compensable loss under the policy.

Finally, the court granted summary judgment on the company's behalf under Oregon Statute 742.061, which provides for the recovery of reasonable attorneys' fees and costs in a coverage action if settlement is not made within six months from the date proof of loss is filed and the plaintiffs' recovery exceeds the amount of any tender by the insurer. However, the court granted the insurer leave to challenge the reasonableness of the amounts sought at the end of the coverage litigation.