The California Court of Appeal, in a 2-to-1 decision, has reaffirmed the constitutional limitations on the amount of punitive damages a jury may award against an insurer. In Nickerson v. Stonebridge Life Insurance Company, 2013 WL ___ (Aug. 29, 2013), the Second Appellate District (Division 3) affirmed a trial court’s reduction of the jury’s punitive damage award from $19 million (a “breathtaking” 543 times the compensatory tort damages awarded) to $350,000—the “constitutional maximum” at ten times the tort damages. While the majority held that the insurer’s conduct in denying the plaintiff’s claim was reprehensible and supported a punitive award at the high end of the constitutional scale, the dissenting justice believed that the record lacked the evidence to support punitive damages in any amount and would have stricken them in their entirety.
Although the insurer won this appeal and achieved a significant victory in substantially reducing the jury’s grossly excessive punitive damages award, the majority opinion is troubling because it nonetheless concluded that the insurer’s conduct—a straightforward denial of a single claim that was not covered on the face of the policy—was fraudulent and reprehensible.
The plaintiff in Nickerson, a disabled veteran who was partially paralyzed and confined to a wheelchair, had purchased a hospital indemnity policy providing a daily benefit for covered, medically necessary hospital stays. After Mr. Nickerson was hospitalized for a broken leg, the insurer paid benefits for the 19 days during which his hospital stay was medically necessary in the opinion of an independent medical reviewer retained by the insurer. The insurer denied benefits for the remaining 90 days of his hospitalization, during which time his doctor conceded he did not need hospitalization, although he was not able to return home because his leg cast would not allow him to move throughout his home in his wheelchair. (Mr. Nickerson’s hospitalization itself and all of his medical care were provided to him free of charge through the Veterans Administration.)
After Mr. Nickerson sued, the trial court entered a directed verdict in his favor on his claim for breach of the policy, finding that the clause limiting coverage to only medically necessary hospital stays was not clear and conspicuous, and awarded him the benefits for the remainder of his hospital stay. The case went to the jury only on the question of bad faith, for which the jury awarded him $35,000 for emotional distress. On the special verdict form, which asked the jury to answer separately whether the insurer acted with malice, or with oppression, or with fraud, the jury answered “no” to malice and oppression but “yes” to fraud. After the jury awarded $19 million in punitive damages, the trial court conditionally granted a new trial unless the plaintiff accepted a reduction in the punitive award to $350,000—which, at ten times the bad faith damages, was the maximum that met constitutional boundaries. Mr. Nickerson rejected the offer and appealed.
The two-justice majority agreed with the trial court that a 10-to-1 ratio was the maximum permissible under the due process rules set forth by the U.S. and California Supreme Courts in State Farm Mut. Auto. Ins. Co. v. Campbell, 538 U.S. 408 (2003), and Simon v. San Paolo U.S. Holding Co., 35 Cal. 4th 1159 (2005). The majority resoundingly rejected the plaintiff’s attempt to inflate the denominator of the ratio by weighting it with uncompensated potential harm (the court held there was none), contract damages, and attorneys’ fees awarded by the court after the jury verdict. The majority held that while the insurer’s net worth was a relevant factor in determining an appropriate punitive award, it could not justify an award exceeding the constitutional maximum even if, as the plaintiff argued, the resulting penalty would be absorbed as a cost of doing business and not deter future conduct.
The majority also agreed with the trial court that an award at the highest end of the constitutional spectrum was appropriate in this case because the insurer’s conduct met four of the five factors that the U.S. and California Supreme Courts have applied to determine whether a defendant’s conduct is “reprehensible,” thus justifying a higher award.
Before oral argument, the court requested supplemental briefing on whether the jury’s special verdict finding that the insurer acted with fraud but not malice rendered the verdict fatally inconsistent because the statutory definition of “malice” appeared to encompass the definition of “fraud.” Ultimately, the majority declined to consider this supposed inconsistency, because both parties argued that the findings were not inconsistent. (See Maj. Op. at 12 (“we were not even requested to resolve the issue …. [G]iven the parties’ consensus that the verdict is not inconsistent, the issue requires no further discussion.”).) The dissenting justice disagreed. He contended that the verdicts could not be reconciled and chastised the majority for failing to analyze the question. (Diss. Op. at 5 n.6 (“Rather than analyze the issue, the majority opinion simply defers to [the parties’] agreement. This court, however, is not bound by the argument of counsel and can reach its own conclusion notwithstanding counsel’s argument to the contrary. If the parties’ legal argument is contrary to law, the fact that they agree on the issue does not make their argument any more compelling.”).) All of the justices agreed that the jury should not have been asked to make separate findings on the disjunctive prongs of the punitive damages statute.
The dissenting justice noted that ordinarily the inconsistent verdict would require a new trial, but that the facts of this case rendered a new trial unnecessary. That is because the record was so lacking in substantial evidence to support the jury’s sole finding of “fraud” that, as a matter of law, the only permissible conclusion was that fraud was not proven. The dissenting justice would have simply entered judgment in the insurer’s favor on punitive damages and stricken the entire award. The majority, in contrast, rejected the insurer’s argument that there was not substantial evidence of fraud. Both the majority and the dissent acknowledged that the plaintiff’s argument on appeal in support of the fraud finding relied on different evidence of “fraud” from that relied on in the trial court. (See Maj. Op. at 21 (“We are guided by the basic rules of appellate review that do not limit us to the evidence specified in closing argument.”) (citation omitted); Diss. Op. at 8 n.10 (noting that the plaintiff on appeal did not argue that fraud was based on the evidence he cited in closing argument).)
The Nickerson majority opinion is notable in that it found fraudulent and reprehensible conduct in insurance claims practices that on their face seem legitimate. Thus, while the decision confirms that plaintiffs will be held to no more than a 10-to-1 punitive damages ratio—even in the most extreme cases—the facts that the majority found extreme are surprising. In a similar case with a larger award of compensatory bad faith damages, that 10-to-1 limit obviously could have substantial monetary impact on an insurer.
Some of the more curious bases for the majority’s decision include:
- The insurer had in the past denied other insureds’ claims based on the same medical necessity definition that the trial court found (for the first time) was not sufficiently conspicuous. The majority held that the insurer was required to comply with California law regarding conspicuousness of limiting clauses even where there was no reason before this case to think that the provision was inconspicuous. “Merely because those prior similar incidents [denial of benefits based on the same provision] did not result in an earlier finding of bad faith does not entitle [the insurer] to keep this clause in the policy with impunity until a court finds it is unenforceable.” (Maj. Op. at 19.) In fact, there was no evidence regarding the facts of the denials of any other insureds’ claims—or that those denials were “similar.” In addition, Mr. Nickerson had testified that he had read and understood the entire policy. Nonetheless, the majority used the mere fact of other denials as evidence that the insurer “repeatedly relied on an unenforceable provision to deny coverage to its insureds.” (Maj. Op. at 18.)
- The insurer allegedly had a “bad faith claims-handling practice … of obstructing communication between outside reviewers and the insureds’ treating doctors” in every case, because the review referral form offered an option to ask the medical reviewer for a telephone consultation and the insurer testified that it never made such requests and thus never checked that box. The majority stated: “the box authorizing this communication exists on the transmittal form and so the failure to check it precludes contact and erects a barrier to the free flow of pertinent communication.” (Maj. Op. at 18, 22.) The majority concluded that not checking the box was “intentionally concealing material information from the claims’ functional decision-maker so as to limit the amount [the insurer] would have to pay out on its policies.” (Maj. Op. at 21.)
- The insurer had “deliberately withheld” key information from the medical reviewer when it did not forward to the reviewer a letter from the treating doctor, despite the fact that the letter contained no new medical information. (Maj. Op. at 21.)
Overall, Nickerson is good news for insurers because it reinforces the limits on runaway punitive damages awards. Yet insurers may want to review their policies to ensure that any provision that arguably limits coverage is clear and conspicuous. In addition, insurers should review procedures relating to referral to outside medical review to avoid a decision that relies on Nickerson to indict standard and reasonable procedures.