The United States District Court for the Southern District of New York, applying New York law, has granted in part and denied in part a policyholder's motion for partial summary judgment seeking reimbursement and advancement of defense costs. Carlin Equities Corp. v. Houston Casualty Co., 2007 WL 2456958 (S.D.N.Y. Aug. 24, 2007). The court held that (1) only the policyholder corporation, an officer and an employee were insured under the policy; (2) the underlying complaint alleged facts bringing the complaint within the scope of the policy's coverage, and the insurer was not entitled to rely on denials in the policyholder's answer to the underlying complaint to prove otherwise for purposes of determining its obligation to advance defense costs; and (3) the management carveback in an "Errors and Omissions Exclusion (with Management Carveback)" precluded application of the exclusion to the policyholder and an officer of the policyholder, but that the exclusion barred coverage for a nonmanagement employee.

The insurer issued a claims-made directors, officers, and private organization liability policy to a securities brokerage firm that "allows qualifying individuals to trade broker-dealer capital." The policy provided specified coverage for "Insured Persons," including "past, present or future director[s], officer[s], managing member[s], or Employee[s] of the Insured Organization," as well as the "Insured Organization," which was defined to include the brokerage firm and its subsidiaries. The policy further contained an "Errors and Omissions Exclusion (with Management Carveback)." The management carveback stated that the exclusion for errors and omissions does not "apply to Loss, including Defense Costs, in connection with any Claim against an Insured Person who is a director or officer of the Insured Organization to the extent that such Claim is for a Wrongful Act by such Insured Person who is a director or officer of the Insured Organization in connection with the management or supervision of any division, Subsidiary or group of the Insured Organization offering any of the aforementioned services."

The brokerage firm, a number of related entities, an officer of the brokerage firm and an employee of the brokerage firm were sued by a day-trading customer who alleged that they had improperly authorized him to trade as a broker-dealer and encouraged him to trade at inappropriate levels of volume and risk. The brokerage firm sought advancement of defense costs from the insurer in connection with the underlying action. The insurer denied coverage, and the brokerage firm filed suit seeking prospective advancement of defense costs and reimbursement of costs already incurred in the underlying action.

The court first turned to the status of the various parties seeking coverage. The insurer and the brokerage firm agreed that the brokerage firm and the officer defendant were insureds under the policy. The court further held that the employee defendant was an insured under the policy but that the other entity defendants were not "Insured Organizations" under the policy because they were not so named in the policy or listed as subsidiaries in the brokerage firm's renewal application.

The court next held that the underlying complaint alleged "Wrongful Acts" against the individual defendants. With respect to the officer defendant, the court held that he was both alleged to be an officer and to have committed the acts described in the complaint within that capacity. With respect to the employee defendant, the court held that "[t]he combination of [his] 'affiliation' with [the brokerage firm] and his making the representations complained of to [the underlying plaintiff] 'with the knowledge and complete approval' of [the brokerage firm's] Chief Compliance Officer, bring [the employee] within the definition of 'acting in his . . . capacity as . . . [an] employee' of [the brokerage firm]." In so holding, the court rejected the insurer's attempt to rely on statements in the brokerage firm's answer to the underlying complaint that took the position that the individuals were acting on behalf of other entities. Even though the prior precedent involved a duty to defend policy, the court followed USF&G v. Executive Insurance Co., 893 F.2d 517 (2d Cir. 1990), and held that "admissions made by [the policyholder] in the [underlying] Answer shall not be considered in determining whether the [policy] covers the actions alleged in the [underlying] Complaint."

Finally, the court held that the "Errors and Omissions Exclusion (with Management Carveback)" precluded coverage for the employee but not for the brokerage firm or the officer defendant. Relying on Seidel v. Houston Casualty Co., 375 F. Supp. 2d 211 (S.D.N.Y. 2005), the court reasoned that the management carveback applied in the instant case because an Insured Person "is alleged to have approved the acts complained of in his position of Chief Compliance Officer" of the brokerage firm and "Chief Compliance Officer is a managerial or supervisory position" with respect to the brokerage firm and its affiliated companies. The court also asserted that the terms "division" and "group" in the carveback were "clearly ambiguous" and "any ambiguity within the policy should be resolved in favor of the insured."