The recent Pennsylvania Superior Court ruling in Babcock & Wilcox Co. v. American Nuclear Insurers, 2013 Pa. Super LEXIS 1630 (Jul. 10, 2013) casts a new balance between the rights of insureds to control and settle litigation and the rights of insurers to enforce consent to settlement and cooperation clauses in insurance policies.  The Court ruled that an insured cannot seek reimbursement for a settlement negotiated without the insurer’s consent when the insurer has tendered and the insured has accepted coverage subject to a reservation of rights.  Babcock’s rationale is embedded in the rules of contract construction and remains subject to an insurer’s fiduciary and good faith obligations.  An insurer tendering a defense with a reservation of rights has not committed a material breach of the insurance policy so as to give free rein to the insured to breach the consent to settlement clause.

In Babcock & Wilson, the insured settled hundreds of claims for radiation exposure from two nuclear processing facilities for less than policy limits without the consent of insurers defending subject to a reservation of rights.  The insured argued to the trial court that the insurers should reimburse the settlement sum, provided it was reasonable and in good faith under Alfiero v. Berks Mutual Leasing Co., 500 A.2d 169 (Pa. Super. 1985).  The insurers argued instead for the strict bad faith standard of Cowden v. Aetna Casualty and Surety Co., 134 A.2d 223 (Pa. 1957).  Initially, the trial court sided with the insurers and ruled against reimbursement unless the insured could make the challenging showing under Cowden.  Later, the trial court applied Alfiero and permitted reimbursement of settlement funds if the insured could show that the settlement was fair, reasonable and non-collusive.  A jury concluded under Alfiero that the settlement was fair, reasonable and non-collusive and the insurer was ordered to pay the $80 million settlement sum plus prejudgment interest.  

The Pennsylvania Superior Court’s guidance is straight-forward, following Florida’s lead in Taylor v. Safeco Insurance Co., 361 So. 2d 743 (Fla. Ct. App. 1978).  If an insurer tenders a defense subject to a reservation of rights, the insured may accept that qualified defense thereby giving the insurer the right to control the litigation including settlement.  An insured accepting the qualified defense is nevertheless protected by the insurer’s fiduciary and good faith obligations to represent the insured’s interests and procure a settlement when appropriate.  Alternatively, the insured may decline the insurer’s qualified defense offer and furnish its own defense, including funding any settlement.  In the latter instance, should coverage be found, the insurer would be liable for all defense costs, including the settlement sum, to the extent those costs are deemed fair, reasonable and non-collusive.