Why it matters

Policyholders should not assume that an insurer has failed to preserve coverage defenses by failing to identify them specifically in a reservation of rights letter, at least where Georgia law applies. In evaluating whether an insurer made a proper reservation of rights, the Eleventh Circuit recently concluded in an unpublished opinion that the appropriate standard is one of “adequacy.” Reservation of rights letters do not have to identify “each and every potential basis for contesting coverage” as long as they adequately inform the insured that the insurer does not waive its coverage defenses, the court held.

Detailed Discussion

Wellons manufactures and installs capital equipment for the forest product industry. Wellons entered into agreements with Langboard, a manufacturer of wood products used in home construction and flooring, for design and installation of an energy system.

Wellons maintained primary and excess commercial general liability coverage with Lexington. During the construction of the energy system, part of the system collapsed and caused extensive property damage. Langboard sued Wellons in 2005 for losses emanating from the collapse. Wellons provided Lexington with notice of the suit, and Lexington defended it.

Lexington sent two reservation of rights letters to Wellons in connection with the claim. The first was when the lawsuit was first filed in 2005, in which Lexington stated that “this letter is not to be construed as a waiver of any of the terms, conditions, or provisions of the Lexington Insurance Company policy, or of any right or policy defense now or hereafter available to the Lexington Insurance Company.” The second was in 2007, in which Lexington stated that: “there may be additional policy conditions that may also preclude coverage and this should not be construed as a waiver of other terms and conditions that may apply.”

The Wellons energy system later developed leaks, which were repaired by a third party. When the system failed again even after the repairs, Langboard demanded that Wellons replace the system. Wellons tendered the claim for replacement to Lexington, which issued a preliminary response stating that “there may be a coverage question and we are investigating this matter under a reservation of rights.” Lexington’s letter also quoted provisions from its policy, including exclusions for “Damage to Property,” “Damage to Your Product,” and “Damage to Your Work,” as well as the requirement that “property damage” be caused by an “occurrence.”

In 2007 Langboard sued Wellons again, asserting that the energy system never worked as intended. Lexington defended the second Langboard lawsuit under a reservation of rights, noting that its prior reservation of rights letters were “in the same mode” and “the issues addressed in each of the letters are still applicable.” After discovery in the second suit was complete, Lexington denied coverage, stating that, under the facts as developed, the alleged loss did not meet the definition of “occurrence” or “property damage” under the policy.

A jury subsequently awarded Langboard nearly $8.5 million in damages. Wellons then sued Lexington, seeking a declaration that Lexington was required to provide indemnification for the jury verdict because it did not adequately reserve, and therefore waived, its coverage defenses related to “occurrence” and “property damage.”

Interpreting Georgia law, the Eleventh Circuit concluded that “a reservation of rights need not specify each and every potential basis for contesting coverage, as long as the reservation fairly informs the insured that, notwithstanding the defense of the insured, the insurer does not waive its coverage defenses.” Insurers are not required to delineate specific policy provisions, the court opined, because certain coverage defenses may be unknown until discovery has been completed and the insurer has completed its investigation.

Turning to the facts of the case, the court found that Lexington’s reservation of rights was adequate. When Langboard filed its second lawsuit, Lexington informed Wellons that the issues addressed in the prior reservation of rights letters were still applicable. According to the court, these letters satisfied the requirements of an effective reservation: “While the April 2007 letter quoted large portions of the policy, it also provided detailed analysis as to why specific provisions and exclusions may apply,” the court opined, and was a “far cry from an insurer cutting and pasting the entire insurance policy into a letter, with no explanation or analysis.”

“Most importantly,” the court added, the 2005 and 2007 letters “both contained nonwaiver clauses that specifically reserved Lexington’s right to assert additional coverage defenses.” In addition, “Wellons implicitly consented not only to a defense under a reservation of rights, but also to the terms of the reservation, including the nonwaiver clause contained in the. . . letters. Under Georgia law, these nonwaiver clauses were sufficient to protect Lexington’s rights and avoid estoppel.”

Wellons contended that the letters addressing each of the lawsuits involved different issues. The court disagreed, noting that the issues were not as discrete as Wellons contended. Thus the court concluded the earlier letters, coupled with the subsequent reservation, fairly informed Wellons of Lexington’s coverage position and precluded waiver.

To read the decision in Wellons, Inc. v. Lexington Insurance Co., click here.