“District Court Bumps-up D&O Insurers’ Coverage Defense: Long-Running Saga Continues,” written by Michael L. Zigelman, Esq., Alexander M. Razi, Esq. & Jack Eyers. Esq., published by Reuters Legal News, 6-4-2024

In light of the proliferation of lawsuits challenging corporate mergers, the issue of whether a “Bump-Up” provision applies to exclude coverage under a directors and officers liability insurance policy for settlements of, or judgments entered in, such lawsuits is a recurring one for D&O insurers and their insureds. These provisions are implicated as a bar to indemnity coverage when a settlement or judgment (or portion thereof) represents an “effective increase” in the underlying merger consideration.

In a long-running insurance coverage litigation arising out of the merger between Towers Watson & Co. n/k/a WTW Delaware Holdings LLC (“Towers Watson”) and Willis Group Holdings plc, the U.S. District Court for the Eastern District of Virginia recently granted summary judgment to the insurer defendants based on the application of a “Bump-Up” policy provision. That provision excludes from the definition of covered “Loss” that portion of any judgment or settlement which represents an effective increase in “the price or consideration paid or proposed to be paid for the acquisition or completion of the acquisition of all or substantially all the ownership interest in or assets of an entity.” Towers Watson & Co. v. National Union Fire Ins. Co. of Pittsburgh, PA, 2024 WL 993871 (E.D. Va. Mar. 6, 2024).

The Towers Watson coverage litigation has been closely followed by the D&O insurance industry and has resulted in several interesting decisions by the district court and the 4th U.S. Circuit Court of Appeals, which is on track to hear the case again following the insured’s appeal of the lower court’s recent decision. By way of background, the Towers Watson-Willis merger gave rise to litigation by Towers Watson shareholders in two venues: (1) a putative federal securities class action in Virginia alleging violations of §§ 14(a) and 20(a) of the Securities Exchange Act of 1934; and (2) a derivative action in the Delaware Chancery Court alleging breaches of fiduciary duty and aiding and abetting breaches of fiduciary duty (collectively, the “Underlying Actions”).

The Virginia plaintiffs alleged that as a result of materially untrue statements and omissions in the proxy materials for the merger, Towers Watson shareholders accepted consideration for the merger that was well below the fair value of their shares. The Virginia plaintiffs advanced a theory of “out of pocket” damages based on the assumption that if the alleged improperly withheld information had been disclosed, shareholders would have voted against the merger, the two companies would have gone their separate ways, and the price of Towers Watson’s stock would have “reverted” back to its price immediately before the announcement of the merger.

The Delaware plaintiffs brought their claims based on essentially the same allegations asserted in the Virginia action.
The Underlying Actions were reported under a “tower” of D&O insurance issued to Towers Watson, consisting of a primary policy and several excess policies that generally followed form to the primary policy. The policies provide coverage for “Loss” (defined to include damages, settlements, judgments and defense costs) arising from “Claims” against “Insureds” for “Wrongful Acts,” as those terms are defined in the policies.

The primary policy contains the following “Bump-Up” provision:

In the event of a Claim alleging that the price or consideration paid or proposed to be paid for the acquisition or completion of the acquisition of all or substantially all the ownership interest in or assets of an entity is inadequate, Loss with respect to such Claim shall not include any amount of any judgment or settlement representing the amount by which such price or consideration is effectively increased; provided, however, that this paragraph shall not apply to Defense Costs or to any Non-Indemnifiable Loss in connection therewith. Here, the insurers acknowledged that the Underlying Actions were Claims as defined in the policy and agreed to advance defense costs. However, the insurers denied coverage for prospective settlements of the Underlying Actions or judgments entered therein, relying on the “Bump-Up” provision.

The Underlying Actions were ultimately both settled, and Towers Watson thereafter filed coverage litigation against the insurers, seeking coverage for the settlements.
In the coverage litigation, the district court initially determined that based on the language of the policy, the structure of the merger and the “recognized differences” between a takeover acquisition (which the court concluded is what is contemplated by the “Bump-Up” provision) and a merger under Delaware law, there was a reasonable, narrow reading of the “Bump-Up” provision such that it did not include the merger and therefore, did not apply. The court held that under Virginia’s applicable principles of insurance contract interpretation, that narrow construction “prevails as the construction providing broader coverage.” Accordingly, in a decision issued Oct. 5, 2021, the court held that the settlements were covered under the policies.

The insurers filed an appeal to the 4th Circuit, which found the district court’s analysis to be flawed in several respects, including that (contrary to the analysis of the district court) nothing in the “Bump-Up” provision stipulates, “or even hints” that the term “acquisition” was intended to refer only to a particular form of acquisition — i.e., a takeover — under Delaware law. The 4th Circuit concluded that the district court’s initial interpretation of the “Bump-Up” provision disregarded the policy’s plain language and inserted terms not included by the parties, with the result that such interpretation could not be characterized as one of two “equally possible” constructions, as required by Virginia law. Accordingly, in a decision issued May 9, 2023, the 4th Circuit vacated the district court’s judgment, but remanded the case to the district court to resolve issues raised by Towers Watson that were not addressed in the district court’s first decision.

On remand, the insurers moved for summary judgment on three grounds: (1) the Underlying Actions alleged inadequate consideration; (2) Towers Watson was “an entity” whose acquisition fell within the “Bump-Up” provision; and (3) the settlements represented an effective increase in consideration for the merger. Towers Watson moved for summary judgment on the sole ground that the settlements did not “effectively increase” the merger consideration.

The district court concluded that allegations that the consideration received by shareholders for the merger were inadequate were “intrinsic” to the theory of the claims under Section 14(a) of the Exchange Act, because to prevail on such a claim, a plaintiff must show that the proxy statement contained a material misrepresentation or omission that caused the plaintiff injury and that the proxy solicitation was an essential link in the accomplishment of the transaction. The court further noted that the Delaware plaintiff class alleged that it was “harmed by … receiving a material discount for the value of their Towers [Watson] shares[.]” The court concluded that because the allegations of inadequate consideration were the basis for the harms underlying both the Section 14(a) claims and the breach of fiduciary duty claims, the Underlying Actions necessarily “alleged” inadequate consideration, thereby implicating the “Bump-Up” provision.

The district court also determined that based on the ordinary and customary meaning of the term “entity,” Towers Watson constituted “an entity” for purposes of the “Bump-Up” provision. The court further noted that the policy elsewhere specified when the term “entity” was meant to exclude Towers Watson, including references to “an officer or director of any entity other than the Organization” and “any person or entity other than an Insured ….”

On that basis, the district court determined that the unrestricted and undefined term “an entity,” suggested that the clause was intended to be read broadly and encompass not only the “Named Entity,” but any other entity as well. Accordingly, the court held that the insurers established that Towers Watson was unambiguously “an entity.” The district court also concluded that the settlements effectively represented an increase in the consideration for the merger. In that regard, the court focused on “the overall result — whether, at the end of the day, the former Towers Watson shareholders were paid additional monies because the amount they received in the merger was inadequate.” The court found that was the case, noting that the shareholders’ allegations of harm “were solely predicated” on the theory that they got less in the merger than Towers Watson was worth. The court ultimately concluded that the “Bump-Up” provision unambiguously applied to the settlements of the Underlying Actions, and on that basis granted the insurers’ motion for summary judgment, denied Towers Watson’s motion, and declared that the “Bump-Up” provision bars coverage for the amount of the settlements.

Towers Watson has appealed the district court’s grant of summary judgment to the insurers, and the case is now back before the 4th Circuit. Although it remains to be seen how the Towers Watson case plays out in its second trip to the 4th Circuit, for the time being, Towers Watson is part of a recent line of cases in which insurers have obtained rulings in their favor on several issues concerning “Bump-Up” provisions, including that Section 14(a) claims allege “inadequate consideration” (Komatsu Mining Corp. v. Columbia Cas Co., 7th Cir. 2023); the phrase “an entity” includes the named entity insured (Ceradyne, Inc. v. RLI Ins. Co., C.D. Cal. 2022; Onyx Pharmaceuticals Inc. v. Old Republic Ins. Co., Cal. Super. 2022); the application of “Bump-Up” provisions is not limited to Claims that “only” or “exclusively” allege inadequate consideration (Ceradyne); and “Bump-Up” provisions apply whether the insured is acquiror or the acquiree (Onyx).

Partner Michael L. Zigelman is a regular contributing columnist on corporate and professional liability insurance for Reuters Legal News and Westlaw Today. Partner Alexander Razi  focuses on insurance coverage, matters under directors and officers liability, professional liability, errors and omissions, and employment practices for public and private companies and financial institutions. Associate Jack Eyers focuses on commercial litigation as well as on insurance-coverage issues for insurance carriers whose clients range from small businesses to large corporations. 

Reprinted with permission. This article was first published on Reuters Legal News and Westlaw Today on June 3,  2024. Thomson Reuters is a commercial publisher of content that is general and educational in nature, may not reflect all recent legal developments and may not apply to the specific facts and circumstances of individual transactions and cases. 

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