In August we reported that the Texas Supreme Court had granted review of a Houston [14th] Court of Appeals case in which the court rejected the insurer’s argument that an excess policy with a “following form” provision incorporating the terms and conditions of the primary policy clearly and unambiguously excluded defense costs. As we thought would be the case, the insurer has filed a petition for review with SCOTX. TCJL submitted an amicus letter in support of the petition in March 2023. On on Friday, SCOTX handed down a decision reversing the court of appeals and rendering judgment for the insurer.
The Ohio Casualty Insurance Company v. Patterson-UTI Energy, Inc.; Patterson-UTI Management Services, LLC; Patterson-UTI Drilling Company, LLC; and Marsh USA, Inc. (No. 23-0006, December 20, 2024) arose from a personal injury action against the Patterson companies. Patterson had obtained an excess policy from Ohio Casualty that provided coverage after the primary policy and two other excess policies were exhausted. They were exhausted, and Patterson made a claim on the Ohio Casualty policy for damages awarded against them and defense expenses (over $4 million). Ohio Casualty paid the indemnity for the damages but declined to reimburse Patterson’s defense expenses on the basis that its policy excluded defense costs. Patterson sued for breach of contract and bad faith under Chapter 542, Insurance Code. The trial court awarded summary judgment to Patterson. Ohio Casualty appealed. The court of appeals affirmed.
The decision turned on whether the defined term “ultimate net loss” in the primary policy, which explicitly included defense expenses, was incorporated into the excess policy by virtue of the excess policy’s “following form” provision. That provision, according to the court, “states that the excess policy will ‘follow’ the ‘first underlying insurance’ [except] for the terms, conditions, definitions, and exclusions of this policy.” While conceding that its policy generally incorporated the primary policy under the following form provision, Ohio Casualty contended that the excess policy unambiguously excluded defense expenses based on the policy’s divergent definition of “loss,” which supplanted the term “ultimate net loss” contained in the primary policy. In the excess policy, “loss” was defined as “those sums actually paid in the settlement of satisfaction of a claim which you are legally obligated to pay as damages after making proper deductions for all recoveries and salvage” (emphasis added). In the absence of a definition of “damages” in the excess policy, the court of appeals looked to the primary policy, which appears to include “defense expenses” as damages covered by the policy. The dispute, then, is whether the term “damages” should be given its common meaning in the excess policy (in which case it would not include defense costs) or the meaning assigned in the primary policy’s definition of “ultimate net loss.”
The court of appeals held that the “following form” language in the excess policy controlled in the absence of “clear and unambiguous language” excluding defense costs, despite the policy’s use of different terminology to describe a covered “loss.” The court appealed to public policy concerns, worrying that “Ohio Casualty’s argument . . . could conceivably open the door for vague language in excess policies to implicitly diverge from primary policies in “follow form” excess policies with far-reaching financial consequences for insureds.” It seems equally conceivable, however, that the court’s reasoning could lead to excess policies dropping “follow form” provisions altogether if those provisions can be interpreted to override other conditions of coverage in the policies.
In an opinion by Justice Young, SCOTX held that the court of appeals erred by looking to the underlying policy first rather than beginning its analysis with the text of the excess policy. Examining the text of the excess policy, SCOTX determined that the policy’s definition of “loss” covered only amounts paid to the adversarial party as damages. Observing that Texas law has long excluded attorney’s fees paid to a party’s own attorneys from damages, Justice Young stated that “[f]or Patterson’s legal expenses to qualify as ‘loss,’ therefore, the parties must have agreed by contract to give ‘damages’ a specialized meaning.” In the absence of such a definition in the excess policy (which didn’t define “damages” at all), the term must be given its ordinary meaning under Texas law—which excludes attorney’s fees. In response to Patterson’s argument that separate provisions in the excess policy excluding liability for, among other things, attorney’s fees arising from claims concerning asbestos or pollutants would constitute surplusage if the definition of “loss” did not follow the underlying policy’s definition of “ultimate net loss,” the Court pointed out that the excess policy took a “belt-and-suspenders” approach that cannot be interpreted to alter the policy’s plain text definition of “loss.” “In any event,” Justice Young wrote, “the care with which the asbestos and pollution exclusions were drafted should not have the perverse effect of subjecting Ohio Casualty to liability for all other defense expenses, even though the excess policy in no way undertakes to cover them.”
The decision reaffirms that SCOTX will, first and foremost, confine its analysis to the contract at issue and that “follow-form” excess policies are no exception. As Justice Young observed, though a follow-form policy necessarily “implicates” the underlying policy, “[t]he extent of that implication, however, is not a binary choice but one that presents an array of options. The excess policy could adopt the underlying policy in its entirety; it could do so except for various express exclusions; or it could substantially change the scope of initial coverage by providing its own terms.” The upshot appears to be that the use of “follow-form” language means only so much as what the rest of the excess policy actually says.
