California Supreme Court Broadens Insurance Coverage for Continuous Injury Cases

By April 17, 2020News

In a groundbreaking decision, the California Supreme Court ruled in favor of policyholders and against insurance companies in a decades-long dispute over coverage for pollution cleanup.  In Montrose Chemical Corp. v. Superior Court (“Montrose III”), (April 6, 2020) S244737, the California Supreme Court rejected insurers’ long-standing attempts to force policyholders with “continuous injury” claims to exhaust each separate layer of coverage for all years before accessing the next layer of excess coverage. Instead, the Court adopted a rule of “vertical exhaustion” where the policyholder can collect excess coverage for claims at all levels upon exhaustion of the lower layers of coverage for a given year. This ruling will have significant implications for coverage in California in “continuous injury” cases including pollution cleanup, construction defect and many types of toxic tort.

Background – “Horizontal Exhaustion” in Continuous Injury Cases

Montrose Chemical Corporation (Montrose) was sued for causing continuous environmental damage in the Los Angeles area between 1947 and 1982. In 1990, the United States and the State of California sued Montrose for environmental contamination allegedly caused by Montrose’s operation of its chemical manufacturing facility. Montrose entered into partial consent decrees in which it agreed to pay for environmental cleanup. To meet its obligations, Montrose expended $100 million—and asserts that its future liability could exceed this amount.

Montrose has sought to tap its liability insurance to cover amounts it owes in connection with those claims. For each policy year from 1961 to 1985, Montrose had secured primary insurance and multiple layers of excess insurance. In multiple cases covering nearly 30 years, the California courts have opined on the sequence in which Montrose may access the excess insurance policies covering this period.  Montrose has argued it is entitled to coverage under any relevant policy once it has exhausted directly underlying excess policies for the same policy period – known as “vertical exhaustion”.  In contrast, the insurance companies consistently argued that Montrose may call on an excess policy only after it has exhausted every lower level excess policy covering the relevant years.  Under this “horizontal exhaustion” approach favored by carriers, an excess policy in one year does not need to pay unless and until all excess insurance policies at lower levels in all potentially applicable years have been exhausted.

Montrose wanted the right to select which excess policy would pay, so long as the underlying excess policies in that particular year had paid their applicable limits. Montrose wanted to be able to pick a second layer excess insurer in one year if the first-layer excess insurer had already paid — in other words, to have that second-layer excess insurer pay after $10,000,000 rather than after the $100,000,000 that the insurers wanted.

CA Supreme Court Ruling in “Montrose III”

The California Supreme Court agreed with Montrose.  To get to that ruling, the court looked back at its analysis in two previous decisions regarding the Montrose action.  In “Montrose I” the court confirmed the rule that “an insurer on the risk when continuous or progressively deteriorating damage or injury first manifests itself remains obligated to indemnify the insured for the entirety of the ensuing damage or injury,” up to the policy’s limit and “[t] here is no requirement that . . . the conditions giving rise to the damage or injury . . . themselves occur within the policy period in order for potential liability coverage to arise.” (Montrose Chemical Corp. v. Admiral Ins. Co. (1995) 10 Cal.4th 645, 686.) Extending that logic to the continuous injury context, it held that “bodily injury and property damage which is continuous or progressively deteriorating throughout several policy periods is potentially covered by all policies in effect during those periods.” (Id. at p. 689.) This is known as the “continuous injury trigger of coverage.”.

In “Montrose II”, the California Court of Appeal concluded that the plain language of the excess policies purchased by Montrose provide that they “attach not upon exhaustion of lower layer policies within the same policy period, but rather upon exhaustion of all available insurance.” (Montrose Chemical Corp. v. Superior Court (2017) 14 Cal.App.5th 1306, 1327.)

In “Montrose III”, the court noted that the case involves more than 115 excess insurance policies issued by 40 insurers during the 1961-1985 period and agreed with Montrose that, as “naturally read”, the policies entitled Montrose to access otherwise available coverage under any excess policy once it has exhausted directly underlying excess policies for the same policy period.  The court then brought a common sense perspective to the issue, noting that “because the exclusions, terms and conditions may vary from one policy to another, a rule of horizontal exhaustion would create significant practical obstacles to securing indemnification” Thereby requiring an insured, at considerable expense, to establish the right to coverage in every policy triggered by the continuous injury resulting in additional litigation for each layer of policies.

The court rejected the insurers’ arguments that the vertical exhaustion rule would be unfair to them, explaining that, while “a rule of vertical exhaustion permits Montrose to access excess insurance from any given policy period, provided the directly underlying insurance has been exhausted, insurers may seek contribution from other excess insurers also liable to the insured. The exhaustion rule does not alter the usual rules of equitable contribution between insurers.”

The court’s decision in Montrose III gives policyholders significant flexibility in pursuing insurance recoveries in continuous / long-term injury cases such as environmental, cleanup, construction defect and toxic tort.  It relieves insureds from the burden of having to litigate these issues and places the impetus on insurance carriers to seek recovery from other insurers – thereby, arguably, shifting economic efficiencies to those who can better afford such litigation.