Campbell v. Superior Court

contentions, deductions or conclusions of law. (Blank v. Kirwan (1985) 39 Cal.3d 311 , 318 [ 216 Cal.Rptr. 718 , 703 P.2d 58 ].) We consider neither the truth nor accuracy of the material factual allegations. (Committee on Children’s Television, Inc. v. General Foods Corp. (1983) 35 Cal.3d 197 , 213 [ 197 Cal.Rptr. 783 , 673 P.2d 660 ].) Those are matters to be resolved after the case has moved beyond pleading litigation. With those principles in mind, we recite the pertinent facts.

The Complaint

Raymond E. Campbell (Campbell) sued Farmers Insurance Group, Company, Inc. (Farmers) based upon Farmers’s failure to provide a defense to Campbell under a comprehensive general liability insurance policy.^[1] He alleged causes of action for breach of contract, breach of the implied covenant of good faith and fair dealing, and fraud. The operative facts, common to all claims and taken from the pleading’s allegations and the seven documents attached to the complaint and incorporated by reference, are the following.

Campbell, a general contractor, contracted with Bradley A. labour (labour) to build a residence for labour. On June 30, 1990, Campbell subcontracted with Gro-Mor Diversified, doing business as Acralight, to install skylights in the labour residence. Acralight was insured pursuant to a comprehensive general liability policy issued by Farmers.^[2] On July 9, 1990, Farmers issued a certificate of insurance adding Campbell as an additional insured to Acralight’s policy. The policy provided coverage of up to $1 million for the acts and omissions of the named insured and included a duty to defend any civil action for damages whether such action is groundless, false, or fraudulent.

On June 9, 1993, labour filed an action for damages against Campbell and Acralight for negligence, labour alleged that Acralight’s negligence in the design, fabrication, and installation of skylights had allowed water to enter his residence, thereby causing extensive damage. Campbell was served with the complaint on June 9, 1993.

of negligence arising from the conduct of Acralight. [U If you doubt the culpability or negligence of Acralight, the appropriate method of preserving these rights would be to accept the tender of coverage with a reservation of right. However, you have not followed this procedure. . . .”

On September 28, 1993, Farmers responded that its “denial remains firm.” “[Our] investigation has revealed that the leaks to Mr. labour’s roof were not due to our insured’s negligence. In fact any leaks that have occurred are due to another trade’s negligence or defect.”

Farmers, however, did accept Acralight’s tender of defense, hired counsel to defend Acralight, and settled with labour for $20,000 on behalf of Acralight.

As a result of Farmers’s refusal to defend him in labour’s lawsuit, Campbell engaged counsel and eventually settled with labour for $50,000.^[3] In so doing, Campbell incurred attorney fees and costs of $47,912.94.

All of the foregoing alleged facts were incorporated by reference into the second cause of action for breach of the implied covenant of good faith and fair dealing. Additionally, Campbell alleged that Farmers had a duty to act fairly and in good faith and to promptly investigate and to make reasonable coverage decisions on behalf of petitioner. Campbell alleged that Farmers breached its obligation to act fairly and in good faith in the following particulars: failing to properly investigate the labour lawsuit before refusing to defend and indemnify Campbell; denying Campbell a defense without proper cause and without regard to the provisions of the policy, relevant case law and the allegations in labour’s lawsuit about Acralight’s actions; accepting the defense of Acralight even though it refused Campbell’s request for a defense with the explanation that Acralight had not been negligent; denying both Campbell’s tender of defense and indemnity and labour’s settlement demand with the intent to coerce Campbell to forego the benefits of the insurance policy; denying its policy obligations to Campbell by asserting that he is not an insured, that an additional insured is not entitled to the duty to defend and that Farmers is not obligated to indemnify Campbell for the sum he paid to settle labour’s claim on the ground Acralight was not negligent; and that Farmers intended to coerce Campbell to forego the benefits of the insurance policy and based its coverage decision on its desire to reduce or avoid its obligation to Campbell. In addition to seeking recoupment of the sums expended in defending against and settling with labour, Campbell sought damages for emotional and mental distress as well as

economic loss (e.g., loss of business profits). Campbell also sought an award of punitive damages based on the allegations Farmers acted with conscious disregard of his rights and with the intent to vex, injure, or annoy him, so as to constitute oppression, fraud, or malice.

The Demurrer

In regard to Campbell’s cause of action for breach of the implied covenant of good faith, Farmers’s demurrer made the following substantive arguments. To the extent Campbell predicated his claim on Farmers’s refusal to defend, Farmers contended that as a matter of law it could not be liable on that theory because “[a]n insurer cannot be found liable for breach of the implied covenant of good faith for refusing to defend, such liability arises only from a refusal to settle a claim likely to exceed the policy limits.” And to the extent Campbell predicated his claim on Farmers’s refusal to settle with labour, Farmers, pointing to the fact that labour’s $350,000 settlement demand was less than the $1 million policy limit, urged: “Where the amount of all settlement demands was within the policy limits, and there was no potential that a judgment in excess of the policy limits would be entered, an insured cannot state a claim for breach of the implied covenant for failure to settle.”

Essentially, Farmers claimed that at most Campbell could state a claim for breach of contract to recover reasonable attorney fees and settlement costs.

The Trial Court’s Ruling

Insofar as is relevant to this proceeding, the trial court sustained without leave to amend Farmers’ demurrer to Campbell’s cause of action for breach of the implied covenant of good faith and fair dealing. Campbell’s cause of action for breach of contract remains.^[4]

Proceedings in This Court

Campbell filed a petition for a writ of mandate to challenge the ruling that his complaint was insufficient as a matter of law to state a cause of action for breach of the implied covenant of good faith and fair dealing.

Even though the lawsuit is still in the pleading stage, review through a petition for extraordinary relief is appropriate. Where a demurrer is sustained without leave to amend with respect to less than all of the causes of action, “mandamus will lie when it appears that the trial court has

429-430 and 432-434 [ 58 Cal.Rptr. 13 , 426 P.2d 173 ]; Johansen v. California State Auto. Assn. Inter-Ins. Bureau (1975) 15 Cal.3d 9 , 14-15 [ 123 Cal.Rptr. 288 , 538 P.2d 744 ]; Murphy v. Allstate Ins. Co. (1976) 17 Cal.3d 937 , 940 [ 132 Cal.Rptr. 424 , 553 P.2d 584 ]; Samson v. Transamerica Ins. Co. (1981) 30 Cal.3d 220 , 237 [ 178 Cal.Rptr. 343 , 636 P.2d 32 ].) The same distinction applies to the Court of Appeal decision relied upon by Farmers, Camelot by the Bay Condominium Owners’ Assn. v. Scottsdale Ins. Co. (1994) 27 Cal.App.4th 33 [ 32 Cal.Rptr.2d 354 ] (insurer had defended insured but rejected reasonable settlement offers). Consequently, insofar as this case is concerned, Comunale and its progeny merely stand for the proposition that if an insurer rejects a reasonable settlement offer within policy limits, it may become obligated to pay more than its policy limits.^[5]

Farmers next relies upon San Jose Prod. Credit v. Old Republic Life Ins. (9th Cir. 1984) 723 F.2d 700 . In a diversity action applying California law, the appellate court summarily concluded that the district court had erred when it had found that an insurer’s refusal to accept a defense breached the implied covenant of good faith and fair dealing. Citing all of the California Supreme Court cases we have just discussed, the court merely wrote: “California courts have consistently treated an insurer’s refusal to defend as a breach of contract rather than a breach of the implied covenant. [Citations.] Thus, [the insurer’s] refusal to defend, without more, amounted only to a breach of contract, not a breach of the implied covenant.” (Id. at pp. 703-704.) Farmers’ reliance upon this passage is unpersuasive for two reasons. The first is that federal opinions are not controlling authority in interpreting state law. (9 Witkin, Cal. Procedure (3d ed. 1985) Appeal, § 781, pp. 751-753.) The second, and more important, is that based upon our earlier analysis, we believe the opinion misconstrues the precedential value of the very cases it relies upon to support its conclusion.^[6]

Interestingly, Fanners and Campbell both cite California Shoppers, Inc. v. Royal Globe Ins. Co. (1985) 175 Cal.App.3d 1 [ 221 Cal.Rptr. 171 ], an appeal from a judgment entered following a lengthy jury trial, to support their respective positions. Each points to different passages in the opinion. There is no need for us either to dissect these various statements or to parse the 56-page majority opinion in that appeal. At this juncture, we merely set forth the following comment from the dissent because it amply explains why the majority opinion is of little value in resolving this case. “This case began as a dispute over the appropriate scope of the tort of bad faith, the majority arguing this was not an evidence case and a ‘mere’ refusal to defend could never be tortious. [¶] The majority now grudgingly concedes that there may exist a creature known as a bad faith refusal to defend. The majority then promptly consigns this creature to the River Styx for transportation. [¶] I begin my analysis by noting that the majority’s Star Chamber treatment of the evidence avoids a clear-cut treatment of when, if at all, a tortious bad faith refusal to defend exists.” (Id. at p. 78 (dis. opn. of Rickies, J.).)

Campbell relies heavily upon Tibbs v. Great American Ins. Co. (9th Cir. 1985) 755 F.2d 1370 , to support its contention that an insurer’s refusal to defend can support a claim by the insured for breach of the implied covenant of good faith and fair dealing. The matter was a diversity action, requiring application of California law. Following a jury trial, the insured prevailed on his claim that the insurer’s refusal to defend resulted in a breach of the covenant of good faith and fair dealing. The insured was awarded compensatory and punitive damages. To determine if the trial court properly allowed the jury to assess punitive damages, the appellate court had to decide if a failure to defend can result in a breach of the implied covenant. The court first acknowledged' the statement in San Jose Prod. Credit v. Old Republic Life Ins., supra, 723 F.2d at pages 703-704 that a refusal to defend, without more, does not constitute a breach of the implied covenant. But then relying upon case law from New York and North Dakota, it found that “a bad faith refusal to defend may constitute a breach of the implied covenant.” (Tibbs, supra, at p. 1375 .) Not surprisingly, Farmers attacks Tibbs on several grounds—that it overlooked controlling and contradictory California precedent;^[7] that it misinterpreted the out-of-state authorities; and that it was distinguishable because of “the particularly egregious facts presented” as to how and why the insurer refused to defend. These arguments need not detain us. As we have already noted, federal opinions, including Tibbs, do not constitute binding interpretations of state law. The main point is that because no California decision has squarely addressed the question of whether the

the defense and later refuses a reasonable settlement offer, but, on the other hand, an insured is denied tort recovery if the insurer simply refuses to defend. In the former situation, the insurer could be found liable for emotional distress damages and punitive damages (see, e.g., Crisci v. Security Ins. Co., supra, 66 Cal.2d 425 [emotional distress damages] and Neal v. Farmers Ins. Exchange (1978) 21 Cal.3d 910 [ 148 Cal.Rptr. 389 , 582 P.2d 980 ] [punitive damages]), but in the latter situation, the insurer’s liability would be limited to attorney fees and settlement costs expended by the insured. This dichotomy could have the effect of encouraging an insurer to stonewall the insured at the outset by simply refusing to defend because if it were later to be successfully sued by the insured because of that refusal, it (the insurer) would be in no worse position financially than if it had accepted the case, defended, and then settled. That is, an insurer considering the option of breaching an implied covenant would have a strong financial incentive to do so at the very outset by refusing to defend rather than risk the more expansive liability applicable to a breach of the implied covenant arising out of a later performance of its duties. In order to prevent that situation, the Supreme Court of North Dakota, in Smith v. American Family Mut. Ins. Co. (N.D. 1980) 294 N.W.2d 751 [ 20 A.L.R.4th 1 ], adopted the rule that a refusal to defend can give rise to tort liability.^[8] (See also Annot., Failure to Defend Insured (1983) 20 A.L.R.4th 23 .) We do likewise given the significance of the duty to defend in California law.

An additional policy consideration militates against adopting Farmers’ position. Limiting an insured to contract damages for breach of the duty to defend would result in inequitable treatment of insureds based upon their financial status. If the insured were financially capable of providing its own defense with minimal collateral damage, contract damages may well be adequate compensation for the money spent on attorney fees and settlement costs. But what of the insured who must use scarce assets or is forced to turn to a lender? Recoupment of expenses incurred would not make whole the insured who was required to sacrifice in order to finance a defense. And lastly, there is the insured who is financially incapable of mounting its own defense. Assuming that insured is able ultimately to successfully sue the insurer, contract damages would not even begin to compensate for the financial and emotional losses sustained prior to obtaining such a judgment. “Only a rule that recognizes the potentially tortious nature of a bad faith refusal to defend can assure that all insureds, rich and poor alike, will have the opportunity to recover all of their losses.” (California Shoppers, Inc. v. Royal Globe Ins. Co., supra, 175 Cal.App.3d at p. 84 (dis. opn. of Rickies, J.).)

defend. Consequently, Farmers had no occasion to contest the sufficiency of Campbell’s allegations assuming such a theory were viable. As such, any analysis on our part about the sufficiency of Campbell’s pleading would be nothing more than an advisory opinion. We decline to engage in an academic exercise. The most expeditious and fairest course of action is to direct the trial court to set aside its order sustaining the demurrer, to enter an order overruling the demurrer, and to permit the parties to continue pleading litigation if they are so disposed.^[9]

In a similar vein, we decline to address Farmers’ argument that to the extent that Campbell’s claim for breach of the implied covenant is based upon Farmers’ refusal to accept labour’s offer to settle, the claim fails because labour’s offer was substantially under the policy limits. The primary basis of Campbell’s claim of breach of the implied covenant is Farmers’ refusal to defend. We entertained Campbell’s petition solely to resolve the issues raised by that allegation. This secondary aspect of Campbell’s claim can be litigated in the trial court.

Disposition

The alternative writ, having served its purpose is discharged. The order staying further proceedings in the trial court is lifted. Let a peremptory writ of mandate issue compelling respondent court to set aside its November 2, 1995, order sustaining without leave to amend Farmers’ demurrer to the cause of action for breach of the implied covenant of good faith and fair dealing pled in Campbell’s complaint, to enter a new and different order overruling that demurrer, and to proceed consistent with the views expressed herein.

Epstein, J., and Hastings, J., concurred.

On May 20, 1996, the opinion was modified to read as printed above.