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GTE CORP. v. ALLENDALE MUT. INS. CO.

March 26, 2003

GTE CORPORATION, PLAINTIFF,
v.
ALLENDALE MUTUAL INSURANCE COMPANY, AFFILIATED FM INSURANCE COMPANY, ALLIANZ INSURANCE COMPANY, FEDERAL INSURANCE COMPANY, INDUSTRIAL RISK INSURERS, DEFENDANTS.



The opinion of the court was delivered by: Alfred Wolin, Senior District Judge.

OPINION

This matter comes before the Court on the motion of defendants Allendale Mutual Insurance Company ("Allendale"), Affiliated FM Insurance Company ("Affiliated"), Allianz Insurance Company ("Allianz"), Federal Insurance Company ("Federal"), and Industrial Risk Insurers ("IRI") (collectively, "defendants"), pursuant to Federal Rule of Civil Procedure 56, for summary judgment on Counts One and Two of the Complaint. Defendant Allendale has also moved for summary judgment on Count Three of the Complaint. Defendant IRI filed a supplemental memorandum of law in support of the motion for summary judgment on the first two counts. Defendant Federal moved for summary judgment on Counts One, Four, Five, Six, and Seven of its Counterclaim. Plaintiff GTE Corporation ("GTE") has cross moved for summary judgment on Phase I issues. The Court has decided these motions upon the written submissions pursuant to Federal Rule of Civil Procedure 78. For the reasons set forth herein, the defendants' motion for summary judgment on Counts One and Two will be granted. Defendant Allendale's motion for summary judgment on Count Three will likewise be granted. The plaintiff's motion will be denied, and the supplemental motions brought by defendants IRI and Federal will be granted.

BACKGROUND

With the benefit of hindsight, it is safe to say that the arrival of the year 2000 did not lead to widespread damage or destruction, as many had predicted. The New York Times reported on the first day of that new year that "[d]espite a few sputters and glitches, the world's computers appear to have survived the year 2000 rollover without major problems — and with humanity's faith in technology intact, at least for another day."*fn1 Three years later, it is difficult to recall ever anticipating that worldwide massive computer failures would accompany the new year.

The courts now bear witness to the reality of that fear and to the extensive preparations undertaken to avoid any damage or destruction. The anticipated Year 2000, or Y2K, problem spawned massive litigations throughout the country, and this case is but one example.

I. Procedural History

GTE filed this declaratory judgment action on or about June 18, 1999, seeking coverage for costs and expenses it incurred remediating its computer systems to avoid year 2000-related date recognition problems. The first count of GTE's complaint sought a declaratory judgment that GTE's costs associated with preventing Y2K-related loss were covered by the sue and labor provisions in the policies, and the second count alleged a breach of contract. The third count sought damages from defendant Allendale for bad faith. Each defendant answered the complaint. Defendant Federal counterclaimed seeking a declaration denying coverage. On August 31, 2000, the U.S. Magistrate Judge entered an order dividing the litigation into phases. In Phase I, the parties were to address whether insurance coverage existed for the plaintiff's claim under any of the first-party property insurance policies named by the plaintiff in the complaint. With some guidance from this Court, the parties proceeded through discovery on the Phase I issues, and on or about October 16, 2002, the parties filed the instant summary judgment motions.

II. Factual Background

A. GTE & the Y2K Problem

The Court presumes that its readers have at least a basic understanding of the Year 2000, or Y2K, problem. Seemingly, for many years, computer programmers wrote computer codes using only two digits to specify the calendar year, instead of four digits. When a year was designated as "88," the computer would presume that the first two digits were "19," and it would read the date as "1988." The year 2000, therefore, presented a problem, because computers with time sensitive applications would not be able to recognize that 2000 followed after 1999, and would instead erroneously read the number as 1900. More artfully stated, at the heart of the Y2K problem lay "the inability of computers, software and other equipment utilizing microprocessors to recognize and properly process date fields containing a two-digit year."*fn2

At the time this case was filed, GTE was a New York corporation with its principal place of business and corporate headquarters in Irving, Texas. Prior to 1998, GTE was headquartered in Stamford, Connecticut. At some point after the start of this action, GTE was acquired by Bell Atlantic Corporation, which is now Verizon Communications, Inc.

GTE was one of the world's leading telecommunications providers. According to GTE's 1998 10-K report, the company's revenues for that year amounted to more than $25 billion. Domestically and internationally, GTE and its affiliates provided a variety of telecommunication services, including local telephone, wireless, and internet services. GTE also provided communications and intelligence systems for the military and federal government.

GTE owned and operated a substantial number of computer based systems and networks which generally employed the common practice of using two digits to represent the year. By 1994, GTE had realized that the Y2K rollover presented a sizeable problem. According to GTE, its computer systems faced the threat of significant harm, such as breakdowns from corrupted data or overall system failure. GTE also feared that the loss of functioning computers and accurate data would lead to an interruption in its business operations and its ability to provide essential services to its customers.

GTE responded by developing its own Y2K program to prevent any such damage. By 1994, GTE had begun its Y2K preparations. In December of that year, GTE Service Corporation published "Algorithmic Anarchy: Chaos in the Year 2000" in an internal GTE publication. That report identified the Y2K problem, and discussed the potential impact Y2K would have on GTE's business.

GTE launched its official Y2K program in June 1995. That July, GTE established the corporate level Program Management Office ("PMO") to deal with the Y2K issue. The PMO developed strategies for addressing the Y2K problem and coordinated Y2K efforts among GTE's various business units. A. Gerald Roth, who headed the PMO, stated that the program office's objective "was to assure that whatever operational functionality we had in the company in 1999 we still had in 2000." (Appendix to the Affidavit of Henry J. Catenacci ("Catenacci App.") Vol. 6, Ex. 103, Deposition of A. Gerald Roth at 36:16-36:19.) It was at this time that GTE began drafting its "Criteria for Century Compliance," which was completed in 1996. This report identified the Y2K "challenge," and discussed certain criteria formulated to address the problem.

GTE determined that an extensive amount of its insured property would be affected by Y2K, such as its "computer hardware, equipment, software programs, electronic media, and the extensive data generated, maintained, and stored thereon," including:

multiple deployments of over 900 application systems with roughly 172 million lines of COBOL-equivalent code; the telecommunications elements of GTE's portion of the Public Switched Telephone Network ("PSTN") and the systems that support GTE's network operations and interactions with its customers, consisting of approximately 3,200 clusters of central office or remote switches, approximately 350 clusters of complex network management systems, and approximately 700 clusters of network support systems; countless units of more than 15,000 unique products supplied to GTE by more than 6,000 vendors; 70,000 desktop personal computers and the software, network applications, and hardware that supports them; and more then 400 internal corporate systems, including corporate banking and financial systems, human resource systems, intracompany data networks, electronic commerce interfaces, company interfaces, email, facility services, aviation support systems and the GTE intranet.
(Catenacci App. Vol. 4, Ex. 69 at 6.) GTE believed that when computer applications began to analyze problematic dates, or what it termed "Event Horizons"*fn3 (such as January 1, 2000, or February 29, 2000), it would suffer "a loss, including the generation, use, or transmission of corrupted or distorted data, the loss of data, the failure of system operations, and the loss of use, access and/or functionality of such systems." (Id. at 9.)

GTE organized its Y2K program into five phases: (1) awareness; (2) assessment; (3) renovation and conversion of affected systems; (4) verification and validation of completed systems; and (5) implementation. According to GTE, its Y2K program was intended to allow "its hardware, firmware and software . . . to calculate, compare, sequence and manipulate data with dates before, through and beyond January 1, 2000. As a result of these efforts, GTE's products and systems are expected [to] continue to process date and date-related data without experiencing any substantial decrease or interruption in performance as a result of the century transition." (Appendix to Certification of Shawn F. Fagan ("Fagan App.") Vol. 2, Ex. 18 at 26.)

After GTE's business units identified their systems which might be affected by Y2K, GTE developed Enterprise Plans for each business unit. The business units then developed their own plans for addressing those identified issues. By 1997, GTE had begun the process of converting and testing any affected products and systems.

Between December 1996 and June 1999, GTE spent an extraordinary amount of money on its Y2K remediation efforts.

B. The Policies at Issue

For over fifty years, defendant Allendale was the sole provider of property insurance for GTE. In 1996, GTE sought broader coverage, and turned to its broker, Johnson & Higgins Marsh ("J & H"), to procure new coverage. J & H employed a mantlscript form, which was included in the marketing submission sent to various insurers, including the defendants. Marsh proposed that the insurers use this manuscript form for the first $50 million layer of coverage. GTE ultimately agreed to a quota share program from a panel of insurers, including the defendants. Affiliated insured 40 percent of $50 million on the primary layer; IRI and XL each insured 20 percent, and Allianz and Federal each insured 10 percent. For the $350 million layer of coverage in excess of $50 million, Allendale insured 40 percent, IRI and XL each insured 20 percent, and Allianz and Ace each insured 10 percent.*fn4 The manuscript used for the excess layer policies was provided by the carriers. The original term of each policy at issue ran from July 1, 1996 to July 1, 1999, but in 1997, the parties all agreed to extend the policy period to July 1, 2000.

C. Coverage

The primary layer policies provide in pertinent part:

COVERAGE

Except as hereinafter excluded, this policy covers:

a. Real and Personal Property

(1) The interest of the Insured in all real and personal property (including improvements and betterments) owned, used, or under contract to be purchased or leased by the Insured, or hereafter constructed, erected, installed, or acquired including while in the course of construction, erection, installation, and assembly.
b. Business Interruption — Gross Earnings
Coverage shall apply under this section unless there is a loss of profits policy in force covering the location where loss is incurred.
(1) Loss resulting from necessary interruption of business conducted by the Insured and caused by loss, damage, or destruction by any of the perils covered herein during the term of this policy to real and personal ...

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