On appeal from Superior Court of New Jersey, Law Division, Union County, Docket No. L-3144-05.
NOT FOR PUBLICATION WITHOUT THE APPROVAL OF THE COMMITTEE ON OPINIONS
Before Judges Wefing, R. B. Coleman and Lyons.
This case examines whether a directors and officers (D&O) insurance policy affords coverage for defense costs and damages arising from a suit alleging misrepresentations regarding contingent liabilities for pollution claims made following a multi-step transaction to reorganize and merge businesses. The insurer, Royal Indemnity Company (Royal), denied coverage relying on the pollution exclusion provisions in its policy. Sealed Air Corporation (Sealed Air), the insured, sued and the trial court found coverage, concluding that the alleged pollution at issue was too attenuated from the damages arising from the alleged misrepresentations to trigger the pollution exclusion provision in the Royal policy. After consideration of the contentions advanced on appeal, we affirm the trial court.
The background leading up to this dispute is as follows. W.R. Grace & Co.'s (Old Grace) asbestos liability stemmed in large part from its 1963 acquisition of Zoolite Co., including its fireproofing business and related vermiculite mining operations in Libby, Montana, which it operated until 1990. Because of the contamination that resulted from the mining operations, Old Grace settled 177 property damage suits and claims for $241.8 million and 23,700 personal-injury suits for $109 million through the end of 1995. Old Grace was also held liable for $74.7 million in damages in seven property damage cases. During the fourth quarter of 1996, Old Grace took a $229 million pre-tax charge for asbestos litigation which resulted primarily from its estimate of the costs associated with asbestos personal injury claims to be filed against it during the five-year period from 1997 through 2001. In 1995, Old Grace had reserved for such expenses based on a three-year projection.
Through a series of transactions in 1998, Old Grace reorganized, spinning off its specialty chemical business and merging with Sealed Air, an independent corporation at that time. In March 1998, Old Grace, a holding company for an operating company called W.R. Grace & Co.-Conn. (Grace-Conn.), caused Grace-Conn. to transfer the assets of its packaging business to a newly formed subsidiary of Grace-Conn., called Cryovac, Inc. (Cryovac). The stock of Cryovac was then transferred to the direct ownership of Old Grace. The end result was that Old Grace, a holding company, held the two companies, Grace-Conn. and Cryovac, as subsidiaries.
Old Grace had also formed a new subsidiary in 1997, called Grace Specialty Chemicals (New Grace). Old Grace contributed the stock of Grace-Conn. to New Grace. In 1998, New Grace was spun off from the holding company, Old Grace, and became an independent company when Old Grace distributed New Grace's common stock on a pro rata basis to the holders of Old Grace's common stock. New Grace was renamed "W.R. Grace & Co." All of the liability for Old Grace's pollution was to remain with this entity.
Next, Old Grace was recapitalized by providing to each of its shareholders a fraction of a share of new common stock and a share of preferred stock for each outstanding share of Old Grace. In 1998, Sealed Air, an independent corporation, was then merged into a newly-created subsidiary of Old Grace, which was then renamed Sealed Air-U.S. Old Grace, which at that time owned Sealed Air-U.S. and Cryovac, was renamed "Sealed Air Corporation." The Sealed Air merger was completed by its shareholders receiving one share of the newly renamed Sealed Air Corporation (formerly Old Grace) stock. As a result of the merger, the former Old Grace shareholders held approximately sixty-three percent of the newly renamed Sealed Air capital stock.
Before the merger transaction was consummated, KPMG Peat Marwick LLC, Old Grace's independent auditor, analyzed and quantified the extent of its future potential asbestos bodily injury liabilities and determined that New Grace would remain solvent after the transaction. At a mid-August 1997 board meeting, KPMG's quantification report, along with reports of the Old Grace's CFO and an outside consultant, opined that New Grace would be solvent after the merger transaction.
The complaint in the underlying securities fraud litigation claims that Sealed Air's "plan to paper over the solvency/fraudulent transfer issue culminated" at this meeting with the presentation of the KPMG report. The CFO of Old Grace and an outside consultant, Houlihan, Lokey, Howard & Zukin, both relied on the report in rendering their opinions that New Grace would be solvent after the transaction. Sealed Air, at that time still an independent corporation, hired its own consultant, who, in turn, relied on the KPMG report. The KPMG report, the complaint alleges, was "rigged" by Old Grace. The complaint alleges that Old Grace went to seventeen different law firms with a history of filing asbestos-related claims, and "procured a moratoria on their filing of claims. Claims from those law firms dropped precipitously, almost to zero." Therefore, the underlying complaint alleges that KPMG's "quantification of the asbestos liabilities in the KPMG report was based on the apparent leveling off of the number of asbestos claims asserted against [Old Grace]."
The statements, therefore, that were made at the board meeting, and at a March 1998 special meeting of stockholders, were all allegedly tainted by the KPMG report. In addition, the complaint alleges that securities analysts, based on this information, wrote reports which were publicly available and entered the public marketplace. The complaint alleges that the plaintiffs in the underlying litigation, "in reliance on the integrity of the market, . . . paid artificially inflated prices for Seal Air publicly traded securities."
On March 27, 2000, after the merger and reorganization had been consummated, Sealed Air filed its 1999 Form 10-K with the Securities and Exchange Commission (SEC). The 1999 Form 10-K made the following disclosure with respect to Sealed Air's potential liability for the asbestos-related liabilities of New Grace:
In connection with the Merger, New Grace retained, and agreed to indemnify and defend the Company against, all liabilities of Grace, whether accruing or occurring before or after the Merger, other than liabilities arising from or relating to Cryovac's operations. As a result, New Grace is obligated to indemnify and defend the Company [Sealed Air] in a small number of actions raising asbestos-related claims in which the Company has been named as a defendant as the alleged successor to Grace because of the Merger. The Company believes that such claims are without merit as to the Company and intends to defend vigorously these actions. Based upon currently available information, the Company believes that future costs, if any, related to such actions and other indemnified liabilities will not have a material adverse effect on the Company's results of operations or consolidated financial position.
Subsequently, Sealed Air filed its 2000 Form 10-K on March 23, 2001 and its 2001 Form 10-K on March 27, 2002. Sealed Air also filed Forms 10-Q on May 12, 2000, August 11, 2000, November 13, 2000, May 31, 2001, August 10, 2001, November 13, 2001, and May 14, 2002. In addition, there were various press releases disseminated by Sealed Air from October 2000 to July 2002. The complaint alleges that these documents presented Sealed Air's financial results and statements in a manner which violated Generally Accepted Accounting Principles (GAAP). Furthermore, the complaint alleges that the undisclosed adverse information concealed by defendants during the Class Period [March 27, 2000 to July 30, 2002] is the type of information which, because of SEC regulations, regulations of the national stock exchanges and customary business practice, is expected by investors and securities analysts to be disclosed and is known by corporate officials and their legal and financial advisors to be the type of information which is expected to be and must be disclosed.
In April 2001, the number of new asbestos-related lawsuits filed against New Grace forced it to file for reorganization under Chapter 11 of the Bankruptcy Code. In May 2002, a committee of its creditors commenced an adversary action, alleging that the corporate reorganization transaction outlined above constituted a fraudulent conveyance. In July 2002, the federal court overseeing the bankruptcy proceedings held that New Grace's solvency at the time it was spun off from Old Grace should have been determined based upon its actual future liabilities on the date of its establishment, not the then reasonable estimates of potential future liabilities.
On the day of the federal judge's ruling, Sealed Air's stock dropped by forty-one percent. The following day, the price dropped again, off thirty-four percent from the previous day's close. The reason for the decline was that if the spinoff were found to have been a fraudulent transfer, Sealed Air might have to return the assets of Cryovac to the bankrupt estate or be found responsible for the asbestos liabilities of Old Grace and its subsidiaries. Sealed Air subsequently reached a settlement with the creditors' committee, paying it $850,000,000 in stock and cash. On the day that the settlement was announced, the Sealed Air stock rose 56.5%.
On September 19, 2003, the underlying securities case, a putative class action, was filed in the United States District Court, District of New Jersey against Sealed Air and its directors and officers. The claimants alleged that the directors and officers of Sealed Air caused its stock to trade at artificially inflated levels through the issuance of false and misleading statements, thereby injuring its stockholders. The complaint specifically alleges violations of section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C.A. 78j(b), and Rule 10b-5, 17 C.F.R. 240.10b-5, promulgated thereunder, as well as a violation of section 20(a) of the Securities Exchange Act of 1934, 15 U.S.C.A. 78t(a). The pertinent portions of the complaint state:
208. During the Class Period [March 27, 2000 to July 30, 2002], defendants disseminated or approved the false statements specified above [concerning the liability of New Grace], which they knew or recklessly disregarded were materially false and misleading in that they contained material misrepresentations and failed to disclose material facts necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading.
. . . . 210. Lead Plaintiff and the Class have suffered damages in that, in reliance on the integrity of the market, they paid artificially inflated prices for Sealed Air publicly traded securities. Lead Plaintiff and the class would not have purchased Sealed Air publicly traded securities at the prices they paid, or at all, if they had been aware that the market prices had been artificially and falsely inflated by defendants' misleading statements. 211. As a direct and proximate result of these defendants' wrongful conduct, Lead Plaintiff and the ...