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A Colorado federal district court dismissed breach of contract and bad faith claims against an insurer, finding that it had no duty to defend or indemnify the costs of responding to a Securities and Exchange Commission investigation.  Musclepharm Corp. v. Liberty Ins. Underwriters, Inc., 2016 WL 4179784 (D. Colo. Aug. 4, 2016).

MusclePharm sought coverage under a Liberty policy for the fees and costs incurred in responding to an SEC investigation.  The SEC initially notified MusclePharm that it was conducting an inquiry into the company’s operations and requested the production of certain documents.  The SEC later issued an order stating that it had “information that tends to show” possible violations of federal securities laws.  Liberty denied coverage as to both the initial letter and the subsequent order on the basis that they did not amount to a “Claim” for a “Wrongful Act.”  The court agreed.

The policy defined “Wrongful Act” as “any actual or alleged error, misstatement, misleading statement, act, omission, neglect, or beach of duty, actually or allegedly committed or attempted. . . .”  The court reasoned that this provision requires “a positive assertion that the implicated error or omission is believed to have actually occurred, even if still subject to proof.”  The court held that the SEC order did not meet this requirement because it did not allege that wrongdoing had transpired, but merely authorized the SEC to investigate further to determine whether “hypothetical violations did in fact occur.”  In reaching this conclusion, the court relied on provisional language in the SEC order (e.g., “if true tends to show”; “possible violation[s]”; and violations which “may have” occurred).  As discussed in our May 2013 Alert, the Sixth Circuit reached a similar conclusion in Employers’ Fire Ins. Co. v. ProMedica Health Sys., Inc., 2013 WL 1798978 (6th Cir. Apr. 30, 2013), involving an insurer’s duty to defend a Federal Trade Commission investigation.