For the most part, an insured must prove that a reservation of rights creates a conflict before it is possibly entitled to independent counsel at the insurer’s expense. There are a handful of states where a reservation of rights, despite the specifics of the situation, creates a per se conflict, automatically giving rise to the insured’s right to independent counsel. One of those states is Mississippi, as established by the Mississippi Supreme Court’s 1996 decision in Moeller v. American Guarantee. The 4th edition of Insurance Key Issues discusses Moeller and its progeny. See Vol. 1, pp. 242-43. [Shameless plug. Sorry.]

But the insurer in Grain Dealers Mut. Ins. Co. v. Cooley, No. 17-60307 (5th Cir. May 14, 2018) retained counsel for its insured, in a Mississippi case, and did not offer the insured the right to select its own counsel to defend the claim. The insurer was penalized for this violation of the Moeller rule. However, the decision can be read as one that is pro-insurer.

The Cooleys, the former owners of a gas station, sought coverage from Grain Dealers Mut. Ins. Co. for an environmental contamination claim brought by the Mississippi Department of Environmental Quality. Grain Dealers responded by stating that it owed no coverage for any clean-up costs, but would provide a defense. Grain Dealers hired an attorney to defend the Cooleys, but did not offer them, ala Moeller, the opportunity to hire an attorney of their choice.

The MDEQ concluded that the Cooleys and Pine Belt Oil Co., the purchaser of the Cooley’s gas station, must remediate the spill site. “The order stated that if the Cooleys were ‘aggrieved’ by that conclusion they could ‘request a hearing before the [MDEQ] . . . within 30 days after the date of [the] Order.’ Neither the Cooleys nor Grain Dealers’ hired counsel did so. Nor did Grain Dealers’ hired counsel inform the Cooleys of their right to request a hearing.”

Years later Pine Belt demanded indemnification from the Cooleys for the cost of compliance with the MDEQ order. The Cooleys sought coveage from Grain Dealers, which denied the request, citing a Total Pollution Exclusion. Grain Dealer filed a declaratory judgment action seeking a determination of no duty to defend or indemnify.

At issue was the impact of the failure of Grain Dealers to offer the Cooleys independent counsel. The trial court held that this failure did not estop Grain Dealers from denying coverage as the Cooleys were not prejudiced by the lack of independent counsel.

The Fifth Circuit disagreed. First, the appeals court rejected the insurer’s argument that it was not a Moeller situation: “Grain Dealers argues that Moeller does not control because Grain Dealers did not defend under a ‘reservation of rights.’ The Moeller court, however, was concerned with conflicts that occur when an insurer provides a defense ‘while at the same time reserving the right to deny coverage in event a judgment is rendered against the insured.’ We see no relevant distinction between Grain Dealers’ outright denial of coverage from the start versus a reservation to later deny coverage. Grain Dealers’ refusal to ultimately cover the claim creates the same conflict of interest addressed in Moeller.”

More importantly, from a global and offering a take-away standpoint, the court held that the Cooleys were prejudiced by the lack of independent counsel: “Grain Dealers’ attorney never informed them of their right to challenge the MDEQ decision. That right has since lapsed. The loss of the right to challenge the underlying administrative order with the benefit of non-conflicted counsel is clearly prejudicial.”

While Grain Dealers lost, and the entire affair was caused by its failure to comply with Moeller, the decision is actually pro-insurer. While Moeller mandates that a reservation of rights automatically gives rise to the insured’s right to independent counsel, Cooley rejects the notion that a failure to follow Moeller mandates estoppel of the insurer’s right to apply coverage defenses. The insured must prove that it was prejudiced by the Moeller violation. While that was easily doable here, it is unlikely to be so easy in most situations, as panel counsel will likely handle the case in the similar manner as independent counsel. Grain Dealers lost the battle. Insurers won the war.