Kansas Federal Court Applies Prejudice Requirement to Pollution Buy-Back Endorsement

In its recent decision in PetroSantander (USA), Inc. v. HDI Global Ins. Co., 2018 U.S. Dist. LEXIS 59696 (D. Kan. Apr. 9, 2018), the United States District Court for the District of Kansas, applying Texas law, had occasion to consider whether an insurer need be prejudiced based on an insured’s untimely reporting under a pollution buy-back endorsement.

HDI insured PetroSantander under a general liability policy with a limited pollution liability buy-back endorsement, affording coverage for pollution incidents of a limited temporal duration and only then when reported to HDI within 120 days after the incident first becomes known to the insured.  PetroSantander sought coverage for a pollution incident that it reported to its broker within forty days of its happening, but which was not reported to HDI until 141 days of the event.   At issue in the subsequent litigation was whether HDI needed to demonstrate prejudice as a result receiving first notice three weeks after the expiration of the reporting period.

In analyzing this question, the court observed that Texas courts have long recognized that prejudice is a consideration for late notice under occurrence based policies as well as for reporting within the policy period of a claims made and reported policy.  HDI nevertheless cited to two decisions from the United States Court of Appeals for the Fifth Circuit, both of which predicted Texas law on the very issue: Matador Petroleum Corp. v. St. Paul Surplus Lines Inc. Co., 174 F.3d 653 (5th Cir. 1999) and Starr Indemnity & Liability Co. v. SGS Petroleum Service Corp., 719 F.3d 700 (5th Cir. 2013). In both cases, the Fifth Circuit held that given the limited coverage afforded under a pollution buy-back endorsement, prejudice is not a relevant consideration.

Notwithstanding these two cases, the PetroSantander court predicted that the Texas Supreme Court would not follow their holdings.  In particular, the court reasoned that both Fifth Circuit cases did not properly analyze Texas law on prejudice, and in particular Order 23080 issued by the Texas Department of Insurance, which establishes a prejudice requirement for policies issued or delivered in Texas.  As the court explained:

Neither Matador nor Starr provide any analysis of Order 23080, explain why the Order did not apply under the circumstances presented, or even mention the Order. The Court has no convincing evidence before it that the Fifth Circuit silently considered and rejected the application of Order 23080 to Matador and Starr, and Defendant’s arguments fail to persuade the Court otherwise. Rather, a review of Fifth Circuit opinions specifically citing Order 23080 demonstrates that the Fifth Circuit has recognized not only that the Order applies to CGL policies, but also that the Order is “mandatory” and effectuated a “change in Texas insurance law.”

Thus, breaking with Matador and Starr, the court held that prejudice would be required under Texas law for failure to comply with the 120 reporting period, and that as such, and given HDI’s failure to demonstrate any prejudice as a result of the receiving notice 141 days after the insured’s discovery of the pollution incident, the court held that the insured was entitled to coverage for the incident.