Insured's bad behavior destroys coverage for TM infringement

State Farm Fire & Casualty Co. v. King Sports, Inc., --- F. Supp. 2d ---, 2011 WL 6062222 (N.D. Ga.)

King Sports sold golf clubs online and had a business liability policy with State Farm as of Dec. 2002 that listed Jimmy Chang as the owner and primary contact. In late 2007, State Farm received notice of two separate lawsuits filed against King Sports by Callaway Golf and Nike for alleged trademark infringement. State Farm hired counsel and King Sports settled both suits, paying Callaway $18,500 and Nike $17,500. State Farm paid the full amount of the Callaway settlement and $15,000 of the Nike settlement.

In mid-2008, Cleveland Golf sent King Sports a C&D alleging trademark infringement. State Farm sent King Sports a letter stating that State Farm reserved its right to not defend or indemnify King Sports under certain policy exclusions. State Farm sent another letter a few days later stating that State Farm was trying to talk to Chang about Cleveland’s letter and requesting that Chang contact the insurer immediately to discuss the issue.

King Sports continued to sell the allegedly infringing products, and in mid-2009 Cleveland Golf sued. State Farm informed King Sports and Chang that (1) State Farm had hired Bruce Hedrick to represent them, and (2) the policy required them to cooperate with State Farm in defending the lawsuit. However, according to Hedrick, King Sports and Chang completely failed to communicate with him, despite numerous telephone calls, text messages, email, and regular mail. The only person Hedrick ever managed to talk to was employee Andy Lee, who gave mixed messages about his authority, and contact with him ceased in early 2010 when he told Hedrick that he was no longer affiliated with King Sports.

On its own, State Farm also failed to make contact, despite sending nine letters over a 1-year period. In November 2009, a claim representative visited the business address listed on the policy but found it vacant. State Farm also had no working telephone number for Chang, so State Farm personnel searched the Internet trying to find working contact information, and used its own internal investigation division to search for names, addresses, and phone numbers for Chang and King Sports.

In January 2010, after receiving numerous extensions from the Court, Hedrick filed an answer in the underlying suit, but he testified that he didn’t feel that his answer was adequate due to his inability to communicate with his clients. In March, he filed a motion to withdraw due to his clients' complete lack of cooperation.

Also in March, Cleveland Golf’s counsel sent King Sports and Chang an email in Mandarin and English stating that a failure to cooperate and communicate with Hedrick could jeopardize insurance coverage. Cleveland Golf’s counsel included a message from Hedrick stating that if King Sports and Chang wanted Hedrick to represent them they needed to contact him immediately. Though the email supplied extensive contact information, there was no result, and a few weeks later the court granted the motion to withdraw.

According to Lee's deposition, Cleveland Golf told him that if he would sign a settlement agreement, then Cleveland Golf would stop contacting King Sports. State Farm discovered these discussions and in June sent King Sports and Chang another letter reiterating the contact request and quoting the relevant portion of the policy prohibiting them from settling with Cleveland Golf without State Farm’s consent. No result; in July, King Sports and Cleveland Golf settled in an agreement executed by Lee as “owner.” King Sports consented to a $1 million judgment, “a decidedly larger sum than Cleveland Golf had negotiated in prior settlement agreements with other alleged infringers in similar cases.” Indeed, of the about 50 settlements Cleveland Golf had entered into with alleged infringers in the past ten years, none involved more than $10,000. King Sports assigned its claims against State Farm to Cleveland Golf.

In January 2010, State Farm filed a complaint for declaratory judgment against King Sports and Cleveland Golf for a declaration that it owed King Sports and Chang no coverage; Cleveland Golf counterclaimed for breach of the duty to defend and indemnify.

The court first rejected State Farm’s argument that the policy’s exclusion of willful advertising or personal injury insulated it from any claims. State Farm’s evidence of willfulness was insufficient. Lee testified that King Sport knew it was selling imitation Cleveland Golf merchandise “the entire time” he worked for the company. But that didn’t definitively show that King Sports knew that its actions would result in advertising injury to Cleveland Golf. Lee’s other answers were “far from clear.” When asked whether King Sport knew that its actions could “violate” Cleveland Golf’s trademark, he said, “I believe that a normal person all know about his knowledge on that,” and when that was followed up with “So did you know that selling imitation golf clubs of Cleveland Golf violated their trademarks?” he responded, “I only received these mails and I send out orders. Anything that's to do with these [sic] merchandise, that is the owner's business.” This “wonderfully imprecise” testimony didn’t show that as a matter of law King Sports knew that its actions would result in infringement. “Lee provides no direct answers to the questions, and to say the least, it is difficult to understand what he believed King Sports knew.” In addition, State Farm’s coverage ended in December 2008 and Lee didn’t start working at King Sports until February 2009, so he didn’t have knowledge of the relevant time period.

The court also rejected State Farm’s argument that the Callaway and Nike lawsuits placed King Sports on notice. State Farm didn’t provide enough evidence that the situations were so similar that King Sports should have known that it was infringing Cleveland Golf’s marks. The earlier cases settled without a verdict, and King Sports might not have known which activities actually constituted infringement. Moreover, State Farm had no authority to support the idea that an infringement lawsuit by one entity constitutes notice to the insured that the same type of activity is infringing another’s rights. The court found notice “conceivable” under such circumstances, but the other lawsuits weren’t themselves sufficient as a matter of law.

Finally, State Farm pointed to the testimony of Stephen Gingrich, vice-president of global legal enforcement for Cleveland Golf. Based on the June 2008 C&D and emails in October and November 2009, Gingrich was “quite confident” that King Sports knew it was violating Cleveland Golf’s rights. But State Farm didn’t provide a copy of the C&D or prove that King Sports ever received it. The emails were irrelevant because they related to King Sports's knowledge outside the coverage period.

Have no fear for State Farm, however: King Sports and Chang breached the policy condition requiring them to cooperate in good faith in the defense and investigation of the underlying suit, and were entitled to no coverage. Failure to cooperate must be material, not technical or inconsequential, and it was here. Hedrick was unable to get information from Chang or King Sports about the allegedly infringing products and ads, discuss Cleveland Golf’s settlement offer, or file mandatory initial disclosures. Where the insured cooperates to some degree or explains its noncooperation, a jury must resolve the factual questions, but here King Sports and Chang provided Hedrick with no substantive information in the underlying suit. Hedrick did speak with Lee a bunch of times, but their conversations were about how Hedrick needed to talk to the person in charge.

State Farm also needed to show that King Sports acted acted willfully and fraudulently, which it did. Though Lee told Hedrick that Lee was no longer affiliated with King Sports and asked Hedrick to stop contacting him, Lee continued to communicate with Cleveland Golf. Lee testified that he knew State Farm should be contacted first, but he signed a settlement agreement to get Cleveland Sports to stop harassing King Sports.

Finally, State Farm also needed to show that it acted diligently and in good faith in securing information from King Sports and Chang. It did so through its extensive contact efforts. Along with letters, calls, and emails, State Farm even sent an agent to a new address it found for Chang. The person who answered the door said that Chang didn’t live there, but did keep some of his stuff there. The agent left copies of several letters there.

These efforts resulted in only three responses. In September 2009, a man called, identifying himself as Jimmy Chang. “He stated that he had received the contact letter from State Farm and wanted to know what it was in reference to. When asked if he was the owner of King Sports, he said that he was not and that Jimmy Chang was out of the country but that he might be able to get a message to him.” In July 2010, a man identifying himself as Jimmy Chang's father called State Farm and stated that Chang had nothing to do with the lawsuit. In August 2010, a man identifying himself as Jimmy Chang claimed that he was not the same Jimmy Chang as the one named in the lawsuit and asked that State Farm not contact him any further. (I feel sympathy for any other Jimmy Changs who may have gotten caught up in the hunt.)

Cleveland Golf argued that State Farm manufactured a non-cooperation defense, and that as of November 2009, after only two contact attempts, State Farm decided that King Sports wasn’t cooperating. The central evidence was a voicemail from Hedrick to Cleveland Golf’s counsel from November 2009 in which Hedrick said, “I think State Farm had made a compromise settlement offer to your client at some point, and was sort of in a window where, from what State Farm has told me, they're going to pay that but about to just move forward with the dec action because the insured is not cooperating with them and unfortunately, at the moment, not cooperating with me to enable me to file an answer. I think an answer is due here in a couple of days so I'll have to figure out how to deal with that situation. But to the extent that your client had any settlement interest relative to State Farm, now would be the time, it appears.”

The court found that, even if State Farm intended to file a declaratory judgment action, that didn’t deprive it of good faith. State Farm waited until January 2010, after many additional efforts, to file, and in any event State Farm already had good reason to believe that King Sports would be uncooperative. It had received no response to its June 2008 letters asking King and Chang Sports to contact it regarding Cleveland Golf's C&D letter. At that time, Jimmy Chang's son Ike Chang, who had previously cooperated in the Nike and Callaway cases, told State Farm that he was unwilling to assist in the Cleveland matter. When State Farm attempted to call King Sports on August 20, 2009, the number was disconnected.

Cleveland Golf argued that State Farm acted in bad faith because it did not alert Hedrick that Chang only spoke Mandarin. The court found that argument meritless. “The policy was written in English, and Lee, who represented to Hedrick that he was authorized to communicate on King Sports's behalf, spoke English and communicated with Hedrick in English several times.” Hedrick also testified that he had about five correspondences translated into Mandarin and would have had more translated on request. But most importantly, the insurance policy was written in English and the insured was a business located in the United States, so the court wasn’t willing to impose a translation duty on State Farm.

State Farm did deviate from its own policy of immediately “splitting the file” to make sure that information received in defense of a case isn’t used to invalidate coverage, but Cleveland Golf didn’t explain how that decision to wait to split the file shows bad faith. Cleveland Golf does not identify what sensitive information State Farm was able to gain and use against King Sports and Chang due to the unsplit file, nor did it even show that State Farm had a duty to split the file.

State Farm won summary judgment. Even without breach of the cooperation clause, State Farm would still win because King Sports violated the policy by voluntarily assuming obligations in the settlement and assigning its rights without State Farm's knowledge or consent. While an insurer waives its ability to enforce settlement and assignment provisions when it refuses to defend, State Farm didn’t refuse to defend here. Its failure to appoint new counsel after Hedrick withdrew wasn’t based on any claim of a policy exclusion covering the claims at issue. State Farm wasn’t required to hire replacement counsel under the circumstances, which made clear that assigning new counsel would have been an exercise in futility.