DEAN D. PREGERSON, District Judge.
Presently before the court are Plaintiff Northrop Grumman's Motion for Partial Summary Judgment and Defendant Factory Mutual Insurance Company's Phase II Motion for Summary Judgment. Having considered the parties' submissions and heard oral argument, the court adopts the following order.
Northrop Grumman Corporation ("Northrop") is a global defense contractor. Northrop operates shipyards and facilities throughout the Gulf Coast. Its Mississippi subsidiary, Northrop Grumman Ship Systems, is headquartered in Pascagoula, Mississippi. Northrop's shipbuilding business consists of two primary shipyards in Pascagoula and New Orleans, Louisiana ("Avondale"). In or about 1999, Northrop acquired a company which had acquired Avondale. As part of the acquisition, Northrop acquired contracts with the Navy and Coast Guard for the construction of ships including LHD-8, LPDs, DDGs, and NSCs. The Avondale yard was also finalizing delivery of a commercial ship program called Polar.
For the April 1, 2005, to April 1, 2006, policy year, Northrop purchased approximately $20 billion in all risk property insurance. Northrop's 2005-2006 property insurance program consists of two layers. The first layer consists of a $500 million layer of primary coverage (the "Primary Layer"). The Primary Layer is comprised of approximately 30 policies. Factory Mutual Insurance Company ("Factory Mutual") issued one of the Primary Layer's policies (the "Factory Mutual Primary Policy" or "Primary Policy").
The Factory Mutual Primary Policy is an "all risk" policy. The Primary Policy defines certain perils including "Flood." The second layer is the excess layer (the "Excess Policy"). The Excess Policy is a single all risk policy sold to Northrop by Factory Mutual. The Excess Policy provides approximately $20 billion worth of coverage for losses in excess of $500 million. The Excess Policy contains an exclusion for flood. The Limits of Liability provision in the Primary Layer states that the Excess Policy's $500 million attachment point is subject to the Excess of Loss provisions. The Excess of Loss provisions state that when a loss was caused by both covered and excluded losses, the Primary Policies are deemed to apply first to the excluded losses.
The Primary Policy provides a number of time element coverages to indemnify Northrop for financial and economic losses that result from property damage. The Excess Policy also provides coverage for property damage and Time Element coverage. With regard to Time Element coverage, the Excess Policy states as follows:
(Chris B. Roza Decl. Exh. 1-A.)
The Time Element Coverages in the Excess Policy are defined and include the loss of gross earnings as follows:
(
In August 2005, Hurricane Katrina struck the Gulf Coast region and caused significant damage. Northrop's Pascagoula shipyard was in the process of building ships LHD-8, LPD 17 and 19, DDG 100, 103, 105, 107, and 110, and NSC 1 and 2. (Hendry Report, §§ 2, 3; LeeVan Report at pp. 7, 10; Yount Depo at 40:1-11. ) The Avondale shipyard was finalizing Polar E and building LPD 18, 20, and 21. (
It is undisputed that, at the time of Hurricane Katrina, the contract in place for LPDs 18-20 was a cost plus award fee contract, and the contract for LPD 21 was a cost plus incentive fee contract, and that under these types of contracts, Northrop was entitled to reimbursement from the Navy for allowable costs incurred to build the ship, including overhead costs. When Hurricane Katrina struck, Northrop was not entitled to any incentive fees on the LPDs 18-20.
It is also undisputed that between 2005 and 2009, Northrop received federal income tax relief pursuant to the Katrina Emergency Tax Relief Act of 2005 and the Gulf Opportunity Zone Act of 2005. Factory Mutual's sixteenth affirmative defense asserts an offset to Northrop's insurance claim of approximately $9.4 million based on the federal income tax credit.
Northrop moves for summary judgment on Factory Mutual's sixteenth Affirmative Defense, arguing that there should be no offset of the Tax Credit or of certain payments from the Navy.
Factory Mutual moves for summary judgment on Northrop's Time Element claim, (1) arguing that it is entitled to summary judgment because Northrop has failed to tie its Time Element claim to property damage or loss or seeking, in the alternative, a declaration that all Time Element loss must result from property damage or loss and that it is Northrop's burden to demonstrate as much, and (2) arguing that it is entitled to summary judgment on Northrop's Time Element claims for ships LPD 18-21 because Northrop was fully compensated for those ships by the Navy.
Summary judgment is appropriate where the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show "that there is no genuine dispute as to any material fact and the movant is entitled to judgment as a matter of law." Fed. R. Civ. P. 56(a). A party seeking summary judgment bears the initial burden of informing the court of the basis for its motion and of identifying those portions of the pleadings and discovery responses that demonstrate the absence of a genuine dispute of material fact.
Once the moving party meets its burden, the burden shifts to the nonmoving party opposing the motion, who must "set forth specific facts showing that there is a genuine issue for trial."
It is not the court's task "to scour the record in search of a genuine issue of triable fact."
Northrop argues that it is entitled to summary judgment on Factory Mutual's sixteenth affirmative defense, according to which Northrop's claim should be reduced by (1) approximately 9.4 million of the federal income tax credits that Northrop received, and (2) payments from the Navy.
The Factory Mutual Primary Policy includes "Business Interruption — Gross Earnings" coverage. The parties do not dispute that as part of the adjustment of Northrop's loss, Factory Mutual agreed to treat as covered under the Primary Layer the total amount of retention pay that Northrop paid to its employees ($38 million) during the period Northrop's business was inoperable due to Hurricane Katrina. The parties also do not dispute that Northrop received a tax credit totaling nearly $9.4 million (the "Tax Credit"). Northrop obtained the Tax Credit from Sections 201 and 202 of the Katrina Emergency Tax Relief Act of 2005 and the Gulf Opportunity Zone, which allowed eligible employers to receive a tax credit of 40% of the first $6,000 in wages paid to each eligible current employee (
Both the Primary Policy and the Excess Policy have provisions allowing offsets. The Primary Policy contains the following "Salvage and Recoveries" provision:
(Northrop Exh. B, pp.42-43, ¶ 28.) The Excess Policy contains the following "Collection from Others" provision:
(Northrop Exh. C, p. 105, § D, ¶ 6.)
Factory Mutual argues that the Tax Credit falls within both the "Salvages and Recoveries" provision and the "Collection from Others" provision. According to Factory Mutual, the Tax Credit constitutes a recovery for the retention pay, and Factory Mutual is entitled to offset $9.4 million of the $38 million that Northrop spent on retention pay. Northrop contends that the Tax Credit does not constitute a recovery and should not be offset from Factory Mutual's retention pay payment.
Factory Mutual points to a case from the Virginia Supreme Court where the court found that an insurance company could offset federal funds because those funds constituted a recovery.
Factory Mutual argues that here, as in
The court finds this situation to be factually distinguishable from
This holding is consistent with the FEMA cases discussed by both parties,
Because the Tax Credit was conceived as an incentive to retain employees rather than compensation for a loss, the court finds that the Tax Credit was not a "recovery" or "collection for such loss from others" under the Policies and GRANTS summary judgment in favor of Northrop on this issue. Having granted summary judgment on this issue, the court need not consider Northrop's other two arguments against offset.
Northrop argues that Factory Mutual may not offset certain payments that the Navy has made to Northrop. The parties agree that Factory Mutual is entitled to a credit for amounts that the Navy was contractually obligated to pay to Northrop. Northrop appears to maintain that it has already accounted for all Navy payments and deducted them from its claim, and that in any event, the Navy did not pay it more than it was contractually obligated to pay when escalation payments are taken into account. Factory Mutual disputes that the Navy paid only its contractually obligated fee, and also points out that Northrop has not indicated the precise claim from which the Navy payments have been deducted.
The court finds that because this issue is bound up in disputed questions of methodology of calculating Northrop's loss, this issue is better suited for trial than for summary judgment. The court therefore DENIES summary judgment.
Factory Mutual moves to dismiss Northrop's Time Element claim because the claim is not limited to loss resulting from insured physical loss or damage, or, in the alternative, seeks a declaration that Northrop's recovery under the Excess Policy is limited to the Time Element loss that Northrop can establish was a direct result of physical loss or damage and that Northrop bears the burden to tie its claimed Time Element losses directly to the insured physical loss or damage. Factory Mutual also moves to dismiss the Time Element claim for ships 18-21 because Northrop did not actually sustain a loss for those ships.
The Excess Policy provides coverage for both property damage and Time Element loss. The Time Element coverage is as follows:
(Factory Mutual Mot., Exh. 1A, Appx. p. 0023.)
The Primary Policy also provides coverage for Business Interruption as follows:
(Northrop Mot., Exh. B at 16.)
Northrop argues that although the Excess Policy requires the Time Element loss to result directly from property damage, that property damage need only be "damage of the type insured" by Factory Mutual, and not necessarily damage to insured property. On this argument, if there were damage to property that was not owned by Northrop and not insured by Factory Mutual but that met one of criteria (1) through (4) and criterion (5), and if this damage resulted in Time Element loss for Northrop, the Excess Policy would cover it.
Factory Mutual does not contest this interpretation of the Policy. Factory Mutual insists only that Northrop can recover for Time Element loss only if that loss arises from some insured physical damage. The court agrees with Factory Mutual that both the Excess Policy and the Primary Policy require Time Element or Business Interruption losses to be the direct result of insured physical loss or damage.
The court also agrees with Factory Mutual that the language of "directly resulting" requires that there be a causal link between the insured property damage and the claimed Time Element loss.
The court does not credit Northrop's argument that the Primary Policy has a looser causation requirement than the Excess Policy because the Primary Policy does not use the word "directly." Both Policies are clear in linking the non-physical loss to physical loss or damage. Because the court finds that the policies have the same coverage in this respect, the court also rejects Northrop's argument that Time Element loss that is not caused by physical damage will be covered by the Primary Policy.
Factory Mutual argues that Northrop bears the burden to demonstrate the causal link between insured property damage and its claimed Time Element losses. Factory Mutual acknowledges that in a previous order the court determined that Factory Mutual bears the burden to segregate covered damage from excluded damage because the Excess Policy insures all risks except those excluded. Factory Mutual nonetheless asserts that Northrop has the burden to establish its claim for Time Element loss because it is a condition of coverage, not an exclusion. Northrop argues that the court's previous order that Factory Mutual has the burden to prove exclusion under the Excess Policy should also apply here. Additionally, Northrop accuses Factory Mutual of attempting to hold it to an impossible burden of demonstrating its precise loss with "complete precision."
The court finds that Northrop has the burden of proving that its claims are covered by the Policy. "The insured has the burden of establishing that a claim, unless specifically excluded, is within basic coverage, while the insurer has the burden of establishing that a specific exclusion applies."
In its previous order the court found that it was Factory Mutual's burden to justify exclusions because the policy was an all-risk policy that insured Northrop against all risks of physical loss, subject only to certain specific exclusions.
The court rejects Northrop's argument that any Time Element loss not covered by the Excess Policy will be covered by the Primary Policy. As discussed above, both the Excess and Primary Policies require that time element or business interruption loss be tied to property damage or loss. Thus any time element damage not covered in the Excess Policy is highly unlikely to be covered by the Primary Policy. For this reason, the burden is a burden of demonstrating coverage, not exclusion, and the burden falls, as is typical, upon the insured.
Factory Mutual offers evidence of a number of ways in which Northrop's claimed Time Element loss is not tied to physical loss or damage. Factory Mutual acknowledges that Northrop did remove some "non-Katrina impacts" before making its Time Element claim. (Exh. 2-S, Spiker Depo, Appx. p. 0813.) However, Northrop's former CFO and designated corporate representative Bob Spiker testified that the methodology included "impacts that are not just a result of physical damage to the yard from Hurricane Katrina" including "[l]abor impacts. Impacts to our work force and ability to hire after Katrina. And impacts of — from Navy property that the Navy paid the property damage but yet cost disruption in a production." (
(Exh. 2B at Appx. p. 0211.)
The types of impacts claimed as loss by Northrop that according to Factory Mutual are unrelated to insured physical loss or damage include (1) post-Katrina labor shortages that affected Northrop's ability to build ships following the storm, including inconsistent return of labor to yards, supplementing Polar E workforce with workers unfamiliar with Polar E (Factory Mutual Exh. 2-C, Appx. pp. 0455, 0459, 0461)(Hendry Report), thus increasing Northrop's costs and delaying its schedule; (2) pre-Katrina issues with various ship programs that continued to affect ship costs and schedules; (3) inconsistent Navy funding; and (4) Northrop's work on other ships in the yards but not included in the claim.
Northrop challenges these claims. Northrop asserts that (1) it has demonstrated loss due to labor shortages that was related to property damage (
The court finds that there are triable issues of fact as to whether Northrop has met its burden in demonstrating that its Time Element claim results from insured physical loss or damage. This question implicates other factual questions concerning the credibility of the potentially conflicting accounting methodologies employed by the parties, and whether Northrop's top-down accounting approach appropriately identified the Time Element loss caused by insured physical damage.
Factory Mutual asks, in the alternative, for the court to find that Northrop's recovery is limited to the Time Element loss that Northrop can establish was a direct result of physical loss or damage and that Northrop bears the burden to establish the causal link. The court agrees with Factory Mutual's interpretation of the policy and burden and finds it appropriate to issue a declaration that (1) Time Element loss not directly resulting from physical loss or damage is not covered under the Excess Policy, and (2) it is Northrop's burden to establish this causal link with respect to all of its claimed Time Element losses.
Factory Mutual seeks summary judgment on Northrop's Time Element claim for ships LPD 18-21, arguing that Northrop did not sustain an actual loss on those ships and therefore does not qualify for the Time Element coverage under the Excess Policy. Northrop asserts that it did sustain a loss for the ships despite the fact that it did not lose money on the particular contracts.
The Excess Policy provides that the insured can recover for Time Element loss "directly resulting from physical loss or damage of the type insured by this Policy" to certain specified property (as discussed above) within the period of liability.
Excess Policy, Exh. 1-A to Factory Mutual's MSJ at Appx. pp. 22-23.
"Gross earnings" are defined as follows:
In short, under the Excess Policy, the recoverable Time Element loss is the Actual Loss Sustained, calculated as the net sales value of production less the cost of material, less non-continuing expenses, plus all other earnings.
Factory Mutual defines the "net sales value of production" as "the units produced times the net sales price received from the customer for the finished goods produced." (Factory Mutual Supp. Brief at 5.) According to Factory Mutual, "[n]et sales value is the net sales price that Northrop would receive from the customer for finished goods." (
Northrop objects to Factory Mutual's interpretation of Actual Loss, arguing that the result of such an interpretation would be that Northrop could never establish Time Element loss because of its cost-plus type of contract. Cost-reimbursement types of contracts, including cost-plus contracts, are used "when uncertainties involved in contract performance do not permit costs to be estimated with sufficient accuracy to use any type of fixed-price contract," for instance, for contracts involving first-in-class ships and new designs. (Exh. 2-B, LeeVan Report at 12, Appx. p. 0180.)
The LPD 18-21 contracts at issue here are cost-plus-incentive-fee contracts ("cost-plus contract"). Cost-plus contracts provide for the payment of allowable costs up to a certain ceiling. 48 C.F.R. 16.301-1. They also "provide[] for an initially negotiated fee to be adjusted later by a formula based on the relationship of total allowable costs to total target costs." 48 C.F.R. § 16.304. See also 48 C.F.R. § 16.405 ("[The cost-plus-incentive-fee] contract type specifies a target cost, a target fee, minimum and maximum fees, and a fee adjustment formula. After contract performance, the fee payable to the contractor is determined in accordance with the formula. The formula provides, within limits, for increases in fee above target fee when total allowable costs are less than target costs, and decreases in fee below target fee when total allowable costs exceed target costs. This increase or decrease is intended to provide an incentive for the contractor to manage the contract effectively. When total allowable cost is greater than or less than the range of costs within which the fee-adjustment formula operates, the contractor is paid total allowable costs, plus the minimum or maximum fee.") In other words, cost-plus contracts provide for reimbursement of Northrop's allowable costs plus a fee that represents profit. (
The LPD 18-21 contracts provided for some incentive fees if Northrop met certain milestones, but as of the date of Hurricane Katrina, Northrop had already missed those milestones for LPDs 18-20, and thus was not entitled to any incentives for those ships. (Exh. 2-F, Weldon Depo. Appx.p. 0543.) LPD 21 was on a different schedule and some incentives may have been available. (
It is undisputed that Northrop received payment from the Navy for all increased costs incurred to build and deliver LPDs 18-21 due to the hurricane. (
Indeed, under such contracts, Northrop would never lose sales when it loses production capacity so long as it did not lose the contract entirely. "Because Northrop always completes its contracted-for work, FM's arguments would result in Northrop never having any coverage for Time Element losses, including its $387 million Time Element loss here." (Northrop Cross-Reply at 1.)
Northrop thus argues that its loss should be measured not by considering whether a given contract was fully satisfied, since all contracts are satisfied, but by determining the difference between Northrop's expected and actual profits. This was the method used by Northrop's expert Cheryl LeeVan to determine Northrop's Time Element loss. In her expert report, LeeVan explains that she employed a "But For measurement," according to which she determined (1) "the profits Northrop expected to earn during a specific Recovery Period" had Katrina not occurred, (2) "Northrop's actual profits during this period," and (3) "the difference between expected and actual profits, less the impacts to profits caused by non-Katrina events." (LeeVan Report at 23-24.) In other words, Northrop is asking for its loss to be measured by reference to Northrop's Annual Operating Plan and percentage of completion accounting practices.
Northrop argues that this measure is more correct than Factory Mutual's measure. Factory Mutual stated that "Northrop's gulf coast manufacturing operations essentially consist of the sale of skilled labor hours to build ships. The labor hours charged to each vessel form the basis of Northrop's net sales value of production." (Factory Mutual Supp. Brief. at 6.) Northrop rejects this characterization of its operations. "The Navy does not pay some uniform `sales value' that can be multiplied by hours incurred. Rather, the Navy pays for the progress made in completion of physical ship production achieved during a given period, according to the price and shareline agreed in the contracts. Once lost, it is never recouped in that period or in any reasonable period thereafter." (Northrop Cross-Reply at 4.) Northrop asserts that its "net sales value is based on the percentage of completion of a given ship at a given time, not the number of labor hours it incurs. Northrop measures, under GAAP, its Gross Earnings and loss of Gross Earnings based on the percentage of completion — a measure that the Navy accepts, too." (
The court finds that Northrop has presented evidence establishing an issue of fact as to whether it has shown an actual loss on LPDs 18-21. The court agrees with Northrop that in the context of this industry and type of contract, requiring a loss of sales as well as lost production would undermine the Business Interruption insurance that Northrop purchased from Factory Mutual. "[T]he purpose and nature of `business interruption' ... insurance is to indemnify the insured against losses arising from his inability to continue the normal operation and functions of his business, industry, or other commercial establishment."
Factory Mutual's interpretation of the "net sales value of production" includes a requirement that Northrop demonstrate specific lost sales, not simply lost production. The court finds that Factory Mutual's interpretation does not take into account the nature of the contracts in question, namely, long-term ship building contracts. The cases Factory Mutual cites involve traditional manufacturing operations, in which production and sales are linked together in a more direct way than in the cost-plus contracts entered into by Northrop and the Navy. In the cited cases, the primary concern of the courts was to prevent double recovery on the part of the insured.
For instance, in
Here, in contrast, there is no question of double recovery. There is no suggestion that Northrop had stockpiles or any other resources that it could use to make up for its loss. The fact that Northrop ultimately fulfilled its contract with the Navy does not make the situation analogous to the cement company fulfilling its projected sales during the time of the plant closure; Northrop has one client — the Navy — and each single contract is a massive undertaking extending over several years.
Given the nature of the business, the fact that it did not lose a particular sale of a particular ship therefore does not mean that it did not lose earnings. This case is distinguishable from
The language of the Excess Policy does not foreclose the possibility of using calculation of actual loss based on the percentage of completion accounting method. Northrop can show "net sales value of lost production" through its percentage of completion accounting method. Requiring the type of calculation proposed by Factory Mutual would effectively nullify the business interruption insurance that Northrop purchased.
The court finds that Northrop has met its burden in establishing an issue of fact on its actual loss on the LPD 18-21 ships and DENIES summary judgment.
For the reasons stated above, the court GRANTS summary judgment in favor of Northrop with respect to the offset of the tax credit and DENIES Northrop summary judgment with respect to the Navy payments. The court GRANTS Factory Mutual's Motion for a declaration that under the Policies (1) Time Element loss not directly resulting from physical loss or damage is not covered under the Excess Policy, and (2) it is Northrop's burden to establish this causal link with respect to all of its claimed Time Element losses. The court DENIES Factory Mutual's Motion regarding LPDs 18-21.
IT IS SO ORDERED.
Excess Policy C.2.A.1.c.