author: BRYANT, Senior District Judge.

text:
    WALTER O. BOSWELL MEMORIAL HOSPITAL, Plaintiff, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. HOWARD UNIVERSITY HOSPITAL, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. QUEEN’S MEDICAL CENTER, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. ALLENDALE COUNTY HOSPITAL, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, Defendant. MEMORIAL HOSPITAL, Plaintiff, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. GREATER SOUTHEAST COMMUNITY HOSPITAL, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, Defendant. CENTRAL PENINSULA GENERAL HOSPITAL, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. BEEBE HOSPITAL, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. HOWARD UNIVERSITY HOSPITAL, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. GEORGE WASHINGTON UNIVERSITY HOSPITAL, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. HARTSELLE MEDICAL CENTER, INC., et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, Defendant. DANIEL FREEMAN HOSPITALS, INC. et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, Defendant. COUNTY OF LOS ANGELES, etc., Plaintiff, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, Defendant. MILFORD MEMORIAL HOSPITAL, Plaintiff, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, et al., Defendants. METHODIST HOSPITALS OF MEMPHIS, et al., Plaintiffs, v. Margaret M. HECKLER, Secretary of the Department of Health and Human Services, Defendant.
    Civ. A. Nos. 82-0710, 82-3259, 83-0222, 83-1092, 83-1357, 83-1903, 83-1954, 84-2993, 85-0730, 85-1290, 85-1706, 85-1707, 85-1753, 85-2402 and 85-2825.
    United States District Court, District of Columbia.
    Nov. 19, 1985.
    Amended Order Dec. 20, 1985.
    Ronald N. Sutter, Powers, Pyles, Sutter & O’Hare, Washington, D.C., for plaintiffs.
    Shalom Brilliant, U.S. Dept, of Justice, Civil Div., Gerard Keating, Mark H. Gallant, Dept, of Health and Human Services, Office of the General Counsel, Ellen Lee Park, Asst. U.S. Atty., Washington, D.C., for defendants.
   MEMORANDUM

BRYANT, Senior District Judge.

This action is before the court on both plaintiffs’ and defendants’ motions for summary judgment. For the reasons stated below, this court grants summary judgment for the plaintiffs, and denies defendants’ motion.

I. Introduction

In 1979, the Secretary of the Department of Health and Human Services (“HHS”) promulgated a regulation, commonly known as the Malpractice Rule, which altered the method by which hospitals are reimbursed for the malpractice insurance expenses they incur as a result of treating Medicare patients. The issue before this court is whether the Malpractice Rule is valid. Specifically, several hospitals affected by the regulation claim, first, that the basis and purpose statement accompanying the Malpractice Rule is deficient under the Administrative Procedure Act (“APA”), 5 U.S.C. § 553(c) (1982); and second, that the Malpractice Rule is arbitrary and capricious in violation of both the APA, 5 U.S.C. § 706(2)(A) and (C) (1982), and the Medicare Act, 42 U.S.C. § 1395x(v)(1)(A) (1982). The hospitals request reimbursement under the reimbursement method which preceded the Málpractice Rule.

In 1983, this court held the Malpractice Rule valid, however we did so without the benefit of the full rulemaking record. Walter O. Boswell Memorial Hospital v. Heckler, 573 F.Supp. 884 (D.D.C.1983). The court of appeals reviewed that decision, and remanded to this court to reassess the hospitals’ challenge to the Malpractice Rule in light of the full rulemaking record. 749 F.2d 788 (D.C.Cir.1984). In its opinion, the court of appeals provided specific direction regarding how to determine the validity of the Malpractice Rule. Under the guidelines provided by the court of appeals, and in light of the full rulemaking record, the Malpractice Rule is invalid.

II. The Basis and Purpose Statement

The APA requires the Secretary to consider comments submitted to her regarding a proposed rule, and to present a “concise general statement” of the rule’s “basis and purpose”. 5 U.S.C. § 553(c) (1982). The basis and purpose statement must,

enable us to see what major issues of policy were ventilated by the informal proceedings and why the agency reacted to them as it did.

Boswell, 749 F.2d at 794, quoting Automotive Parts and Accessories Ass’n v. Boyd, 407 F.2d 330, 338 (D.C.Cir.1968). The court of appeals specifically directed this court to examine the basis and purpose statement accompanying .the Malpractice Rule, and to examine the comments submitted on the Rule, in order to determine whether the statement “provided sufficient insight into the issues raised,” regarding three critical issues: (1) HHS’s decision that reimbursement under the old definition of the “General & Administrative” cost pool subsidized non-Medicare patients at the expense of Medicare patients; (2) HHS’s use of and reliance on the Westat study; and (3) HHS’s consideration of a “separate-policies” alternative, and of other alternatives, to the Malpractice Rule. Id.

1. The G & A Pool Imbalance

HHS generally reimburses hospitals for their Medicare related expenses by pooling several of the hospital’s expenses into the “General & Administrative” (“G & A”) cost pool. HHS determines the percentage of the hospital’s total medical services that are rendered to Medicare patients, and pays to the hospital that percentage of the amount in the G & A pool. Boswell, 749 F.2d at 794.

HHS recognizes that some individual expenses which go into the pool are consumed in greater proportion by non-Medicare patients than by Medicare patients, and that other services are consumed in greater proportion by Medicare patients than by non-Medicare patients. But when all these individual expenses are pooled together, HHS has believed, these disproportions balance each other out, and the pooling method accurately reimburses hospitals for the services they provide to Medicare patients. Id. at 795.

Malpractice insurance premiums formerly were one of the expenses pooled in the G & A pool. The Malpractice Rule removes this expense from the pool and reimburses it under a different formula. The Secretary acted to remove this expense because she concluded Medicare patients were recovering less in malpractice awards than non-Medicare patients, and that therefore Medicare was paying out too much in malpractice insurance reimbursements. But that conclusion alone does not justify removing malpractice insurance expenses from the pool.

The Secretary must have implicitly determined that the old G & A pool, taken as a whole, had come to subsidize non-Medicare patients at the expense of Medicare patients. Without such a determination, there would be no legitimate grounds for removing malpractice premiums from the G & A pool, since the old G & A pool had long been presumed to balance costs fairly between Medicare and non-Medicare patients.

Boswell, 749 F.2d at 795 (emphasis in original).

In its basis and purpose statement, HHS stated that “malpractice costs are so significant and the disproportionate allocation of malpractice costs to Medicare is so great”, that a “unique exception” to the pooling method is warranted. 44 Fed.Reg. 31,642 (1979). The court of appeals found that while this conclusion supports removing malpractice expenses from the G & A pool, “the precise factual basis for this conclusion ... remains obscure from the record before the district court.” 749 F.2d at 795. Therefore, the court stated that,

HHS should direct the district court to the facts upon which HHS based its conclusion that malpractice premiums are so significant and disproportionate as to bias a once balanced G & A pool, so that the reviewing court may have some idea whether comments ventilated this important consideration and whether HHS responded to them adequately.

Id.

HHS has failed to direct this court to any facts which support its conclusion. HHS points to the rising costs of malpractice insurance and to the “common-sense observation” that Medicare patients, who are usually over sixty-five, tend to recover less in malpractice actions then younger patients with more future earnings potential. But both those facts were already before the court of appeals, which nonetheless found HHS’s basis “obscure”. Boswell, 749 F.2d at 795. To determine that the G & A pool as a whole was unbalanced by the rising cost of malpractice insurance, HHS must have examined,

whether other factors in the G & A pool changed during [the same] period, and what proportion malpractice premiums occupied in the pool at various times.

Id. at 795 n. 8. HHS has not indicated, nor do we find, that HHS ever undertook such an examination as a part of promulgating the Malpractice Rule. See Menorah Medical Center v. Heckler, 768 F.2d 292, 296 (8th Cir.1985).

HHS was alerted to this issue by numerous comments submitted by those opposing the Rule. Opponents argued that the G & A pool was already skewed in Medicare’s favor, and they noted the many individual G & A costs which are subsidized by non-Medicare patients. E.g., Plaintiffs’ Appendix (“App.”) at 152; 187-89; 136-37; 265-66; 269; 272-73. These comments plainly ventilated HHS’s need to examine the rise in malpractice insurance costs in the context of the relative costs of the other individual expenses in the G & A pool.

The basis and purpose statement itself contains no reference at all to the issues raised by these comments. HHS argues that it responded to these concerns when it stated in the basis and purpose statement that rising malpractice costs warrant a “unique exception” to the pooling method. 44 Fed.Reg. 31,462. But this is the very same section of the basis and purpose statement which the court of appeals has already found conclusory and wanting a substantive factual basis. Boswell, 749 F.2d at 795. It is an unsupported conclusion which does not address the concerns commenters raised about the legitimacy of the Malpractice Rule. “The statement failed to give the facts underlying the conclusion that malpractice premiums bias a once balanced G & A pool.” Lloyd Noland Hospital & Clinic v. Heckler, 762 F.2d 1561, 1567 (11th Cir.1985).

The basis and purpose statement is deficient under the APA for failure to respond to the concerns raised by commenters regarding the balanced nature of the G & A pool.

2. The Westat Study

In the basis and purpose statement, HHS referred to a study conducted by a consultant which indicates that malpractice awards for Medicare and Medicaid patients are significantly lower than awards for other groups of patients. Based upon this study — the Westat study — HHS concluded that Medicare was paying a disproportionate amount of malpractice insurance premiums and thereby justified promulgating the Malpractice Rule.

The Westat study is a limited one, which was not commissioned or designed to be used in connection with promulgating the Rule. The study, as it was used by HHS, is riddled with serious defects, which have been fully canvassed by the court of appeals. Boswell, 749 F.2d at 796-97. The court of appeals remanded to this court to determine, in light of the full record,

whether HHS’s actions, unaccompanied by any defense of the Westat study in the basis and purpose statement, was a violation of the Automotive Parts standard____

Id. at 797.

The full rulemaking record reveals that HHS received voluminous comments detailing the defects in the Westat study and explaining why HHS could not rely on Westat for purposes of creating the Rule. E.g., App. at 84; 117-18; 122; 134-36; 153. The problems with Westat were fully ventilated, and the basis and purpose statement contains no response to these problems. It is deficient under the APA. Accord, Bedford County Memorial Hospital v. Health & Human Services, 769 F.2d 1017, 1020 (4th Cir.1985); Lloyd Noland, 762 F.2d at 1567; St. James Hospital v. Heckler, 760 F.2d 1460, 1469 (7th Cir.1985).

HHS argues that it satisfactorily responded to these comments in the basis and purpose statement where it stated it was relying on the Westat study to show disproportion in Medicare patient malpractice claims. But the only reference to Westat in the basis and purpose statement merely asserts that the study,

indicates that malpractice awards for Medicare patients are significantly lower in amount than losses for other patient population [sic].

44 Fed.Reg. 31,641. HHS cannot seriously contend that this is a response of any kind to the criticisms that had been leveled at Westat. Indeed, this passage illustrates precisely the blind reliance, “unaccompanied by any defense,” which the court of appeals called into question. Boswell, 749 F.2d at 797. HHS baldly relies on the study, without even mentioning the many criticisms it had received.

The preamble to the final rule contains not a word acknowledging that any commenter criticized the Westat report; far less did it make an adequate response to those criticisms.

Abington Memorial Hospital v. Heckler, 576 F.Supp. 1081, 1086 (E.D.Pa.1983), aff'd., 750 F.2d 242 (3d Cir.1984).

HHS also argues that all the criticisms received regarding the Westat study relied on the statements of limitation in the study itself. These statements in the study supposedly have nothing to do with the Medicare reimbursement issue; therefore, no response to the criticisms was necessary. The court of appeals, however, has already precluded this argument. It found that the statements of limitation in the study “clearly apply to all conclusions drawn from it,” 749 F.2d at 796 n. 11, and that cautions about the limited value of the study “would seem to apply to conclusions about malpractice size.” Id. at 796. Comments based on the cautionary statements from the study itself were relevant and in need of response.

3. The Separate-Policies Option

HHS must consider reasonably obvious alternatives to its proposed rule, and explain its reasons for rejecting them. Boswell, 749 F.2d at 797. One alternative to the Malpractice Rule, the separate-policies approach, has several advantages over the Malpractice Rule, which are explained in detail by the court of appeals. Id. at 802-03. HHS failed to discuss or even mention this option in its basis and purpose statement. The court of appeals directed this court to examine the full record to determine if HHS’s failure to discuss the separate-policies option, or other alternatives suggested by commenters, violates the mandates of the APA. Id. at 797.

An examination of the full record reveals that several different alternatives to the Malpractice Rule were raised in numerous comments. E.g. App. at 318-19; 322-23; 325-26; 331; 336; 163-65. The basis and purpose statement is deficient for failing to respond to these alternatives in any way. Accord, Lloyd Noland, 762 F.2d at 1567. Further, the separate-policies option more closely resembles national insurance industry practice than does the Malpractice Rule. The Medicare Act specifically requires HHS to consider the practices of national organizations in determining how to reimburse costs. 42 U.S.C. § 1395x(v)(l)(A). Thus the failure of HHS to respond to the separate-policies option is especially glaring. Bedford, 769 F.2d at 1021.

III. Arbitrary and Capricious Conduct

The court of appeals also directed this court to determine if HHS’s actions in promulgating the Malpractice Rule were arbitrary and capricious under the APA and in violation of the Medicare Act. Boswell, 749 F.2d at 798. HHS’s actions were arbitrary and capricious if they,

entirely failed to consider an important aspect of the problem, offered an explanation for its decision that runs counter to the evidence before the agency, or is so implausible that it could not be ascribed to a difference in view of the product or agency expertise.

Id., quoting Motor Vehicle Manufacturers Association of the U.S. v. State Farm Mutual Automobile Ins. Co., 463 U.S. 29, 43, 103 S.Ct. 2856, 2866, 77 L.Ed.2d 443 (1983). The court of appeals deemed suspect three areas of HHS’s conduct in this regard: (1) HHS’s determination that rising malpractice insurance costs resulted in the old G & A pool being skewed in favor of non-Medicare patients; (2) HHS’s failure to consider the separate-policies alternative to the Malpractice Rule; and (3) HHS’s reliance on the Westat study.

Where HHS’s conduct is arbitrary and capricious, it violates both the APA— which specifically prohibits such conduct— and it violates the Medicare Act. The Medicare Act requires HHS to reimburse hospitals for the “reasonable costs” of providing services to Medicare patients. 42 U.S.C. § 1395x(v)(l)(A) (1982). It is up to HHS to define reasonable cost in such a way that Medicare patients do not subsidize non-Medicare patients and that non-Medicare patients do not subsidize Medicare patients. Id.; Boswell, 749 F.2d at 794. Considerable deference is owed to HHS’s judgments regarding reasonable costs, as the language of the Medicare Act is ambiguous and because the authority to promulgate regulations pertaining to reasonable costs is delegated to HHS by Congress. Id. at 801. Therefore, we may find the Malpractice Rule in violation of the Medicare Act only if we find HHS’s interpretation of the statute arbitrary and capricious: “The question of whether the Secretary violated the APA ... merges with the question of whether she violated the Medicare Act.” Id.

1. HHS’s Consideration of the G & A Pool Imbalance

As discussed in II — 1, supra, HHS generally reimburses hospitals for their Medicare related expenses by taking many individual expenses incurred by the hospitals and pooling them together in the G & A cost center. Hospitals are reimbursed a percentage of the total amount in the cost center.

Some hospital services are consumed by Medicare patients in greater proportion to non-Medicare patients, and some are consumed by non-Medicare patients in greater proportion to Medicare patients. HHS justifies the pooling system by arguing that when the expenses incurred for providing these services are pooled in the cost center, the disproportions are balanced out, and the hospitals are fairly reimbursed. Indeed, HHS has argued against removing individual expenses which favor Medicare from the G & A pool on the grounds that these expenses are compensated for by other expenses in the pool which favor non-Medicare patients. Boswell, 749 F.2d at 798-99. The Malpractice Rule removes the individual expense of malpractice insurance costs from the pool, because this expense has risen to Medicare’s disadvantage.

The court of appeals stated that,

It would be arbitrary and capricious for HHS to bring varying interpretations of the statute to bear, depending upon whether the result helps or hurts Medicare’s balance sheets, without some showing that changes in the underlying balance of G & A expenses, taken as a whole, warranted breaking out malpractice premiums from the G & A pool.

Id. at 799 [footnote omitted]. There has been no showing by HHS that the balance of the G & A pool, “taken as a whole,” has changed. See II — 3, supra. It is not enough to note that malpractice insurance costs have risen sharply. HHS undertook no investigation of whether other expenses in the G & A pool which operate in favor of Medicare continue to balance out the malpractice insurance expense. See id. at 795 n. 8. Without such an investigation, HHS could not rationally conclude that the rising costs of malpractice insurance had unbalanced the G & A pool, and so could not justify removing those costs from the pool. HHS’s conduct was arbitrary and capricious. Accord, Menorah Medical Center v. Heckler, 768 F.2d 292, 296 (8th Cir.1985); Lloyd Noland, 762 F.2d at 1568; St. James, 760 F.2d at 1471.

2. Consideration of the Separate-Policies Approach

The court of appeals stated that,

agencies must consider reasonably obvious alternatives to their proposed rule, and ... agencies should not prohibit initiatives of regulated entities that further the agency’s expressed goals without offering some plausible rationale.

Boswell, 749 F.2d at 803. The court directed this court to decide, upon the full record, if this responsibility was fulfilled by HHS. Id.

The court of appeals has discussed in detail the many advantages of the separate-policies approach over the Malpractice Rule: it is an obvious alternative, and it provides a simple efficient means of furthering HHS’s stated goal of reimbursing hospitals fairly for their Medicare related expenses. Id. at 802. HHS did not elect this method of reimbursement. Further, it removed any incentive the hospitals had for experimenting with this option by notifying the hospitals that it would not recognize any separate insurance policy for malpractice coverage. Id. The court of appeals deemed this prohibition “curious” and “especially odd” as the separate-policies approach is consistent with the stated objective of HHS to provide accurate reimbursement. Id.

HHS points to nothing in the record indicating that this option was ever given any consideration. HHS provided no rationale, plausible or otherwise, for rejecting the option. This conduct was arbitrary and capricious under the guidelines provided by the court of appeals. See St. James, 760 F.2d at 1469.

3. The Westat Study

Finally, the court of appeals stated that, reliance on a single study criticized extensively by its authors in a particular application can obviously be an arbitrary and capricious action.

Boswell, 749 F.2d at 803. The court instructed this court to,

carefully evaluate whether HHS’s reliance on the Westat study was arbitrary and capricious in light of [the authors’] criticisms, as well as of other criticism and support of the use of the study contained in the full administrative record.

Id.

The court of appeals has already detailed the numerous serious flaws in Westat as it was used by HHS. Id. at 796-97; see II — 2, supra. The study’s limitations were noted by its own authors and were brought to HHS’s attention by commenters. In the face of this criticism, HHS continued to rely on the study. There is no evidence in the record that it considered in any way the study’s limitations or the wisdom of its continued reliance on the study. We agree with the Court of Appeals for the Tenth Circuit that HHS’s reliance on the study was “irrational” as well as arbitrary and capricious. Humana of Aurora v. Heckler, 753 F.2d 1579, 1583. Accord, Bedford, 769 F.2d at 1022; Menorah, 768 F.2d at 295-96.

IV. Remedy

HHS argues that, in the event we find the Malpractice Rule invalid, we should not order any actual payment to the hospitals, but should instead remand to the agency so it can promulgate a new, acceptable rule. HHS has made this same argument in federal courts all over the country and it has been uniformly rejected. E.g., Bedford, 769 F.2d at 1024; Menorah, 768 F.2d at 297. We agree with these courts that the proper remedy is for HHS to reimburse the hospitals the amount they would have received under the formula preceding the Malpractice Rule.

The Malpractice Rule is invalid. The hospitals are entitled to relief under the original regulations. See Action on Smoking & Health v. C.A.B., 713 F.2d 795, 797-98 (D.C.Cir.1983); Menorah, 768 F.2d at 297; Abington, 750 F.2d at 244.

ORDER

Upon consideration of the motions for summary judgment and the supporting memoranda filed by both the plaintiffs and the defendants, and the papers filed in opposition thereto, it is this 19 day of November 1985, for the reasons discussed in the accompanying Memorandum, hereby

ORDERED that the judgment this court entered in this action on September 27, 1983 is vacated; and it is further

ORDERED that plaintiffs’ motion for summary judgment is granted, and defendants’ motion for summary judgment is denied; and it is further

ORDERED that defendants shall pay to plaintiffs the “amount in controversy”, as already determined by the Provider Reimbursement Review Board, plus interest computed to the date of payment, in accordance with 42 U.S.C. § 1395oo(f)(2), for all cost reporting years under appeal.

AMENDED ORDER

Having considered defendants’ motion to amend judgment, and plaintiffs’ response thereto, it is this 20 day of December 1985, hereby

ORDERED that defendants’ motion to amend judgment be, and hereby is granted; and it is

FURTHER ORDERED that the final paragraph of this court’s November 19, 1985 order be, and hereby is, vacated and that the following paragraph be, and hereby is, substituted therefor:

ORDERED that defendants shall pay plaintiffs, for all cost reporting years under appeal, the amounts to which they are entitled under 42 C.F.R. § 405.-452(b)(1) (1979), without regard to the invalidated Malpractice Rule (42 C.F.R. § 405.452(b)(1)(h) (1980)), plus interest computed to the date of payment, in accordance with 42 U.S.C. § 1395oo(f)(2).

      . A detailed statement of the facts involved in this case appears in Walter O. Boswell Memorial Hosp. v. Heckler, 749 F.2d 788, 790-91 (D.C.Cir.1984).

      . Our decision also is informed by a wave of recent cases holding the Malpractice Rule invalid. E.g., Bedford County Memorial Hosp. v. Health & Human Services, 769 F.2d 1017 (4th Cir.1985); Menorah Medical Center v. Heckler, 768 F.2d 292 (8th Cir.1985); DeSoto General Hosp. v. Heckler, 766 F.2d 182 (5th Cir.1985); Lloyd Noland Hosp. and Clinic v. Heckler, 762 F.2d 1561 (11th Cir.1985); St. James Hosp. v. Heckler, 760 F.2d 1460 (7th Cir.1985).

      . Under the separate-policies approach, insurance companies would create separate policies for Medicare and non-Medicare patients. Medicare would then reimburse the hospitals only for premiums paid on the Medicare patient policy.


source: Caselaw Access Project

author: SAFFELS, District Judge.

license: Public Domain

text:
    NORTH RIVER INSURANCE COMPANY, Plaintiff, v. Howard D. HUFF, et al., Defendants.
    Civ. A. No. 84-2069-S.
    United States District Court, D. Kansas.
    Nov. 20, 1985.

      Michaela Nicolarsen, Blackwell, Sanders, Matheny, Weary & Lombardi, Overland Park, Kan., John W. Morrison, Steven H. Mora, David L. Weinstein, Karon, Morrison & Savikas, Ltd., Chicago, 111., for plaintiff.
    Lawrence E. Sheppard, Sheppard & Holman, Chtd., Prairie Village, Kan., J. Nick Badgerow, John J. Jurcyk, Jr., Kansas City, Kan., Ronald Barta, Barta & Barta, Salina, Kan., Don W. Noah, Noah & Harrison, Beloit, Kan., Reggie C. Giffin/J. Emmett Logan, Nancy L. Shelledy/P. John Owen, Morrison, Hecker, Curtis, Kuder & Parrish, Kansas City, Mo., A. Bradley Bodamer, Morrison, Hecker, Curtis, Kuder & Parrish, Overland Park, Kan., Richard A. Knudsen, Robert J. Routh, Rodney M. Confer, Knudsen, Berkheimer, Richardson & Endacott, Lincoln, Neb., for defendants.
   MEMORANDUM AND ORDER

SAFFELS, District Judge.

This matter is before the court on motions for summary judgment filed by plaintiff, defendant Huff, defendants Fleming, Erickson and Johnson, and defendant Federal Savings and Loan Insurance Corporation [hereinafter FSLIC]. This is a declaratory judgment action regarding the nature and extent of insurance coverage under a directors’ and officers’ liability policy, No. FDO 7996.

The uncontroverted facts for the purposes of these motions are as follows. North Kansas Savings Association [hereinafter NKSA] was a savings and loan association insured by the FSLIC. The FSLIC was appointed as receiver for NKSA in November, 1982. In May of 1983, the FSLIC brought an action against nine former directors and/or officers [hereinafter the insureds] in this court, Case No. 83-2169 [hereinafter the underlying action]. The underlying action involves transactions which are alleged to have resulted in losses to NKSA, mainly loans to Grandpa John’s, Inc., to the Double Cee Investments Ltd. Syndicate, to Orient Coal Trust II, to Citation, Inc. and its nominees, to Heinz Weimhoff, and to United Development Corporation.

The Grandpa John’s, Inc. loan was made on November 4, 1981, in the principal amount of Two Million Two Hundred Seventy Thousand Dollars ($2,270,000). This loan was evidenced by a thirty (30) year note bearing an interest rate of fifteen percent (15%) per annum and was secured by first mortgages on six commercial properties located in the state of Illinois and by the personal guarantees of Mr. and Mrs. Walter L. Luebbert, the principals of Grandpa John’s, Inc.

Between August, 1981, and February 12, 1982, NKSA made three loans to Citation, Inc. in the aggregate amount of One Million Eight Thousand Seven Hundred Fifty Dollars ($1,008,750). On June 1, 1982, NKSA made three loans in the aggregate amount of One Million One Hundred Thousand Dollars ($1,100,000) to Louis and Maxine Meyers, Phalen Parkhall’s Inc. and Roy Baber. However, these loans were arranged by Citation, the properties purchased with the proceeds of these loans were properties in which Citation had a prior and continuing interest, a portion of the proceeds of these loans was paid directly to Citation, Citation had agreed to repurchase the properties purchased with the proceeds of these loans, Citation had agreed that it would be responsible for the ultimate repayment of these loans and Citation arranged for these loans to be made to its nominees. These Citation loans are evidenced by notes which are secured by first mortgages on real property in Minnesota.

Sometime in September, 1981, defendants Pierce and Eaton discussed with Walter R. Burnett and George M. Croft the possibility of financing by NKSA of a cruise ship to be leased by Double Gee Investments, Ltd. On September 8, 1981, defendants Pierce and Huff caused NKSA to issue an irrevocable One Hundred Thousand Dollar ($100,000) bank guarantee to the owner of the cruise ship proposed to be leased by Double Cee. The board of directors ratified this transaction on September 9, 1981. On October 2, 1981, NKSA wired One Hundred Thousand Dollars ($100,000) to the owner of the cruise ship, and Dr. Croft executed a note without security to evidence the loan. Loans were thereafter made in the amounts of One Hundred Twenty Thousand Dollars ($120,-000) to each of the five members of the Double Cee syndicate. These actions were ratified by the Board of Directors on November 10, 1981. On May 12, 1981, the board authorized refinancing of the previous loans made to the Double Cee syndicate by making loans in the principal amount totaling One Million Dollars ($1,000,000) to ten members of the syndicate. On June 17, 1982, NKSA made a Two Hundred Thousand Dollar loan to Dr. Croft for the purpose of financing the lease of the cruise ship. On June 21, 1982, NKSA refinanced its prior loans to the members of the Double Cee syndicate in the amount of One Million Two Hundred Thousand Dollars ($1,200,000). The loans eventually were secured by a One Million Dollar ($1,000,000) certificate of deposit deposited under an escrow agreement.

On March 9, 1982, NKSA made a loan to Orient Coal Trust II in the principal amount of One Million Two Hundred Thousand Dollars ($1,200,000). This loan was evidenced by a five (5) year note bearing interest at the rate of eighteen percent (18%) per annum, and was secured by a first mortgage on unimproved real property located in the state of Illinois and by the personal guarantees of Richard J. Heath and Maxine P. Zwermann, the beneficiaries of Orient Coal Trust II.

Defendants Pierce and Huff, prior to July 12, 1982, discussed with Heinz Weimhoff, the possibility of his purchase of the inventory of Grandpa John’s, Inc. with funds loaned by NKSA. On July 12, 1982, defendant Huff directed defendant Eaton to wire One Hundred Seventy Thousand Dollars ($170,000) of NKSA funds to the trustee of Grandpa John’s on Mr. Weinhoff’s behalf. Mr. Weinhoff was not required to execute a note or to provide any collateral to secure his indebtedness.

On March 1, 1982, defendant Huff agreed to sell his stock in North Kansas Financial Corporation [hereinafter NKFC] to Thomas W. Woodward, Stephen H. Christian, or both, for Two Million Six Hundred Seventy Thousand Dollars ($2,670,-000). Woodward’s obligation to purchase defendant Huff’s NKFC stock was conditioned upon NKSA’s making an Eleven Million Dollar loan ($11,000,000) to United Development Corporation [hereinafter UDC]. On July 14, 1982, the board of directors of NKSA approved a loan in an amount exceeding Eleven Million Dollars ($11,000,-000) to UDC. This loan was evidenced by a note made by UDC with a term of one (1) year, bearing interest at the rate of eighteen percent (18%) per annum, and was secured by a second mortgage on the Woodward ranch property.

Plaintiff insured certain risks by its directors’, officers’ and employees’ liability insurance, Policy No. FDO 7996, issued September 30, 1982. This policy was a renewal of plaintiff’s policy No. FDO 7416, effective from September 30, 1979, to September 30, 1982. Policy No. FDO 7416 declared the limit of liability in terms of a “per incident” basis. Policy No. FDO 7996 describes coverage limits as One Million Dollars ($1,000,000) per year for each director, officer or employee, but not in excess of a total aggregate of One Million Dollars ($1,000,000) per occurrence. Marketing and promotional materials did not identify the change in terminology from “per incident” to “per occurrence.” The term incident was not defined in Policy No. FDO 7416. Policy No. FDO 7996 defines “occurrence” as any claim or claims made involving one or more insured arising out of the same act, interrelated acts, errors, omissions or scheme.

The transactions involving Grandpa John’s, Inc., Orient Coal Trust II, UDC/Woodward, and five of the six Citation loans were loan swaps. A loan swap was a triangular transaction involving a buyer of property, a seller and NKSA as the lender. The “swap” worked by the buyers giving to NKSA a note for the loan and NKSA assigning to the seller seasoned mortgage notes which were then exchanged for the buyer’s note. Loan swaps were a part of NKSA’s loan policy and were intended to be profitable transactions. A loan swap was like any other loan made by NKSA except that mortgage notes instead of cash were used to fund the transaction. NKSA continued to make cash loans during the period of the loan swaps. In addition to the loan swaps which were made, NKSA’s officers and directors considered and rejected from six to twelve similar loan swap proposals.

After the filing of FSLIC’s action against the insureds and their tenders of defense, plaintiff sent a reservation-of-rights letter to the personal attorneys for each of the insureds. Pertinent language in the reservation letter provides:

... This reservation is required by (1) our lack of information sufficient to assess the captioned claim and determined [sic] the extent, if any, to which coverage is afforded by Policy No. FDO 7996; ... and (3) the fact that the complaint filed by the Federal Savings & Loan Insurance Corporation (“FSLIC”) seeks a joint and severable recovery against all defendants, ... in excess of the $1,000,000 limit of the captioned policy.

This action was filed on February 17, 1984, and the complaint raised the issue of aggregate limits of coverage versus multiple coverages. On April 16, 1985, plaintiff conceded that for the purposes of this action, Policy No. FDO 7996 provided multiple coverages.

To rule favorably on a motion for summary judgment, the court must first determine that the matters considered in connection with the motion disclose “that there is no genuine issue as to any material fact and that the moving party is entitled to judgment as a matter of law.” Rule 56(c), Federal Rules of Civil Procedure. The principal inquiry is therefore whether a genuine issue of material fact exists. Dalke v. The Upjohn Co., 555 F.2d 245 (9th Cir.1977); Hanke v. Global Van Lines, Inc., 533 F.2d 396 (8th Cir.1976). A motion under Rule 56 will be denied unless the movant demonstrates beyond doubt that he is entitled to a favorable ruling. Madison v. Deseret Livestock Co., 574 F.2d 1027 (10th Cir.1978); Mustang Fuel Corp. v. Youngstown Sheet & Tube Co., 516 F.2d 33 (10th Cir.1975). Pleadings and documentary evidence are to be construed liberally in favor of a party opposing a Rule 56 motion. Harman v. Diversified Medical Investments Corp., 488 F.2d 111 (10th Cir.1973), cert. denied 425 U.S. 951, 96 S.Ct. 1727, 48 L.Ed.2d 195 (1976). However, once a summary judgment motion has been properly supported, the opposing party may not rest on the allegations of the complaint, but must respond with specific facts showing the existence of a genuine factual issue to be tried. Coleman v. Darden, 595 F.2d 533, 536 (10th Cir.), cert. denied 444 U.S. 927, 100 S.Ct. 267, 62 L.Ed.2d 184 (1979). A party with evidence tending to create a factual issue must present that evidence to the trial judge or summary judgment is proper. Otteson v. United States, 622 F.2d 516, 520 (10th Cir.1980).

The parties have raised many of the same or related issues in their respective briefs, and the court will consider the arguments by their subject matter rather than in terms of a particular motion.

Defendant FSLIC argues that Policy No. FDO 7996 must be construed to provide coverage on a “per incident” basis. This argument is based on the contention that an ambiguity exists in the renewal application which bases coverage on a “per incident” basis while the policy provides for coverage on a “per occurrence” basis. Defendant argues that the ambiguity should be resolved in favor of the insureds and the coverage should be found to be on the less restrictive “per incident” basis. Defendant also argues that an attempted reduction in coverage should be conspicuously stated to be effective.

The court finds these arguments unpersuasive in that there is virtually no difference in the coverage provided under either policy. Policy No. FDO 7416 speaks in terms of “per incident” but still limits its coverage to One Million Dollars ($1,000,-000) for claims arising out of the same act or interrelated acts. This is the same coverage provided in Policy No. FDO 7996 on a "per occurrence” basis.

Additionally, the court would note that the terms “incident” and “occurrence” are synonomous and can be used interchangeably. See Webster’s New Collegiate Dictionary, p. 788 (1979). The court is aware of no Kansas case to the contrary.

The next dispute centers on the number of occurrences which arise from the FSLIC’s allegations in the underlying action. Policy No. FDO 7996 defines occurrence as “any claim or claims made involving one or more insured arising out of the same act, interrelated acts, errors, omissions or scheme.” Plaintiff alleges that the underlying action is based on three occurrences in that the four loan swaps were all part of one loan swap program and therefore constitute only one occurrence. Defendants dispute this allegation and contend that the underlying action involves six occurrences, in that each loan was a “occurrence” in its own right.

The court is aware of no Kansas case which has addressed the issue of determining the number of occurrences in the context of a policy of insurance. The United States District Court for the District of Hawaii considered a similar problem in Okada v. MGIC Indemnity Corp., 608 F.Supp. 383 (D.Hawaii 1985). In that case, the court considered the number of occurrences covered under a directors’ and officers’ insurance policy. The alleged negligent acts included voting at separate times to include spot loans to home buyers, authorizing five separate, unrelated large condominium project loans, and ordering the move and rennovation of corporate headquarters without having sufficient funds. The court found that the failure of the savings institution was not in itself a loss but was caused by one or more separate financial losses over time. The court determined the losses described above were separate and unrelated to each other. Further, these separate acts did not form part of a series of similar acts, but were distinct and dissimilar business decisions made by the officers and directors.

In Appalachian Ins. Co. v. Liberty Mutual Ins. Co., 676 F.2d 56 (3rd Cir.1982), the Third Circuit Court of Appeals held that the issue of whether losses were caused by a single occurrence or multiple occurrences is determined by reference to the cause of the loss. Under this analysis, the court must determine whether there was one proximate, uninterrupted and continuing cause which resulted in all of the injuries and damage. The Tenth Circuit Court of Appeals also considered the cause theory in Business Interiors, Inc. v. Aetna Casualty & Surety Co., 751 F.2d 361 (10th Cir.1984). The court therein found that the acts of a dishonest employee who forged or materially altered forty checks constituted a single loss under the insurance policy. The court reasoned that the probable intent of the employee was to continue the dishonesty rather than to commit entirely new acts of dishonesty.

In the case at bar, the court cannot agree with plaintiff’s contention that the Grandpa John’s, Inc., Orient Coal Trust II, United Development Corporation and Citation loans constituted only one occurrence. Although these transactions involve the same method of financing the loans, that being through a loan swap, each was a separate loan transaction. These transactions occurred at separate times, involved different borrowers, were for different purposes, and had separate collateral. The loans funded by the loan swaps cannot be found to be interrelated. The decision to institute the loan swap program did not cause any damage, rather it was the alleged negligence on the part of the insureds in making or approving unprofitable loans. Therefore, each of these loans constitutes a separate occurrence under the policy.

The next issue before the court is that of waiver on the part of plaintiff by failing to specify its reservation-of-rights in this case. Defendants argue that plaintiff has relied on one explicit policy limitation, that an aggregate amount of One Million Dollars ($1,000,000) in coverage existed, until it was forced to abandon that position. Defendants assert that plaintiff has failed to timely assert any other coverage defenses and should be estopped from raising any additional matters.

A liability insurer which assumes the defense of an action against the insured may save itself from the defense of waiver or estoppel if it clearly disclaims liability under the policy and gives notice of its reservation of a right to set up the defense of non-coverage. Snedker v. Derby Oil Co., Inc., 164 Kan. 640, 192 P.2d 135 (1948). See also Henry v. Johnson, 191 Kan. 369, 381 P.2d 538 (1963). “Where an insurer bases its refusal to pay a loss upon a forfeiture or failure to comply with [a] particular condition it cannot thereafter maintain a defense based upon another condition not referred to in such refusal to pay and of which it then had knowledge.” Pacific Indemnity Co. v. Berge, 205 Kan. 755, 767, 473 P.2d 48, 57 (1970). An insurer cannot handle a claim with knowledge of policy defenses indefinitely and must inform its insured of its disclaimer within a reasonable time. 7C Appleman, Insurance Law and Practice § 4694, p. 361 (1979). Additionally, notice to an insured is insufficient unless it makes specific reference to the policy defense being relied upon by the insurer. Id. at 353. Filing a declaratory judgment action is a suitable alternative to the filing of a reservation of rights. Id. at § 4692.

In the instant case, plaintiff sent reservation-of-rights letters to the insureds in June of 1983. These letters stated: “This reservation is required by (1) our lack of information sufficient to assess the captioned claim and determined (sic) the extent, if any, to which coverage is afforded by Policy No. FDO 7996; ... and (3) the fact that the complaint filed by the Federal Savings & Loan Insurance Corporation (“FSLIC”) seeks a joint and severable recovery against all defendants ... in excess of the $1,000,000 limit of the captioned policy.” Plaintiff thereafter filed this declaratory judgment action on February 17, 1984, seeking a declaration that an aggregate limit of One Million Dollars ($1,000,-000) in coverage existed. The underlying case has been pending for over two years, and plaintiff has had ample time to evaluate the extent of its coverage in this matter. The allegations framed by the FSLIC in the underlying case should have alerted plaintiff as to any possible defense on the basis of fraud. Further, plaintiff could have asserted the defense based on misrepresentation at an earlier time as it was in possession of the renewal application and aware of the Federal Home Loan Bank Board’s report since August of 1984. Plaintiff has failed to assert its defenses within a reasonable time and it is now estopped to do so.

Defendants next assert the issue of plaintiff’s due care and good faith. The factors to consider in making this determination are:

... [1] the strength of the injured claimant’s case on the issues of liability and damages; [2] attempts by the insurer to induce the insured to contribute to a settlement; [3] failure of the insurer to properly investigate the circumstances so as to ascertain the evidence against the insured; [4] the insurer’s rejection of advice of its own attorney or agent; [5] failure of the insurer to inform the insured of a compromise offer; [6] the amount of financial risk to which each party is exposed in the event of a refusal to settle; [7] the fault of the insured in inducing the insurer’s rejection of the compromise offer by misleading it as to the facts; and [8] any other factors tending to establish or negate bad faith on the part of the insurer.

Bollinger v. Nuss, 202 Kan. 326, 338, 449 P.2d 502, 512 (1969), quoting Brown v. Guarantee Ins. Co., 155 Cal.App.2d 679, 689, 319 P.2d 69, 75 (1958).

The court has carefully reviewed the record on this issue and finds that material fact questions exist, therefore it is not proper for resolution by summary judgment at this juncture.

Defendants Huff, Fleming, Erickson and Johnson seek attorneys’ fees as provided for in the contract of insurance which states, “[t]he company shall pay the insureds for all reasonable expenses other than salaries, wages and loss of earnings incurred at the company’s request____” Upland Mutual Ins., Inc. v. Noel, 214 Kan. 145, 519 P.2d 737 (1974), addressed a similar situation and found that an insured could recover attorneys’ fees incurred in the defense of a declaratory judgment action brought by the insurer. The court found that the filing of a declaratory judgment action constituted a “request” on the part of the insurer and therefore the company was obligated under the terms of its policy to reimburse its insured. Likewise, in the case at bar, plaintiff should be liable for fees incurred in this action under its contract of insurance.

IT IS BY THE COURT THEREFORE ORDERED that plaintiff’s motion for summary judgment is hereby denied. IT IS FURTHER ORDERED that defendant Huff’s motion for summary judgment is hereby denied in part and granted in part. IT IS FURTHER ORDERED that the motion of defendants Fleming, Erickson and Johnson for summary judgment is hereby denied in part and granted in part. IT IS FURTHER ORDERED that the motion of defendant FSLIC for summary judgment is hereby denied in part and granted in part.


author: HUGH GIBSON, District Judge.

text:
    George CHARLES, v. OCEAN DRILLING & EXPLORATION CO., Tenneco Oil Company, PBR Offshore Marine Corporation, Odeco Drilling Inc., Odeco Inc., Odeco Drilling and Exploration Co.
    Civ. A. No. G-84-187.
    United States District Court, S.D. Texas, Galveston Division.
    Nov. 26, 1985.
    Anthony P. Griffin, Galveston, Tex., for plaintiff.

      Samuel B. Kent, Galveston, Tex., Michael K. Bell, Constance Walker and Lisa Mims, Houston, Tex., for defendants.
   ORDER

HUGH GIBSON, District Judge.

Plaintiff moves pursuant to Fed.R.Civ.P. 15(a) for leave to file his second amended complaint. The second amended complaint would remove the Federal Rules of Civil Procedure 9(h) (Admiralty and Maritime Claims) designation. Plaintiff contends that the amendment “does not necessarily change the nature, content and/or tenor of plaintiffs proof but allows said plaintiff to obtain a jury trial ...” Plaintiff, in his motion and in oral argument to the Court on November 4, 1985, asserted no basis for his motion other than his desire for a jury trial. The defendants, however, contend that allowing a jury trial would prejudice their case because they have planned for a bench trial, relying on depositions and documentary evidence instead of live witnesses. Plaintiffs motion comes after the case has been pending on the non-jury docket for nineteen months.

The Court treats plaintiffs motion to amend pursuant to Rule 15(a) as substantively equivalent to a Rule 39(b) motion. Rule 15(a) gives the court discretion to allow untimely amendments. Fed.R.Civ.P. 39(b) gives the Court discretion to allow a jury trial when the movant fails to timely demand a jury trial. The Court does not believe that plaintiff may amend his complaint and then demand a jury trial as a matter of right pursuant to Fed.R.Civ.P. 38(b). To prevent litigants from circumventing the requirements of Rule 39 by amending their pleadings, it is an established rule that when a party fails to make timely demand for a jury trial under Rule 38(b), and his amendment of the pleadings adds no new issues, the amendment “will not give rise to the right to demand a jury.” 5 J. Moore, J. Lucas, & J. Wicker, Moore’s Federal Practice ¶ 38.41, at 38-365 (2d ed. 1985). See Moore v. United States, 196 F.2d 906, 908 (5th Cir.1952); Roth v. Hyer, 142 F.2d 227, 228 (5th Cir.), cert. denied, 323 U.S. 712, 65 S.Ct. 38, 89 L.Ed. 573 (1944); Reading & Bates Construction Co. v. Baker Energy Resources Corp., 96 F.R.D. 564, 565-66 (S.D.Tex.1983). Plaintiff contends that the second amended complaint will add nothing to the issues. Thus, the question is really whether the Court should exercise its discretion under Rule 15 and 39 and grant plaintiff a jury trial.

The Fifth Circuit Court of Appeals has instructed the district courts to “grant a jury trial in the absence of strong and compelling reasons to the contrary.” Swofford v. B & W, Inc., 336 F.2d 406, 409 (5th Cir.1964), cert. denied, 379 U.S. 962, 85 S.Ct. 653, 13 L.Ed.2d 557 (1965). In this case, such persuasive reasons exist. This case has been pending on the non-jury docket for nineteen months. The case was set for trial, subject to call on short notice, when the Court entered a ninety day order of dismissal at the request of the parties. On November 4, 1985, the Court reinstated the case. Plaintiff has not explained his nineteen month delay in demanding a jury trial. To allow plaintiff to make this eleventh hour change in trial strategy by removing the Rule 9(h) designation and having the case placed on the jury docket would work an unfair hardship on defendants. See United States v. Unum, Inc., 658 F.2d 300, 303 (5th Cir.1981) (trial judge had discretion to dismiss defendant’s Rule 39(b) motion made only a few days before final docket call when defendant gave no persuasive reason for delay and plaintiff “had prepared its case to be tried to the bench; there was an obvious reliance on depositions and documentary evidence ... ”). See also Zenith Radio Corp. v. Hazeltime Research, Inc., 401 U.S. 321, 330-31, 91 S.Ct. 795, 802, 28 L.Ed.2d 77 (1971) (When deciding whether to permit an amendment of pleadings pursuant to Rule 15(a), trial court must “take into account any prejudice that the [non movant] would have suffered ... ”).

It is, therefore, ORDERED, ADJUDGED and DECREED that plaintiff’s motion for leave to file his second amended complaint is DENIED.

      . Plaintiff's second amended complaint does not contain a jury demand. Fed.R.Civ.P. 38(b) explicitly requires plaintiff to demand a jury trial in writing pursuant to Fed.R.Civ.P. 5(d). Plaintiffs desire for a jury trial is his sole ground for seeking leave of the Court to amend his amended complaint. Thus, the Court must assume that plaintiff would demand a jury trial if the Court granted leave to amend.