Hurley v. State Farm Mutual Automobile Insurance Company et al

Filing 76

ORDER that affidavits be disclosed by defendants to Hurley by 2/11/2013. Signed by U.S. District Judge Karen E. Schreier on 1/30/2013. (KC)

UNITED STATES DISTRICT COURT
DISTRICT OF SOUTH DAKOTA
SOUTHERN DIVISION
WILLARD HURLEY,
Plaintiff,
vs.
STATE FARM MUTUAL
AUTOMOBILE INSURANCE
COMPANY and
STATE FARM FIRE AND CASUALTY
COMPANY,
Defendants.

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CIV. 10-4165-KES

ORDER

Plaintiff, Willard Hurley, alleges a bad faith claim against defendants,
State Farm Mutual Automobile Insurance Company and State Farm Fire and
Casualty Company (collectively State Farm). Hurley moved to compel
discovery, which the court granted in part and denied in part. Docket 49.
Because State Farm claimed that the attorney-client privilege protected some
documents, the court conducted an in camera review of the allegedly privileged
documents. After reviewing the documents, the court determined that further
argument was necessary and held a hearing on July 9, 2012. Following the
hearing, the court ordered that the parties depose four individuals for the
limited purpose of determining the basis for State Farm’s decision to increase
insurance payments to Hurley. Docket 57. The parties submitted the
transcripts of those depositions along with affidavits from the individuals

deposed to the court for in camera review. The parties also filed additional
briefs to support their arguments.
BACKGROUND
The pertinent facts to this order are as follows:
Hurley maintained auto coverage and umbrella coverage policies with
State Farm. On October 21, 2007, Hurley was injured in an automobile
accident as a result of another driver’s actions. The other driver’s personal
liability insurance limits were insufficient to compensate Hurley. After State
Farm declined to substitute its own draft of the other driver’s settlement,
Hurley accepted the limits of the other driver’s policy and entered into a
release with the driver.
Hurley then filed a claim with State Farm, which denied his claim.
Hurley brought suit against State Farm for breach of contract to recover under
the underinsured motorist (UIM) provisions of his policy. After about one year
of litigation, State Farm made an unconditional payment of $340,000 to
Hurley and later paid an additional $200,000 to resolve the case. Hurley then
commenced this action alleging first-party bad faith refusal to pay an
insurance claim.

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DISCUSSION
Detailed accounts of the law and facts relevant to Hurley’s motion to
compel were discussed in previous orders from this court. Dockets 49 & 57. A
brief summary of those orders helps frame the current issue.
Hurley seeks information concerning State Farm’s conduct that
occurred after Hurley filed his UIM claim with State Farm to understand why
State Farm paid zero dollars on Hurley’s claim before litigation began, but
then paid $340,000 about a year after litigation began, and then an additional
$200,000 later. State Farm originally refused to provide the requested
information but, after Hurley moved to compel, State Farm provided such
information redacting the portions subject to the attorney-client privilege.
State Farm argued that the information sought is not relevant because it
occurred after the breach of contract litigation commenced, and it does not
relate to State Farm’s initial denial of Hurley’s claim. Relying on Dakota,
Minnesota & Eastern Railroad Corp. v. Acuity, 771 N.W.2d 623 (S.D. 2009), this
court concluded that evidence relating to State Farm’s decision to dramatically
increase the amount paid on Hurley’s claim, even if the evidence stems from
post-litigation conduct, is relevant and discoverable because a first-party bad
faith claim focuses on whether an insurance company consciously engaged in
wrongdoing during the processing or paying of policy benefits to its insured.
Docket 57 at 3-5.

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The court then addressed the issue of attorney-client privilege. After
noting that South Dakota law applies to issues regarding attorney-client
privilege, see Fed. R. Evid. 501, the court determined that the documents in
question are protected by the attorney-client privilege because they were made
for the purpose of rendering professional legal services to the client. Docket 57
at 5-6. A client, however, can waive the attorney-client privilege if, among
other reasons, the client’s actions fall under the advice-of-counsel exception to
the attorney-client privilege. Bertelsen v. Allstate Ins. Co., 796 N.W.2d 685, 701
(S.D. 2011).
In Bertelsen, the South Dakota Supreme Court referenced the test from
Hearn v. Rhay, 68 F.R.D. 574 (E.D. Wash. 1975), for determining whether a
client has waived the attorney-client privilege. Id. at 702. Hearn articulated a
three-part analysis: (1) whether the assertion of the attorney-client privilege
was the result of an affirmative act by the asserting party; (2) whether the
asserting party, through the affirmative act, made the protected information
relevant to the case; and (3) whether “ ‘application of the privilege would have
denied the opposing party access to information vital to his defense.’ ” Id.
(quoting Hearn, 68 F.R.D. at 581).
After determining that Hearn provides insufficient guidance on its own,
the Supreme Court added additional considerations to the Hearn analysis.
“First, the analysis . . . should begin with a presumption in favor of preserving

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the privilege.” Id. at 703. “Second, a client only waives the privilege by
expressly or impliedly injecting his attorney’s advice into the case.” Id. Under
this analysis, “[t]he key factor is reliance of the client upon the advice of his
attorney.” Id. (citation omitted). “Finally, a client only waives the privilege to
the extent necessary to reveal the advice of counsel he placed at issue.” Id.
(citing DM&E, 771 N.W.2d at 638).
Following a detailed analysis, this court previously determined that the
sole issue is whether State Farm, through its affirmative acts, made the
privileged information relevant to the case by injecting its attorney’s advice
into the case. Docket 57 at 10. At that time, however, the court was unable to
definitively conclude whether State Farm injected its attorney’s advice into the
case. Thus, the court ordered the parties to depose Judith Penzler, Steve
Ladig, Teresa Herrera, and Jody Anderson for the limited purpose of
determining the basis for the increased payments to Hurley. After the
depositions, those four individuals were required to file affidavits, under seal
with the court, detailing the substance, if any, of the attorney-client privileged
information upon which the individuals relied. The court has reviewed the
deposition transcripts, the four affidavits, and additional briefs and can now
determine whether State Farm injected its attorney’s advice into the case.
State Farm argues that it did not waive its attorney-client privilege
because it is not explicitly claiming the advice-of-counsel defense in response

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to Hurley’s bad faith claim. The law in South Dakota, however, only requires
some affirmative act, not necessarily an express claim of the advice-of-counsel
defense, to waive the attorney-client privilege. Bertelsen, 796 N.W.2d at 702
(citing Hearn, 68 F.R.D. at 581 and State Farm Mut. Auto Ins. Co. v. Lee, 13
P.3d 1169, 1173 (Ariz. 2000)). Representatives of State Farm testified that they
relied, and in some instances quite heavily, on the advice of counsel in
deciding to increase the amount paid on Hurley’s claim. State Farm’s
defense–its justification for why it increased the amount paid to Hurley from
zero dollars to $540,000–is based, in part, on factual representations that
explicitly rely upon legal advice. See Lee, 13 P.3d at 1178 (“But where . . . an
insurer makes factual representations which implicitly rely upon legal advice
as justification for non-payment of claims, the insurer cannot shield itself from
disclosure of the complete advice of counsel relevant to the handling of the
claim.”). Such factual representations are more than a mere assertion of good
faith; they go to the heart of proving State Farm’s good faith defense. Therefore,
State Farm’s assertion of the privilege was a result of its affirmative act.
The second criterion of the Hearn test requires that State Farm, through
its affirmative act, put the protected information at issue by making it relevant
to the case. Bertelsen, 796 N.W.2d at 702 (citing Hearn, 68 F.R.D. at 581).
Additionally, the South Dakota Supreme Court has held that South Dakota
law requires the asserting party to inject its reliance upon the advice of

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counsel into the litigation if the asserting party is to waive the privilege. Id. at
703. The deposition transcripts show that State Farm relied upon the advice of
counsel when it increased the amount paid on Hurley’s claim. Prenzler
answered in the affirmative when asked whether she relied on advice of
counsel in reaching her conclusions as to the valuation of Hurley’s claim,
characterizing her reliance as “heavy weighted.” Docket 73-1 at 2. Ladig
testified that his lost wage calculation “was probably heavily dependent upon
defense counsel.” Docket 73-2 at 2. Herrera answered in the affirmative when
asked whether the advice of counsel played a role in the ultimate valuation
decision that she reached. Docket 73-3 at 5. The deposition testimony of these
three individuals illustrates the point that State Farm’s own counsel made
during oral argument: advice of counsel was “intertwined” with State Farm’s
decision to increase the valuation of Hurley’s claim. Therefore, State Farm
injected its attorney’s advice into this case by relying, quite heavily, on the
advice of counsel in deciding to increase the amount paid on Hurley’s claim.
See Lee, 13 P.3d at 1178-81 (“Having asserted that its actions were reasonable
because of what it knew about the applicable law, State Farm has put in issue
the information it obtained from counsel.”).
The third criterion of the Hearn test requires a situation in which
application of the privilege would deny Hurley access to information vital to his
claim or State Farm’s defense. Hearn, 68 F.R.D. at 581. As the court

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previously noted, Hurley is entitled to know the reasons why State Farm
increased its payment because the question of whether State Farm had a
reasonable basis to deny his claim is a necessary element in a first-party bad
faith case. See, e.g., Brooks v. Milbank Ins. Co., 605 N.W.2d 173, 177 (S.D.
2000) (reasoning that under South Dakota law the elements of a first-party
bad faith claim include “the absence of a reasonable basis for denial of the
claim; and that the insurer knew there was not a reasonable basis to deny the
claim or that the insurer acted in reckless disregard of the existence of a
reasonable basis to deny the claim”). Therefore, Hurley has met the Hearn
criteria as supplemented by Bertelsen, showing that State Farm impliedly
waived its attorney-client privilege.
Even so, State Farm need not disclose all attorney-client
communications related to the bad faith claim. A “client only waives the
privilege to the extent necessary to reveal the advice of counsel he placed at
issue.” Bertelsen, 796 N.W.2d at 703. Here, State Farm waived the privilege to
this narrow issue: the advice that State Farm’s counsel provided that played a
role in State Farm’s decision to increase the payments on Hurley’s claim.
Because the affidavits created by Penzler, Ladig, Herrera, and Anderson are
limited to the substance of the advice of counsel that they relied on in
increasing the value of Hurley’s claim, the affidavits will be disclosed to
Hurley. If, after reviewing the affidavits, Hurley determines that further

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discovery is necessary, then he should request such from the court.
Accordingly, it is
ORDERED that the affidavits signed by Penzler, Ladig, Herrera, and
Anderson will be disclosed by defendants to Hurley by February 11, 2013.
Dated January 30, 2013.
BY THE COURT:

/s/ Karen E. Schreier
KAREN E. SCHREIER
UNITED STATES DISTRICT JUDGE

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