FTX Drama Extends to Bitter Fight Over Limited Insurance Pie (1)

[Gunnar Larson]

https://news.bloomberglaw.com/insurance/ftx-drama-extends-to-bitter-fight-over-limited-insurance-pie


FTX Drama Extends to Bitter Fight Over Limited Insurance Pie (1)

Sam Bankman-Fried said D&O insurer stopped paying legal fees
FTX former general counsel says insurance payment plan unfair
FTX’s legal drama doesn’t stop at Sam Bankman-Fried’s conviction, as the
crumbled crypto exchange’s former executives fight over whether insurance
policies will cover their attorney fees.

At the heart of the dispute is a basic problem: there isn’t enough
insurance money to go around.

Bankman-Fried, FTX’s co-founder, sued one of the company’s insurers, the
Continental Casualty Co., a day before his criminal trial started in
October. He alleged the CNA Financial Corp. unit breached its contract by
refusing to pay his legal bills.

A week later, Daniel Friedberg, FTX’s former general counsel and chief
regulatory officer, asked to join the suit, saying it was unfair he
received nothing while Bankman-Fried and other executives burned through
the $20 million directors and officers insurance policy.

The former crypto mogul voluntarily dismissed his complaint against
Continental Monday night, taking this insurance fight behind doors four
days after his jury conviction. Friedberg’s lawyers didn’t immediately
respond to a request for comment on the dismissal.

But such insurance disputes go beyond FTX, raising broader questions about
how to split up D&O insurance payments when so many executives are
competing for a limited pool of funds.

Enron Corp.’s D&O insurers gave up on the dilemma entirely, and deposited
$200 million of a $350 million policy limit to the court, asking the US
District Court for the Southern District of Texas to decide how to slice
the insurance pie when the fraudulent company’s directors vied for coverage
of their defense costs in 2004.

In FTX’s case, D&O insurers have to shoulder attorney fees covering more
than 20 executives targeted in criminal and civil investigations and
lawsuits tied to the fallen crypto empire. Friedberg, whom FTX’s new
management alleged was a fixer for Bankman-Fried and FTX, says the insurers
are acting in bad faith if they don’t allocate the payments equally.

There are no uniform rule across states, and insurance companies usually
pay claims on a first-come, first-served basis, but that could have changed
if Friedberg were permitted to intervene in Bankman-Fried’s complaint.

“Any insured executives under a D&O policy should want to know how their
own policy would distribute proceeds in a similar situation,” said Jonathan
Reid Reich, an insurance litigator at Womble Bond Dickinson.

First Come, First Served
The insurance row started in July, when Friedberg objected to the D&O
carriers’ plan to distribute payments among FTX’s former executives,
according to court records. FTX’s new management had sued Friedberg the
previous month, claiming he helped Bankman-Fried steal billions in customer
funds.

The former general counsel, who allegedly made millions at FTX, said he
paid over $800,000 in defense costs out of pocket and is defending himself
in one civil action after he failed to get D&O coverage. “I have limited
resources and will not be able to continue to fund my own defense,”
Friedberg said in his motion to intervene.

FTX is covered by four D&O insurers, each taking on a $5 million policy
limit. The primary insurer, Beazley Plc, and the first “excess” insurer,
QBE Insurance Group Ltd., already paid out their full share earlier this
year. The second excess insurer, CNA subsidiary Continental Casualty Co.,
had paid over $871,000 as of September, then stopped sending in payments
“on a current basis” as required by the policy, according to
Bankman-Fried’s complaint.


The last carrier, Hiscox Ltd., deposited the insurance funds with the US
District Court for the Northern District of California in August—shortly
after Friedberg objected to the allocation plan—asking the court to decide
how to divide its $5 million among the executives. Hiscox said the
distribution could be affected by facts uncovered in litigation against FTX
and its executives, including in future trials.

“Hiscox was basically saying, we know we owe this money, we just don’t know
who we owe it to, and we’ll leave it to the court to allocate it,” said
Kevin LaCroix, executive vice president at insurance broker Ryan Specialty
LLC.

Hiscox’s approach could also be a way to stave off any further suits.

“It’s a preemptive move by an insurer to protect itself from claims of bad
faith by those who get short-changed,” said Paul Curley, a Kaufman Borgeest
& Ryan LLP partner who represents insurers.

Evidence of Fraud
In his motion to intervene, Friedberg said the insurers violated
California’s equitable allocation rule by letting Bankman-Fried’s legal
costs devour the insurance money just because his claims came in first.
Friedberg asked Continental not to follow Beazley and QBE’s approach.

Continental, which was sandwiched between bad-faith allegations from both
Bankman-Fried and Friedburg, could have followed what Hiscox did by letting
the court decide how to allocate the funds. But that would have
acknowledged there is a basis for insurance coverage to begin with—a point
the insurer may separately wish to contend.

The D&O policy has an exclusion for claims connected to criminal fraud, but
the provision can’t be enforced yet because it requires a non-appealable
conviction, said Jennifer Farina, a partner at McCarter & English LLP who
represents policyholders. Even with a fraud verdict, Bankman-Fried still
has a right to seek insurance payments until all appeals are exhausted, she
said.

Continental may also be looking for any evidence coming out of litigation
showing that Bankman-Fried or other FTX executives lied about the company’s
financials on the insurance application—a separate cause for refusing
payment, Curley said.

FTX’s insurance was issued in August 2022. A few months earlier, the
company had created seven alternative balance sheets for one of its
lenders, according to testimony from Caroline Ellison, the former CEO of
FTX’s sister hedge fund, Alameda Research, and Bankman-Fried’s former
girlfriend. That could bolster’s Continental’s efforts to avoid payment,
attorneys say.

“The facts are not going to get worse for the insurance company; they’re
only going to get better,” said Reich. “The vast majority of the evidence
supports an insurer’s argument that there was a long-running fraud, which
involved many of the insureds, and began before the policy came into force.”

CNA declined to comment.

‘Lose-Lose Situation’
If Continental or other insurers seek to deny coverage or recoup payments
on the grounds of insurance application fraud, they would need to target
those executives who signed their names on the form.

Insurance attorneys questioned whether it’s worthwhile for Continental to
take that approach when there are so many executives filing for payment.

Why would Continental fight against coverage “when they’re going to exhaust
it anyway, whether it’s paying SBF or paying someone else?” asked Curley.

“It’s a lose-lose situation. If you make the payments, certain people are
going to complain; if you don’t make the payments, certain people are going
to complain,” he said.

The case is Bankman-Fried v. Continental, N.D. Cal., No. 5:23-cv-05048.

(Updates throughout with Sam Bankman-Fried's voluntary dismissal of case.)
To contact the reporter on this story: Daphne Zhang in New York City at
dzhang at bloombergindustry.com

To contact the editors responsible for this story: Michael Smallberg at
msmallberg at bloombergindustry.com; Keith Perine at kperine at bloomberglaw.com;
Anna Yukhananov at ayukhananov at bloombergindustry.com

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