1 2 3 4 5 6 7 8 UNITED STATES DISTRICT COURT 9 SOUTHERN DISTRICT OF CALIFORNIA 10 11 BRIDLEWOOD ESTATES PROPERTY Case No.: 23-cv-00195-AJB-AHG OWNERS ASSOCIATION, a California 12 Nonprofit Corporation, ORDER DENYING DEFENDANT’S 13 Plaintiff, MOTION TO DISMISS

14 v. (Doc. No. 9) 15

STATE FARM GENERAL

16 INSURANCE COMPANY, an Illinois 17 Corporation, Defendant. 18 19 20 Before the Court is State Farm General Insurance Company’s (“Defendant” or “State 21 Farm”) motion to dismiss Bridlewood Estates Property Owners Association’s (“Plaintiff” 22 or “Bridlewood”) Complaint. (Doc. No. 9.) The motion is fully briefed. For the reasons set 23 forth below, the Court DENIES Defendant’s motion. 24 I. BACKGROUND1 25 Defendant insures Plaintiff under a Residential Community Association Policy 26 (“Policy”). The Policy includes an endorsement, which provides liability coverage for the 27

28 1 The following facts are taken from the FAC and assumed true for purposes of this motion. See Cahill v. 1 wrongful acts of Plaintiff’s directors and officers. This action arises from Defendant’s 2 denial of insurance coverage to Plaintiff. 3 On September 27, 2022, Plaintiff, received an invoice totaling $123,617.00 from 4 Aztec Paving, Inc. (“Aztec”) for asphalt repairs it conducted at Plaintiff’s property. The 5 invoice was sent via email by Aztec’s Project Manager, Jon Seethaler (“Seethaler”), from 6 his email address: jon@aztecpaving.com. Later that day, Plaintiff received an email 7 appearing to be from Seethaler, explaining that Aztec is moving away from receiving check 8 payments to direct electronic wire transfers. The sender’s email address was 9 jon@aztecpavlng.com. 10 Plaintiff sent the invoice to its Treasurer, Owen Thomas (“Thomas”), for processing 11 and copied him to the email chain with Seethaler. On September 28, 2022, Thomas 12 received emails from Seethaler at his email address, jon@aztecpaving.com, informing him 13 of Aztec’s move to a paperless system and that payment may be sent via wire transfer. 14 Thomas thereafter replied to Seethaler’s email asking him to provide Aztec’s wire transfer 15 information. 16 The next day, Thomas received an email from jon@aztecpavlng.com with an 17 attachment containing what appeared to be Aztec’s wire transfer instructions. On October 18 3, 2022, Thomas wired $123,617.00 from Plaintiff’s bank account using the wire transfer 19 instructions provided. 20 Three days later, Seethaler emailed Thomas notifying him that Aztec has not yet 21 received the wire transfer. Plaintiff subsequently discovered that the wiring instructions 22 Thomas used to transmit payment to Aztec were sent by a fake email address, 23 jon@aztecpavlng.com. Plaintiff believes the communications between Thomas and the 24 fake email address occurred via hacking of Aztec’s email server. 25 Between October and November 2022, Aztec demanded payment from Plaintiff and 26 filed a Mechanics Lien (“Aztec Lien”) on its property. Plaintiff tendered the demand and 27 mechanics lien to Defendant, seeking coverage under the Policy’s Directors and Officers 28 Liability Endorsement. On December 16, 2022, Defendant denied coverage, asserting that 1 Aztec’s claim against Plaintiff was not based on a wrongful act of an officer within the 2 meaning of the Policy, but rather, Plaintiff’s failure to pay a contractual obligation and debt 3 owed. 4 Later in December, Aztec’s subcontractor, Superior, filed a mechanics lien 5 (“Superior Lien”) against Plaintiff, and Aztec filed in San Diego Superior Court a 6 Complaint against Plaintiff alleging breach of contract and related claims (“Aztec 7 Complaint”). 8 On January 13, 2023, Plaintiff tendered the Aztec Lien and Superior Lien to 9 Defendant for defense and indemnification under the Policy. After being served with the 10 Aztec Complaint, Plaintiff tendered it to Defendant, demanding it agree to defend and 11 indemnify Plaintiff with respect to the Aztec Lien, Superior Lien, and Aztec Complaint. 12 Defendant denied coverage to Plaintiff for the mechanic liens, but has not responded to 13 Plaintiff’s tender of the Aztec Complaint. 14 According to Plaintiff, it attached to the tender letters the email chain showing the 15 wire instructions sent by the fake email address to Plaintiff and utilized by its Treasurer, 16 Thomas, to wire the $123,617.00 payment to Aztec. Plaintiff alleges Defendant 17 unreasonably denied coverage by ignoring facts made known to them that would 18 potentially trigger coverage and placed its economic interests ahead of its insured. 19 Plaintiff filed the instant action against Defendant, alleging breach of contract, 20 breach of implied covenant and good faith and fair dealing, and declaratory relief. (Doc. 21 No. 1.) Defendant filed a motion to dismiss Plaintiff’s Complaint. (Doc. No. 9.) This Order 22 follows. 23 II. LEGAL STANDARD 24 A motion to dismiss pursuant to Federal Rule of Civil Procedure (“Rule”) 12(b)(6) 25 tests the legal sufficiency of the complaint. Navarro v. Block, 250 F.3d 729, 732 (9th Cir. 26 2001).2 “To survive a motion to dismiss, a complaint must contain sufficient factual matter, 27

28 2 Unless otherwise indicated, internal citations, quotation marks, and alterations are omitted from the case 1 accepted as true, to ‘state a claim to relief that is plausible on its face.’” Ashcroft v. Iqbal, 2 556 U.S. 662, 678 (2009) (citation omitted). Facial plausibility is satisfied “when the 3 plaintiff pleads factual content that allows the court to draw the reasonable inference that 4 the defendant is liable for the misconduct alleged.” Id. To determine the sufficiency of the 5 complaint, the court must assume the truth of all factual allegations and construe them in 6 the light most favorable to the plaintiff. Cahill v. Liberty Mut. Ins. Co., 80 F.3d 336, 337– 7 38 (9th Cir. 1996). Although a court must take all factual allegations in a complaint as true, 8 it is not required to accept conclusory statements. Iqbal, 556 U.S. at 678. 9 III. DISCUSSION 10 Defendant makes clear that disposition of its motion to dismiss turns on whether the 11 circumstances of Plaintiff’s case is covered under the Policy’s Directors and Officers 12 Liability Endorsement (“DO Endorsement”). Specifically, Defendant argues that Plaintiff 13 has not stated a claim for breach of the Policy because there was no wrongful act within 14 the meaning of the DO Endorsement to trigger its duty to defend and indemnify. The Court 15 disagrees. 16 A. California Liability Insurance Law3 17 Under California law, liability insurance generally “imposes two separate 18 obligations on the insurer: (1) to indemnify its insured against third party claims covered 19 by the policy (by settling the claim or paying any judgment against the insured); and (2) to 20 defend such claims against its insured (by furnishing competent counsel and paying 21 attorney fees and costs.” Howard v. Am. Nat’l Fire Ins. Co., 115 Cal. Rptr. 3d 42, 61 (Ct. 22 App. 2010). “Although correlative, the duty to indemnify and the duty to defend are not 23 coterminous.” Certain Underwriters at Lloyd’s of London v. Superior Ct., 24 Cal. 4th 945, 24 958 (2001). While the duty to defend may arise as soon as damages are sought in some 25 amount, the duty to indemnify can arise only after damages are fixed in their amount. Id. 26 27 28 1 In turn, “[w]here there is a duty to defend, there may be a duty to indemnify; but where 2 there is no duty to defend, there cannot be a duty to indemnify.” Id. 3 “[A] liability insurer owes a broad duty to defend its insured against claims that 4 create a potential for indemnity.” Horace Mann Ins. Co. v. Barbara B., 4 Cal. 4th 1076, 5 1081 (1993). The insured bears the initial burden “to prove that an event is a claim within 6 the scope of the basic coverage.” Royal Globe Ins. Co. v. Whitaker, 226 Cal. Rptr. 435, 437 7 (Ct. App. 1986). Once established, the burden shifts to the insurer “to prove a claim covered 8 falls within an exclusion.” Id. As such, “[t]o prevail, the insured must prove the existence 9 of a potential for coverage, while the insurer must establish the absence of any such 10 potential.” Montrose Chem. Corp. v. Superior Ct., 6 Cal. 4th 287, 300 (1993) (emphasis in 11 original). 12 Where a third-party claim is involved, “the test is whether the underlying action for 13 which defense and indemnity is sought potentially seeks relief within the coverage of the 14 policy.” La Jolla Beach & Tennis Club, Inc. v. Industrial Indemnity Co., 9 Cal. 4th 27, 44 15 (1994) (emphasis omitted). An insurer must therefore “defend against a suit even where 16 the evidence suggests but does not conclusively establish that the loss is not covered.” 17 Hartford Cas. Ins. Co. v. Swift Distribution, Inc., 59 Cal. 4th 277, 286 (2014). 18 “Determination of the duty to defend depends, in the first instance, on a comparison 19 between the allegations of the complaint and the terms of the policy.” Id. at 287. The duty 20 is also triggered “where extrinsic facts known to the insurer suggest that the claim may be 21 covered.” Id. As such, “[i]f any facts stated or fairly inferable in the complaint, or otherwise 22 known or discovered by the insurer, suggest a claim potentially covered by the policy, the 23 insurer’s duty to defend arises and is not extinguished until the insurer negates all facts 24 suggesting potential coverage.” Id. Generally, “doubt as to whether an insurer owes a duty 25 to defend must be resolved in favor of the insured.” Id. 26 In determining whether a claim creates the potential for coverage under an insurance 27 policy, statutory rules of contract interpretation apply. Id. at 288. Thus, “the mutual 28 intention of the parties at the time the contract is formed governs interpretation.” Id. To 1 determine intent, the court looks “first to the language of the contract in order to ascertain 2 its plain meaning or the meaning a layperson would ordinarily attach to it.” Id. The court 3 “must also interpret the language in context, with regard to its intended function in the 4 policy.” Id. 5 B. Wrongful Act Within the Meaning of the DO Endorsement 6 Plaintiff’s causes of action for breach of contract, breach of the implied covenant of 7 good faith and fair dealing, and declaratory relief are all predicated on its allegations that 8 State Farm wrongfully failed to provide defense and/or indemnity under the Policy in 9 connection with the Aztec Lien, the Superior Lien, and the Aztec Complaint. 10 Pertinent here, the Policy’s DO Endorsement states that State Farm “will pay those 11 sums that the insured becomes legally obligated to pay as damages because of a ‘wrongful 12 act’ to which this endorsement applies.” (Doc. No. 1-3 at 18.) According to the DO 13 Endorsement: 14 “Wrongful act” means any actual or alleged error, misstatement, misleading 15 statement, act, omission, neglect, or breach of duty committed, attempted or 16 allegedly committed or attempted by an insured arising solely out, of his or her capacity as director, officer “manager” or trustee relating to the operations 17 of your organization. 18 19 (Doc. No. 1-3 at 20.) 20 As to whether Plaintiff has carried its initial burden that the claim is potentially 21 covered under the Policy, the Court finds it has. Comparing the allegations in the Aztec 22 Complaint and the terms of the DO Endorsement, the Court does not find that Aztec’s 23 breach of contract claim is necessarily disqualified from coverage. According to Aztec, 24 Plaintiff breached its contract with Aztec “by failing and refusing, without just cause or 25 excuse, to pay” for services it rendered. (Doc. No. 1-14 at 4.) The DO Endorsement does 26 not expressly exclude contractual liabilities from coverage. Indeed, it delineates nineteen 27 different exclusions; none are for contractual violations. (Doc. No. 1-3 at 18–20.) 28 1 Moreover, Plaintiff has presented extrinsic facts known to State Farm which suggest 2 a potential claim for coverage based on the Treasurer’s error, negligence, or breach of duty. 3 See Hartford Cas. Ins. Co., 59 Cal. 4th at 287 (“duty [to defend] also exists where extrinsic 4 facts known to the insurer suggest that the claim may be covered.”). State Farm is aware 5 of facts supporting Plaintiff’s claim that its Treasurer processed the $123,617.00 payment 6 for Aztec’s invoice, “but payment was misdirected due to hacking of the contractor’s email 7 system, causing the officer of Bridlewood to wire payment into the hacker’s bank account.” 8 (Doc. No. 1 at 3.) Specifically, State Farm is in possession of the email communications 9 showing the deception that led to the Treasurer’s payment error. (Id. at 11; Doc. No. 1-5 at 10 2–10.) 11 State Farm is also aware of Plaintiff’s and Aztec’s discovery exchanges in the 12 underlying action, which show that Plaintiff raised with Aztec, as a possible defense, its 13 Treasurer’s payment to a bank account he believed belonged to Aztec. (Doc. No. 13-2 at 14 5.) Aztec responded that it did not receive that payment because Plaintiff’s Treasurer sent 15 the payment to a bank account that did not belong to Aztec. (Id. at 5, 7.) In further support 16 of its contention that it did not receive payment, Aztec explained that Plaintiff’s Treasurer 17 “wired funds to a bank account that was provided to him in an email, with an address that 18 was not previously used to communicate with Estimator/Project Manager, Jon Seethaler. 19 The email address did not use the same domain name as the email address used by 20 Estimator/Project Manager, Jon Seethaler.” (Id. at 11.) Aztec also faults Plaintiff’s 21 Treasurer for not contacting Aztec to confirm the wiring instructions prior to transferring 22 the funds. (Id.) 23 The Court finds the foregoing extrinsic evidence suggests a potential for coverage 24 under the DO Endorsement because they support a finding that Plaintiff’s Treasurer 25 committed a “wrongful act” when he transmitted payment of Aztec’s invoice to the wrong 26 bank account, which in turn, gave rise to the Aztec Complaint. Had it not been for the 27 Treasurer’s mistake, Aztec would have received payment and have no cause to sue 28 1 Plaintiff. As such, Defendant’s attempt to cast the Treasurer’s payment error as irrelevant 2 to the breach of contract claim is unavailing. 3 Defendant also argues that California law is well settled that an insured’s failure to 4 pay amounts due under a contract does not qualify as a wrongful act. In support, Defendant 5 cites Aug. Ent., Inc. v. Philadelphia Indem. Ins. Co., and similar cases where “a corporation 6 intentionally entered into a contract, decided not to make payment on it, and looked to its 7 D & O insurer for a bailout.” 52 Cal. Rptr. 3d 908, 915 (Ct. App. 2007). This case is 8 different. 9 This is not a case where an insured simply refused to pay amounts due under a 10 contract. As previously discussed, Plaintiff did pay the $123,617.00 that Aztec invoiced. 11 Due to its Treasurer’s error, however, the payment was sent to a hacker. Had Plaintiff’s 12 Treasurer not been deceived by the hacker’s communication, Aztec would have received 13 the $123,617.00 and Plaintiff would not be liable for the loss of another $123,617.00 plus 14 fees and interest. Because the instant case is not one where a plaintiff is merely attempting 15 to pass on its contractual obligations to its insurer, the Court does not find it falls within 16 the purview of California case law finding that failure to pay amounts due under a contract 17 does constitute a wrongful act for purposes of directors and liability coverage. 18 Albeit unpublished, the Court finds the Ninth Circuit’s ruling in Erickson-Hall 19 Constr. Co. v. Hartford Fire Ins. Co., 800 F. App’x 559 (9th Cir. 2020) persuasive and 20 instructive. There, the court pointed out that “under California law, an insured’s losses for 21 breach of contract are not uninsurable as a matter of law.” Id. at 560. As such, to the extent 22 Defendant argues that losses from a breach of contract are per se not covered by insurance, 23 the argument is without merit. “Rather, the nature of the damage and the risk involved, in 24 light of particular policy provisions, control coverage” in a particular case. See id. (quoting 25 Vandenberg v. Superior Court, 21 Cal.4th 815, 839 (1999)). Applying this framework, the 26 Ninth Circuit looked at the language of the policy at issue and the allegations in the 27 plaintiff’s complaint to determine whether the nature of the damage and risk the plaintiff 28 sought to cover “was exactly that which did in fact transpire.” Id. at 560. 1 The case involved an employer who obtained fiduciary liability insurance coverage 2 to cover risks of loss arising from potential mistakes in administering employee benefits 3 plans. The complaint alleged that the employer’s controller failed to counsel employees 4 that their benefits plans had lapsed due to nonpayment of premiums. The controller also 5 mishandled documents relating to the plans, including failing to receive and process 6 premium invoices, deduct premium amounts from employees’ paychecks, and paying 7 premiums on behalf of the employer and its employees. Because the fiduciary liability 8 insurance covers an error or omission in the administration of the benefits plans resulting 9 in a loss, and the complaint’s allegations demonstrated facts showing that the benefits plans 10 were indeed negligently administered, resulting in the employer’s loss, the Ninth Circuit 11 found that the employer’s claimed losses were not (as the district court found and 12 Defendant here contends) amounts it was obligated to pay its employees by contract, 13 independent of any wrongful act. Id at 559, 560. Indeed, the court emphasized that “but for 14 the allegedly negligent acts of Erickson-Hall’s Controller, the premiums would have been 15 paid . . .” and “Erickson-Hall would never have been liable for the claimed loss amounts.” 16 Id. at 560 (emphasis in original). 17 The same is true here. The Policy’s DO Endorsement states that State Farm will 18 provide coverage for “sums that the insured becomes legally obligated to pay as damages 19 because of a ‘wrongful act.’” (Doc. No. 1-3 at 18.) A wrongful act includes any “error . . . 20 act, omission, neglect, or breach of duty” committed by an insured “arising solely out, of 21 his or her capacity as director, officer ‘manager’ or trustee relating to the operations of your 22 organization.” (Id. at 20.) Plaintiff’s Complaint alleges that its Treasurer, an officer of its 23 organization, wired Aztec’s payment to a hacker’s bank account by “failing to verify with 24 proper diligence the proper wiring instruction to wire the payment.” (Doc. No. 1 at 9.) 25 These allegations show that the Treasurer committed an error, omission, neglect, or breach 26 of duty arising out of his official capacity to process payments for Bridlewood. As such, 27 the nature of the damage and risk the DO Endorsement covers is “exactly that which did 28 in fact transpire.” Erickson-Hall Constr. Co., 800 F. App’x at 560. 1 The Court agrees with Plaintiff that to the extent liability is found in the Aztec action, 2 || the basis of liability would be the Treasurer’s alleged wrongful act, triggering coverage. 3 || Like in Erickson-Hall, but for the Treasurer’s negligent acts, Aztec’s payment would not 4 ||have been misdirected into a hacker’s account, Aztec would have received the payment, 5 Plaintiff would not have incurred the claimed losses. 6 Based on the foregoing, the Court finds that Plaintiff has shown that its claimed loss 7 || falls within the basic scope of coverage.* See Hartford Cas. Ins. Co., 59 Cal. 4th at 288 8 (“the insured need only show that the underlying claim may fall within policy coverage; 9 || the insurer must prove it cannot.” (emphasis in original)). And because Defendant does not 10 argue that any policy exclusion bars coverage, it cannot meet its burden to conclusively 11 establish that the loss is not covered. See id. at 287 (“An insurer must defend against a suit 12 ||even where the evidence suggests, but does not conclusively establish, that the loss is not 13 covered.”). Accordingly, the Court denies Defendant’s motion to dismiss. 14 CONCLUSION 15 For the reasons stated herein, Defendant’s motion to dismiss is DENIED. Defendant 16 || must file an answer to the Complaint no later than April 1, 2024. 17 IT IS SO ORDERED. 18 Dated: March 18, 2024 © 19 Hon. Anthony J.Battaglia 20 United States District Judge 21 22 23 24 25 26 27 At the very least, the instant case presents a close call, and generally, “doubt as to whether an insurer 28 owes a duty to defend must be resolved in favor of the insured.” Hartford Cas. Ins. Co., 59 Cal. 4th at

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