My thanks to Mack Sperling, who writes the North Carolina Business Litigation Report, for letting me know about the Fourth Circuit’s unpublished decision last week in Cornett Management Co., LLC v. Firemen’s Fund Ins. Co., 2009 WL 1755912 (4th Cir. 2009). Here is the opinion, which addressed whether an insurance coverage exclusion applied to facts that are, to put it mildly, unique.

Cornett, which owns several restaurants, including the Hooters franchise in Charleston, West Virginia, faced claims from two female employees who alleged that in 2001, a store manager called them into his office and told them that a customer had reported a stolen change purse. He then told them that a police officer was on the phone and wanted to talk to them. The voice on the phone directed the women to strip in front of the manager to prove they didn’t have the purse, and told them that they risked arrest if they did not cooperate. So the women took off their clothes in front of the manager.

 Guess what? The call was a hoax. (As an aside, there was a rash of these calls a few years ago, one of which resulted in a multi-million dollar verdict.) But apparently this call was not the only incident against Cornett, as seven female employees, including the two here, alleged sexual harassment and filed suit, described by the court as the Reynolds complaint.

Cornett settled the Reynolds action, and Lexington Insurance Company paid its policy limits for Cornett’s defense and settlement costs. Cornett then made a claim under its commercial general liability policy with Firemen’s Fund.

Cornett’s suit against Firemen’s Fund was removed to the United States District Court for the Northern District of West Virginia, which granted Firemen’s motion for summary judgment on the grounds that the “employment-related practices exclusion [ERP]” in its policy provided no coverage for personal injury arising out of any “employment-related practices, policies, acts or omissions” and applied to the Reynolds action against Cornett.

On appeal, Cornett argued first that it had no practice or policy of strip-searching its employees, which rendered the exclusion inapplicable. In its per curiam opinion, the court dispensed with that argument quickly, and noted that the exclusion also applied to employment-related “acts or omissions,” which is what the Reynolds plaintiffs alleged.

Cornett’s second argument was that the provision was ambiguous and to be construed against Firemen’s Fund. This argument required the court “to determine what types of acts the policy meant to exclude from coverage when it listed ‘[c]oercion, demotion, evaluation, reassignment, discipline, defamation, harassment, humiliation, discrimination or other employment-related … acts.’”

The court looked to West Virginia law in interpreting this provision, specifically the Supreme Court of Appeals of West Virginia’s decision in Bowyer v. Hi-Lad, Inc., 609 S.E.2d 895 (W. Va. 2004). Bowyer involved an employer that installed a security camera and microphone in a hotel lobby without informing its employees. The Supreme Court found that the employment-related practices exclusion in the employer’s insurance policy did not apply because the employer’s acts were not intended to cause humiliation.

Conversely, the Bowyer exclusion “would apply to any claim arising from an employer’s act or omission intended to result in coercion, harassment, humiliation, or discrimination.” (Emphasis in original.) The Fourth Circuit reasoned that because the Reynolds action alleged acts that involved “intentional coercion, harassment, and humiliation of the two female employees who were strip searched[,]” a West Virginia court “would hold that the ERP exclusion in the Firemen’s Fund policy excludes coverage for the false imprisonment claims that arose from the strip searches.” (Emphasis in original.)

After reviewing decision from other jurisdictions that reached similar results, the court concluded that "[a] manager’s act, like the one in this case, which intentionally humiliates, coerces, or harasses an employee, will clearly have an effect on the employment relationship. Such an act, therefore, is employment-related and, under West Virginia law, falls within the language of the ERP exclusion at issue here."