As mentioned in my May 3, 2012 blog post, courts are frequently asked to determine whether an appraisal award should be overturned. Recently, the Second Circuit was asked to consider the timeliness of an appraisal demand, whether the determination of the period of restoration implicates a coverage issue of the type appraisers cannot decide, and whether an insured has some type of due process right to discovery in an appraisal proceeding.

In Amerex Group, Inc. v. Lexington Insurance Company, et al., Docket No. 10-4163-cv, 2012 U.S. App. LEXIS 9536 (2d Cir. May 10, 2012)¹,  a manufacturer’s warehouse rack system collapsed, activating the warehouse’s sprinkler system. Plaintiff sustained building damage and loss of business income. Plaintiff’s primary insurer paid its full policy limits, resulting in a $6.3 million claim to the Plaintiff’s excess insurers.

After the excess insurers rejected the Plaintiff’s claim due to lack of proof, the parties agreed to mediate the case, during which the excess insurers made a final offer of settlement. Instead of responding to the final offer, Plaintiff initiated a lawsuit against the excess insurers. The insurers responded to the Complaint and also demanded appraisal. An appraisal panel valued Plaintiff’s total losses at less than the $2.5 million the Plaintiff had already received from its primary insurer. The federal district court then awarded summary judgment to the excess insurers on the grounds that the loss did not reach excess policy layers.

Plaintiff challenged the summary judgment award, arguing that (1) the excess insurers waived any appraisal rights because they were not invoked within a reasonable period; (2) the appraisal panel resolved coverage issues when it decided the actual period of restoration; and (3) its due process rights were violated because the appraisal was more like an arbitration and Plaintiff was not granted a right to discover information on the excess insurers’ loss valuation.

The Second Circuit affirmed the entry of summary judgment, finding that:

• The excess insurers’ appraisal demand was timely because, the claim involved complexities and novelties which justified the timing of the appraisal demand. The court noted that, “the more complex the valuation, the longer the period during which a party can assert its appraisal rights.”
• It was appropriate for the appraisal panel to decide the actual period of restoration because it involved factual questions concerning conflicting causes of Plaintiff’s loss of business income. The appraisal panel was not addressing legal issues involving policy interpretation.
• Plaintiff’s due process rights were not violated because appraisals are used for the purpose of valuing an insured’s loss, and the proceeding is meant to be more informal than arbitrations. Plaintiff possessed all facts relevant to its business and the losses attributable to the rack collapse, so discovery of the excess insurers’ valuation investigation would not have provided any benefit to Plaintiff anyway.

As is evident from this decision, courts frequently try to maintain the integrity of the appraisal process, in an effort of avoiding protracted litigation that frequently clogs court dockets. However, appraisals are not meant to be like trials, where formal discovery (disclosure of information in response to document requests, depositions, etc.) is required. As mentioned by the Second Circuit, “insurance investigations are necessarily one-sided: the insurer seeks to validate and quantify the extent of damages asserted by the insured. But the insured receives no corresponding right to investigate the investigation.”

It is also important to note that, while the Second Circuit reached its decision on the timeliness of the insurers’ demand by interpreting New York law, in some states, such as Massachusetts, appraisal demands are typically governed by statutory law (MGLA ch. 175 sec.99). Therefore, it is always important to consult with counsel and research the law of the applicable jurisdiction when appraisals are involved.

¹ Reproduced by Robinson & Cole LLP with the permission of LexisNexis. Copyright 2012 LexisNexis, a division of Reed Elsevier Inc.  All rights reserved.  No copyright is claimed as to any portion of the original work prepared by a government officer or employee as part of that person’s official duties.