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Howrey LLP
The New Hampshire Supreme Court has held that a performance bond surety could not hire its own separate counsel to defend against a bond claim and later seek indemnity from its contractor-principal for attorney fees when the surety had not tendered its defense to the contractor or when the surety had no independent legal defenses requiring separate representation. Gulf Insurance Company v. AMSCO, Inc., 889 A. 2d 1040 (N.H. 2005).
The contractor entered into a general indemnity agreement with its performance bond surety. The general indemnity agreement guaranteed the contractor's performance on construction projects. When several parties brought claims against the surety based on the performance bonds it issued for the contractor on three projects, the surety incurred legal costs of approximately $1,400, $20,000 and $121,000 defending and/or monitoring those actions. The surety brought suit against the contractor under the general indemnity agreement to recover its costs and attorney fees.
Looking to the specific language of the indemnity agreement, the Supreme Court held that the contractor need only reimburse the surety for "reasonable" expenses. The contractor had the burden of proving that the expenses were "unreasonable." The court adopted the rule that even broadly stated indemnity agreements do not constitute a "blank check" for a surety to recover all of the fees and expenses it incurs or pays in its sole discretion. The expenses must be reasonable as required by the contract.
The court found that some of the surety's expenses were "reasonable" but some were not. The surety's pre-lawsuit and monitoring fees in two of the actions were reasonable because they were covered by the specific language of the general indemnity agreement. Those expenses were fairly minor.
But the surety's decision to hire its own separate counsel in one of those cases was held not to be reasonable, and the contractor had no obligation to indemnify the surety for those attorney fees and costs. The court listed factors to be considered in determining whether a surety's retention of separate counsel was reasonable. Because the surety had tendered its defense to the contractor, the contractor had retained a lawyer to represent both it and the surety, and the lawyer had competently and diligently represented both the contractor and surety, the court found there was no reasonable basis to retain separate counsel. The court allowed indemnity only for the cost of hiring separate counsel to monitor the action, not to provide a defense.
In a third action, the surety's refusal to tender its defense to the contractor was held not be reasonable. The surety did not establish that it had separate or unique defenses requiring independent counsel. Nor did it establish the existence of a conflict of interest with the contractor. As a result, a separate defense was neither required nor covered by the indemnity provision.
The court also held that the surety could not condition tendering its defense to the contractor in the third action on the contractor paying disputed expenses in other matters. Finally, the court held the surety could not recover corporate overhead or "normal and expected administrative and housekeeping expenses" associated with the surety's "ordinary cost of doing business."
In reaching its decision, the court refused to let general principles of indemnity override contract provisions when determining whether expenses were or were not covered. Because the terms "good faith" and "bad faith" were not contained in the indemnity agreement, the court refused to ignore the term "reasonable" used in the contract and substitute the common law on good faith/bad faith insurance actions in place of contract provisions. Further, the court held that the contract's use of the word "reasonable" to describe reimbursable contract expenses had both subjective and objective elements. Not only did the surety need to actually believe the expenses were reasonable, that belief had to be objectively sound.
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For more information about the issues covered in this report, please contact Paul Berning in our San Francisco office at 415-848-4996 or at paulberning@howrey.com or contact your Howrey attorney. For more information about Howrey's Construction Practice Group, click here.
©2006 Howrey LLP
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