1019-00005 · Whitmore Aerospace LLC · Insurance Coverage

memo-meridian-ror-coverage-analysis.docx DOCUMENT Litigation

18 / 35 ← → ✕

PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT PRIVILEGE / ATTORNEY WORK PRODUCT

INTERNAL MEMORANDUM

FROM: Simone Laroche, Associate Calderwood & Harkness LLP Washington, D.C. Office 1900 K Street NW, Suite 1100 Washington, D.C. 20006

TO: Priya Anand, Partner, and Douglas Carmichael, Partner Calderwood & Harkness LLP New York Office 600 Lexington Avenue, 28th Floor New York, NY 10022

DATE: November 15, 2022

RE: Analysis of Meridian Surety & Insurance Group Reservation-of-Rights Letter Dated November 1, 2022 — Coverage Prospects for HDDS Indemnity Demand

CLIENT: Whitmore Aerospace LLC

MATTER: Whitmore Aerospace LLC — Indemnity Dispute with Hargrove-Dalton Defense Systems, Inc.

This memorandum is protected by the attorney-client privilege and the attorney work-product doctrine. It is prepared in anticipation of litigation and reflects the mental impressions, conclusions, opinions, and legal theories of counsel. It is intended solely for use by the attorneys and authorized personnel of Calderwood & Harkness LLP in connection with the representation of Whitmore Aerospace LLC and should not be disclosed to any third party without the express written consent of the undersigned or a supervising partner.

I. Executive Summary

This memorandum analyzes the reservation-of-rights ("ROR") letter issued by Meridian Surety & Insurance Group ("Meridian") on November 1, 2022, in response to the coverage tender submitted by our client, Whitmore Aerospace LLC ("WAL"), and assesses WAL's prospects for obtaining defense and indemnity coverage under its existing insurance program for the indemnification demand asserted by Hargrove-Dalton Defense Systems, Inc. ("HDDS").

On September 22, 2022, this firm tendered HDDS's $14,726,583 indemnification demand to Meridian on WAL's behalf, seeking both defense and indemnity coverage under two policies: WAL's directors-and-officers liability policy (Policy No. MSI-DO-2022-07814) and its commercial general liability policy (Policy No. MSI-CGL-2021-33291). The tender was accompanied by copies of the underlying HDDS demand letter dated September 9, 2022, and the Defense Contract Management Agency ("DCMA") Contracting Officer's Preliminary Determination ("COPD") dated August 1, 2022, which provides the factual predicate for the HDDS claim.

Meridian issued its ROR letter on November 1, 2022, authored by Rachel Underwood, Senior Claims Counsel. The letter acknowledges receipt of the tender and identifies multiple policy provisions upon which Meridian reserves rights. Critically, Meridian is not currently providing a defense, funding WAL's legal costs, or making any payment toward the indemnity demand. At the same time, Meridian has not issued an outright denial of coverage; instead, the letter states that Meridian will "continue to investigate" the claim and reserves the right to deny coverage on any applicable ground, including grounds not specifically enumerated in the ROR letter.

My overall assessment of WAL's coverage prospects is as follows:

• CGL Policy: Coverage faces significant and, in my view, likely dispositive exclusionary barriers. The contractual-liability exclusion (Exclusion (b)) squarely applies to a claim grounded in a contractual indemnification obligation. The manuscript government-contract exclusion (Endorsement GC-04) independently bars coverage for claims arising out of or relating to the performance of government contracts. Additionally, the threshold requirements of "bodily injury" or "property damage" caused by an "occurrence" are not satisfied by a purely economic cost-overrun demand. Coverage under the CGL policy is unlikely.

• D&O Policy: Coverage is even less likely. The HDDS demand is directed at WAL as an entity, not at individual directors or officers, and does not allege "Wrongful Acts" in a governance or management capacity. The claim is fundamentally a contractual indemnity obligation arising from a commercial subcontracting arrangement, which falls outside the D&O policy's intended scope. Any contractual-liability exclusion in the D&O policy would independently bar coverage.

• Recommended Course of Action: I recommend that the firm draft and send follow-up correspondence to Meridian pressing for a definitive coverage determination within sixty (60) days, challenging the application of the identified exclusions, preserving WAL's bad-faith remedies, and noting the anticipated HDDS counterclaim and its implications for the duty to defend. Additionally, we should obtain and carefully review the full policy wording — including all endorsements, manuscript amendments, and declarations pages — as our analysis is necessarily preliminary without the complete policy forms in hand.

The sections below provide a detailed analysis of each coverage issue.

II. Background

A. The Underlying Indemnity Demand

On September 9, 2022, HDDS transmitted to WAL a formal indemnification demand letter asserting that WAL is contractually obligated to indemnify HDDS for $14,726,583 in cost overruns identified by the DCMA in its Contracting Officer's Preliminary Determination ("COPD") dated August 1, 2022. The HDDS demand invokes Section 11.4 of the Teaming Agreement between WAL and HDDS dated June 12, 2019 (the "Teaming Agreement"), under which WAL assumed responsibility for Work Package 4 ("WP-4") — the design, fabrication, and delivery of titanium structural assemblies for the Advanced Tactical Airframe Program ("ATAP") under Prime Contract No. FA8620-19-C-0337, awarded by the United States Air Force to HDDS as the prime contractor.

The COPD, which was issued by the DCMA Contracting Officer following an audit of HDDS's cost performance on the ATAP prime contract, attributes a total of $14,726,583 in cost overruns across multiple work packages. Of this total, $12,817,441 — representing approximately 87.03% of the aggregate overruns — is attributed to WP-4, which constitutes WAL's scope of work under the Teaming Agreement. The remaining $1,909,142, representing approximately 12.97% of the total, is attributed to other work packages that are not assigned to WAL and are performed by HDDS or other subcontractors.

The COPD identifies several root causes underlying the WP-4 cost overruns:

• Titanium raw-material cost escalation: Approximately $4.2 million in cost overruns attributable to a significant and sustained increase in the market price of aerospace-grade titanium alloy (Ti-6Al-4V), which accelerated beginning in the first quarter of 2021 due to global supply-chain disruptions.

• Rework due to non-conforming machining tolerances: Approximately $5.1 million in cost overruns attributable to the rejection and rework of titanium structural components that failed to meet machining tolerance specifications, resulting in scrap, additional labor, and schedule impacts.

• Schedule delays causing idle-labor charges: Approximately $2.3 million in cost overruns attributable to schedule delays that resulted in idle labor and facility overhead charges when WAL's production workforce could not proceed on WP-4 deliverables due to delays in other aspects of the program.

• Engineering change proposal ("ECP") implementation costs: Approximately $1.2 million in cost overruns attributable to the implementation of engineering change proposals that modified the design specifications for several WP-4 components during the production phase.

WAL disputes the HDDS demand on multiple substantive grounds. First, WAL contends that Section 11.4(b) of the Teaming Agreement — the specific provision invoked by HDDS — requires that the cost disallowances be "caused by" WAL's "acts or omissions," and WAL maintains that many of the identified cost overruns were not caused by WAL's conduct. In particular, WAL asserts that the rework costs ($5.1 million) were substantially attributable to defective or ambiguous engineering specifications provided by HDDS, not to errors in WAL's machining processes. WAL further contends that the schedule delays giving rise to the idle-labor charges ($2.3 million) were caused by HDDS's late delivery of government-furnished equipment ("GFE") to WAL's facility, over which WAL had no control. Additionally, WAL asserts that the titanium raw-material cost escalation ($4.2 million) constitutes a force-majeure event under Section 15.2 of the Teaming Agreement that excuses WAL's cost performance and should not be allocated to WAL under the indemnification provision. Finally, WAL contends that the ECP implementation costs ($1.2 million) were directed by HDDS and the government, and the Teaming Agreement allocates equitable adjustment rights for such directed changes under Section 8.3.

These substantive defenses to the underlying indemnity demand are the subject of the anticipated declaratory judgment action. They are relevant to the coverage analysis only insofar as they inform the nature and character of the "claim" that has been tendered to Meridian.

B. WAL's Insurance Policies with Meridian

WAL maintains two relevant insurance policies with Meridian, both of which were tendered in connection with the HDDS demand.

1. Directors and Officers Liability Policy (D&O Policy).

• Issuer: Meridian Surety & Insurance Group, 500 Plaza Drive, Secaucus, NJ 07094

• Policy Number: MSI-DO-2022-07814

• Policy Period: July 1, 2022 through July 1, 2023 (claims-made and reported; renewed annually)

• Aggregate Limit of Liability: $10,000,000

• Retention (Self-Insured): $250,000 per claim

• Coverage Structure: The policy provides coverage for "Loss" arising from "Claims" made against the insured for "Wrongful Acts." Based on the summary of terms provided to us, the policy includes Side A coverage (individual directors and officers when the entity does not indemnify), Side B coverage (reimbursement to the entity for indemnification of individuals), and Side C coverage (entity coverage for certain claims). The precise scope of Side C coverage is a significant question that depends on the full policy language, which we have not yet obtained.

• Governing Form: Proprietary Meridian form, not an ISO standard

2. Commercial General Liability Policy (CGL Policy).

• Issuer: Meridian Surety & Insurance Group, 500 Plaza Drive, Secaucus, NJ 07094

• Policy Number: MSI-CGL-2021-33291

• Policy Period: Continuous from initial issuance; current annual period in effect at the time of the HDDS demand

• Aggregate Limit of Liability: $25,000,000

• Self-Insured Retention (SIR): $500,000 per occurrence

• Coverage Structure: Standard ISO Commercial General Liability coverage form with manuscript endorsements, including Endorsement GC-04 (Government Contract Exclusion), which is discussed in detail below. The policy covers "bodily injury" and "property damage" caused by an "occurrence" (Coverage A) and "personal and advertising injury" (Coverage B).

• Governing Form: ISO CG 00 01 (standard CGL form) with Meridian manuscript endorsements

C. WAL's Tender of the HDDS Demand to Meridian

By letter dated September 22, 2022, this firm (through Priya Anand) tendered the HDDS indemnification demand to Rachel Underwood, Senior Claims Counsel at Meridian, on behalf of WAL. The tender letter requested that Meridian provide both a defense and indemnity coverage under the D&O policy and the CGL policy. The letter described the nature of the HDDS demand, identified the relevant policy numbers, and enclosed copies of the HDDS demand letter dated September 9, 2022, and the DCMA COPD dated August 1, 2022.

The tender letter also noted that WAL intended to dispute the HDDS demand on the merits and that litigation was anticipated, and it requested that Meridian appoint or approve defense counsel and begin funding WAL's defense costs. To date, Meridian has not appointed or approved defense counsel, has not agreed to fund WAL's defense costs, and has not made any payment toward the HDDS indemnity demand.

D. Meridian's Reservation-of-Rights Letter

By letter dated November 1, 2022, Rachel Underwood of Meridian issued the ROR letter that is the subject of this memorandum. The ROR letter is five pages in length and contains the following material elements:

• Acknowledgment of tender: Meridian acknowledges receipt of the September 22, 2022 tender letter and the accompanying documentation.

• Reservation of rights — CGL Policy: Meridian identifies and reserves under Exclusion (b) (contractual-liability exclusion), Endorsement GC-04 (government-contract exclusion), and the threshold coverage requirements of "bodily injury" or "property damage" caused by an "occurrence."

• Reservation of rights — D&O Policy: Meridian questions whether the HDDS demand constitutes a covered "Claim" for a "Wrongful Act" and references the policy's contractual-liability exclusion.

• General reservation: Meridian reserves the right to assert any applicable policy provision as a basis for limiting or denying coverage, including provisions not specifically identified in the ROR letter.

• No defense provided: Meridian states that it is not currently providing a defense or funding WAL's defense costs, and it does not commit to doing so.

• Continuing investigation: Meridian states that it will "continue to investigate" the claim and the applicable coverage issues and may request additional information from WAL.

The ROR letter does not establish a deadline for Meridian's final coverage determination, nor does it identify any specific additional information that Meridian requires from WAL.

III. Analysis of Meridian's Reservations — CGL Policy (MSI-CGL-2021-33291)

This section analyzes each of the coverage issues identified in the ROR letter with respect to the CGL policy, together with an additional threshold coverage issue that Meridian references but does not make a primary reservation ground.

A. Contractual-Liability Exclusion (Exclusion (b))

Meridian's primary reservation under the CGL policy invokes Exclusion (b), the standard contractual-liability exclusion found in the ISO CG 00 01 form. This exclusion excludes from coverage "bodily injury" or "property damage" for which the insured is obligated to pay damages by reason of the assumption of liability in a contract or agreement. The exclusion is among the most commonly litigated provisions in CGL insurance and has a well-developed body of case law in New York and across other jurisdictions.

The application of Exclusion (b) to the HDDS demand is straightforward. The HDDS indemnification demand arises directly and exclusively from Section 11.4 of the Teaming Agreement — a contractual indemnification obligation that WAL assumed in connection with the ATAP program. HDDS's demand letter expressly invokes Section 11.4(b) as the contractual basis for WAL's obligation to indemnify HDDS for cost overruns attributable to WAL's scope of work. There is no independent tort theory asserted; the demand is entirely a claim for contractual indemnification. This is a textbook trigger for Exclusion (b).

Under New York law, which governs the Teaming Agreement and is likely to be the controlling law for any coverage dispute (see the Teaming Agreement's choice-of-law clause in Section 18.1 and the standard choice-of-law provisions in Meridian's policies), the contractual-liability exclusion is generally enforced broadly. New York courts have consistently held that the exclusion bars coverage for damages that an insured is obligated to pay solely because of its assumption of liability in a contract. See, e.g., Consolidated Edison Co. of N.Y. v. Allstate Ins. Co., 98 N.Y.2d 208, 218 (2002) (holding that the contractual-liability exclusion must be read in conjunction with the broader policy language and applied according to its plain terms); Inchaustegui v. 666 5th Ave. Ltd. P'ship, 96 N.Y.2d 111, 116 (2001) (noting that the contractual-liability exclusion applies where the insured's liability arises from the assumption of another's liability in a contract).

The ISO standard form includes an exception to Exclusion (b) for "liability that the insured would have in the absence of the contract or agreement" — commonly referred to as the "but-for" test or the "independent liability" exception. Under this exception, coverage is restored if the insured would have been liable for the same damages even if the contractual indemnification provision did not exist. New York courts have interpreted this exception narrowly, limiting it to situations where the insured's own negligence or other tortious conduct would independently support liability. See, e.g., BP Air Conditioning Corp. v. One Beacon Ins. Grp., 8 N.Y.3d 708, 714–15 (2007) (applying the but-for test and finding that the insured's independent negligence could restore coverage under the exception).

WAL could potentially argue that it falls within the but-for exception with respect to certain components of the HDDS demand. Specifically, Section 11.4(a) of the Teaming Agreement — a separate subparagraph from Section 11.4(b), which is the provision actually invoked by HDDS — triggers on "negligent acts or omissions" and "willful misconduct" by WAL. If WAL's conduct in performing WP-4 constituted negligence (for example, if the machining tolerance failures were attributable to WAL's own substandard manufacturing processes), then WAL could argue that its liability for those specific damages would exist independently of the Teaming Agreement under general negligence or implied warranty principles, potentially triggering the but-for exception.

However, this argument is significantly weakened by the fact that the HDDS demand letter specifically invokes Section 11.4(b), not Section 11.4(a). Section 11.4(b) addresses government cost disallowances "caused by" WAL's "acts or omissions" — a broader and more general formulation that does not require negligence or willful misconduct. Section 11.4(b) creates a purely contractual obligation — essentially a cost-allocation mechanism between the prime contractor and its teammate — that has no independent tort analog. An obligation to indemnify a prime contractor for government cost disallowances attributable to a subcontractor's scope of work is a creature of contract, not tort. WAL would not face liability to HDDS for these cost overruns absent the specific indemnification provision in the Teaming Agreement.

Moreover, even if some components of the cost overruns (such as the machining rework costs) could theoretically support an independent negligence claim, the HDDS demand as currently articulated is framed entirely in contractual terms. Under New York law, the duty to defend and the applicability of exclusions are evaluated based on the allegations in the underlying claim. See Fitzpatrick v. Am. Honda Motor Co., 78 N.Y.2d 61, 65 (1991). As the HDDS demand does not allege negligence or any other tort theory, the but-for exception is unlikely to be invoked successfully at this stage.

Assessment: Exclusion (b) is a strong basis for Meridian to deny CGL coverage. The HDDS claim is fundamentally a demand to honor a contractual indemnification obligation, not a third-party tort claim. The but-for exception is narrow under New York law and is further constrained by the contractual framing of the HDDS demand. The likelihood of overcoming Exclusion (b) is low.

B. Government-Contract Exclusion (Endorsement GC-04)

Meridian also reserves under Endorsement GC-04, a manuscript endorsement to the CGL policy that was added to the standard ISO form at inception or renewal. According to the ROR letter, Endorsement GC-04 excludes coverage for claims "arising out of or relating to" the performance of government contracts, "including but not limited to cost disallowances, defective pricing claims, and Contract Disputes Act claims."

This endorsement appears to have been specifically tailored to address the risks associated with WAL's government contracting activities. It is not unusual for insurers to include such endorsements in CGL policies issued to defense contractors and aerospace companies, reflecting the insurer's assessment that government contract disputes present unique risks that fall outside the scope of traditional CGL coverage.

The HDDS indemnity demand falls squarely within the scope of Endorsement GC-04 as described in the ROR letter. The demand flows directly from the DCMA COPD identifying cost overruns under Prime Contract No. FA8620-19-C-0337, a United States Air Force defense contract. The cost overruns are the product of performance issues on the ATAP program — a government contract administered by DCMA. The COPD is itself a government contracting action, and the HDDS indemnity demand is a private-party consequence of that government action. The connection between the HDDS demand and the performance of a government contract is direct, proximate, and unambiguous.

The endorsement's use of the "arising out of or relating to" formulation is significant. Under New York law, the phrase "arising out of" is given a broad interpretation, requiring only a causal connection between the claim and the excluded activity that is more than merely tangential. See Maroney v. N.Y. Cent. Mut. Fire Ins. Co., 5 N.Y.3d 467, 472 (2005) (interpreting "arising out of" broadly in an insurance context); Belt Painting Corp. v. TIG Ins. Co., 100 N.Y.2d 377, 383 (2003) (same). The phrase "relating to" is even broader, encompassing any claim that has a logical or causal connection to the excluded subject matter. Under either formulation, the HDDS demand — which seeks indemnification for government-identified cost overruns on a government contract — plainly "arises out of" and "relates to" the performance of a government contract.

WAL could attempt to argue that the claim is between two private parties (WAL and HDDS) under a private teaming agreement, and that the claim therefore does not "arise out of" the performance of a government contract per se, but rather arises out of a private contractual relationship that merely happens to exist in the context of a government program. This argument has surface appeal but is ultimately unpersuasive given the breadth of the "arising out of or relating to" language. The Teaming Agreement exists solely because of the ATAP prime contract; the indemnity obligation in Section 11.4 is triggered by government cost determinations; the dollar amounts at issue are measured by the DCMA COPD; and the entire dispute is inextricably intertwined with the performance of a government contract. Under the broad construction that New York courts give to "arising out of or relating to" language in exclusionary endorsements, the WAL-HDDS dispute would almost certainly be deemed to arise out of or relate to the performance of a government contract.

I note that our analysis of Endorsement GC-04 is necessarily preliminary because we have not yet obtained the full text of the endorsement. The ROR letter quotes selected language but does not reproduce the endorsement in its entirety. The precise scope of the exclusion — including any defined terms, carve-outs, or limitations — cannot be fully assessed without reviewing the complete endorsement language. I recommend that we request a certified copy of the full policy, including all endorsements and manuscript amendments, from Meridian as a matter of priority.

Assessment: Endorsement GC-04 is a potentially dispositive exclusion. The HDDS demand flows directly from a DCMA cost determination under a DoD prime contract, and the "arising out of or relating to" language is likely broad enough to encompass the claim. The likelihood of overcoming Endorsement GC-04 is low to moderate, depending on the precise endorsement language and the availability of any carve-outs or exceptions within the endorsement that could narrow its application.

C. "Occurrence" and "Property Damage" Requirements

Independent of the specific exclusions discussed above, the CGL policy's threshold coverage requirements present an additional barrier. Coverage A of the ISO CG 00 01 form covers "bodily injury" and "property damage" caused by an "occurrence." An "occurrence" is defined as an accident, including continuous or repeated exposure to substantially the same general harmful conditions. "Bodily injury" means bodily injury, sickness, or disease sustained by a person, including death resulting from any of these. "Property damage" means physical injury to tangible property, including loss of use of tangible property that has been physically injured, or loss of use of tangible property that is not physically injured.

The HDDS indemnity demand does not allege bodily injury to any person. Nor does it allege property damage in the traditional sense — that is, physical injury to tangible property. Rather, the demand seeks reimbursement for cost overruns — a purely economic loss comprising excess material costs, rework labor costs, idle-labor overhead, and engineering change implementation costs. None of these categories of loss involves physical injury to tangible property belonging to a third party.

Under New York law, purely economic losses — such as cost overruns, lost profits, or the cost of correcting defective work — generally do not constitute "property damage" within the meaning of a CGL policy. See George A. Fuller Co. v. United States Fid. & Guar. Co., 200 A.D.2d 255, 259 (1st Dep't 1994) (holding that cost overruns and economic losses on a construction project did not constitute "property damage"); J.Z.G. Res., Inc. v. King, 987 F.2d 98, 104 (2d Cir. 1993) (applying New York law and holding that purely economic losses are not "property damage" under a CGL policy). While there are limited circumstances in which defective work may cause physical damage to other property, triggering CGL coverage, those circumstances are not present here.

Additionally, even if one could characterize some component of the cost overruns as relating to physical damage (for example, the scrapping of non-conforming titanium parts), the "occurrence" requirement may not be satisfied. An "occurrence" requires an accident — an unexpected or unintended event. Deliberate business decisions regarding manufacturing processes, cost management, and schedule performance are not "accidents" within the meaning of the CGL policy, even if they produce unintended financial consequences.

Meridian's ROR letter references these threshold issues in passing but does not make them a primary reservation ground, perhaps because the specific exclusions (Exclusion (b) and Endorsement GC-04) provide more directly applicable bases for limiting coverage. Nevertheless, the absence of "bodily injury," "property damage," and an "occurrence" constitutes an independent and potentially dispositive reason why the CGL policy does not respond to the HDDS demand.

Assessment: The HDDS indemnity demand does not allege or involve "bodily injury" or "property damage" caused by an "occurrence." The CGL policy's threshold coverage requirements are not satisfied. This provides an additional, independent basis for Meridian to deny coverage.

D. Overall CGL Coverage Prospects

In summary, coverage under the CGL policy faces three independent barriers, any one of which could be dispositive:

1. Exclusion (b) — Contractual-Liability Exclusion: The HDDS demand is grounded entirely in a contractual indemnification obligation. The but-for exception is narrow and unlikely to apply given the contractual framing of the claim.

2. Endorsement GC-04 — Government-Contract Exclusion: The HDDS demand arises directly from a DCMA cost determination under a DoD prime contract, and the broad "arising out of or relating to" language of the endorsement likely encompasses the claim.

3. Threshold Coverage Requirements: The HDDS demand involves purely economic losses (cost overruns), not "bodily injury" or "property damage" caused by an "occurrence."

Conclusion: CGL coverage is unlikely to be available for the HDDS indemnity demand. While there are arguments that can be advanced — particularly regarding the but-for exception to Exclusion (b) and the characterization of the claim as a private-party dispute for purposes of Endorsement GC-04 — the weight of the analysis favors Meridian's coverage defenses. WAL should not rely on CGL coverage in planning its litigation strategy or budget.

IV. Analysis of Meridian's Reservations — D&O Policy (MSI-DO-2022-07814)

A. Definition of "Claim" and "Wrongful Act"

The D&O policy provides coverage for "Loss" arising from a "Claim" made against the insured for a "Wrongful Act." Each of these defined terms is significant for the coverage analysis.

"Wrongful Act" is typically defined in D&O policies as any actual or alleged error, misstatement, misleading statement, act, omission, neglect, or breach of duty by an insured person in their capacity as a director or officer of the policyholder entity. The definition is keyed to the individual's role in corporate governance and management, not to the entity's performance of commercial contracts with business counterparties.

The HDDS demand is directed at WAL as an entity — not at Marcus Whitmore (CEO and Chairman), Elaine Whitmore (Chief Technology Officer and Board Member), Gregory Poole (Chief Financial Officer), or any other individual director or officer in their personal or fiduciary capacity. The demand letter identifies WAL as the indemnifying party under Section 11.4 of the Teaming Agreement and does not name, reference, or allege wrongdoing by any individual director or officer. The demand arises from WAL's performance of WP-4 under a commercial teaming arrangement, not from any governance decision, management judgment, or fiduciary act attributable to a specific director or officer.

This fundamental mismatch between the nature of the HDDS claim and the D&O policy's coverage trigger is, in my assessment, the most significant barrier to D&O coverage. The D&O policy is designed to protect individuals — directors and officers — from claims alleging personal wrongful acts committed in their governance and management capacities. The canonical D&O claims include shareholder derivative suits, securities fraud allegations, regulatory enforcement actions against officers, breach-of-fiduciary-duty claims, and similar matters implicating individual conduct in a leadership role. A contractual indemnity demand by a business counterparty seeking reimbursement for cost overruns on a defense subcontract falls entirely outside this paradigm.

Meridian's ROR letter questions whether the HDDS demand constitutes a covered "Claim" for a "Wrongful Act" under the policy. This is, in my assessment, a well-founded reservation. Unless the HDDS demand is recharacterized or supplemented with allegations targeting specific directors or officers — a development that appears unlikely based on the current posture of the dispute — the D&O policy's coverage-triggering requirements are not satisfied.

Assessment: The HDDS demand does not allege a "Wrongful Act" by any director or officer in their governance or management capacity. The claim is directed at WAL as an entity for contractual indemnification. The D&O policy's threshold coverage requirements are likely not met.

B. Entity Coverage / Side C

Some D&O policies include Side C or entity coverage, which extends protection to the corporate entity itself — not just individual directors and officers — for certain categories of claims. In publicly traded companies, Side C coverage is most commonly limited to securities claims. However, in private company D&O policies (which is the form applicable to WAL, a privately held LLC), Side C coverage is sometimes broader and may extend to claims alleging wrongful acts by the entity.

Meridian's ROR letter does not specifically address Side C coverage, instead reserving generally on whether the HDDS demand constitutes a covered "Claim" for a "Wrongful Act." Without reviewing the full policy language, I cannot determine the precise scope of Side C coverage under Policy No. MSI-DO-2022-07814.

Even if Side C coverage applies to claims against WAL as an entity, the coverage analysis still requires that the claim allege a "Wrongful Act" — which, as discussed above, the HDDS demand does not. A contractual indemnity demand based on cost allocation under a teaming agreement is not an allegation of a "wrongful act" by the entity in any conventional sense. Side C coverage, even in its broadest formulation, is not designed to serve as a comprehensive commercial liability policy for all claims asserted against an entity; it is tethered to the D&O policy's core concept of wrongful acts in a governance or management context.

Assessment: Even if Side C entity coverage exists under the D&O policy, the contractual nature of the HDDS demand and the absence of any allegation of a traditional "Wrongful Act" make D&O coverage a poor fit. Side C coverage does not convert the D&O policy into a general commercial liability policy.

C. Contract Exclusion

D&O policies commonly include an exclusion for claims arising from breach of contract or contractual liability. While the precise wording varies among insurers and policy forms, a typical formulation excludes coverage for "Loss in connection with any Claim based upon, arising out of, or attributable to any actual or alleged contractual liability of any Insured under any express contract or agreement." Some versions of this exclusion include a carve-out for defense costs incurred in defending against the claim, even if the underlying liability is excluded.

Meridian's ROR letter references the D&O policy's contractual-liability exclusion without quoting the specific language. This is understandable, as the application of such an exclusion to the HDDS demand is self-evident: HDDS's claim is expressly and exclusively based on WAL's contractual indemnity obligation under Section 11.4 of the Teaming Agreement. There is no allegation of tortious conduct, fiduciary breach, or any other basis of liability independent of the contract.

Assessment: The D&O policy's contractual-liability exclusion would apply to bar coverage for the HDDS demand, which is predicated entirely on a contractual indemnification obligation. This exclusion provides an independent basis — in addition to the threshold "Wrongful Act" issue — for Meridian to deny D&O coverage.

D. Overall D&O Coverage Prospects

D&O coverage for the HDDS demand faces multiple barriers:

1. Threshold "Claim" and "Wrongful Act" Requirements: The HDDS demand is directed at WAL as an entity, not at individual directors or officers, and does not allege "Wrongful Acts" in a governance or management capacity.

2. Entity Coverage (Side C) Limitations: Even if Side C coverage applies, it does not extend to routine contractual indemnity demands unrelated to governance or management wrongdoing.

3. Contractual-Liability Exclusion: The D&O policy's contract exclusion would independently bar coverage for a claim grounded entirely in a contractual indemnification obligation.

Conclusion: D&O coverage is very unlikely to be available for the HDDS indemnity demand. The D&O policy is a fundamentally poor fit for the nature of this claim, and multiple independent coverage barriers apply. The D&O policy is even less likely to provide coverage than the CGL policy.

V. Evaluation of Meridian's Posture and Potential Coverage Strategies

A. Meridian's Current Posture

Meridian has adopted a cautious but non-committal posture. The ROR letter neither denies nor affirms coverage. It identifies multiple policy provisions that may apply to limit or exclude coverage, but it does not issue a definitive coverage determination. This approach is typical of insurers when confronted with complex claims that implicate multiple coverage issues: the insurer preserves its right to deny coverage on any applicable ground while declining to commit to a final position until its investigation is complete.

From WAL's perspective, however, Meridian's posture is problematic for several reasons. First, Meridian is not providing a defense or funding WAL's legal costs, leaving WAL to bear the full cost of the anticipated litigation with HDDS — costs estimated at $1.8 million to $2.4 million through trial based on the November 1, 2022 engagement letter. Second, Meridian has not established a timeline for reaching a final coverage determination, creating uncertainty that impairs WAL's ability to plan its litigation strategy and budget. Third, Meridian's general reservation — which preserves the right to assert any applicable policy provision, even those not specifically identified in the ROR letter — creates the possibility that additional coverage defenses may emerge later in the process.

Notably, the ROR letter states that Meridian will "continue to investigate" the claim and may request additional information from WAL, but it does not identify any specific additional information that is needed. This suggests that Meridian's investigation is not being driven by a factual gap that WAL can fill; rather, Meridian appears to be reserving time to evaluate its legal position on the policy provisions already identified.

B. Potential Strategies to Maximize Coverage

Despite the significant barriers to coverage identified in this memorandum, there are several strategies that WAL should pursue to maximize its chances of obtaining some level of coverage — or, at a minimum, to preserve its rights and remedies against Meridian.

1. Press for a Definitive Coverage Determination. WAL should send follow-up correspondence to Rachel Underwood at Meridian demanding that Meridian issue a final coverage position within a reasonable time. I recommend a sixty (60) day deadline, which is consistent with the timeframe that New York courts have recognized as reasonable for an insurer to complete its coverage investigation. Under New York insurance law, an insurer's unreasonable delay in determining coverage may give rise to claims of bad faith and estoppel. See, e.g., Pavia & Harcourt v. Columbian Fin. Advisors, Inc., 236 A.D.2d 37, 42 (1st Dep't 1997) (noting that an insurer's duty of good faith requires timely determination of coverage); N.Y. Ins. Law § 3420(d)(2) (requiring written notice of disclaimer "as soon as is reasonably possible"). While the applicability of Section 3420(d)(2) to the specific facts here requires further analysis — particularly regarding whether the statute applies to first-party claims by the insured or only to third-party claims — the general principle of prompt and fair dealing applies to Meridian's handling of WAL's tender.

2. Distinguish the Nature of the Claim. In the follow-up correspondence, WAL should argue that certain components of the HDDS demand — particularly the rework costs and idle-labor charges that WAL attributes to HDDS's own conduct (defective specifications and late GFE delivery) — may not fall within the contractual-liability exclusion (Exclusion (b)) because WAL's potential liability for those specific components could exist independently of the Teaming Agreement. If HDDS's defective specifications caused WAL to produce non-conforming parts, and if HDDS's late delivery of GFE caused WAL's workforce to stand idle, WAL may have independent claims against HDDS for negligence, breach of implied warranty, or negligent misrepresentation. To the extent WAL's exposure on those components arises from HDDS's own wrongful conduct rather than from WAL's contractual indemnity obligation, the but-for exception to Exclusion (b) may apply. While I have assessed the overall likelihood of overcoming Exclusion (b) as low, this argument has more force with respect to specific components of the demand than with respect to the demand as a whole, and it is worth advancing to put Meridian on notice and preserve the issue.

3. Invoke the Duty to Defend. Under New York law, the duty to defend is broader than the duty to indemnify. An insurer must defend the insured whenever the allegations in the underlying claim, liberally construed, suggest a reasonable possibility of coverage. See Automobile Ins. Co. of Hartford v. Cook, 7 N.Y.3d 131, 137 (2006) (articulating the broad duty-to-defend standard). The duty to defend is triggered by the allegations in the pleadings, not by the ultimate merits of the claim or the applicability of policy exclusions.

At present, there is no pending pleading — WAL has not yet filed its anticipated declaratory judgment ("DJ") action, and HDDS has not filed a counterclaim. However, the filing of the complaint is anticipated on or about November 28, 2022, and HDDS is expected to assert a counterclaim seeking enforcement of the Section 11.4 indemnification obligation. Once HDDS files its counterclaim, the counterclaim allegations will constitute a "Claim" against WAL for purposes of both the CGL and D&O policies, and the duty-to-defend analysis can be conducted based on the actual pleading language.

It is worth noting that WAL initiated the DJ action affirmatively, which somewhat complicates the duty-to-defend argument — an insurer's duty to defend is traditionally triggered by a third-party claim against the insured, not by a claim brought by the insured itself. However, once HDDS files its expected counterclaim, the counterclaim will constitute a third-party claim against WAL, squarely implicating the duty to defend. The follow-up correspondence to Meridian should note the anticipated counterclaim and its implications for Meridian's defense obligations.

4. Request Advance Payment of Defense Costs Under the D&O Policy. Some D&O policies include provisions requiring the insurer to advance defense costs to the insured on a current basis, subject to a reservation of rights, even before a final coverage determination is made. If Policy No. MSI-DO-2022-07814 contains such a provision — which is common in private-company D&O forms — WAL should demand that Meridian begin advancing defense costs immediately, subject to a repayment obligation if coverage is ultimately determined not to apply. The availability of this provision depends entirely on the full policy language, which underscores the importance of obtaining the complete policy wording.

C. Risks of Aggressive Coverage Posture

While I recommend pursuing the strategies outlined above, WAL should be aware of the risks associated with an aggressive coverage posture against Meridian.

First, if WAL ultimately litigates coverage with Meridian — whether by filing a coverage action or by asserting bad-faith claims — the litigation could be costly and time-consuming, diverting financial and management resources from the underlying indemnity dispute with HDDS. Coverage litigation in New York can take two to four years to resolve, and the legal costs can be substantial, particularly if the case involves complex factual issues regarding the insurer's claims-handling practices.

Second, a judicial determination that the exclusions apply — particularly a published decision interpreting Endorsement GC-04 or the contractual-liability exclusion in the context of a government-contractor indemnity dispute — could set adverse precedent for WAL's future claims under these or similar policies. While this risk must be weighed against the potential benefit of a favorable coverage determination, it is a factor that warrants consideration.

Third, the retentions and SIRs under both policies ($250,000 under the D&O policy and $500,000 under the CGL policy) mean that WAL bears the initial costs of the claim in any event. Even if coverage were available, WAL would not receive dollar-one coverage; the retention must be exhausted before the insurer's obligations begin. Given the estimated defense costs of $1.8 million to $2.4 million and the magnitude of the indemnity demand, the retentions are relatively modest, but they represent an additional cost that WAL must bear regardless of coverage outcome.

VI. Financial Exposure Summary

The following table summarizes WAL's financial exposure under various coverage scenarios:

The coverage implications of each scenario are as follows:

• If D&O policy covers the claim: The D&O policy's $10,000,000 aggregate limit would cover only a portion of the $14,726,583 demand. After applying the $250,000 retention, Meridian would be liable for up to $10,000,000, and WAL would bear the remaining $4,726,583 of the demand (plus the $250,000 retention) and all defense costs not covered under the policy. The total uninsured exposure under this scenario would be approximately $4,976,583 plus defense costs.

• If CGL policy covers the claim: The CGL policy's $25,000,000 aggregate limit would be sufficient to cover the entire $14,726,583 demand. After applying the $500,000 SIR, Meridian would be liable for up to $14,226,583. WAL would bear the $500,000 SIR and any defense costs not covered under the policy.

• If no coverage is available (most likely scenario): WAL bears the full $14,726,583 exposure (subject to WAL's defenses on the merits of the underlying indemnity dispute) plus its own defense costs, estimated at $1,800,000 to $2,400,000 through trial. Total potential exposure in this scenario ranges from $16,526,583 to $17,126,583, exclusive of interest.

It is important to note that WAL's exposure on the merits of the underlying dispute is subject to the defenses outlined in Section II.A above. If WAL prevails in demonstrating that a significant portion of the cost overruns were caused by HDDS's conduct or by force-majeure events, the ultimate liability may be substantially less than the $14,726,583 demanded. Conversely, the Section 11.5 liability cap under the Teaming Agreement — set at 120% of the WP-4 value of $74,160,000, or $88,992,000 — establishes the outer boundary of WAL's contractual exposure and far exceeds the current demand. If additional cost overruns are identified in subsequent DCMA audits or contracting officer determinations, WAL's exposure could increase substantially within this cap.

VII. Recommendations

Based on the analysis set forth above, I recommend the following action items:

1. Draft and send follow-up letter to Rachel Underwood at Meridian requesting a definitive coverage position within sixty (60) days. The letter should:

(a) Reiterate the factual basis for the claim, including the nature of the HDDS demand, the DCMA COPD, and WAL's defenses on the merits;

(b) Challenge Meridian's application of Exclusion (b) (contractual-liability exclusion) by advancing the but-for exception argument with respect to components of the demand attributable to HDDS's own conduct, and by noting that the claim, if litigated, may involve allegations of negligence that would exist independently of the Teaming Agreement;

(c) Challenge Meridian's application of Endorsement GC-04 (government-contract exclusion) by arguing that the claim is between two private parties under a private commercial agreement and that the endorsement should not be interpreted to encompass all disputes tangentially related to government contract performance;

(d) Note the anticipated HDDS counterclaim and its implications for Meridian's duty to defend under both policies;

(e) Request that Meridian begin advancing defense costs under the D&O policy if the policy contains an advancement provision;

(f) Reserve WAL's rights to pursue bad-faith claims, breach-of-contract claims, and any other available remedies if Meridian unreasonably delays or improperly denies coverage; and

(g) Request a meeting or conference call with Meridian's claims team to discuss the coverage issues in advance of the deadline.

I will prepare a draft of this letter for Priya Anand's review by November 22, 2022.

2. Obtain and review full policy wording. We should request certified copies of both policies — including all declarations pages, endorsements, manuscript amendments, and any applicable coverage extensions or sublimits — from Meridian if they are not already in our possession. Endorsement GC-04 in particular requires close textual analysis that cannot be completed based on the excerpted language in the ROR letter alone. Additionally, the D&O policy's definitions of "Claim," "Wrongful Act," and "Loss," as well as any Side C entity coverage provisions and defense-cost advancement provisions, must be reviewed in their entirety.

3. Coordinate with Priya Anand on the DJ action timeline. The filing of the declaratory judgment complaint, which is anticipated on or about November 28, 2022, and any subsequent HDDS counterclaim will create additional facts relevant to the coverage determination. In particular, the language of any HDDS counterclaim should be reviewed immediately upon receipt for its coverage implications, as the counterclaim allegations may broaden the scope of the claim in ways that affect the duty-to-defend analysis or the applicability of specific policy exclusions.

4. Consider engaging specialist insurance coverage counsel. Calderwood & Harkness's current engagement on behalf of WAL is for the underlying indemnity litigation against HDDS, not for a coverage action against Meridian. If the coverage dispute escalates — particularly if Meridian issues a formal denial and WAL determines that a coverage action is warranted — WAL should consider retaining counsel with specialized expertise in insurance coverage litigation. Several firms in the New York and Washington, D.C. markets maintain dedicated insurance coverage practices, and we can provide referrals if appropriate.

5. Calendar a follow-up review for early January 2023. If the follow-up letter is sent in late November 2022 with a sixty-day response deadline, Meridian's response would be due in late January 2023. I recommend calendaring a team review for the first week of January 2023 to assess Meridian's response (or lack thereof) and determine next steps. If Meridian has not responded by the deadline, WAL's options will include sending a demand letter referencing bad-faith exposure, filing a coverage action, or both.

6. Maintain detailed records of all communications with Meridian and all defense costs incurred by WAL in the underlying action. If coverage is ultimately established — whether by agreement, adjudication, or settlement — WAL will need to demonstrate the defense costs it incurred during the period in which Meridian refused to provide a defense. Similarly, if WAL pursues a bad-faith claim against Meridian, detailed records of the insurer's claims-handling conduct, response times, and communications will be essential to establishing the claim. I recommend that the team maintain a contemporaneous log of all communications with Meridian, including dates, participants, and summaries of substance, and that all defense-cost invoices and supporting documentation be preserved and organized in a manner that supports a potential damages claim.

VIII. Conclusion

Coverage under either the CGL policy (MSI-CGL-2021-33291) or the D&O policy (MSI-DO-2022-07814) for the HDDS indemnity demand is uncertain and faces substantial exclusionary barriers. The most significant obstacles to CGL coverage are the contractual-liability exclusion (Exclusion (b)), the government-contract exclusion (Endorsement GC-04), and the absence of "bodily injury" or "property damage" caused by an "occurrence." The most significant obstacles to D&O coverage are the mismatch between the HDDS demand and the policy's "Wrongful Act" trigger, the entity-level and contractual nature of the claim, and the likely applicability of the policy's contractual-liability exclusion.

Meridian is not currently defending or indemnifying WAL, and its ROR letter does not commit to doing so. The ROR letter reserves broadly and does not provide a timeline for a final coverage determination.

The recommended course of action is to press Meridian for a definitive coverage determination within sixty days while preserving all coverage arguments and bad-faith remedies. The follow-up correspondence should advance the strongest available arguments — particularly the but-for exception to Exclusion (b), the duty-to-defend implications of the anticipated HDDS counterclaim, and any defense-cost advancement provisions in the D&O policy — while recognizing the limitations of those arguments as assessed in this memorandum.

WAL should plan its litigation budget and strategy on the assumption that insurance coverage may not materialize. The most likely outcome, in my assessment, is that Meridian will issue a formal denial of coverage under both policies, and WAL will need to evaluate at that time whether the expected recovery from a coverage action justifies the cost and risk of pursuing one.

I am available to discuss this analysis at your convenience and will begin preparing the follow-up letter to Meridian promptly.

Respectfully submitted,

CALDERWOOD & HARKNESS LLP

By: ________

Simone Laroche Associate Washington, D.C. Office 1900 K Street NW, Suite 1100 Washington, D.C. 20006 Telephone: (202) 555-4100

Email: s.laroche@calderwoodharkness.com

cc: Matter file — Whitmore Aerospace LLC — Indemnity Dispute with Hargrove-Dalton Defense Systems, Inc.

Item	Amount
HDDS indemnity demand (total)	$14,726,583
Portion attributed to WP-4 (WAL's scope)	$12,817,441
Portion attributed to other work packages	$1,909,142
D&O policy aggregate limit	$10,000,000
D&O policy retention	$250,000
CGL policy aggregate limit	$25,000,000
CGL policy SIR	$500,000
Estimated defense costs through trial	$1,800,000 – $2,400,000
Section 11.5 Teaming Agreement liability cap (120% of WP-4 value)	$88,992,000

PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT PRIVILEGE / ATTORNEY WORK PRODUCT
INTERNAL MEMORANDUM
FROM: Simone Laroche, Associate Calderwood & Harkness LLP Washington, D.C. Office 1900 K Street NW, Suite 1100 Washington, D.C. 20006
TO: Priya Anand, Partner, and Douglas Carmichael, Partner Calderwood & Harkness LLP New York Office 600 Lexington Avenue, 28th Floor New York, NY 10022
DATE: November 15, 2022
RE: Analysis of Meridian Surety & Insurance Group Reservation-of-Rights Letter Dated November 1, 2022 — Coverage Prospects for HDDS Indemnity Demand
CLIENT: Whitmore Aerospace LLC
MATTER: Whitmore Aerospace LLC — Indemnity Dispute with Hargrove-Dalton Defense Systems, Inc.
This memorandum is protected by the attorney-client privilege and the attorney work-product doctrine. It is prepared in anticipation of litigation and reflects the mental impressions, conclusions, opinions, and legal theories of counsel. It is intended solely for use by the attorneys and authorized personnel of Calderwood & Harkness LLP in connection with the representation of Whitmore Aerospace LLC and should not be disclosed to any third party without the express written consent of the undersigned or a supervising partner.
I. Executive Summary
This memorandum analyzes the reservation-of-rights ("ROR") letter issued by Meridian Surety & Insurance Group ("Meridian") on November 1, 2022, in response to the coverage tender submitted by our client, Whitmore Aerospace LLC ("WAL"), and assesses WAL's prospects for obtaining defense and indemnity coverage under its existing insurance program for the indemnification demand asserted by Hargrove-Dalton Defense Systems, Inc. ("HDDS").
On September 22, 2022, this firm tendered HDDS's $14,726,583 indemnification demand to Meridian on WAL's behalf, seeking both defense and indemnity coverage under two policies: WAL's directors-and-officers liability policy (Policy No. MSI-DO-2022-07814) and its commercial general liability policy (Policy No. MSI-CGL-2021-33291). The tender was accompanied by copies of the underlying HDDS demand letter dated September 9, 2022, and the Defense Contract Management Agency ("DCMA") Contracting Officer's Preliminary Determination ("COPD") dated August 1, 2022, which provides the factual predicate for the HDDS claim.
Meridian issued its ROR letter on November 1, 2022, authored by Rachel Underwood, Senior Claims Counsel. The letter acknowledges receipt of the tender and identifies multiple policy provisions upon which Meridian reserves rights. Critically, Meridian is not currently providing a defense, funding WAL's legal costs, or making any payment toward the indemnity demand. At the same time, Meridian has not issued an outright denial of coverage; instead, the letter states that Meridian will "continue to investigate" the claim and reserves the right to deny coverage on any applicable ground, including grounds not specifically enumerated in the ROR letter.
My overall assessment of WAL's coverage prospects is as follows:
• CGL Policy: Coverage faces significant and, in my view, likely dispositive exclusionary barriers. The contractual-liability exclusion (Exclusion (b)) squarely applies to a claim grounded in a contractual indemnification obligation. The manuscript government-contract exclusion (Endorsement GC-04) independently bars coverage for claims arising out of or relating to the performance of government contracts. Additionally, the threshold requirements of "bodily injury" or "property damage" caused by an "occurrence" are not satisfied by a purely economic cost-overrun demand. Coverage under the CGL policy is unlikely.
• D&O Policy: Coverage is even less likely. The HDDS demand is directed at WAL as an entity, not at individual directors or officers, and does not allege "Wrongful Acts" in a governance or management capacity. The claim is fundamentally a contractual indemnity obligation arising from a commercial subcontracting arrangement, which falls outside the D&O policy's intended scope. Any contractual-liability exclusion in the D&O policy would independently bar coverage.
• Recommended Course of Action: I recommend that the firm draft and send follow-up correspondence to Meridian pressing for a definitive coverage determination within sixty (60) days, challenging the application of the identified exclusions, preserving WAL's bad-faith remedies, and noting the anticipated HDDS counterclaim and its implications for the duty to defend. Additionally, we should obtain and carefully review the full policy wording — including all endorsements, manuscript amendments, and declarations pages — as our analysis is necessarily preliminary without the complete policy forms in hand.
The sections below provide a detailed analysis of each coverage issue.
II. Background
A. The Underlying Indemnity Demand
On September 9, 2022, HDDS transmitted to WAL a formal indemnification demand letter asserting that WAL is contractually obligated to indemnify HDDS for $14,726,583 in cost overruns identified by the DCMA in its Contracting Officer's Preliminary Determination ("COPD") dated August 1, 2022. The HDDS demand invokes Section 11.4 of the Teaming Agreement between WAL and HDDS dated June 12, 2019 (the "Teaming Agreement"), under which WAL assumed responsibility for Work Package 4 ("WP-4") — the design, fabrication, and delivery of titanium structural assemblies for the Advanced Tactical Airframe Program ("ATAP") under Prime Contract No. FA8620-19-C-0337, awarded by the United States Air Force to HDDS as the prime contractor.
The COPD, which was issued by the DCMA Contracting Officer following an audit of HDDS's cost performance on the ATAP prime contract, attributes a total of $14,726,583 in cost overruns across multiple work packages. Of this total, $12,817,441 — representing approximately 87.03% of the aggregate overruns — is attributed to WP-4, which constitutes WAL's scope of work under the Teaming Agreement. The remaining $1,909,142, representing approximately 12.97% of the total, is attributed to other work packages that are not assigned to WAL and are performed by HDDS or other subcontractors.
The COPD identifies several root causes underlying the WP-4 cost overruns:
• Titanium raw-material cost escalation: Approximately $4.2 million in cost overruns attributable to a significant and sustained increase in the market price of aerospace-grade titanium alloy (Ti-6Al-4V), which accelerated beginning in the first quarter of 2021 due to global supply-chain disruptions.
• Rework due to non-conforming machining tolerances: Approximately $5.1 million in cost overruns attributable to the rejection and rework of titanium structural components that failed to meet machining tolerance specifications, resulting in scrap, additional labor, and schedule impacts.
• Schedule delays causing idle-labor charges: Approximately $2.3 million in cost overruns attributable to schedule delays that resulted in idle labor and facility overhead charges when WAL's production workforce could not proceed on WP-4 deliverables due to delays in other aspects of the program.
• Engineering change proposal ("ECP") implementation costs: Approximately $1.2 million in cost overruns attributable to the implementation of engineering change proposals that modified the design specifications for several WP-4 components during the production phase.
WAL disputes the HDDS demand on multiple substantive grounds. First, WAL contends that Section 11.4(b) of the Teaming Agreement — the specific provision invoked by HDDS — requires that the cost disallowances be "caused by" WAL's "acts or omissions," and WAL maintains that many of the identified cost overruns were not caused by WAL's conduct. In particular, WAL asserts that the rework costs ($5.1 million) were substantially attributable to defective or ambiguous engineering specifications provided by HDDS, not to errors in WAL's machining processes. WAL further contends that the schedule delays giving rise to the idle-labor charges ($2.3 million) were caused by HDDS's late delivery of government-furnished equipment ("GFE") to WAL's facility, over which WAL had no control. Additionally, WAL asserts that the titanium raw-material cost escalation ($4.2 million) constitutes a force-majeure event under Section 15.2 of the Teaming Agreement that excuses WAL's cost performance and should not be allocated to WAL under the indemnification provision. Finally, WAL contends that the ECP implementation costs ($1.2 million) were directed by HDDS and the government, and the Teaming Agreement allocates equitable adjustment rights for such directed changes under Section 8.3.
These substantive defenses to the underlying indemnity demand are the subject of the anticipated declaratory judgment action. They are relevant to the coverage analysis only insofar as they inform the nature and character of the "claim" that has been tendered to Meridian.
B. WAL's Insurance Policies with Meridian
WAL maintains two relevant insurance policies with Meridian, both of which were tendered in connection with the HDDS demand.
1. Directors and Officers Liability Policy (D&O Policy).
• Issuer: Meridian Surety & Insurance Group, 500 Plaza Drive, Secaucus, NJ 07094
• Policy Number: MSI-DO-2022-07814
• Policy Period: July 1, 2022 through July 1, 2023 (claims-made and reported; renewed annually)
• Aggregate Limit of Liability: $10,000,000
• Retention (Self-Insured): $250,000 per claim
• Coverage Structure: The policy provides coverage for "Loss" arising from "Claims" made against the insured for "Wrongful Acts." Based on the summary of terms provided to us, the policy includes Side A coverage (individual directors and officers when the entity does not indemnify), Side B coverage (reimbursement to the entity for indemnification of individuals), and Side C coverage (entity coverage for certain claims). The precise scope of Side C coverage is a significant question that depends on the full policy language, which we have not yet obtained.
• Governing Form: Proprietary Meridian form, not an ISO standard
2. Commercial General Liability Policy (CGL Policy).
• Issuer: Meridian Surety & Insurance Group, 500 Plaza Drive, Secaucus, NJ 07094
• Policy Number: MSI-CGL-2021-33291
• Policy Period: Continuous from initial issuance; current annual period in effect at the time of the HDDS demand
• Aggregate Limit of Liability: $25,000,000
• Self-Insured Retention (SIR): $500,000 per occurrence
• Coverage Structure: Standard ISO Commercial General Liability coverage form with manuscript endorsements, including Endorsement GC-04 (Government Contract Exclusion), which is discussed in detail below. The policy covers "bodily injury" and "property damage" caused by an "occurrence" (Coverage A) and "personal and advertising injury" (Coverage B).
• Governing Form: ISO CG 00 01 (standard CGL form) with Meridian manuscript endorsements
C. WAL's Tender of the HDDS Demand to Meridian
By letter dated September 22, 2022, this firm (through Priya Anand) tendered the HDDS indemnification demand to Rachel Underwood, Senior Claims Counsel at Meridian, on behalf of WAL. The tender letter requested that Meridian provide both a defense and indemnity coverage under the D&O policy and the CGL policy. The letter described the nature of the HDDS demand, identified the relevant policy numbers, and enclosed copies of the HDDS demand letter dated September 9, 2022, and the DCMA COPD dated August 1, 2022.
The tender letter also noted that WAL intended to dispute the HDDS demand on the merits and that litigation was anticipated, and it requested that Meridian appoint or approve defense counsel and begin funding WAL's defense costs. To date, Meridian has not appointed or approved defense counsel, has not agreed to fund WAL's defense costs, and has not made any payment toward the HDDS indemnity demand.
D. Meridian's Reservation-of-Rights Letter
By letter dated November 1, 2022, Rachel Underwood of Meridian issued the ROR letter that is the subject of this memorandum. The ROR letter is five pages in length and contains the following material elements:
• Acknowledgment of tender: Meridian acknowledges receipt of the September 22, 2022 tender letter and the accompanying documentation.
• Reservation of rights — CGL Policy: Meridian identifies and reserves under Exclusion (b) (contractual-liability exclusion), Endorsement GC-04 (government-contract exclusion), and the threshold coverage requirements of "bodily injury" or "property damage" caused by an "occurrence."
• Reservation of rights — D&O Policy: Meridian questions whether the HDDS demand constitutes a covered "Claim" for a "Wrongful Act" and references the policy's contractual-liability exclusion.
• General reservation: Meridian reserves the right to assert any applicable policy provision as a basis for limiting or denying coverage, including provisions not specifically identified in the ROR letter.
• No defense provided: Meridian states that it is not currently providing a defense or funding WAL's defense costs, and it does not commit to doing so.
• Continuing investigation: Meridian states that it will "continue to investigate" the claim and the applicable coverage issues and may request additional information from WAL.
The ROR letter does not establish a deadline for Meridian's final coverage determination, nor does it identify any specific additional information that Meridian requires from WAL.
III. Analysis of Meridian's Reservations — CGL Policy (MSI-CGL-2021-33291)
This section analyzes each of the coverage issues identified in the ROR letter with respect to the CGL policy, together with an additional threshold coverage issue that Meridian references but does not make a primary reservation ground.
A. Contractual-Liability Exclusion (Exclusion (b))
Meridian's primary reservation under the CGL policy invokes Exclusion (b), the standard contractual-liability exclusion found in the ISO CG 00 01 form. This exclusion excludes from coverage "bodily injury" or "property damage" for which the insured is obligated to pay damages by reason of the assumption of liability in a contract or agreement. The exclusion is among the most commonly litigated provisions in CGL insurance and has a well-developed body of case law in New York and across other jurisdictions.
The application of Exclusion (b) to the HDDS demand is straightforward. The HDDS indemnification demand arises directly and exclusively from Section 11.4 of the Teaming Agreement — a contractual indemnification obligation that WAL assumed in connection with the ATAP program. HDDS's demand letter expressly invokes Section 11.4(b) as the contractual basis for WAL's obligation to indemnify HDDS for cost overruns attributable to WAL's scope of work. There is no independent tort theory asserted; the demand is entirely a claim for contractual indemnification. This is a textbook trigger for Exclusion (b).
Under New York law, which governs the Teaming Agreement and is likely to be the controlling law for any coverage dispute (see the Teaming Agreement's choice-of-law clause in Section 18.1 and the standard choice-of-law provisions in Meridian's policies), the contractual-liability exclusion is generally enforced broadly. New York courts have consistently held that the exclusion bars coverage for damages that an insured is obligated to pay solely because of its assumption of liability in a contract. See, e.g., Consolidated Edison Co. of N.Y. v. Allstate Ins. Co., 98 N.Y.2d 208, 218 (2002) (holding that the contractual-liability exclusion must be read in conjunction with the broader policy language and applied according to its plain terms); Inchaustegui v. 666 5th Ave. Ltd. P'ship, 96 N.Y.2d 111, 116 (2001) (noting that the contractual-liability exclusion applies where the insured's liability arises from the assumption of another's liability in a contract).
The ISO standard form includes an exception to Exclusion (b) for "liability that the insured would have in the absence of the contract or agreement" — commonly referred to as the "but-for" test or the "independent liability" exception. Under this exception, coverage is restored if the insured would have been liable for the same damages even if the contractual indemnification provision did not exist. New York courts have interpreted this exception narrowly, limiting it to situations where the insured's own negligence or other tortious conduct would independently support liability. See, e.g., BP Air Conditioning Corp. v. One Beacon Ins. Grp., 8 N.Y.3d 708, 714–15 (2007) (applying the but-for test and finding that the insured's independent negligence could restore coverage under the exception).
WAL could potentially argue that it falls within the but-for exception with respect to certain components of the HDDS demand. Specifically, Section 11.4(a) of the Teaming Agreement — a separate subparagraph from Section 11.4(b), which is the provision actually invoked by HDDS — triggers on "negligent acts or omissions" and "willful misconduct" by WAL. If WAL's conduct in performing WP-4 constituted negligence (for example, if the machining tolerance failures were attributable to WAL's own substandard manufacturing processes), then WAL could argue that its liability for those specific damages would exist independently of the Teaming Agreement under general negligence or implied warranty principles, potentially triggering the but-for exception.
However, this argument is significantly weakened by the fact that the HDDS demand letter specifically invokes Section 11.4(b), not Section 11.4(a). Section 11.4(b) addresses government cost disallowances "caused by" WAL's "acts or omissions" — a broader and more general formulation that does not require negligence or willful misconduct. Section 11.4(b) creates a purely contractual obligation — essentially a cost-allocation mechanism between the prime contractor and its teammate — that has no independent tort analog. An obligation to indemnify a prime contractor for government cost disallowances attributable to a subcontractor's scope of work is a creature of contract, not tort. WAL would not face liability to HDDS for these cost overruns absent the specific indemnification provision in the Teaming Agreement.
Moreover, even if some components of the cost overruns (such as the machining rework costs) could theoretically support an independent negligence claim, the HDDS demand as currently articulated is framed entirely in contractual terms. Under New York law, the duty to defend and the applicability of exclusions are evaluated based on the allegations in the underlying claim. See Fitzpatrick v. Am. Honda Motor Co., 78 N.Y.2d 61, 65 (1991). As the HDDS demand does not allege negligence or any other tort theory, the but-for exception is unlikely to be invoked successfully at this stage.
Assessment: Exclusion (b) is a strong basis for Meridian to deny CGL coverage. The HDDS claim is fundamentally a demand to honor a contractual indemnification obligation, not a third-party tort claim. The but-for exception is narrow under New York law and is further constrained by the contractual framing of the HDDS demand. The likelihood of overcoming Exclusion (b) is low.
B. Government-Contract Exclusion (Endorsement GC-04)
Meridian also reserves under Endorsement GC-04, a manuscript endorsement to the CGL policy that was added to the standard ISO form at inception or renewal. According to the ROR letter, Endorsement GC-04 excludes coverage for claims "arising out of or relating to" the performance of government contracts, "including but not limited to cost disallowances, defective pricing claims, and Contract Disputes Act claims."
This endorsement appears to have been specifically tailored to address the risks associated with WAL's government contracting activities. It is not unusual for insurers to include such endorsements in CGL policies issued to defense contractors and aerospace companies, reflecting the insurer's assessment that government contract disputes present unique risks that fall outside the scope of traditional CGL coverage.
The HDDS indemnity demand falls squarely within the scope of Endorsement GC-04 as described in the ROR letter. The demand flows directly from the DCMA COPD identifying cost overruns under Prime Contract No. FA8620-19-C-0337, a United States Air Force defense contract. The cost overruns are the product of performance issues on the ATAP program — a government contract administered by DCMA. The COPD is itself a government contracting action, and the HDDS indemnity demand is a private-party consequence of that government action. The connection between the HDDS demand and the performance of a government contract is direct, proximate, and unambiguous.
The endorsement's use of the "arising out of or relating to" formulation is significant. Under New York law, the phrase "arising out of" is given a broad interpretation, requiring only a causal connection between the claim and the excluded activity that is more than merely tangential. See Maroney v. N.Y. Cent. Mut. Fire Ins. Co., 5 N.Y.3d 467, 472 (2005) (interpreting "arising out of" broadly in an insurance context); Belt Painting Corp. v. TIG Ins. Co., 100 N.Y.2d 377, 383 (2003) (same). The phrase "relating to" is even broader, encompassing any claim that has a logical or causal connection to the excluded subject matter. Under either formulation, the HDDS demand — which seeks indemnification for government-identified cost overruns on a government contract — plainly "arises out of" and "relates to" the performance of a government contract.
WAL could attempt to argue that the claim is between two private parties (WAL and HDDS) under a private teaming agreement, and that the claim therefore does not "arise out of" the performance of a government contract per se, but rather arises out of a private contractual relationship that merely happens to exist in the context of a government program. This argument has surface appeal but is ultimately unpersuasive given the breadth of the "arising out of or relating to" language. The Teaming Agreement exists solely because of the ATAP prime contract; the indemnity obligation in Section 11.4 is triggered by government cost determinations; the dollar amounts at issue are measured by the DCMA COPD; and the entire dispute is inextricably intertwined with the performance of a government contract. Under the broad construction that New York courts give to "arising out of or relating to" language in exclusionary endorsements, the WAL-HDDS dispute would almost certainly be deemed to arise out of or relate to the performance of a government contract.
I note that our analysis of Endorsement GC-04 is necessarily preliminary because we have not yet obtained the full text of the endorsement. The ROR letter quotes selected language but does not reproduce the endorsement in its entirety. The precise scope of the exclusion — including any defined terms, carve-outs, or limitations — cannot be fully assessed without reviewing the complete endorsement language. I recommend that we request a certified copy of the full policy, including all endorsements and manuscript amendments, from Meridian as a matter of priority.
Assessment: Endorsement GC-04 is a potentially dispositive exclusion. The HDDS demand flows directly from a DCMA cost determination under a DoD prime contract, and the "arising out of or relating to" language is likely broad enough to encompass the claim. The likelihood of overcoming Endorsement GC-04 is low to moderate, depending on the precise endorsement language and the availability of any carve-outs or exceptions within the endorsement that could narrow its application.
C. "Occurrence" and "Property Damage" Requirements
Independent of the specific exclusions discussed above, the CGL policy's threshold coverage requirements present an additional barrier. Coverage A of the ISO CG 00 01 form covers "bodily injury" and "property damage" caused by an "occurrence." An "occurrence" is defined as an accident, including continuous or repeated exposure to substantially the same general harmful conditions. "Bodily injury" means bodily injury, sickness, or disease sustained by a person, including death resulting from any of these. "Property damage" means physical injury to tangible property, including loss of use of tangible property that has been physically injured, or loss of use of tangible property that is not physically injured.
The HDDS indemnity demand does not allege bodily injury to any person. Nor does it allege property damage in the traditional sense — that is, physical injury to tangible property. Rather, the demand seeks reimbursement for cost overruns — a purely economic loss comprising excess material costs, rework labor costs, idle-labor overhead, and engineering change implementation costs. None of these categories of loss involves physical injury to tangible property belonging to a third party.
Under New York law, purely economic losses — such as cost overruns, lost profits, or the cost of correcting defective work — generally do not constitute "property damage" within the meaning of a CGL policy. See George A. Fuller Co. v. United States Fid. & Guar. Co., 200 A.D.2d 255, 259 (1st Dep't 1994) (holding that cost overruns and economic losses on a construction project did not constitute "property damage"); J.Z.G. Res., Inc. v. King, 987 F.2d 98, 104 (2d Cir. 1993) (applying New York law and holding that purely economic losses are not "property damage" under a CGL policy). While there are limited circumstances in which defective work may cause physical damage to other property, triggering CGL coverage, those circumstances are not present here.
Additionally, even if one could characterize some component of the cost overruns as relating to physical damage (for example, the scrapping of non-conforming titanium parts), the "occurrence" requirement may not be satisfied. An "occurrence" requires an accident — an unexpected or unintended event. Deliberate business decisions regarding manufacturing processes, cost management, and schedule performance are not "accidents" within the meaning of the CGL policy, even if they produce unintended financial consequences.
Meridian's ROR letter references these threshold issues in passing but does not make them a primary reservation ground, perhaps because the specific exclusions (Exclusion (b) and Endorsement GC-04) provide more directly applicable bases for limiting coverage. Nevertheless, the absence of "bodily injury," "property damage," and an "occurrence" constitutes an independent and potentially dispositive reason why the CGL policy does not respond to the HDDS demand.
Assessment: The HDDS indemnity demand does not allege or involve "bodily injury" or "property damage" caused by an "occurrence." The CGL policy's threshold coverage requirements are not satisfied. This provides an additional, independent basis for Meridian to deny coverage.
D. Overall CGL Coverage Prospects
In summary, coverage under the CGL policy faces three independent barriers, any one of which could be dispositive:
1. Exclusion (b) — Contractual-Liability Exclusion: The HDDS demand is grounded entirely in a contractual indemnification obligation. The but-for exception is narrow and unlikely to apply given the contractual framing of the claim.
2. Endorsement GC-04 — Government-Contract Exclusion: The HDDS demand arises directly from a DCMA cost determination under a DoD prime contract, and the broad "arising out of or relating to" language of the endorsement likely encompasses the claim.
3. Threshold Coverage Requirements: The HDDS demand involves purely economic losses (cost overruns), not "bodily injury" or "property damage" caused by an "occurrence."
Conclusion: CGL coverage is unlikely to be available for the HDDS indemnity demand. While there are arguments that can be advanced — particularly regarding the but-for exception to Exclusion (b) and the characterization of the claim as a private-party dispute for purposes of Endorsement GC-04 — the weight of the analysis favors Meridian's coverage defenses. WAL should not rely on CGL coverage in planning its litigation strategy or budget.
IV. Analysis of Meridian's Reservations — D&O Policy (MSI-DO-2022-07814)
A. Definition of "Claim" and "Wrongful Act"
The D&O policy provides coverage for "Loss" arising from a "Claim" made against the insured for a "Wrongful Act." Each of these defined terms is significant for the coverage analysis.
"Wrongful Act" is typically defined in D&O policies as any actual or alleged error, misstatement, misleading statement, act, omission, neglect, or breach of duty by an insured person in their capacity as a director or officer of the policyholder entity. The definition is keyed to the individual's role in corporate governance and management, not to the entity's performance of commercial contracts with business counterparties.
The HDDS demand is directed at WAL as an entity — not at Marcus Whitmore (CEO and Chairman), Elaine Whitmore (Chief Technology Officer and Board Member), Gregory Poole (Chief Financial Officer), or any other individual director or officer in their personal or fiduciary capacity. The demand letter identifies WAL as the indemnifying party under Section 11.4 of the Teaming Agreement and does not name, reference, or allege wrongdoing by any individual director or officer. The demand arises from WAL's performance of WP-4 under a commercial teaming arrangement, not from any governance decision, management judgment, or fiduciary act attributable to a specific director or officer.
This fundamental mismatch between the nature of the HDDS claim and the D&O policy's coverage trigger is, in my assessment, the most significant barrier to D&O coverage. The D&O policy is designed to protect individuals — directors and officers — from claims alleging personal wrongful acts committed in their governance and management capacities. The canonical D&O claims include shareholder derivative suits, securities fraud allegations, regulatory enforcement actions against officers, breach-of-fiduciary-duty claims, and similar matters implicating individual conduct in a leadership role. A contractual indemnity demand by a business counterparty seeking reimbursement for cost overruns on a defense subcontract falls entirely outside this paradigm.
Meridian's ROR letter questions whether the HDDS demand constitutes a covered "Claim" for a "Wrongful Act" under the policy. This is, in my assessment, a well-founded reservation. Unless the HDDS demand is recharacterized or supplemented with allegations targeting specific directors or officers — a development that appears unlikely based on the current posture of the dispute — the D&O policy's coverage-triggering requirements are not satisfied.
Assessment: The HDDS demand does not allege a "Wrongful Act" by any director or officer in their governance or management capacity. The claim is directed at WAL as an entity for contractual indemnification. The D&O policy's threshold coverage requirements are likely not met.
B. Entity Coverage / Side C
Some D&O policies include Side C or entity coverage, which extends protection to the corporate entity itself — not just individual directors and officers — for certain categories of claims. In publicly traded companies, Side C coverage is most commonly limited to securities claims. However, in private company D&O policies (which is the form applicable to WAL, a privately held LLC), Side C coverage is sometimes broader and may extend to claims alleging wrongful acts by the entity.
Meridian's ROR letter does not specifically address Side C coverage, instead reserving generally on whether the HDDS demand constitutes a covered "Claim" for a "Wrongful Act." Without reviewing the full policy language, I cannot determine the precise scope of Side C coverage under Policy No. MSI-DO-2022-07814.
Even if Side C coverage applies to claims against WAL as an entity, the coverage analysis still requires that the claim allege a "Wrongful Act" — which, as discussed above, the HDDS demand does not. A contractual indemnity demand based on cost allocation under a teaming agreement is not an allegation of a "wrongful act" by the entity in any conventional sense. Side C coverage, even in its broadest formulation, is not designed to serve as a comprehensive commercial liability policy for all claims asserted against an entity; it is tethered to the D&O policy's core concept of wrongful acts in a governance or management context.
Assessment: Even if Side C entity coverage exists under the D&O policy, the contractual nature of the HDDS demand and the absence of any allegation of a traditional "Wrongful Act" make D&O coverage a poor fit. Side C coverage does not convert the D&O policy into a general commercial liability policy.
C. Contract Exclusion
D&O policies commonly include an exclusion for claims arising from breach of contract or contractual liability. While the precise wording varies among insurers and policy forms, a typical formulation excludes coverage for "Loss in connection with any Claim based upon, arising out of, or attributable to any actual or alleged contractual liability of any Insured under any express contract or agreement." Some versions of this exclusion include a carve-out for defense costs incurred in defending against the claim, even if the underlying liability is excluded.
Meridian's ROR letter references the D&O policy's contractual-liability exclusion without quoting the specific language. This is understandable, as the application of such an exclusion to the HDDS demand is self-evident: HDDS's claim is expressly and exclusively based on WAL's contractual indemnity obligation under Section 11.4 of the Teaming Agreement. There is no allegation of tortious conduct, fiduciary breach, or any other basis of liability independent of the contract.
Assessment: The D&O policy's contractual-liability exclusion would apply to bar coverage for the HDDS demand, which is predicated entirely on a contractual indemnification obligation. This exclusion provides an independent basis — in addition to the threshold "Wrongful Act" issue — for Meridian to deny D&O coverage.
D. Overall D&O Coverage Prospects
D&O coverage for the HDDS demand faces multiple barriers:
1. Threshold "Claim" and "Wrongful Act" Requirements: The HDDS demand is directed at WAL as an entity, not at individual directors or officers, and does not allege "Wrongful Acts" in a governance or management capacity.
2. Entity Coverage (Side C) Limitations: Even if Side C coverage applies, it does not extend to routine contractual indemnity demands unrelated to governance or management wrongdoing.
3. Contractual-Liability Exclusion: The D&O policy's contract exclusion would independently bar coverage for a claim grounded entirely in a contractual indemnification obligation.
Conclusion: D&O coverage is very unlikely to be available for the HDDS indemnity demand. The D&O policy is a fundamentally poor fit for the nature of this claim, and multiple independent coverage barriers apply. The D&O policy is even less likely to provide coverage than the CGL policy.
V. Evaluation of Meridian's Posture and Potential Coverage Strategies
A. Meridian's Current Posture
Meridian has adopted a cautious but non-committal posture. The ROR letter neither denies nor affirms coverage. It identifies multiple policy provisions that may apply to limit or exclude coverage, but it does not issue a definitive coverage determination. This approach is typical of insurers when confronted with complex claims that implicate multiple coverage issues: the insurer preserves its right to deny coverage on any applicable ground while declining to commit to a final position until its investigation is complete.
From WAL's perspective, however, Meridian's posture is problematic for several reasons. First, Meridian is not providing a defense or funding WAL's legal costs, leaving WAL to bear the full cost of the anticipated litigation with HDDS — costs estimated at $1.8 million to $2.4 million through trial based on the November 1, 2022 engagement letter. Second, Meridian has not established a timeline for reaching a final coverage determination, creating uncertainty that impairs WAL's ability to plan its litigation strategy and budget. Third, Meridian's general reservation — which preserves the right to assert any applicable policy provision, even those not specifically identified in the ROR letter — creates the possibility that additional coverage defenses may emerge later in the process.
Notably, the ROR letter states that Meridian will "continue to investigate" the claim and may request additional information from WAL, but it does not identify any specific additional information that is needed. This suggests that Meridian's investigation is not being driven by a factual gap that WAL can fill; rather, Meridian appears to be reserving time to evaluate its legal position on the policy provisions already identified.
B. Potential Strategies to Maximize Coverage
Despite the significant barriers to coverage identified in this memorandum, there are several strategies that WAL should pursue to maximize its chances of obtaining some level of coverage — or, at a minimum, to preserve its rights and remedies against Meridian.
1. Press for a Definitive Coverage Determination. WAL should send follow-up correspondence to Rachel Underwood at Meridian demanding that Meridian issue a final coverage position within a reasonable time. I recommend a sixty (60) day deadline, which is consistent with the timeframe that New York courts have recognized as reasonable for an insurer to complete its coverage investigation. Under New York insurance law, an insurer's unreasonable delay in determining coverage may give rise to claims of bad faith and estoppel. See, e.g., Pavia & Harcourt v. Columbian Fin. Advisors, Inc., 236 A.D.2d 37, 42 (1st Dep't 1997) (noting that an insurer's duty of good faith requires timely determination of coverage); N.Y. Ins. Law § 3420(d)(2) (requiring written notice of disclaimer "as soon as is reasonably possible"). While the applicability of Section 3420(d)(2) to the specific facts here requires further analysis — particularly regarding whether the statute applies to first-party claims by the insured or only to third-party claims — the general principle of prompt and fair dealing applies to Meridian's handling of WAL's tender.
2. Distinguish the Nature of the Claim. In the follow-up correspondence, WAL should argue that certain components of the HDDS demand — particularly the rework costs and idle-labor charges that WAL attributes to HDDS's own conduct (defective specifications and late GFE delivery) — may not fall within the contractual-liability exclusion (Exclusion (b)) because WAL's potential liability for those specific components could exist independently of the Teaming Agreement. If HDDS's defective specifications caused WAL to produce non-conforming parts, and if HDDS's late delivery of GFE caused WAL's workforce to stand idle, WAL may have independent claims against HDDS for negligence, breach of implied warranty, or negligent misrepresentation. To the extent WAL's exposure on those components arises from HDDS's own wrongful conduct rather than from WAL's contractual indemnity obligation, the but-for exception to Exclusion (b) may apply. While I have assessed the overall likelihood of overcoming Exclusion (b) as low, this argument has more force with respect to specific components of the demand than with respect to the demand as a whole, and it is worth advancing to put Meridian on notice and preserve the issue.
3. Invoke the Duty to Defend. Under New York law, the duty to defend is broader than the duty to indemnify. An insurer must defend the insured whenever the allegations in the underlying claim, liberally construed, suggest a reasonable possibility of coverage. See Automobile Ins. Co. of Hartford v. Cook, 7 N.Y.3d 131, 137 (2006) (articulating the broad duty-to-defend standard). The duty to defend is triggered by the allegations in the pleadings, not by the ultimate merits of the claim or the applicability of policy exclusions.
At present, there is no pending pleading — WAL has not yet filed its anticipated declaratory judgment ("DJ") action, and HDDS has not filed a counterclaim. However, the filing of the complaint is anticipated on or about November 28, 2022, and HDDS is expected to assert a counterclaim seeking enforcement of the Section 11.4 indemnification obligation. Once HDDS files its counterclaim, the counterclaim allegations will constitute a "Claim" against WAL for purposes of both the CGL and D&O policies, and the duty-to-defend analysis can be conducted based on the actual pleading language.
It is worth noting that WAL initiated the DJ action affirmatively, which somewhat complicates the duty-to-defend argument — an insurer's duty to defend is traditionally triggered by a third-party claim against the insured, not by a claim brought by the insured itself. However, once HDDS files its expected counterclaim, the counterclaim will constitute a third-party claim against WAL, squarely implicating the duty to defend. The follow-up correspondence to Meridian should note the anticipated counterclaim and its implications for Meridian's defense obligations.
4. Request Advance Payment of Defense Costs Under the D&O Policy. Some D&O policies include provisions requiring the insurer to advance defense costs to the insured on a current basis, subject to a reservation of rights, even before a final coverage determination is made. If Policy No. MSI-DO-2022-07814 contains such a provision — which is common in private-company D&O forms — WAL should demand that Meridian begin advancing defense costs immediately, subject to a repayment obligation if coverage is ultimately determined not to apply. The availability of this provision depends entirely on the full policy language, which underscores the importance of obtaining the complete policy wording.
C. Risks of Aggressive Coverage Posture
While I recommend pursuing the strategies outlined above, WAL should be aware of the risks associated with an aggressive coverage posture against Meridian.
First, if WAL ultimately litigates coverage with Meridian — whether by filing a coverage action or by asserting bad-faith claims — the litigation could be costly and time-consuming, diverting financial and management resources from the underlying indemnity dispute with HDDS. Coverage litigation in New York can take two to four years to resolve, and the legal costs can be substantial, particularly if the case involves complex factual issues regarding the insurer's claims-handling practices.
Second, a judicial determination that the exclusions apply — particularly a published decision interpreting Endorsement GC-04 or the contractual-liability exclusion in the context of a government-contractor indemnity dispute — could set adverse precedent for WAL's future claims under these or similar policies. While this risk must be weighed against the potential benefit of a favorable coverage determination, it is a factor that warrants consideration.
Third, the retentions and SIRs under both policies ($250,000 under the D&O policy and $500,000 under the CGL policy) mean that WAL bears the initial costs of the claim in any event. Even if coverage were available, WAL would not receive dollar-one coverage; the retention must be exhausted before the insurer's obligations begin. Given the estimated defense costs of $1.8 million to $2.4 million and the magnitude of the indemnity demand, the retentions are relatively modest, but they represent an additional cost that WAL must bear regardless of coverage outcome.
VI. Financial Exposure Summary
The following table summarizes WAL's financial exposure under various coverage scenarios:
The coverage implications of each scenario are as follows:
• If D&O policy covers the claim: The D&O policy's $10,000,000 aggregate limit would cover only a portion of the $14,726,583 demand. After applying the $250,000 retention, Meridian would be liable for up to $10,000,000, and WAL would bear the remaining $4,726,583 of the demand (plus the $250,000 retention) and all defense costs not covered under the policy. The total uninsured exposure under this scenario would be approximately $4,976,583 plus defense costs.
• If CGL policy covers the claim: The CGL policy's $25,000,000 aggregate limit would be sufficient to cover the entire $14,726,583 demand. After applying the $500,000 SIR, Meridian would be liable for up to $14,226,583. WAL would bear the $500,000 SIR and any defense costs not covered under the policy.
• If no coverage is available (most likely scenario): WAL bears the full $14,726,583 exposure (subject to WAL's defenses on the merits of the underlying indemnity dispute) plus its own defense costs, estimated at $1,800,000 to $2,400,000 through trial. Total potential exposure in this scenario ranges from $16,526,583 to $17,126,583, exclusive of interest.
It is important to note that WAL's exposure on the merits of the underlying dispute is subject to the defenses outlined in Section II.A above. If WAL prevails in demonstrating that a significant portion of the cost overruns were caused by HDDS's conduct or by force-majeure events, the ultimate liability may be substantially less than the $14,726,583 demanded. Conversely, the Section 11.5 liability cap under the Teaming Agreement — set at 120% of the WP-4 value of $74,160,000, or $88,992,000 — establishes the outer boundary of WAL's contractual exposure and far exceeds the current demand. If additional cost overruns are identified in subsequent DCMA audits or contracting officer determinations, WAL's exposure could increase substantially within this cap.
VII. Recommendations
Based on the analysis set forth above, I recommend the following action items:
1. Draft and send follow-up letter to Rachel Underwood at Meridian requesting a definitive coverage position within sixty (60) days. The letter should:
(a) Reiterate the factual basis for the claim, including the nature of the HDDS demand, the DCMA COPD, and WAL's defenses on the merits;
(b) Challenge Meridian's application of Exclusion (b) (contractual-liability exclusion) by advancing the but-for exception argument with respect to components of the demand attributable to HDDS's own conduct, and by noting that the claim, if litigated, may involve allegations of negligence that would exist independently of the Teaming Agreement;
(c) Challenge Meridian's application of Endorsement GC-04 (government-contract exclusion) by arguing that the claim is between two private parties under a private commercial agreement and that the endorsement should not be interpreted to encompass all disputes tangentially related to government contract performance;
(d) Note the anticipated HDDS counterclaim and its implications for Meridian's duty to defend under both policies;
(e) Request that Meridian begin advancing defense costs under the D&O policy if the policy contains an advancement provision;
(f) Reserve WAL's rights to pursue bad-faith claims, breach-of-contract claims, and any other available remedies if Meridian unreasonably delays or improperly denies coverage; and
(g) Request a meeting or conference call with Meridian's claims team to discuss the coverage issues in advance of the deadline.
I will prepare a draft of this letter for Priya Anand's review by November 22, 2022.
2. Obtain and review full policy wording. We should request certified copies of both policies — including all declarations pages, endorsements, manuscript amendments, and any applicable coverage extensions or sublimits — from Meridian if they are not already in our possession. Endorsement GC-04 in particular requires close textual analysis that cannot be completed based on the excerpted language in the ROR letter alone. Additionally, the D&O policy's definitions of "Claim," "Wrongful Act," and "Loss," as well as any Side C entity coverage provisions and defense-cost advancement provisions, must be reviewed in their entirety.
3. Coordinate with Priya Anand on the DJ action timeline. The filing of the declaratory judgment complaint, which is anticipated on or about November 28, 2022, and any subsequent HDDS counterclaim will create additional facts relevant to the coverage determination. In particular, the language of any HDDS counterclaim should be reviewed immediately upon receipt for its coverage implications, as the counterclaim allegations may broaden the scope of the claim in ways that affect the duty-to-defend analysis or the applicability of specific policy exclusions.
4. Consider engaging specialist insurance coverage counsel. Calderwood & Harkness's current engagement on behalf of WAL is for the underlying indemnity litigation against HDDS, not for a coverage action against Meridian. If the coverage dispute escalates — particularly if Meridian issues a formal denial and WAL determines that a coverage action is warranted — WAL should consider retaining counsel with specialized expertise in insurance coverage litigation. Several firms in the New York and Washington, D.C. markets maintain dedicated insurance coverage practices, and we can provide referrals if appropriate.
5. Calendar a follow-up review for early January 2023. If the follow-up letter is sent in late November 2022 with a sixty-day response deadline, Meridian's response would be due in late January 2023. I recommend calendaring a team review for the first week of January 2023 to assess Meridian's response (or lack thereof) and determine next steps. If Meridian has not responded by the deadline, WAL's options will include sending a demand letter referencing bad-faith exposure, filing a coverage action, or both.
6. Maintain detailed records of all communications with Meridian and all defense costs incurred by WAL in the underlying action. If coverage is ultimately established — whether by agreement, adjudication, or settlement — WAL will need to demonstrate the defense costs it incurred during the period in which Meridian refused to provide a defense. Similarly, if WAL pursues a bad-faith claim against Meridian, detailed records of the insurer's claims-handling conduct, response times, and communications will be essential to establishing the claim. I recommend that the team maintain a contemporaneous log of all communications with Meridian, including dates, participants, and summaries of substance, and that all defense-cost invoices and supporting documentation be preserved and organized in a manner that supports a potential damages claim.
VIII. Conclusion
Coverage under either the CGL policy (MSI-CGL-2021-33291) or the D&O policy (MSI-DO-2022-07814) for the HDDS indemnity demand is uncertain and faces substantial exclusionary barriers. The most significant obstacles to CGL coverage are the contractual-liability exclusion (Exclusion (b)), the government-contract exclusion (Endorsement GC-04), and the absence of "bodily injury" or "property damage" caused by an "occurrence." The most significant obstacles to D&O coverage are the mismatch between the HDDS demand and the policy's "Wrongful Act" trigger, the entity-level and contractual nature of the claim, and the likely applicability of the policy's contractual-liability exclusion.
Meridian is not currently defending or indemnifying WAL, and its ROR letter does not commit to doing so. The ROR letter reserves broadly and does not provide a timeline for a final coverage determination.
The recommended course of action is to press Meridian for a definitive coverage determination within sixty days while preserving all coverage arguments and bad-faith remedies. The follow-up correspondence should advance the strongest available arguments — particularly the but-for exception to Exclusion (b), the duty-to-defend implications of the anticipated HDDS counterclaim, and any defense-cost advancement provisions in the D&O policy — while recognizing the limitations of those arguments as assessed in this memorandum.
WAL should plan its litigation budget and strategy on the assumption that insurance coverage may not materialize. The most likely outcome, in my assessment, is that Meridian will issue a formal denial of coverage under both policies, and WAL will need to evaluate at that time whether the expected recovery from a coverage action justifies the cost and risk of pursuing one.
I am available to discuss this analysis at your convenience and will begin preparing the follow-up letter to Meridian promptly.
Respectfully submitted,
CALDERWOOD & HARKNESS LLP
By: ________
Simone Laroche Associate Washington, D.C. Office 1900 K Street NW, Suite 1100 Washington, D.C. 20006 Telephone: (202) 555-4100
Email: s.laroche@calderwoodharkness.com
cc: Matter file — Whitmore Aerospace LLC — Indemnity Dispute with Hargrove-Dalton Defense Systems, Inc.
Item | Amount
HDDS indemnity demand (total) | $14,726,583
Portion attributed to WP-4 (WAL's scope) | $12,817,441
Portion attributed to other work packages | $1,909,142
D&O policy aggregate limit | $10,000,000
D&O policy retention | $250,000
CGL policy aggregate limit | $25,000,000
CGL policy SIR | $500,000
Estimated defense costs through trial | $1,800,000 – $2,400,000
Section 11.5 Teaming Agreement liability cap (120% of WP-4 value) | $88,992,000

PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT PRIVILEGE / ATTORNEY WORK PRODUCT

INTERNAL MEMORANDUM

CALDERWOOD & HARKNESS LLP

Record

Parties

Dates

Amounts