Tred Eyerly | Insurance Law Hawaii | December 26, 2016
The Sixth Circuit found that the surety did not act in bad faith when it settled the general contractor’s claims against the State of Michigan over delays on a construction project. Great Am. Ins. Co. v. E.L. Bailey & Co., 2016 U.S. App. LEXIS 20018 (6th Cir. Nov. 7, 2016).
Bailey, the general contractor, entered into a surety agreement under which Great American would issue surety bonds on behalf of Bailey in the construction of a kitchen at a State prison. Bailey, the principal, paid Great American (GAIC), the surety, to provide bonds guaranteeing contract performance to the State, the obligee or owner. GAIC provided a performance bond, guaranteeing performance of the contract work, and a payment bond, guaranteeing payments to subcontractors and suppliers. Under the agreement, Bailey would indemnify GAIC for all payments or other expenses GAIC incurred due on either bond, and would pay upon demand collateral in an amount to be determined by GAIC. In the event of an alleged breach by Bailey, the agreement assigned to GAIC all Bailey’s rights under its contract with the State and well as all its claims against any party.
Bailey never finalized completion, and GAIC reached agreement with the State for another contractor to complete the project.
Actions were filed in three courts. Bailey and the State brought claims against one another in the Michigan Court of Claims. Mediation was ordered, and the mediator recommended that the State offer Bailey $220,400.75 to resolve all claims. The State rejected the mediator’s recommendation. The court ordered another mediation scheduled for September 12, 2013. On September 11, GAIC informed Bailey that GAIC had agreed to a settlement, releasing Bailey’s claims against the State with prejudice in exchange for the State paying GAIC $358,000, representing final payment under the construction contract. Bailey alleged it was unaware of the negotiations until the agreement had been reached.
In the second action, subcontractors brought claims against Bailey and GAIC under the payment bond for amounts due for the work performed. GAIC demanded collateral from Bailey, but Bailey never provided any collateral. GAIC settled the subcontractor’s claims, paying out $645,287.55 and incurring over $260,000 in expenses and attorneys’ fees.
In the third action, GAIC sued in federal court in this case seeking indemnification for Bailey’s alleged breach of the agreement by failing to provide collateral for the subcontractor claims. GAIC amended its complaint to add a declaratory judgment claim regarding its right to settle Bailey’s claims against theS. Bailey’s answer asserted bad faith as an affirmative defense, contesting GAIC’s right to settle Bailey’s claims against the State. The district court granted summary judgment to GAIC, finding that GAIC had the right to settle Bailey’s claims and awarding damages for the indemnification claim.
The Sixth Circuit affirmed. Bailey provided neither evidence about GAIC’s state of mind nor any reason why GAIC’s interest in settling would differ from Bailey’s. There was no evidence that the settlement by GAIC was undertaken with selfish purpose at Bailey’s expense. Rather, Bailey and GAIC shared an interest in securing the highest settlement possible from the State.
Further, the evidence suggested that GAIC negotiated in good faith. The emails between GAIC and the State portrayed an adversarial negotiation. The negotiation secured $358,000, well above the mediator’s recommendation of $220,400.
The court agreed a surety’s concealment of its settlement negotiations raised concerns. Settling a party’s claim in secret, even when the claim had been assigned by contract, deprived the party of time to prepare objections and the opportunity to consider its options appropriately. But there was no evidence that GAIC had negotiated with the State for months. The emails between GAIC and the State showed communication only during the week prior to reaching the agreement and GAIC’s informing Bailey. Moreover, Bailey had the opportunity to regain control of its claims by providing the collateral requested by GAIC. Had Bailey provided the collateral, it would have regained the capacity to negotiate for a higher settlement than GAIC reached. Bailey thus had both the notice and the opportunity to prevent an undesirable settlement, undermining Bailey’s argument that GAIC’s concealed the negotiations and was in bad faith.