Court award throws insurer into financial turmoil.

SCPIE officials still plan to appeal $18.2 million award

Doing a favor in business rarely brings around a negative result. But for one Beverly Hills-based insurer, providing a courtesy defense for a doctor in a malpractice case came close to costing the company nearly 40 percent of its surplus and put its A-plus financial strength rating in jeopardy.

Southern California Physicians Insurance Exchange (SCPIE, pronounced Skippy) is an innovative insurer formed by doctors in 1976 following the statewide strike by physicians protesting skyrocketing malpractice insurance costs. It faced having to pay off a $69.2 million jury award to a doctor who faulted the insurer's defense of him in a malpractice case -- the defense that was undertaken as a courtesy.

Paying the jury award would have left the insurer in a seriously weakened financial condition, according to William Matthews, senior analyst for New Jersey-based A.M. Best Co., which rates insurers.

The judgment, handed down in Los Angeles County Superior Court in August, was reduced to $18.2 million by the trial judge on Oct. 18.

And while SCPIE officials are breathing easier, they still intend to appeal the award, because they believe it is unfair and -- if it is allowed to stand -- would dramatically alter the way insurers defend claims against their clients.

The $69.2 million judgment was awarded in a follow-up lawsuit based originally on a separate 1991 case that involved a claim that a newborn infant had been injured during delivery and in the subsequent post-natal care by three physicians -- the obstetrician and two neonatal specialists. The baby was born quadriplegic and requires constant care, including a respirator to assist in her breathing.

The obstetrician did not carry malpractice insurance, so SCPIE, which insured the neonatal specialists, offered to provide him with a courtesy defense, a fairly common practice.

The jury found the obstetrician 70 percent responsible for the child's condition and apportioned the remainder of the blame on the neonatal specialists for failing to diagnose the condition in time. It awarded total damages of $13 million to the quadriplegic baby's parents -- $9.8 million to be paid by the obstetrician and $3.1 million by the specialists.

The judgment against the specialists was paid by SCPIE.

"I keep asking people, 'When a baby is born quadriplegic, what are you supposed to do?'" said SCPIE President Donald J. Zuk. "It was bizarre. But it was a bad-baby case, and in those cases, the jurors always feel sorry and try to give them (the baby's parents) something."

But the bigger surprise was a lawsuit by the obstetrician, who declared bankruptcy and then charged SCPIE with conspiracy and fraud in providing his defense "on the theory that we were trying to shift all the blame" to the uninsured doctor and "therefore we conspired with the defense counsel."

SCPIE expected the obstetrician's suit in L.A. Superior Court to be dismissed. Instead it went to trial and the new jurors rendered a decision different from that of the original jury, apportioning 60 percent of the blame for the baby's condition to the neonatal specialists.

Surplus would be dented

It awarded $4.2 million in compensatory damages and an additional $65 million in punitive damages, bringing the total to $69.2 million, just over 40 percent of the company's policyholder surplus -- the money available to pay claims.

"Sixty-nine million dollars is roughly 10 percent of our gross assets," Zuk said. "When you calculate punitive damages, you're not supposed to look at the gross assets of a company. You're supposed to base it on the net profit for a year. We knew it wouldn't stand up." SCPIE earned $16 million in 1993, after taxes.

But reasonable or not, the award nearly caused more damage than simply the dollar amount involved. A.M. Best, which had consistently given SCPIE its highest rating, A-plus, placed the company under review. The judgment, A.M. Best stated in a press release, "would have a material adverse impact on the insurer's overall financial condition."

Rival insurers pounced on that statement to drop broad hints that SCPIE was in danger of going under.

"I would never do to another company what they (rival insurers) tried to do to us," Zuk said, admitting that it may only have been a few salespeople who actually were at fault.

What's conspiracy?

The trial judge, responding the SCPIE's arguments, reduced the punitive damage award to $14 million and left the compensatory damages intact. Zuk said the company is appealing the case.

"If this judgment stands up at the appellate level, it will change the way insurance companies retain defense counsel," he said. "We'd be facing potential fraud and conspiracy charges all the time. What if you have three doctors and three sets of counsel? We normally would just deal with one set, rather than have duplicate stacks of depositions and so forth. Does that make it fraud and conspiracy if the different lawyers talk to each other?"

The appeal is expected to take 18 months to two years. In the interval, SCPIE is expected to post a bond to cover its exposure.

Meanwhile, once the damages were reduced, A.M. Best immediately reaffirmed SCPIE's A-plus rating. "Fourteen million has less of an impact and is more sustainable," senior analyst Matthews said. "After taxes, it's more like $10 million, which we factored into our rating decision. It will not have a material adverse impact at that level. SCPIE has $175 million in policyholder surplus. A $10 million loss is about 6 percent of its surplus."

Zuk said the worst impact of the $69 million award would have been to stifle the company's growth. It recently began insuring hospitals as well as doctors, and is offering directors and officers policies written by another carrier.

With the advent of managed care, it has created a new policy for groups that was recently approved by the state Department of Insurance. A 40-percent reduction in its surplus would have reduced its ability to grow and expand into new markets.

In its 18-year history, SCPIE has been consistently profitable, returning $160 million in dividends to its policyholders. Even though it limits it sales to the Southern California area, it is the 12th-largest medical malpractice insurer in the nation, according to Matthews, and insures more than 11,100 doctors.