                             In the
 United States Court of Appeals
               For the Seventh Circuit
                          ____________

No. 02-3275
INSURANCE COMPANY OF THE WEST,
                                               Plaintiff-Appellant,
                                 v.

COUNTY OF MCHENRY, INDECK-PLEASANT
VALLEY, LLC, and INDECK OPERATIONS, INC.,
                                            Defendants-Appellees.
                          ____________
            Appeal from the United States District Court
       for the Northern District of Illinois, Eastern Division.
         No. 02 CV 2291—Matthew F. Kennelly, Judge.
                          ____________
       ARGUED APRIL 1, 2003—DECIDED MAY 13, 2003
                      ____________


  Before FLAUM, Chief Judge, and COFFEY and EVANS,
Circuit Judges.
  FLAUM, Chief Judge. Insurance Company of the West
(“ICW”) brought this action in federal district court seek-
ing a declaration that it had no duty to defend and no
duty to indemnify its insured, the County of McHenry
(“County”), against an underlying lawsuit filed in Illinois
state court by Indeck-Pleasant Valley, LLC, and Indeck
Operations, Inc. (collectively “Indeck”). The district court
dismissed ICW’s claims for want of subject matter juris-
diction because the issue of ICW’s duty to defend was
2                                                No. 02-3275

not actually in controversy under the terms of the insur-
ance policy, and because the issue of ICW’s duty to in-
demnify was not ripe for adjudication based on the facts
before the court at that time. ICW timely filed this ap-
peal challenging the district court’s dismissal of its claims,
and while the appeal was pending ICW and Indeck agreed
to settle all of Indeck’s claims for money damages against
the County. Promptly thereafter, ICW moved for voluntary
dismissal of its appeal under Federal Rule of Appellate
Procedure 42(b), as it believed that the issues raised in
the appeal—whether ICW had a duty to defend and indem-
nify the County—were mooted by the terms of the settle-
ment agreement. The County opposed ICW’s motion for
voluntary dismissal, arguing instead that the appeal
should be dismissed as frivolous under Fed. R. App. P. 38
and that sanctions ought to be imposed on ICW in the
form of attorneys’ fees and double costs.
  We agree with both sides that the substantive issues
raised in this appeal have indeed been rendered moot
by the settlement agreement between ICW and Indeck. All
that remains to be decided, then, is whether to impose
a penalty on ICW for filing a frivolous appeal. Since we
do not believe that ICW pursued an unreasonable legal
argument or wasted this court’s resources when it filed
its appeal, we decline to levy sanctions in this case and
order this appeal dismissed as moot.


                     I. BACKGROUND
  ICW provided excess public entity liability insurance
to the County under a policy that contained a $250,000 self-
insured retention and a $5,000,000 liability limit. In Au-
gust 1999 Indeck filed a lawsuit against the County in Illi-
nois state court seeking injunctive relief and $25 million
in damages based on the County’s enforcement of zoning
ordinances to prevent Indeck from building an electrical
No. 02-3275                                               3

generating facility called a “peaker” plant. Following
numerous amendments to the complaint by Indeck and
dismissals of claims by the state court, three out of six
counts survived in Indeck’s lawsuit against the County:
Count I sought a declaration that the County’s zoning
ordinance was unenforceable against Indeck; Count III
sought money damages and injunctive relief arising from
the County’s violation of Indeck’s due process rights by
interfering with Indeck’s right to build the peaker plant;
and Count VI sought declaratory and injunctive relief
based on the County’s arbitrary and capricious applica-
tion of the invalid zoning ordinance to Indeck. As required
by the insurance policy, the County notified ICW of
Indeck’s claims against it, requested that its rights be
protected, and inquired whether ICW intended to partici-
pate in the County’s defense.
  In March 2002 ICW brought an action of its own against
the County and Indeck in federal district court seeking
a declaration that it had no duty to defend or indemnify
the County against Indeck’s claims. ICW alleged that
the County’s policy does not provide coverage for the kind
of declarative and injunctive relief sought in Counts I & VI
of Indeck’s complaint, and that Count III pleaded a cause
of action for inverse condemnation, which was explicitly
excluded from coverage under the policy. The district
court dismissed ICW’s suit for lack of subject matter
jurisdiction under Fed. R. Civ. P. 12(b)(1), holding in part
that there was no controversy within the meaning of
Article III with respect to the duty to defend because the
policy did not require ICW to defend the County, and the
County never demanded that ICW assist in its defense.
The court also held that the question of ICW’s duty to
indemnify was not yet ripe for adjudication because it
was not clear from Indeck’s complaint whether Count
III asserted a claim based on a procedural due process
violation or a taking without just compensation. The dis-
4                                                No. 02-3275

trict court noted that “principles of inverse condemna-
tion arguably are apparent” in Count III, but that it
was uncertain from the pleadings whether, if Indeck
prevailed, its “victory will be based on something akin to
a theory of inverse condemnation or a theory of capricious
enforcement. If the former, ICW likely will be off the
hook; if the latter, ICW likely will remain on the hook.”
Thus, the court decided that issuing a declaratory judg-
ment regarding ICW’s duty to indemnify would be prema-
ture.
   ICW timely filed its appeal of the district court’s decision
in this court and soon thereafter re-filed its declaratory
judgment action in the district court. ICW claimed that
it re-filed its lawsuit because the County had nearly spent
its $250,000 self-insured retention on defense costs when
the court entered its judgment in the first suit. ICW
believed this fact made the issues ripe for adjudication
because the County’s exhaustion of its self-insured reten-
tion triggered ICW’s duty to indemnify under the policy.
The County disagreed, arguing that ICW’s duty to indem-
nify could only be determined when the underlying claims
were resolved, and not when the County depleted its self-
insured retention to pay its litigation defense costs.
  After this appeal was filed and just before ICW’s reply
brief was due, ICW reached a settlement agreement
with Indeck for $5 million, the full amount of ICW’s policy
with the County, to dispose of all money damages claims
against the County in the underlying lawsuit. ICW then
requested additional time from this court to file its reply,
hinting that it would instead submit a Fed. R. App. P. 42(b)
motion for voluntary dismissal of its appeal because
the settlement agreement with Indeck rendered the sub-
stantive issues in the appeal moot. After we granted
ICW’s request for more time, the County filed a motion of
its own objecting to the request for an extension and
No. 02-3275                                                 5

renewing1 its request for sanctions under Fed. R. App. P. 38
based on its assertion that ICW’s appeal was frivolous.
  Soon after, ICW sought permission of this court to
voluntarily dismiss its appeal without costs. ICW stated
that since the sole purpose of the appeal was to deter-
mine from the “eight corners” of the insurance policy
and Indeck’s complaint whether ICW owed a duty to de-
fend and indemnify the County, the settlement of the
underlying claim provided a new factual basis for resolving
those issues and the appeal was now moot. The County
objected to voluntary dismissal under Fed. R. App. P. 42(b),
arguing that ICW’s settlement with Indeck did not
render moot the County’s motion for costs and damages
under Fed. R. App. P. 38 based on ICW’s filing of its
allegedly frivolous appeal. We denied ICW’s Rule 42(b)
motion to voluntarily dismiss the appeal because the
parties could not agree on the allocation of costs, see Hope
Clinic v. Ryan, 249 F.3d 603, 605 (7th Cir. 2001), and
ordered that the merits of the County’s Rule 38 motion be
addressed during oral argument.
  At oral argument both sides agreed that the issues of
ICW’s duty to defend and indemnify were no longer debat-
able in the context of this appeal; the only live issue be-
fore the court was whether ICW’s appeal had a reasonable
basis in law and fact, as ICW contends, or was frivolous
and deserving of sanctions, as argued by the County.
We now turn to that question.


                      II. DISCUSSION
  Rule 38 provides that an appellate court may award
sanctions, in the form of costs and money damages, against


1
  The County first submitted its request for Rule 38 sanctions
in its response brief.
6                                              No. 02-3275

an appellant who brings a frivolous appeal. See Fed. R. App.
P. 38. We have said that an appeal is “frivolous” “when
the result is obvious or when the appellant’s argument is
wholly without merit.” Grove Fresh Distributors v. John
Labatt, Ltd., 299 F.3d 635, 642 (7th Cir. 2002). It is with-
in the sound discretion of this court to decide whether to
impose sanctions for pursuing a frivolous appeal. Id. In
weighing a request for sanctions under Rule 38, we con-
sider first whether the appeal is indeed frivolous and, if
so, whether sanctions are appropriate. Potuka v. Trans
World Airlines, 191 F.3d 834, 841 (7th Cir. 1999).
  The County argues that sanctions are warranted in
this case because ICW’s appeal lacks any good faith basis
in fact or law. The County claims that ICW’s duty to
indemnify was so obviously dependent on resolution of
Count III at trial that ICW’s request for a declaration of
rights from the district court and its subsequent appeal
were frivolous. We disagree. ICW was well within its
legal rights to seek a declaration that it had no duty to
indemnify against a claim that it reasonably believed to
be outside the scope of its policy. The policy exclusion at
issue bars claims based on “the principles of eminent
domain, condemnation proceedings or inverse condemna-
tion, by whatever name called,” while Count III of In-
deck’s complaint alleges that the County’s actions deny-
ing Indeck a permit to build the peaker plant resulted in
a “loss of the lawful use” of the property. The district
court could not discern from this language on what
basis Indeck sought to impose liability on the County, nor
could it determine for certain whether Count III alleged a
claim that came within the policy exclusion. Given this
ambiguity, it was not a foregone conclusion that we
would interpret Count III’s language in the same way
as the district judge, nor that we would automatically
decline to find jurisdiction and deny declaratory relief
to ICW. Thus, we cannot say that ICW’s appeal from
No. 02-3275                                                 7

the district court’s decision was without a good faith
basis in law or fact.
  The County also claims that the question of ICW’s duty
to defend was never arguable based on the plain language
of the insurance policy and on the fact that the County
never requested defense from ICW. The County may be
correct in asserting that ICW’s duty to defend (or lack
thereof) was clearly established, but ICW did not seek
declaratory judgment or file this appeal on that issue alone.
ICW also sought to resolve whether it had a duty to indem-
nify the County, an issue which, as discussed above, was
not so clearly established. Even if we were so inclined, it
would not further the purpose of Rule 38 for us to decide
that, while ICW’s appeal of the duty to indemnify issue is
reasonable, its appeal of the duty to defend issue is frivo-
lous. In cases like this one, where the same underlying
facts and circumstances are used to resolve two closely
related issues on appeal, there is little danger that
the resources of the court will be wasted and thus little
reason to impose a penalty on the appellant for raising
both issues on appeal.
  Having said that, we “ought to be alert to the possibility”
that ICW, in filing this appeal, was trying “to enlist [us]
in a tactical maneuver undeserving of the expenditure of
federal judicial resources.” Crowley Cutlery Co. v. United
States Customs Service, 849 F.2d 273, 279 (7th Cir. 1988).
The County urges us to consider other facts, such as
ICW’s “quiet re-filing” of its suit in the district court soon
after filing this appeal, its “abrupt policy-exhausting” and
“unsolicited” settlement with Indeck, its reservation of
its right to recover its settlement costs from the County,
and its disclosure of the County’s allegedly confidential
trial strategy communications to Indeck, as evidence of
ICW’s bad faith in pursuing this appeal. Unlike the Coun-
ty, we do not see anything particularly insidious or ill-
intentioned in these acts beyond the usual contentious-
8                                            No. 02-3275

ness of civil litigation. Instead, we are more impressed
by the fact that ICW promptly moved for voluntary dis-
missal of its appeal once its settlement with Indeck be-
came final and repeatedly asserted that it had no interest
in pursuing its appeal once it had paid its policy limits
on behalf of the County. The fact that ICW may have
intended that this appeal would bear fruits in the form
of settlement leverage with Indeck, as well as a favor-
able declaration of its obligations to indemnify and de-
fend the County, cannot support imposing sanctions in
this case. ICW’s conduct in filing and pursuing this ap-
peal is simply not the kind of “vexatious or obstinate
litigation that warrants sanctions under” Rule 38. Collins
v. Educational Therapy Center, 184 F.3d 617, 622 (7th Cir.
1999).


                    III. CONCLUSION
  The County’s motion for relief in the form of sanctions
and costs under Rule 38 is DENIED, and all other issues
raised in this appeal are dismissed as moot.

A true Copy:
      Teste:

                       ________________________________
                       Clerk of the United States Court of
                         Appeals for the Seventh Circuit




                  USCA-02-C-0072—5-13-03
