                                                                                   F I L E D
                                                                           United States Court of Appeals
                                                                                   Tenth Circuit
                         UNITED STATES COURT OF APPEALS
                                                                                   MAR 26 2003
                                     TENTH CIRCUIT
                                                                               PATRICK FISHER
                                                                                        Clerk

 PEOPLES MORTGAGE CORP.,

           Plaintiff-Appellee,
 v.                                                              No. 02-3063
 KANSAS BANKERS SURETY CO.,                            (D.C. No. 00-CV-2547 KHV)
                                                                (D. KAN)
           Defendant-Appellant.




                                 ORDER AND JUDGMENT*


Before MURPHY, BALDOCK, and HARTZ, Circuit Judges.


       Defendant Kansas Bankers Surety Company (“the Insurance Company”) appeals a

district court judgment in this diversity case ordering it to indemnify Plaintiff People’s

Mortgage Corporation (“the Bank”) for a pretrial settlement the Bank negotiated with a

former employee. On cross-motions for summary judgment, the district court ruled the

settlement fell within the coverage provisions of the Employment Practices Insurance

Policy issued to the Bank. The court granted partial summary judgment in favor of the

Bank, holding it was entitled to indemnification to the extent it settled the litigation in


       *
          This order and judgment is not binding precedent, except under the doctrines of
law of the case, res judicata, and collateral estoppel. The court generally disfavors the
citation of orders and judgments; nevertheless, an order and judgment may be cited under
the terms and conditions of 10th Cir. R. 36.3.
good faith and for a reasonable amount. The court reserved for trial the issues of good

faith and reasonableness, and the issue of attorneys’ fees. Prior to trial, the parties

stipulated that the Bank settled the litigation in good faith. After trial, the district court

ruled that the amount paid was reasonable and entered judgment for the full settlement

amount plus interest. The court also awarded attorneys’ fees under a Kansas statutory

provision that permits a court to award an insured attorneys fees if the court concludes an

insurer’s refusal to pay a claim was without just cause or excuse. We have jurisdiction

pursuant to 28 U.S.C. § 1291. We affirm.

                                               I.

       On November 5, 1999, the Insurance Company issued an Employment Practices

Insurance Policy that insured eight entities in Kansas, Colorado, and New Mexico,

including the Bank. Under the policy drafted by the Insurance Company,1 the insurer

agreed –

       to appoint attorneys and pay the costs of the appointed attorneys to defend
       the Bank and indemnify the Bank for up to a maximum of one year of
       claimant’s salary which the Bank is legally obligated to pay by reason of
       any actual or alleged Wrongful Act arising out of the Employment Claim
       first filed against the Bank during the Policy Period.

The policy defines “Employment Claim” as a civil or arbitration proceeding –




       1
         The Insurance Company’s President and Senior Vice President drafted the
Employment Practices policy. Both have many years of experience in the insurance
industry, but neither has any legal training or background.

                                                2
       which is brought and maintained by any past, or present Employee(s) of the
       Bank for any Wrongful Act in connection with an actual or alleged
       wrongful dismissal, discharge or termination of employment, breach of a
       verbal or written employment contract, workplace harassment, failure to
       promote, or wrongful discipline, except as excluded from coverage under
       Section VI.

(emphasis added). “Wrongful act” is defined in Section III as –

       any actual or alleged:
              1.     error or misstatement; or
              2.     misleading statement; or
              3.     act of omission; or
              4.     breach of duty; or
              5.     breach of fiduciary duty; or
              6.     any other act
       by the Bank for which an Employment Claim is made against the Bank
       except as excluded from coverage under Section IV.

Section IV excludes, inter alia, any employment claim “based upon, arising from, or in

consequence of willfully violating, in fact, by the Bank any statute, rule, regulation,

agreement or judicial or regulatory order.” Section V limits liability to:

       (i)       all costs and expenses of the attorneys appointed by the Underwriter,
       (ii)      and up to a maximum of one years [sic] salary or wages of the past
                 or present Employee or Employee Applicant who is making such
                 Employment Claim if the Employee or Employee Applicant is
                 awarded either front pay or back pay of salary or wages for
                 employment services which were not and will not be actually
                 performed
       . . . . Salary and wages shall not include insurance premiums, interest,
       retirement or saving plan contribution/compensation or other benefits.

The policy also contains a $1,000 deductible and a provision limiting total liability,

including defense costs, to $250,000.



                                              3
      The Bank sought indemnification for the amount it paid to settle a lawsuit brought

by a former employee, Ricardo Gomez. Gomez resigned from the Bank in October 1999

and, in November, demanded a termination payment pursuant to an alleged employment

agreement dated February 12, 1997. In support of his demand, Gomez produced a copy

of the employment agreement. The agreement contained a provision, Paragraph 11D, that

does not appear in the standard employment agreement used by the Bank. Paragraph 11D

in the Gomez agreement also appeared in a different font than the remaining agreement.

Pursuant to Paragraph 11D, the Bank allegedly agreed to pay Gomez, upon his

resignation, a termination payment of 150% of his taxable income for the preceding

twelve months, or approximately $329,000. Gomez also demanded payment of

commissions for all loans approved and disbursed within 90 days of his resignation.

While employed, Gomez received an annual salary of $40,000 plus commissions and

other performance-based compensation.

      On November 11, 1999, the Bank notified the Insurance Company of the Gomez

claim and provided relevant documents. The Bank informed the Insurance Company that

it believed Gomez had fraudulently altered his employment agreement by adding a

paragraph that did not appear in the original document. Following Gomez’ demand, the

Bank was unable to locate an original copy of the Gomez employment agreement. By

letter dated November 11, 1999, the Insurance Company notified the Bank that the

insurance policy might not cover the Gomez claim because the alleged employment


                                            4
agreement stated: “This Agreement shall not be construed as an Employment Contract.”

The Insurance Company also requested the Bank keep it informed of any developments

and notify it immediately if Gomez filed suit.

       Gomez filed suit in Colorado court on December 16, 1999, seeking approximately

$329,000 in damages. Gomez also sought attorneys’ fees and punitive damages pursuant

to Colorado statute. The Bank filed a counter-claim alleging Gomez had fraudulently

altered the employment agreement. On December 22, 1999, the Bank notified the

Insurance Company of the suit. The Insurance Company immediately appointed counsel

to represent the Bank and informed the Bank it would pay the costs and expenses of the

appointed attorney subject to the policy deductible and liability limit. The Insurance

Company also informed the Bank of its belief that the indemnity provisions of the

insurance policy did not cover a contractual obligation to make a termination payment.

       The Bank and Gomez attended mediation on August 18, 2000. Although invited,

the Insurance Company elected not to attend. Immediately prior to mediation, the Bank

demanded the Insurance Company authorize payment up to the policy limit to settle the

case. The Insurance Company declined. During the course of mediation, the Bank

contacted the Insurance Company via telephone again requesting authorization to settle.

The Insurance Company agreed to contribute $10,000 toward settlement. Following

mediation, at the recommendation of appointed counsel, the Bank agreed to pay Gomez

$175,000 to settle the suit. The Insurance Company issued a check for $10,000 and


                                             5
requested the Bank pay the policy deductible of $1000. The Bank refused and requested

indemnification for the remaining settlement amount. The Insurance Company

maintained the policy’s indemnification provisions did not cover the Gomez claim. In

response, the Bank filed this diversity action in federal court seeking reimbursement of

the settlement payment and attorneys’ fees.

       On appeal, the Insurance Company continues to argue the Gomez claim is not

covered by the insurance policy’s indemnification provisions. In addition, the Insurance

Company asserts that any coverage that exists is limited to a maximum of one year of

Gomez’ base salary, or $40,000.

                                              II.

       The interpretation of an insurance policy is a question of law which we review de

novo. U.S. Fidelity and Guar. Co. v. Federated Rural Elec. Ins. Co., 286 F.3d 1216, 1218

(10th Cir. 2002). In a diversity case, the district court must apply the substantive law of

the forum state, in this case Kansas.1 Id. In interpreting an insurance contract under



       1
         The case was filed in the District of Kansas and the district court applied Kansas
law to the interpretation of the contract (assuming, without deciding, that “either Kansas
law applies or that no conflict exists between Kansas law and the applicable state law.”).
Under Kansas law, “the choice of which state’s law is applicable to the construction of
a[n insurance] contract depends on where the contract is made. For choice of law
purposes, a contract is ‘made’ where the last act necessary to complete the contract
occurs.” See State Farm Mut. Auto. Ins. Co. v. Baker, 797 P.2d 168, 171 (Kan. App.
1990). The policy does not contain a choice of law provision and the record does not
provide any assistance. At oral argument, the parties agreed that Kansas law governed
interpretation of the contract. Accordingly, we also will apply Kansas law.

                                              6
Kansas law, terms generally are given their plain and ordinary meaning unless the parties

have expressed a contrary intent. See Pink Cadillac Bar and Grill v. U.S. Fid. & Guar.

Co., 925 P.2d 452, 456 (Kan. 1996). Where the terms of a policy are ambiguous or

uncertain, the construction most favorable to the insured must prevail. See Farm Bureau

Mut. Ins. Co. v. Winters, 806 P.2d 993, 996 (Kan. 1991). The test for determining

whether a contract is ambiguous is not what the insurer intended the language to mean,

but what a reasonably prudent insured would understand the language to mean. Id.

                                            A.

       The Insurance Company asserts the district court erred in ruling the Gomez claim

fell within the policy provisions. As the insured, the Bank bears the burden of

establishing coverage under the policy. See Shelter Mut. Ins. Co. v. Williams, 804 P.2d

1374, 1383 (Kan. 1991). The Bank asserts that Section I(A) covers its claim for

indemnification. Section I(A) requires the Insurance Company to “indemnify the Bank

for up to a maximum of one year of claimant’s salary which the Bank is legally obligated

to pay by reason of any actual or alleged Wrongful Act arising out of the Employment

Claim.”

       Based on the underlined language, the Insurance Company first argues that

coverage is limited to claims for “salary,” and asserts the Gomez claim sought a

“termination payment” rather than salary. According to the Insurance Company, a

“termination payment does not constitute salary or wages because it was not


                                            7
compensation for services rendered.” The Insurance Company’s attempt to limit its

policy coverage to claims for “compensation for services rendered” ignores the remaining

provisions of the insurance policy which expressly provide coverage for employment

claims brought by former employees and by employee applicants who did not receive an

offer of employment. Damage awards paid to such individuals would never be

“compensation for services rendered.” In addition, Section V discusses claims for “salary

or wages for employment services which were not and will not actually be performed.”

The policy expressly provides coverage for such claims. The Insurance Company’s

proposed interpretation conflicts with the express terms of the contract and the district

court properly rejected it. The Bank argued, and the district court concluded, that the

underlined language does not limit coverage to claims for salary, but instead establishes a

limitation on the amount that will be indemnified. This interpretation is reasonable and

consistent with the remainder of the insurance policy.

       The Insurance Company also argues that because the Gomez claim arose out of

alleged contractual obligations rather than an alleged wrongful act, the claim is not

covered by the policy. The district court properly concluded that the Gomez claim did

allege a “Wrongful Act” as defined in the policy. The Gomez claim alleged the Bank

failed to comply with the provisions of its employment agreement with Gomez, a breach

of a contractual duty. “Breach of duty” is expressly included in the policy’s definition of

“Wrongful Acts.” In addition, the policy’s definition of a covered Employment Claim


                                              8
expressly includes a claim for breach of contract: “Employment Claim means [a civil or

arbitration proceeding] brought and maintained by any past or present employee(s) of the

Bank for any Wrongful Act in connection with any actual or alleged . . . breach of a

verbal or written employment contract.” Accordingly, we conclude Section I(A) provides

coverage for the Gomez claim.

                                             B.

       The Insurance Company next asserts the district court erred in concluding the

Gomez claim did not fall within the policy exclusions contained in Sections IV and V.

Under Kansas law, the burden is on the insurer to establish that an otherwise covered loss

is excluded by a specific policy provision. See Williams, 804 P.2d at 1383. “The general

rule is that exceptions, limitations, and exclusions to insuring agreements require a

narrow construction on the theory that the insurer, having affirmatively expressed

coverage through broad promises, assumes a duty to define any limitations on that

coverage in clear and explicit terms.” Atlantic Ave. Assoc. v. Central Solutions, Inc., 24

P.3d 188, 190 (Kan. App. 2001).

       The Insurance Company first asserts Section V(a)(ii) precludes coverage because

the settlement payment did not constitute front pay or back pay of salary or wages.

Section V(a)(ii) states that the Insurance Company “shall be liable to pay only . . . up to a

maximum of one years [sic] salary or wages . . . if the Employee . . . is awarded either

front or back pay of salary or wages for employment services which were not and will not


                                              9
actually be performed.” The district court properly concluded Section V(a)(ii) does not

limit policy coverage exclusively to claims for front or back pay. Such an interpretation

would be inconsistent with Section 1(A) which expressly provides coverage for any

employment claim “arising out of an actual or alleged Wrongful Act.” Instead, the

provision is properly read to limit the amount of liability.

         The Insurance Company also asserts Section IV precludes coverage because the

Bank’s refusal to pay the termination payment required by the agreement was “willful.”

Section VI(a)(4) excludes from coverage any employment claim “based upon, arising

from, or in consequence of willfully violating, in fact, by the Bank any statute, rule,

regulation, agreement or judicial or regulatory order.” The district court properly

concluded the Bank did not “willfully” violate the employment agreement because it had

a reasonable, good faith belief that Gomez had fraudulently altered the agreement and that

it was not liable for the termination payment. The Bank’s decision to settle the claim is

not an acknowledgment that Paragraph 11D in the Gomez employment agreement was

valid.

         Finally, the Insurance Company asserts that any coverage under the policy is

limited to one year of Gomez’ base salary of $40,000. The district court concluded the

term “salary” is ambiguous and could reasonably be read to include commission and other

taxable compensation. The policy’s limits on liability are set forth in detail in Section V

of the policy. Section V limits liability to “a maximum of one years [sic] salary and


                                              10
wages” in the event the employee is awarded salary for services which will not be

performed. Thus, damage awards of both “salary” and “wages” are included.

Performance-based incentives are taxable wages. In addition, Section V states “Salary

and wages shall not include insurance premiums, interest, retirement or savings plan

contribution/compensation or other benefits.” Nothing in Section V limits “salary” to

base salary. The district court properly concluded the Bank is entitled to reimbursement

for the entire settlement amount less the deductible, provided the settlement amount was

reasonable.

                                              III.

       The Insurance Company next asserts the district court erred in finding the

settlement amount was reasonable. The district court made this factual finding following

a trial on the issue. We review the court’s factual finding for clear error. See Neustrom

v. Union Pacific R. Co., 156 F.3d 1057, 1067 (10th Cir. 1998). The Insurance Company

argues that no settlement could have been reasonable given that the alleged alteration of

the employment agreement was obvious from the face of the document. But the attorney

the Insurance Company appointed to represent the Bank recommended settling the case.

The Insurance Company refused to participate in the mediation and was not privy to the

facts which led its appointed attorney to recommend settlement. The Bank introduced

these facts at trial and the district court found these facts persuasive in finding the

settlement reasonable. Sufficient evidence in the record exists to support the district


                                              11
court’s finding.

       The Insurance Company also challenges the district court’s award of attorneys’

fees following the trial. Under Kansas law, an insured is entitled to attorneys’ fees if the

insurer refused to pay without just cause to refuse payment. Kan. Stat. Ann. § 40-256. In

refusing to pay a claim, an insurance company has a duty to make a good faith

investigation of the facts surrounding the claim. Evans v. Provident Life and Accident

Ins. Co., 815 P.2d 550, 561 (Kan. 1991). The question of whether an insurer has refused

to pay without just cause is a question of fact for the trial court. Id. The award or denial

of attorneys’ fees under § 40-256 is a matter “in the trial court’s sound discretion” and

should not be overturned absent an abuse of discretion. Id.

       The district court found the Insurance Company unreasonably refused to

investigate the Gomez claim and unreasonably refused to participate in the mediation at

which the parties discussed the basis for the claim. After hearing the testimony of

company principals, the district court concluded the Insurance Company did not deal with

the Bank in good faith. After reviewing the record, we conclude the district court did not

abuse its discretion in awarding attorneys’ fees.

                                             IV.

       For the reasons stated above, we AFFIRM the district court’s grant of summary

judgment to the Bank on the issue of indemnification, we AFFIRM the district court’s

judgment awarding the Bank the full settlement amount plus prejudgment interest, and we


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AFFIRM the district court’s award of attorneys’ fees.

      AFFIRMED.

                                                Entered for the Court,



                                                Bobby R. Baldock
                                                Circuit Judge




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