BOUTON v. LITTON INDUSTRIES, INC.

OPINION OF THE COURT

GIBBONS, Circuit Judge.

This is an appeal from an order of the district court for the District of New Jersey which granted summary judgment to the plaintiffs against the defendant Litton Industries and which denied Litton's cross-motion for summary judgment against the plaintiffs. A second defendant, Liberty Mutual Insurance Company, in whose favor summary judgment was entered against the plaintiffs, is not involved in this appeal. The case was removed from the Superior Court of New Jersey, Chancery Division, for diversity of citizenship. At least one claim asserted by the plaintiffs has not been fully adjudicated, but the district court, pursuant to Rule 54(b), Federal Rules of Civil Procedure, directed that final judgment be entered in favor of the plaintiffs, and the order is, therefore, appealable.

Plaintiffs are the trustees in liquidation of M-T Liquidation Corporation, a New Jersey corporation formerly known as McKiernan-Terry Corporation (hereinafter called M-T). Until September 21, 1962, M-T was engaged in the design, manufacture and sale of heavy machinery, including radar pedestals for the Defense Department's Distant Early Warning System, and arresting engines used to halt airplanes landing on carriers. On that date, pursuant to the terms of a contract dated July 12, 1962, defendant, Litton Industries, (hereinafter called Litton) acquired all of the assets, business and good will of M-T in exchange for Litton stock and the assumption by Litton of certain M-T liabilities. The disputed liabilities are in two categories:

At the time of the M-T to Litton closing on September 21, 1962, M-T was the insured under a comprehensive general liability policy issued by defendant, Liberty Mutual Insurance Company. The term of this policy was from November 1, 1961 to November 1, 1962. Apparently neither M-T nor Litton continued similar coverage after November 1, 1962. Plaintiffs sought in the complaint a declaratory judgment that Liberty Mutual insured against both the G.E. and the personal injury claims. The district court granted Liberty Mutual a summary judgment that it does not insure against the Sevits and Baldwin claims because the accidents arose after the expiration of the policy. M-T and Litton concede that this determination was correct, since product liability insurance coverage is written on the basis that the carrier on the risk at the time of the accident affords coverage.

The G.E. claim is being defended by Liberty Mutual pursuant to a reservation of rights agreement. The district court dismissed the complaint against Liberty Mutual without prejudice to the claim of M-T or Litton that Liberty Mutual is an insurer against the G.E. claim.

Plaintiffs' complaint and its motion for summary judgment against Litton sought a declaratory judgment that Litton is obliged to assume the defense of both the G.E. and the personal injury actions and to pay any judgment arising therefrom. Plaintiffs also sought injunctive relief and damages consistent with such a declaration. In support of its motion it filed affidavits which identified for the district court the M-T to Litton contract of July 12, 1962 and the exhibits thereto, the pleadings in the G. E. and the personal injury actions, and the assumption agreement which Litton furnished to M-T at the September 21, 1962 closing.

Litton filed no answering affidavits, but made a cross-motion for summary judgment in which it relied "upon the exhibits annexed to plaintiffs' notice of its pending motion for summary judgment."3 Litton made these contentions:

The district court rejected each of these contentions and entered a judgment that Litton is liable to M-T:

The M-T to Litton contract provides that it shall be construed and interpreted according to New York law. It is undisputed that the contract, although the subject of negotiations, is in the general form originally prepared by counsel for Litton. Litton's three contentions must, therefore, be determined under New York law, Lauritzen v. Larsen, 345 U.S. 571, 73 S.Ct. 921, 97 L.Ed. 1254 (1953); Tele-Controls, Inc. v. Ford Industries, Inc., 388 F.2d 48 (7 Cir. 1967); Barzda v. Quality Courts Motel, Inc., 386 F.2d 417 (5 Cir. 1967); Lebeck v. William A. Jarvis, Inc., 145 F.Supp. 706 (E.D.Pa.1956), modified, 250 F.2d 285 (3 Cir. 1957), and in the light of the fact that as the draftsman the agreement will be construed strictly against it. Mutual Life Ins. Co. v. Hurni Co., 263 U.S. 167, 44 S.Ct. 90, 68 L. Ed. 235 (1923); Rentways, Inc. v. O'Neill Milk and Ice Cream Co., 308 N.Y. 342, 126 N.E.2d 271 (1955); Broadway Realty Co. v. Lawyers' Title Ins. & Trust Co., 226 N.Y. 335, 123 N.E. 754 (1919); Janos v. Peck, 21 A.D.2d 529, 251 N.Y.S.2d 254, aff'd, 15 N.Y.2d 509, 254 N.Y.S.2d 115, 202 N.E.2d 560 (1964); Sklar Door Corp. v. Locoteta Homes, 33 Misc.2d 299, 224 N.Y.S.2d 294 (Sup.Ct.1961); City of New York v. Columbus Circle Apartments, Inc., 29 Misc.2d 763, 216 N.Y.S.2d 993 (Sup.Ct. 1961).

Two documents are involved, because at the September 21, 1969 closing, pursuant to a provision in the July 12, 1962 contract, a separate written undertaking respecting assumption of liabilities was furnished by Litton. Since, however, the language of this separate undertaking is identical in all material respects with the July 12, 1962 contract, we will refer hereafter only to the latter.

The contract is entitled Agreement and Plan of Reorganization, and it follows a familiar general outline for the acquisition of a going business. After setting forth the consideration flowing from each side (Section 1) and fixing a closing date (Section 2) it sets forth the representations and warranties of M-T (Section 3), and lists conditions precedent to Litton's obligation to close (Section 7). It provides for post-closing indemnification by M-T of Litton (Section 9) against and in respect of all liabilities of or claims against M-T not assumed by Litton pursuant to paragraph (d) of Section 1.

Section 1(a) sets forth the assets and business to be transferred by M-T. These include every conceivable tangible and intangible property and asset, including policies of insurance, and all cash on hand and in banks. Section 1(b) provides that Litton will deliver 27,500 shares of its stock for the M-T assets and business. Ten percent of the shares are by virtue of Section 1(c) subject to a one year holdback to secure the M-T indemnification agreement set forth in section 9.4

Besides delivering stock, Litton in Section 1(d) makes the undertaking with respect to liabilities which gives rise to this litigation. In this rather complicated provision5 Litton undertakes four broad categories of liability. In Section 3 it receives, in turn, from M-T warranties and representations about the liabilities which it has undertaken. Section 7(a) makes it a condition precedent to closing that those representations be true at the time of closing, and Section 9 provides for post-closing indemnification of Litton by M-T against liabilities not assumed.

The first of the broad categories in Section 1(d) are financial statement liabilities. Annexed to the contract as an exhibit are financial statements as of May 31, 1962. In Section 1(d) (i) Litton undertakes "all liabilities of M-T as of May 31, 1962, whether accrued, absolute, contingent, or otherwise, to the extent, and only to the extent, that the same are reflected or reserved against in the financial statements as supplemented by Schedule C hereinafter referred to in paragraph (b) of Section 3. * * *" Section 3(b) (i) warrants that the May 31, 1962 financial statement "as supplemented by Schedule C fairly present the financial condition of M-T and the results of its operations as of the dates and for the periods stated and have been prepared in conformity with generally accepted accounting principles applied on a consistent basis with that of prior years. * * *"

Schedule C is entitled "Supplement to Financial Statements." It contains five typical financial statement footnotes detailing matters which would not ordinarily be clear from the bare figures in the financial statements. Among those notes is a reference to the dispute with G.E. over the allegedly defective radar mounts. After an explanation of the background of the dispute,6 the note concludes:

Litton relies on the language "* * * is estimated to be not more than $150,000" as placing an outside limit on its liability for the G.E. claim. It acknowledges that it did assume the G.E. liability at least to the extent of $150,000.

The second broad category of liabilities, assumed in Section 1(d) (ii), is "all liabilities and obligations of M-T arising in the normal and ordinary course of its business between May 31, 1962 and the transfer date * * *" that is, post-financial statement and pre-closing liabilities and obligations in the ordinary course of business. As with the financial statement liabilities, Litton received representations and warranties by M-T. In this case warranties were made against certain kinds of contracts (Section 3(f)), and provisions were made regulating the conduct of M-T's business until the closing (Section 5). Since neither the G.E. claim nor the personal injury claims arose in the ordinary course of business between May 31, 1962 and the closing, the assumption agreement in Section 1(d) (ii) is not relevant, except to the extent that it sheds light from the overall pattern of the agreement, on the intention of the parties.

The third broad category of liabilities, assumed in Section 1(d) (iii), is "* * * all liabilities and obligations of M-T in respect of the contracts and commitments referred to in paragraph (f) of Section 3, and all other contracts and commitments entered into in the regular and ordinary course of M-T's business at any time before or after May 31, 1962 and prior to the transfer date. * * *" This undertaking is in two parts.

The "contracts and commitments referred to in paragraph (f) of Section 3" are a list of specific categories of ongoing contracts as to which in Section 3(f) M-T makes specific warranties. These are contracts such as purchase commitments, employment agreements, collective bargaining agreements and fringe benefits arrangements which would affect future operating results, but which would not ordinarily be reflected in a current financial statement. Section 3(f) lists eleven categories, and with respect to all but two the warranties are in absolute terms. One of these two provides:

There is no reference in Schedule M to the G.E. claim, but that claim, is as we pointed out heretofore, disclosed in detail in Schedule C. The personal injuries not yet having occurred, were not mentioned.

The second part of the Section d(iii) undertaking covers "all liabilities and obligations in respect of * * * all other contracts and commitments entered into in the regular course of M-T's business before or after May 31, 1962 and prior to the transfer date, * * *" The arresting engines, failure of which is alleged to have caused the personal injuries, were sold to the Navy in the regular course of M-T's business in 1958. M-T reads Section 1(d) (iii) as undertaking liability for product liability claims resulting from such sales but occurring after the closing. Litton contends for a narrower reading which would restrict the application of the clause to liability to contracting parties for breach of contract.

The fourth broad category of liabilities, assumed in Section 1(d) (iv), is "* * * any and all liabilities and obligations set forth in the Schedules to this Agreement." The G.E. claim is set forth in Schedule C. The personal injuries, not having occurred, are not set forth in any Schedule.

After setting forth these four categories of liabilities and obligations assumed, Section 1(d) expressly negates the assumption of "* * * any debts, liabilities or obligations of M-T (or the costs and expenses in connection therewith) * * * satisfied or paid on behalf of M-T by an insurer * * * under a policy issued to M-T." The inclusion of this limitation would seem to imply that the preceding language in the Section is broad enough to cover liabilities which are ordinarily insured against.

Finally, Section 1(d) concludes:

The express inclusion of this language would seem to imply that the preceding language is broad enough to cover situations where the liability of M-T is both contested and uninsured.

Had the personal injuries occurred after May 31, 1962, the financial statements date, or after July 12, 1962, the contract date, or even after September 21, 1962, the closing date, but before November 1, 1962, the expiration date of the Liberty Mutual insurance policy, M-T would have been insured under its policy, and Litton would have been covered by the express exception from the assumption agreement of liabilities and obligations satisfied or paid on behalf of M-T by an insurer. The crucial question, then, with respect to the personal injury claims, is which party bore the risk, after November 1, 1962, of carrying product liability insurance (or of self-insuring) to cover accidents involving products sold prior to that date.

I. LITTON IS NOT MERELY AN INDEMNITOR.

Relying on Cornell v. Travelers' Ins. Co., 175 N.Y. 239, 67 N.E. 578 (1903) and De Angelis v. Smith, Sup., 95 N.Y.S.2d 52 (S.Ct.1949), Litton contends that the July 12, 1962 contract is an indemnity agreement, and that under New York law such an agreement does not impose an obligation to defend or to pay the cost of defending the indemnitee against disputed claims; rather, the indemnitor's duty to pay arises only when the indemnitee's liability has become fixed by a judgment against the indemnitee. In a sufficiently narrow class of cases this undoubtedly is the law of New York. But those cases depend on specific language quite unlike that in the M-T to Litton contract. New York recognizes a distinction between indemnity against loss and damage only, and indemnity against liability. Schneck v. Lewis, 121 Misc. 370, 201 N.Y.S. 282, 287 (Sup.Ct.1923), aff'd, 210 App.Div. 845, 206 N.Y.S. 958 (1924). In the latter case, at least, New York follows the general rule that an indemnitee is entitled to recover as a part of his damages reasonable attorneys fees and proper legal costs and expenses he has been compelled to pay as a result of suits against him with respect to matters against which he is indemnified. In re Campbell's Estate, 176 Misc. 543, 27 N.Y.S.2d 831 (Surr.Ct.1941). Possibly when the contract is drawn narrowly enough the latter right arises only with respect to the defense of cases resulting in liability. Cornell v. Travelers' Ins. Co., supra.

Here, however, in the context of the entire agreement, the contention that Section 1(d) should be read as an indemnity contract only, is wholly unmeritorious. This was a contract for the purchase of the entire assets and business of M-T, with the clear intention of carrying that business forward. The consideration for the purchase was stock of the purchaser, Litton, and the purchaser's undertaking to go forward with that business. Litton undertook to pay those liquidated and uncontingent liabilities which appeared on M-T's balance sheet, and to perform those business commitments which remained unliquidated and contingent. If the liabilities in dispute were undertaken, they were undertaken by assumption and not merely by way of indemnification. The language "assumes and agrees to pay or discharge" is equally applicable to all four broad categories of liabilities and obligations, and there is no more reason to read those words as mere indemnity undertakings when applied to the claims disputed here than when applied to the purchase orders, employment contracts, or other unliquidated liabilities and obligations of M-T which quite clearly were to be performed. Defense of suits, meritorious or groundless, was an obvious incident to the performance of ongoing contracts. If the disputed claims were assumed by Litton, they were assumed in the same manner as Litton assumed the balance of M-T's business obligations. The language of the contract is that of assumption not of indemnification.

This case is controlled not by Cornell v. Travelers' Ins. Co., supra, and De Angelis v. Smith, supra, but by Chase v. Brandis, 238 App.Div. 440, 264 N.Y.S. 509 (1933); State Bank of Avon v. Sheldon, 130 Misc. 64, 223 N.Y.S. 634 (Sup.Ct.1927); and Mann v. Ferdinand Munch Brewery, 225 N.Y. 189, 121 N.E. 746 (1919). These cases hold that one who assumes a liability, as distinguished from one who agrees to indemnify against it, takes the obligation of the transferor unto himself, including the obligation to conduct litigation.

II. LITTON DID NOT LIMIT ITS LIABILITY ON THE G.E. CLAIM to $150,000.

The parties agree that Litton assumed liability for the G.E. claim at least to the extent of $150,000. Litton contends that the July 12, 1962 contract limited its liability to this amount, because Section 1(d) (i) limited its undertaking to "all liabilities and obligations of M-T as of May 31, 1962, whether accrued, absolute, contingent or otherwise, to the extent, and only to the extent, that the same are reflected or reserved against in the financial statements as supplemented by Schedule C. * * *" It points to the words "to the extent, and only to the extent" as referring to a dollar limitation, and to the $150,000 estimate in Schedule C as, therefore, a binding limitation.

Section 1(d) (i) cannot, in the context of the entire Section, or indeed of the entire clause, be read this way. As was pointed out hereinabove, Section 1(d) (i) refers to financial statement liabilities, and is coupled with a warranty (Section 3(b) (i)) that these statements have been prepared in conformity with generally accepted accounting principles. The G.E. claim was on May 31, 1962 unliquidated in amount, and it still is. It could not appear in the financial statements in a dollar amount. To the extent that the claim could be disclosed it was.7 The number of defective radar pedestals, the alleged defects, the procedure necessary for correction, and a possible claim against a subcontractor all were disclosed in Schedule C. The note in the Schedule concluded with an estimate of $150,000. If it could have been more than an estimate the figure would have been reflected in the financial statements and not in a note. The note cannot be read as anything more than an estimate of the possible scope of an unliquidated liability otherwise fully disclosed.

III. LITTON ASSUMED THE RISK OF PRODUCT LIABILITY CLAIMS ARISING FROM ACCIDENTS AFTER THE CLOSING.

The progression in Section 1(d) is from liquidated financial statement liabilities to unliquidated but known liabilities, to post-contract but pre-closing liabilities arising in the normal and ordinary course of business, to liabilities and obligations, now undetermined, arising out of contracts and commitments listed in Section 3(f), and finally to liabilities and obligations "in respect of * * * all other contracts and commitments entered into in the regular and ordinary course of M-T's business."

This progression is appropriate for the assumption of the ongoing obligations of a going business, and the language "in respect of * * * all other contracts and commitments" could hardly have been broader. Moreover, in the same agreement all insurance policies, including a product liability insurance policy, the term of which extended past the closing date, were transferred by M-T to Litton. Clearly the parties envisioned that the risk of insuring against claims arising from future accidents was one which was assumed by the party carrying on the transferred business.

Litton contends that the foregoing reading of Section 1(d) (iii) is prohibited because of an express exception to that clause of "liabilities or obligations arising out of any breach by M-T * * * of any contract or commitment, unless and to the extent that such liabilities or obligations are reflected or reserved against in the financial statements of May 31, 1962 or set forth in the Schedules." It contends that the district court should have awaited the outcome of the product liability trials to see whether or not the result turned on breach of warranty (contract and hence excluded) or negligence or strict liability. There is no merit in this contention. The product liability claims could not have been reflected in the financial statements or set forth in the Schedules, since the accidents had not yet occurred. The quoted exception to Section 1(d) (iii) refers to matters which had arisen, were known, and could have been reflected or set forth. This reading of the exception is consistent with the warranty in Section 3(c) (ii), that M-T does not know of any basis for the assertion against it of any liability not reflected, reserved against, or disclosed, for if the exception were as broad as Litton contends, this warranty would be surplusage.

The only facet of the agreement to which Litton can point with even slight comfort in support of its contention that it did not assume the obligation to insure against or pay the product liability claims is the absence of an express reference in the contract to such claims arising from future accidents. That absence is not significant. The draftsman throughout referred to broad categories of liabilities, not to narrow specifics. There is no specific listing of "all liabilities and obligations of M-T in respect of * * * all other contracts and commitments entered into in the regular and ordinary course of M-T's business." The clause refers to a number of such matters which might have been, but were not specifically listed. Product liability claims from future accidents are one such matter. They became the problem of the party conducting the ongoing business.

The order of the district court will be affirmed.