Fifth Circuit Incorporates Common Sense By Reference: No Coverage for Claims Between Participants in Quixtar’s Multilevel Marketing Operation

March 31, 2011

The Fifth Circuit’s recent decision, Simmons v. Liberty Mutual Fire Insurance Company, a copy of which can be found here, is a paragon of common sense, which recognizes that liability insurance is not meant to cover internecine warfare between former business partners, which many would view as an uninsurable business risk.

The factual background for the ruling is straightforward. A group of Independent Business Owners (IBOs) who were participants in a multilevel marketing operation for health and beauty products owned by Quixtar had a falling out with Quixtar, and allegedly disparaged Quixtar’s operation and solicited other IBOs to join a competing multilevel marketing operation. Claims and counterclaims in arbitration, including misappropriation of trade secrets and Lanham Act claims were exchanged between Quixtar and the IBO’s. The IBO’s sought defense from Liberty Mutual, which issued general liability coverage including personal and advertising injury coverage to an association of the IBOs as well as the IBO’s themselves. Such coverage, however, applied “only with respect to the operation of their Independent Business as described in the [Plan].” The Plan defined an IBO as a “person authorized to sell products and service Members and Clients; register others as IBOs, Members, and Clients; and upon qualification can receive bonuses and participate in business incentive programs…”

The Court applied Texas law, with its “eight corners” rule (comparing the four corners of the complaint with the four corners of the policy to determine whether a duty to defend applies) in its de novo review of the Magistrate Judge’s summary judgment ruling in favor of Liberty Mutual. Specifically the court found that the limitation on coverage “only with respect to the operation … as described in the Plan” effectively incorporated the Plan into the policy, and precluded coverage for Quixtar’s claims that the court equated with allegations that the IBOs were operating outside of the Plan. In doing so, the court rejected the IBOs’ assertion that Quixtar was essentially making claims that the IBOs were engaging in illegal operations and that therefore the claims related to “operations” as referenced in the policy and their alternative argument that the word “operation” in the policy was ambiguous. Instead, the Court noted:

We read the phrase in harmony with the policy as a whole to give effect to all of its provisions. The policy makes clear that the business activities must be as described in the Plan. Texas law allows us to look at the Plan because it is incorporated by reference. Unsurprisingly, disparaging Quixtar while trying to recruit Downstream IBOs away from Quixtar is not any part of the Plan.

(internal citations omitted)

Using a belt and suspenders approach, the Fifth Circuit also held that coverage was unavailing based on an exclusion for “any other business or personal activities” noting that allegations that the IBO’s were trying to engage other IBOs to join a new multi-level marketing operation fell “under the category of other business activities.”

While the Fifth Circuit’s analysis is plain vanilla, its common sense recognition that general liability insurance is not meant to fund a fall out between participants in the same enterprise, is a more interesting, and hopefully, a more enduring flavor.

If you have questions, please contact Joseph S. Sano, a partner in Prince Lobel’s Insurance and Reinsurance Practice. You can reach Joe at 617 456 8000 or

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