Article by Russell Cohen and Darren S. Teshima
In one of the first court decisions to analyze in depth the coverage provided by a cyber policy, a federal judge has found that PF Chang's policy came up short. Following a 2014 data breach in which hackers accessed and posted online 60,000 credit card numbers belonging to PF Chang's customers, the company sought coverage under its "CyberSecurity by Chubb" insurance policy. Although PF Chang's insurer, Federal Insurance Company ("Federal"), agreed to reimburse nearly $1.7 million for customer claims and other breach-related expenses, it refused to reimburse an additional $2 million in fees and assessments levied against P.F. Chang's by the credit card brands. Last week a federal district judge in Arizona, applying Arizona law, denied PF Chang's claim for reimbursement and granted summary judgment for Federal. While it held that these fees and assessments fell within the scope of coverage, the court held that the "contractual liability" exclusion barred coverage.
This insurance coverage case arose out of PF Chang's 2014 data breach, which we have written about here. Following the breach, MasterCard conducted an investigation under its association rules, and in March 2015 issued a final report imposing three assessments totaling approximately $2 million for fraud recovery fees. Under MasterCard's rules, these fees and other operational assessments are imposed upon the compromised merchant's credit card processor, and then charged back against the merchant's credit card receivables. PF Chang's, like other credit card accepting merchants, have a master service agreement with their processor, by which it agrees to pay any fines or penalties imposed by the credit card associations. PF Chang's sought coverage under its cyber insurance policy for these assessments and charge backs. Although Federal had already reimbursed PF Chang's for forensic costs and class action litigation defense costs, it refused to pay for these card association fees, and PF Chang's sued.
Few if any cases to date have closely examined the coverage provided by cyber insurance policies, which are still relatively new, non-standard and highly complex. Here, PF Chang's argued that the MasterCard assessment, charged back against it by its credit card acquirer, was recoverable under the "Privacy Injury" coverage of its cyber insurance policy, which provides coverage for claims of injury because of unauthorized access to certain protected information. PF Chang's also argued that these assessments were covered "Privacy Notification Expenses."
Closely reviewing the policy language, the Court found no coverage under the Privacy Injury module, but did hold that such assessments fell within the scope of coverage under the Privacy Notification Expenses module. But policyholders should not take that as much of a victory because the Court went on to find that policy exclusions eliminated all recovery for PF Chang's. The Court held that a policy exclusion for liability assumed under contract, which is found in virtually all form insurance contracts (unless modified by endorsement), barred recovery because PF Chang's had agreed under the MSA that its credit card acquirer could charge back against it these credit card brand imposed costs and assessments. The court looked to case law discussing this exclusion in the context of commercial general liability policies, noting the absence of any case law discussing this exclusion in a cyber policy. Because it had agreed to this scheme under contract, the court held PF Chang's was not covered by its cyber insurance.
Policyholders may be surprised by this result. Notwithstanding that Chubb advertised this policy as a "flexible insurance solution designed by cyber risk experts to address the full breadth of risks associated with doing business in today's technology-dependent world (see decision at *1-*2), it did not cover a significant data-breach related liability. Credit card fraud recovery assessments issued in the wake of a data breach can be very costly for merchants. An absence of cyber coverage for these fines and penalties would be a significant gap in insurance. Insurers will likely claim that PF Chang's problem was that it failed to purchase specific coverage for credit card fines and penalties and as a result tried to force these otherwise uncovered contractual liabilities into an ill-suited coverage not meant for those types of costs. The bottom line is that companies that process large numbers of credit card transactions and therefore face a risk of credit card fraud recovery assessments or other PCI fines or penalties in the wake of a data breach, should carefully review the scope of their cyber insurance now to avoid any million dollar surprises later.
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