STACEY SMITH, Assignee of James Sprecher; MARJORIE SMITH, Assignee of James Sprecher v. Continental Casualty Co. Appeal From the United States District Court for the Middle…

NOT PRECEDENTIAL
UNITED STATES COURT OF APPEALS
FOR THE THIRD CIRCUIT
No. 08-4140
STACEY SMITH, Assignee of James Sprecher;
MARJORIE SMITH, Assignee of James Sprecher,
Appellants
v.
CONTINENTAL CASUALTY CO.
APPEAL FROM THE UNITED STATES DISTRICT COURT
FOR THE MIDDLE DISTRICT OF PENNSYLVANIA
(D.C. Civil No. 07-cv-01214)
District Judge: Honorable John E. Jones, III
Submitted Under Third Circuit LAR 34.1(a)
September 21, 2009
Before: BARRY, FISHER and JORDAN, Circuit Judges
(Opinion Filed: October 8, 2009)
OPINION
BARRY, Circuit Judge
Appellants Stacey and Marjorie Smith, as assignees of James Sprecher,
challenge the District Court’s grant of summary judgment to appellee Continental

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Casualty Company. The Smiths claim that Continental wrongly denied Sprecher
coverage and a defense pursuant to the terms of an insurance policy, and that Continental
acted in bad faith in that denial. We will affirm.
I. Factual Background
Because we write solely for the benefit of the parties, we presume familiarity with
the facts and will recite only the basic underpinnings of this case.
James Sprecher (“Sprecher”) was a financial planner doing business as an agent
and registered representative of the broker-dealer Hornor, Townsend & Kent (“HTK”).
HTK is a subsidiary of Penn Mutual Life Insurance Company, which obtained, from
appellee Continental Casualty Company (“Continental”), insurance for HTK’s agents and
representatives, including Sprecher. In the early 1990s, appellants Stacey and Marjorie
Smith (“the Smiths”) hired Sprecher as their financial planner. The Smiths claim that
they asked Sprecher to recommend long-term, conservative investments. Following
Sprecher’s recommendation, the Smiths placed over $200,000 in two off-shore asset
protection trusts. Those trusts invested the monies into Evergreen Securities
(“Evergreen”), an unregistered off-shore entity. In 2001, Evergreen filed for bankruptcy
and the Smiths lost all or most of their investment.
Following Evergreen’s collapse, Sprecher was sued by Evergreen’s bankruptcy
trustee, who averred that Evergreen was a massive Ponzi scheme involving risky
mortgage-backed securities derivatives, and that Sprecher funneled his clients’ monies

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into Evergreen in exchange for cash payments. After finding out about the lawsuit and a
federal grand jury investigation into Sprecher’s activities, HTK terminated Sprecher.
Following his termination, Continental denied Sprecher coverage and a defense for the
lawsuit initiated by Evergreen’s bankruptcy trustee.
The Smiths then sued Sprecher, asserting claims for breach of contract, negligent
misrepresentation, intentional misrepresentation, breach of fiduciary duty, and violations
of Pennsylvania consumer protection and securities laws. Consistent with its earlier
determination, Continental again denied Sprecher coverage and a defense. In January
2007, Sprecher and the Smiths settled the lawsuit for $150,000 and an assignment of
Sprecher’s rights against Continental. That settlement and assignment gave rise to the
case at bar: the Smiths have sued Continental, in Sprecher’s shoes, for breach of contract
and bad faith denial of insurance coverage.
II. Terms of the Insurance Policy
The insurance policy at issue here provides coverage for claims arising out of
“Professional Services” rendered by an agent or representative of HTK. (See Appellants’
App. 157, 159.) In relevant part, the term “Professional Services” is defined as:
those services arising out of the conduct of the Insured’s business as a
licensed Agent or General Agent . . . . Such services shall be limited to:
***
e. the sale or attempted sale or servicing of variable annuities,
variable life insurance and mutual funds, which are registered with
the Securities Exchange Commission (if required), through a
Broker/Dealer that is a member of the National Association of
Securities Dealers;

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***
[A]nd financial planning activities in conjunction with any of the foregoing.
***
[Professional Services also includes] those services arising out of the
conduct of the Insured’s business as a Registered Representative or
Registered Investment Adviser. Such services shall be limited to:
a. Investment Advisory Services;
b. the sale or attempted sale or servicing of securities (other than
variable annuities, variable life insurance and mutual funds)
approved by a Broker/Dealer [in question] and incidental advice in
connection therewith.
***
[A]nd financial planning activities in conjunction with any of the
foregoing.
(Id. at 189-90, 191.)
Exclusion 6 of the policy excludes from coverage any claim “against a Registered
Representative or Registered Investment Adviser involving services or products not
approved by [the] Broker/Dealer [in question].” (Id. at 161.)
Exclusion 14 of the policy excludes from coverage any claim:
arising out of insolvency, receivership, bankruptcy or inability to pay of any
organization in which the Insured has, directly or indirectly, placed or
obtained coverage or in which an Insured has, directly or indirectly, placed
the funds of a client or account; however, this exclusion will not apply in
the event that:
a. the Insured has placed or obtained coverage or has placed
the funds of a client or account with an admitted insurance
carrier; which was
b. rated “A” or higher by the A.M. Best Company, Inc. at the
time such coverage or such funds were placed.
(Id. at 176.)

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The Smiths also argue that Sprecher was entitled to coverage under the “reasonable1
expectations” doctrine. That doctrine provides, generally, that courts should look to the
reasonable expectations of the insured when considering the extent of coverage. See, e.g.,
Tonkovic v. State Farm Mut. Auto. Ins. Co., 521 A.2d 920, 925 (Pa. 1987) (holding that
where an “individual applies and prepays for specific insurance coverage, the insurer may
not unilaterally change the coverage provided without an affirmative showing that the
insured was notified of, and understood, the change”).
The Smiths’ reasonable expectations argument is meritless: the doctrine generally
applies only to unsophisticated non-commercial insureds, and only to protect such
insureds from “policy terms not readily apparent and from insurer deception.” See
Liberty Mut. Ins. Co. v. Treesdale, Inc., 418 F.3d 330, 344 (3d Cir. 2005). Additionally,
unreasonable expectations will never control, and any expectation that he would be
insured for claims arising out of the marketing of unapproved products would surely have
been an unreasonable one for Sprecher to hold.
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III. Analysis
A. Breach of Contract Claim
The Smiths’ breach of contract claim asserts that Continental owed Sprecher
coverage and a defense under the terms of the insurance policy and the policy summary.
Although we believe that the District Court’s grant of summary judgment as to the breach
of contract claim could be affirmed on a number of grounds, we choose just one.
Exclusion 6 of the insurance policy clearly bars coverage. As outlined above, that
exclusion precludes coverage for any claim “involving services or products not approved
by” HTK. The Smiths’ claims against Sprecher “involv[e] . . . products not approved by”
HTK – to wit, Evergreen and the off-shore asset protection trusts. The Evergreen
investments were not approved by any Broker/Dealer and thus plainly fall under the
language of the exclusion.1

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B. Bad Faith Denial of Coverage Claim
By statute, Pennsylvania provides for interest, costs, attorneys’ fees, and punitive
damages for a bad faith denial of insurance coverage. See 42 Pa. Cons. Stat. § 8371.
Although the statute does not contain a definition of “bad faith,” the Pennsylvania courts
have adopted one:
‘Bad faith’ on part of insurer is any frivolous or unfounded refusal to pay
proceeds of a policy; it is not necessary that such refusal be fraudulent. For
purposes of an action against an insurer for failure to pay a claim, such
conduct imports a dishonest purpose and means a breach of a known duty
(i.e., good faith and fair dealing), through some motive of self-interest or ill
will; mere negligence or bad judgment is not bad faith.
Terletsky v. Prudential Prop. and Cas. Ins. Co., 649 A.2d 680, 688 (Pa. Super. Ct. 1994)
(quoting Black’s Law Dictionary 139 (6th ed. 1990)); see also Klinger v. State Farm Mut.
Auto. Ins. Co., 115 F.3d 230, 233 (3d Cir. 1997) (“The standard for bad faith claims under
§ 8371 is set forth in Terletsky.”).
There is a “two-part test” for bad faith claims, and “both elements . . . must be
supported with clear and convincing evidence: (1) that the insurer lacked a reasonable
basis for denying benefits; and (2) that the insurer knew or recklessly disregarded its lack
of reasonable basis.” Klinger, 115 F.3d at 233.
For the Smiths to succeed, there must be evidence from which a factfinder could
conclude that Continental had no “reasonable basis for denying benefits” and that it knew
of or disregarded the lack of a reasonable basis. Here, there is evidence of neither:
Continental clearly did have a reasonable basis for the denial of coverage, see supra, and

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there is no evidence whatsoever to support the second prong. While perhaps Continental
should have spoken with Sprecher before it made a final coverage decision, a failure to
follow best practices does not give rise to a bad faith claim. Summary judgment was
properly granted.
IV. Conclusion
Ambiguities in insurance policies, of course, must be construed “against the
insurer, the drafter of the agreement.” See, e.g., Standard Venetian Blind Co. v. Am.
Empire Ins. Co., 469 A.2d 563, 566 (Pa. 1983). But there are no ambiguities here, and no
genuine issues of material fact. We will affirm the District Court’s order granting
summary judgment to Continental.

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