"Bewitching" Punitive Damages
October 2010
The recent case of
Larry Hagman (Major Nelson in "I Dream of Jeannie," J.R. Ewing in "Dallas")
v. Citigroup (recent recipient of federal bailout
funds) illustrates the danger of punitive damage awards. The case was heard
by a FINRA Dispute Resolution
Panel and arose from Mr. Hagman's allegations that Citigroup committed fraud
through misrepresentation, that its actions were a breach of fiduciary duties,
and a breach of contract due to its handling of securities in Citi accounts.
By Elise
Farnham
Illumine Consulting
Mr. Hagman had requested slightly more than $1.3 million in compensatory
damages, plus attorney fees, and punitive damages as appropriate. The Panel
awarded nearly $1.1 million in compensatory damages, plus attorney fees of $440,000,
and punitive damages of $10 million to be paid to the charitable organizations
of Mr. Hagman's choice. This was a significant blow to Citigroup.
Insurance disputes can be handled through use of an arbitration panel or
through a court of law. The potential for dramatic punitive damages to address
egregious behavior is breathtaking. When punitive damages are awarded, they
often seem arbitrary, as in Mr. Hagman's case against Citigroup, where the punitive
damages were nearly 10 times the compensatory damages. Many claims professionals
have difficulty understanding the basis for punitive awards that seem to reach
to the stratosphere.
Punitive Damage Guidelines
The U.S. Sentencing Commission provides guidelines to the federal court system
with respect to sentencing of punitive damages. These are simply guidelines;
an individual jury or judge may deliver a decision quite different from the
guidelines, depending on the circumstances surrounding the case. Other organizations,
including other courts, look to these guidelines in an effort to provide equitable
judgments.
Punitive damages are awarded after careful review of a number of elements
surrounding the case, such as the behavior of the defendant(s), the nature of
the behavior, and the prospect of preventing the defendant from committing the
egregious behavior in the future. These and other considerations are discussed
below.
The Relative Wealth of the Defendant
The defendant's wealth is considered to fulfill the "punishment" aspect of
the award. For instance, in the 1992 case where coffee was ruled too hot, a
punitive award of $2.7 million against McDonald's was later reduced to $480,000.
And, while coffee costs only a few dollars, the jury wanted to make an award
that would get McDonald's attention—thus $2.7 million—reflecting about 2 days
of McDonald's coffee sales. Punitive damages should be sufficient to discourage
people from repeating the egregious behavior in the future. To do this, and
in the case of McDonald's, the jury considered the relative net worth of McDonald's.
Very likely these criteria also had some bearing in the decision against Citigroup
and the size of the punitive award.
The Nature of the Misconduct
Courts will review the maliciousness, reprehensibility, and wrongfulness
of the activity that is the center of the lawsuit. Courts have found that repeated
trickery or deceit targeted at people who are financially or mentally vulnerable
is particularly reprehensible. When they find behavior of this nature, the sanction
will be especially strong.
"What Did He Know, and When Did He Know It?"
Courts are interested in what the defendant knew, how long the information
was known, and what was done with that knowledge. In the McDonald's case, testimony
revealed 700 claims had been made due to scalding coffee, yet, McDonald's had
taken no action to reduce that number or change the heat level of the coffee.
The effect of the misconduct on the plaintiff and others is another vital
consideration. Courts are particularly vigilant if the misconduct gave the defendant
a competitive advantage in the marketplace or other advantage over the plaintiff.
This broadens the consideration for punitive damages beyond the subject case
to other similar situations involving the defendant.
Probability of Recurrence
Courts often ask: What is the probability that the defendant will take corrective
action? Is there a good possibility that the misconduct will be repeated? As
the probability of future recurrences increases, so does the amount of the potential
punitive award. The quality control manager for McDonald's testified that there
were no plans to change the formulation or temperature of the coffee sold—a
death knell with respect to potential future problems, especially in light of
the history of 700 claims having already occurred.
Party Relationship
The courts also analyze the relationship of the parties—particularly if there
is a degree of trust or a higher standard of care required. The Hagman case
rested on a breach of fiduciary duty, requiring utmost good faith. This is a
similar standard to that faced by insurance professionals and creates an exposure
for high punitive damage awards.
Ratio of Punitive Damages to Compensatory Damages
In the McDonald's case, the punitive damage award was reduced to $480,000,
to approximately three times compensatory damages. There is no set ratio; this
is merely one consideration when establishing the appropriate amount for punitive
damages.
Conclusion
Insurance professionals are exposed to punitive damage situations when an
allegation of bad faith is made by the plaintiff. In these cases, judges will
instruct juries to consider the above criteria when setting an award for punitive
damages. The standard of care is not perfection, but rather what a similar professional
would have done in the same or similar circumstances. Getting to the point that
the behavior is sufficient to demand punishment is a significant threshold,
but this must be reached before bad faith is proven and punitive damages are
awarded.
After careful analysis, and using these guidelines for review, punitive damages
are not as mysterious as they may first appear. In the final analysis, the courts
consider the willful, malicious, and fraudulent conduct of the defendant and
set the award at a level to render suitable punishment for the bad behavior.
This is not a "bewitching" mystery, but rather a logical evaluation based on
specific criteria.
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