Missouri Court Holds Underlying Fuel Tank Release Not Progressive Injury

In its recent decision in Stoddard Equipment Co., Inc. v. American Safety Indemnity Co., 2013 U.S. Dist. LEIS 170701 (W.D. Mo. Dec. 4, 2013), the United States District Court for the Western District of Missouri had occasion to consider whether property damage occurred during the policy period of a pollution liability policy.

American Safety’s insured, Stoddard, was named as a defendant in an underlying suit for its alleged negligent installation of a gas pipeline running from a storage tank to a marina where the gasoline was dispensed.  Stoddard completed the work in early October 2009.  The underlying plaintiff alleged that during the evening of September 2, 2011, the entire contents of its tank leaked into the surrounding soils and waters.  Plaintiff alleged that Stoddard’s negligent installation of the pipe in 2009 is what caused the release in 2011.

Stoddard sought coverage under various policies for the underlying suit, including a contractors’ pollution liability policy issued by American Safety for the period November 3, 2008 to November 3, 2009.  The policy’s insuring agreement provided coverage for property damage, but only to the extent the property damage occurred during the policy period.  American Safety denied coverage to Stoddard on the basis that the property damage, i.e., the damage caused by the release of the storage tank’s contents, happened in its entirety nearly two years after the expiration of its policy.  Stoddard nevertheless maintained that because the pipe was negligently installed during the time the American Safety policy was in effect, the property damage should be considered progressive in nature, spanning several policy periods.

On motion to dismiss, the court rejected Stoddard’s argument, distinguishing the gasoline release from matters involving property damage happening over a lengthy period of time, such as at issue in the Missouri Supreme Court case D.R. Sherry Const., Ltd. v. American Fam. Mut. Ins. Co., 316 S.W.3d 899 (Mo. 2010), which involved structural damage to a home over a period of years as a result of an unstable foundation.  The underlying complaint contained no allegation that the pipe installed by Stoddard began leaking prior to November 3, 2009, but instead alleged that the entirety of the leak happened during a one night period in September 2011.  The court further reasoned that no inference could be drawn from the complaint that any hole developed in the pipe prior to the expiration of the American Safety policy.  In reaching its holding, the court cited to the line of Missouri law “that draws a distinction between the occurrence of negligent act during the policy period and the occurrence of physical damage that results from the commission of a negligent act during the policy period.”  While the court agreed that Stoddard’s alleged negligence happened while the American Safety policy was in force, the resulting damage happened in its entirety after the expiration of the policy and thus fell outside of that policy’s scope of coverage.

Alabama Supreme Court Holds Faulty Workmanship May Be An Occurrence

In its opinion in Owners Insurance Company v. Jim Carr Homebuilder, LLC, 2013 Ala. LEXIS 122 (Ala. Sept. 20, 2013), the Supreme Court of Alabama the court had the occasion to consider what constitutes an “occurrence” as defined under a CGL policy in the context of a construction defect claim.

Thomas and Pat Johnson hired JCH, a licensed homebuilder, to construct a new home in January 2006. Within a year of completion the Johnsons noticed several issues with water leakage which resulted in damage to other parts of the home. After JCH’s attempts at remedying the water infiltration issues were unsuccessful, the Johnsons sued for breach of contract, fraud, and negligence. JCH promptly tendered its defense to Owners Insurance Company, its general liability insurer. Owners provided counsel under a reservation of rights. After the dispute between the Johnsons and JCH was settled through arbitration, the trial court granted JCH’s motion for summary judgment holding that Owners policy covered the entirety of the arbitrator award.

On appeal, Owner’s argued that the property damage was not an “occurrence” as defined in the policy and as such no coverage would apply. In accordance with previously established principles, the court noted that whether faulty workmanship constitutes an “occurrence” depends on the nature of the damage caused by the faulty workmanship. On its own, however, faulty workmanship is not an “occurrence.”  The court further clarified that “faulty workmanship performed as part of a construction or repair project may lead to an occurrence if that faulty workmanship subjects personal property or other parts of the structure outside the scope of that construction or repair” to harmful or damaging conditions.

The court differentiated between instances in which a contractor is retained to perform work on an existing structure and the existing structure is damaged, and when a new structure is built and defective work results in damage to the new structure.  Where the contractor is hired to construct the entire structure, and a claim for damage to that structure results from the contractor’s defective work, the contractor is not entitled to coverage as the claim does not constitute an “occurrence.”

Eighth Circuit Addresses Business Risk Exclusions

In its recent decision in Spirtas Co. v. Nautilus Ins. Co., 2013 U.S. App. LEXIS 10031 (8^th Cir. May 20, 2013), the United States Court of Appeals for the Eighth Circuit, applying Missouri law, had occasion to consider application of a general liability policy’s business risk exclusions to the insured’s faulty workmanship.

The insured, Spirtas, was hired to demolish the Seneca Bridge in Illinois. The demolition plan called for explosives to be detonated on the bridge that would allow for the span to fall in one piece into the river below.  Once in the river, workers would cut the span into pieces and remove them by crane.  It was expected that the river portion of the work would take sixteen hours in total, during which time barge traffic on the river would have to be halted.  The explosives, however, did not detonate as planned.  Among other things, the span did not fall into the river in a single piece.  Spirtas was required to employ divers to identify portions of the bridge and remove them from the river.  Ultimately, the entire process took significantly longer than anticipated at a far greater cost than anticipated.  Spirtas sought recovery of those extra costs from Nautilus, its general liability insurer.

Nautilus disclaimed coverage for these costs, relying on its policy’s business risk exclusions, including exclusion j(5) applicable to “property damage” to “[t]hat particular part of real property on which you or any contractors or subcontractors working directly or indirectly on your behalf are performing operations, if the ‘property damage’ arises out of those operations.”  Spirtas argued that its operations were performed on the bridge, not the river, so that any costs relating to work in the river would not be subject to the exclusion.  The Eighth Circuit rejected Spirtas’ characterization of its work, explaining:

Here, however, the work was being performed on both the bridge and the river. According to the plan, the bridge span was supposed to fall into the river. That happened, albeit in a disorganized manner, when the charges detonated. At all times the work occurred on the river and the bridge … Therefore, both the bridge and river were the "particular part of real property" on which Spirtas's operations occurred.

While Nautilus’ policy contained a specific exception to the j(5) exclusion for mistaken demolition of property, the court concluded that this exception applied only to instances where Spirtas demolished the wrong property, not when its planned demolition of intended property was performed negligently.

The court also considered the application of exclusion j(6) applicable to “property damage” to [“t]hat particular part of any property that must be restored, repaired or replaced because ‘your work’ was incorrectly performed on it.”  The court summarily agreed that this exclusion applied since Spirtas’ claim involved correction of demolition work to the bridge and river that was incorrectly performed in the first instance. 

Finally, the court agreed that coverage was precluded based on exclusion (m) of the Nautilus policy applicable to:

"Property damage" to "impaired property" or property that has not been physically injured, arising out of:

(1) A defect, deficiency, inadequacy, or dangerous condition in 'your product' or 'your work'; or

(2) A delay or failure by you or anyone acting on your behalf to perform a contract or agreement in accordance with its terms.

The court agreed that Spirtas’ work encompassed not only the bridge itself, but also the river since a significant portion of Spirtas’ work was intended to be performed in the river.  As such, the court concluded that the bridge and the river qualified as “impaired property” to which the exclusion applied.

Alabama Supreme Court Addresses Coverage for Faulty Workmanship Claim

In its recent decision in Shane Traylor Cabinetmaker, L.L.C. v. American Resources Ins. Co., Inc., 2013 Ala. LEXIS 42 (Ala. May 3, 2013), the Supreme Court of Alabama had occasion to consider whether a general liability policy was triggered by an underlying claim arising out of alleged faulty workmanship.

The insured, Shane Traylor Cabinetmaker, L.L.C. (“STC”) was hired to perform cabinetry and woodworking on several homes.  STC later sued the developer/owner of the homes for amounts due under the contract and the suit included a claim for foreclosure on a lien.  The lawsuit also involved issues of whether the developer was a partner in STC.  The developed counterclaimed on several theories, including breach of contract, slander of title, and mental-anguish arising out of the slander of title.  Among other things, the counterclaim alleged that STC’s work was defective and had to be repaired or replaced.  The counterclaim, however, contained no allegation of specific damage resulting from the defective work.  STC’s general liability insurer, American Resources, denied coverage for the counterclaim on several grounds, including lack of bodily injury or property damage resulting from an occurrence.

Looking to its prior decisions concerning insurance coverage for faulty workmanship, in particular its decisions in Town & Country Property, LLC v. Amerisure Insurance Co., 2011 Ala. LEXIS 183, (Ala. 2011), United States Fidelity & Guarantee Co. v. Warwick Development Co., 446 So. 2d 1021 (Ala. 1984), and Moss v. Champion Insurance Co., 442 So. 2d 26 (Ala. 1983), the Alabama Supreme Court observed the general rule that faulty workmanship, in and of itself, is not an occurrence as that term is defined by a standard general liability policy.  The court observed that faulty workmanship can lead to an occurrence if it “subjects personal property or other parts of the structure” to some form of damage.  Applying this standard to the underlying counterclaim, the court agreed that there was no occurrence, because the counterclaimant alleged only defective work, but no physical damage or loss of use of property resulting from the defective work. 

In reaching its holding, the court considered STC’s argument that loss of use could be reasonably inferred from the counterclaim.  Specifically, STC argued that since the kitchen cabinets it installed had to be repaired, this aspect of the kitchens were rendered unusable to the claimant while the remedial work was underway.  The court rejected this argument, explaining:

Barbee's counterclaim alleged that STC and Traylor's defective work "requir[ed] Robert L. Barbee to repair and/or replace the work performed by Traylor and STC." It did not allege damage to other property resulting from that work. …  we decline to infer loss of use or other injuries based on speculation as to damage that was not alleged in the counterclaim or the amended counterclaim.

The court also considered STC’s argument that the counterclaim for mental anguish arising out of slander of title constituted a claim for bodily injury.  Without ruling on whether a mental anguish claim constitutes bodily injury in the first instance, the court concluded that the claim for mental anguish did not arise out of an occurrence because the mental anguish did not arise out of the alleged faulty workmanship.  Rather, the alleged anguish arose out of the business dispute between STC and the counterclaimant, and the intentional placement of a lien on the property which gave rise to the alleged slander of title.  Such acts, concluded the court, did not qualify as an occurrence.

Eleventh Circuit Holds Mental Anguish Claim Not Bodily Injury

In its recent decision in N.H. Ins. Co. v. Hill, 2013 U.S. App. LEXIS 7204 (11^th Cir. Apr. 10, 2013), the United States Court of Appeals for the Eleventh Circuit, applying Florida law, had occasion to consider whether an emotional distress claim arising out of an alleged breach of contract qualified as a claim for bodily injury.

New Hampshire insured Leisure Tyme, a seller of RVs, under a garage operations liability policy.  Leisure Tyme entered into a series of deals with customers whereby the customers traded in their used RVs toward the purchase price of new RVs.  Leisure Tyme agreed to pay the customers’ loan balances on the traded in RVs as part of this promotion.  Leisure Tyme, however, filed for bankruptcy before these loans could be fully paid.  The bankruptcy court lifted the bankruptcy stay to allow the customers to sue Leisure Tyme to the extent of available proceeds.  New Hampshire provided Leisure Tyme with a defense, but brought a declaratory judgment action regarding its coverage obligations.

The New Hampshire policy insured Leisure Tyme for bodily injury or property damage caused by an accident and resulting from garage operations.  New Hampshire argued that plaintiffs’ claims for financial harm occasioned by Leisure Tyme’s failure to honor its loan repayment commitments did not qualify as bodily injury, notwithstanding any financial harm or emotional distress claimed by the plaintiffs.  The court agreed, finding that under Florida law, plaintiffs’ “complained of injuries, pecuniary loss and damage to credit worthiness do not constitute physical injuries to their persons.”  The court further stated that under Florida law, the “impact rule” precluded coverage “for mental anguish-and any physical manifestations of mental anguish” that were caused by Leisure Tyme’s breach of contract.

In addition to its holding with respect to the absence of bodily injury, the court agreed that plaintiffs’ claims did not come within the policy’s coverage for property damage; specifically as loss of use of property.  The court concluded that even if plaintiffs lost use of their traded-in RVs, those RVs were nevertheless in the care, custody or control of Leisure Tyme, and thus excluded under the policy’s coverage.  The policy also contained a breach of contract exclusion that the court held applicable to any property damage claim.

Montana Court Addresses Business Risk Exclusions

In its recent decision in Lukes v. Mid-Continent Cas. Co., 2013 U.S. Dist. LEXIS 17979 (D. Mont. Feb. 11, 2013), the United States District Court for the District of Montana had occasion to consider the application of the business risk exclusions, in particular exclusions j(5) and (6), to allegations of construction defects.

The insured, Bernie Rubio, was alleged to have been hired to design and construct a single-family residence in 2006.  The complaint specifically alleged that the insured subcontracted out the installation of siding, and that the claimant took possession of the home in 2007.  Claimant alleged that the siding warped and pulled away from the house, which allowed for water intrusion and resulting exterior and interior damage.  Among other things, the complaint alleged that the insured or its subcontractor failed to install proper flashing, which also allowed for water intrusion.

Rubio was insured under a general liability policy issued by Mid-Continent.  Mid-Continent disclaimed coverage to Rubio on the basis of its policy’s business risk exclusions, specifically j(5) and (6), which barred coverage for:

j.    "Property damage" to: . . . .

(5) That particular part of real property on which you or any contractors or subcontractors working directly or indirectly on your behalf are performing operations, if the "property damage" arises out of those operations;" or

(6) That particular part of any property that must be restored, repaired, or replaced because "your work" was incorrectly performed on it.

While the court agreed that these exclusions are generally considered unambiguous under Montana law, their application was not certain under the alleged facts.

In considering j(5), the court appeared to have limited its application to work being performed at the time the complaint was filed rather than at the time the property damage occurred.  As such, the court cursorily held the exclusion inapplicable because “Rubio is no longer performing operations on any part of the [claimant’s] home.”

By contrast, the court found j(6) inapplicable because of an exception to the exclusion applicable to property damage included in the products-completed operations hazard.  The policy defined products-completed operations hazard as:

a.   Includes all "bodily injury" and "property damage" occurring away from premises you own or rent and arising out of "your product" or "your work" except:

(1)       Products that are still in your physical possession; or

(2) Work that has not yet been completed or abandoned. However, "your work" will be deemed completed at the earliest of the following times:

(a) When all of the work called for in your contract has been completed.

(b) When all of the work to be done at the job site has been completed if your contract calls for work at more than one job site.

(c) When that part of the work done at a job site has been put to its intended use by any person or organization other than another contractor or subcontractor working on the same project.

Work that may need service, maintenance, correction, repair or replacement, but which is otherwise complete, will be treated as completed.

The claimant, suing as Rubio’s assignee, argued that j(6) did not apply, at least for duty to defend considerations, because the complaint did not allege when the property damage occurred, thus leaving open the possibility that the damage at least started while the home was still being constructed.  For instance, the allegation of failure to install flashing left open the possibility that water intrusion commenced during the construction process and prior to the completion of construction.  The court found this argument persuasive, explaining:

Here, the Amended Complaint does not unequivocally state that the damage to the Lukes' home only occurred after work was completed. Some of the damage may have occurred before the house was completed. Thus, some part of the Lukes' claims may not be included in the products-completed operations hazard.  (Emphasis supplied.)

This possibility, concluded the court, was sufficient to at least trigger Mid-Continent’s duty to defend.  Whether Mid-Continent had a duty to indemnify, however, was subject to a finding of actual property damage occurring outside of the products-completed operations hazard.

Fifth Circuit Holds Negligent Drilling Did Not Result in Property Damage

In its recent decision in PPI Tech. Servs., L.P. v. Liberty Mut. Ins. Co., 2012 U.S. App. LEXIS 24571 (5^thCir. Nov. 29, 2012), the United States Court of Appeals for the Fifth Circuit, applying Texas law, had occasion to consider what damages qualify as “property damage” for the purpose of a general liability policy.

The insured, PPI, was hired by a lessor and operator of three oil leases located in Louisiana to oversee the drilling of well on a specified lease. The drilling resulted in a dry hole, which ultimately was filled in and abandoned. It was subsequently determined that PPI drilled the well on the wrong lease. PPI was later named as a defendant in two lawsuits as a result of this incident, both of which were referred to arbitration. In one of the arbitrations, claimants sought $4.2 million for PPI having drilled the well in the wrong location. In the other, claimants sought in excess of $700,000 in delay rentals to maintain the lease. Additionally, and presumably to trigger PPI’s insurance coverage, one of the arbitrations alleged that PPI’s actions caused“property damage” in the form of “physical injury to tangible property, including all resulting loss of use of the property.”

PPI was insured under a general liability policy issued by Liberty Mutual. Liberty’s policy contained a standard general liability definition of “property damage” encompassing:

a. Physical injury to tangible property, including all resulting loss of use of that property. All such loss of use shall be deemed to occur at the time of the physical injury that caused it; or

b. Loss of use of tangible property that is not physically injured. All such loss of use shall be deemed to occur at the time of the "occurrence" that caused it.

Liberty disclaimed coverage to PPI on the basis that the underlying arbitrations did not allege “property damage” resulting from an “occurrence.” Liberty argued that notwithstanding the reference to “property damage”in one of the arbitration petitions, the petition contained no specific allegations of physical injury to tangible property or actual loss of use. PPI argued, on the other hand, that the mere reference to “property damage” was sufficient to trigger a duty to defend.

The court rejected PPI’s contention, stating that it did “not consider mere use of the phrase ‘property damage’ and parroted Policy language as sufficient factual allegation.” Rather, explained the court, a claimant must identify actual property damage rather than simply allege that an insured’s activities resulted in physical injury to tangible property or loss of use thereof. “Hallow” and “cursory” allegations of “property damage” do not rise to the level of an allegation of actual property damage. The court therefore looked to the remaining allegations in the petitions, which it concluded were devoid of any allegations falling within the definition of “property damage,” such as “destruction from penetration or scorching from a blowout or fire,” or even constructive eviction caused to the owner of the lease on which the insured wrongly drilled. As such, and because the underlying petitions did not otherwise allege “loss of use,” the court agreed that there was no allegation of property damage that triggered Liberty’s duty to defend.

Massachusetts Court Holds No Coverage for Withheld Employee Tips

In its recent decision in Berkshire-Cranwell Limited Partnership v. Tokio Marine & Nichido Fire Ins. Co., 2012 U.S. Dist. LEXIS 93635 (D. Mass. July 6, 2012), the United States District Court for the District of Massachusetts had occasion to consider whether claims brought by the insured’s employees for wrongful withholding of tips triggered coverage under general liability and/or employee benefit liability policies.

The insured, Cranwell Resort, is a resort spa in Lenox, Massachusetts.  It charged “service fees” at its restaurants and spa, but it was alleged that these service fees were not distributed to the employees that actually performed the services.  Cranwell was named as a defendant in two separate class actions lawsuits brought by employees alleging violations of Massachusetts Tips Act and Massachusetts’ Wage Act, as well as causes of action for breach of contract, conversion, and breach of the implied covenant of good faith and fair dealing.  For reasons not even clear to the court, Cranwell did not give notice of the suits to its insurers until almost three and a half years after the suits were filed.  Cranwell had two potentially responsive policies: both general liability policies with employee benefit liability (“EBL”) extensions.  Both insurers denied coverage on the basis that the claims were not covered, and that in any event, Cranwell failed to give timely notice of the suits.

In considering coverage under the policies’ general liability coverage, the court identified the key issue as whether the suits qualified as claims for “property damage,” defined in pertinent part as loss of use of tangible property.  The court observed that some courts, such as those in Nevada and Arkansas, have considered cash to constitute tangible property.  The court further noted, however, that in each of these cases, it was “conversion of actual paper currency.”  For instance, in Capitol Indem. Corp. v. Wright, 341 F.Supp.2d 1152 (D.Nev. 2004), when an employee of a group home instructed a resident with Alzheimers’s disease to withdraw money from an ATM, the court concluded that the converted funds constituted tangible property.  Likewise, in Hortica-Florists’ Mut. Ins. Co. v. Pittman Nursery Corp., 2010 WL 749368  (W.D.Ark. Mar 2, 2010), where a company manager required each employee to pay him $1,000 to retain their jobs, the court held that the payments constituted tangible property.

The court noted that the distinction between the facts involving Cranwell and those in Wright or Pittman was that the monies involved in latter cases were “misappropriated as a physical object.”  Such was distinguishable from cases involving conversion of “non-currency monies,” such as wages.  The court explained this difference:

When the Black and Wechter plaintiffs alleged that their tips, characterized as service fees were wrongfully converted, they were clearly alleging that Plaintiff took their money for its exchange value and not in the form of some physical object or objects.  There was, with perhaps an occasional exception, no physical handover of tangible currency from the employees to Plaintiff.  Instead, Plaintiff simply retained the service fees, diverting them into its general account.  In this circumstance, no “tangible property” was involved, no duty to defend arises, and no coverage adheres.

In reaching this conclusion, the court considered and rejected Cranwell’s argument that in some instances, guests at the resort paid the service fees in cash, and that in some instances, this cash was paid directly to the employees before being diverted to Cranwell’s general account.  The court concluded that there was no allegation that the service fee payments were ever “in the hands” of the plaintiff employees. The court further hel that the decisions in Wright and Pittman, relied on by Cranwell, were not controlling on a Massachusetts court, and strongly suggested that their reasoning was improper.

Having determined that the underlying suits did not allege “property damage,” the court considered Cranwell’s argument that the suits triggered its employee benefits liability coverage.  The court noted that while Cranwell’s two EBL policies contained slightly different definitions of “employee benefits,” both pertained to “fringe benefits,” such as health insurance or retirement plans.  Applying the principle of ejusdem generis, the court concluded that “a reasonable insured would find the list of fringe benefits under the definition of ‘employee benefits’ to be inclusive of only traditional health, welfare and retirement benefits, and exclusive of wages such as cash tips.” 

Finally, while not necessary to the court’s decision in light of its other findings, the court held that Cranwell’s delay in giving notice to its insurers vitiated its right to coverage.  During the three and a half year delay, the classes were certified in the two lawsuits, several motions and cross motions for summary judgment were made, and Cranwell had begun settlement discussions with underlying plaintiffs.  Under the circumstances, the court concluded that Cranwell’s insurers suffered “substantial prejudice,” as required by Massachusetts law.  As the court concluded, “the transit of both lawsuits was all but over before Defendants even learned of them.  In such a situation, it would be unfair to expect Defendants to step in at the last minute to shoulder settlement and defense costs without any opportunity to shape the course of litigation.”

Illinois Court Holds No Duty to Defend Water Intrusion Claim

In its recent decision Lagestee-Mulder, Inc. v. Consol. Ins. Co., 2011 U.S. Dist. LEXIS 129308 (N.D. Ill. Nov. 8, 2011), the United States District Court for the Northern District of Illinois addressed what allegations must be made in a construction defect lawsuit in order to trigger coverage under a general liability policy.

Lagestee, the general contractor on a construction project, was named as a defendant in a construction defect suit.  It sought coverage as additional insured under a commercial general liability policy issued to one of its subcontractors by Consolidated Insurance Company.  Consolidated denied coverage to Lagestee on the basis that the underlying suit did not allege property damage, but instead was limited to seeking a remedy of the alleged construction defects.  Notably, the suit did not allege any particular third-party property damage, although it did allege that as a result of certain of the defects, water was allowed to infiltrate the building.  The suit did not, however, identify any particular damage resulting from the water instrusion.

The court began its analysis by noting that Illinois court have long recognized the rule that “[w]here the underlying suit alleges damage to the construction project itself due to a construction defect, there is no coverage; by contrast, where the underlying suit alleges that the construction defect damaged something other than the project itself, there is coverage.”  As such, explained the court, the absence of any allegation of specific third-party property damage resulting from the alleged would be fatal to Lagestee’s claim for coverage.  Lagestee acknowledged that the underlying suit did not allege third-party property damage per se, as the suit related primarily to use of defective construction materials and faulty workmanship.  Lagestee nevertheless argued that a duty to defend was triggered by the water intrusion allegations, since the presence of water at the building raised the potential for resulting property damage.

The court disagreed, concluding that while “[i]t is true that the underlying complaint does not disavow the proposition that the water infiltration damaged something other than the building itself … the mere possibility that such damage occurred does not trigger a duty to defend under Illinois law.”  In other words, a court is not permitted under Illinois law to speculate as to what damages might have result from alleged water infiltration.  Rather, the duty to defend is determined based solely on the damages actually alleged.  Because the underlying suit did not identify any particular damage resulting from the water infiltration, but instead alleged only that the defective construction allowed for water infiltration, it was not permissible for the court to speculate that such infiltration could result in covered property damage.  Thus, concluded the court, Consolidated did not have a duty to defend Lagestee in the underlying suit.

Alabama Supreme Court Addresses Coverage for Faulty Workmanship

In its recent decision Town & Country Prop., L.L.C. v. Amerisure Ins. Co., 2011 Ala. LEXIS 183 (Ala. Oct. 21, 2011), the Supreme Court of Alabama had occasion to consider whether an underlying suit for defective workmanship triggered coverage under a general liability policy.

The insured, a general contractor, had been hired to construct an automobile sales and service facility.  Shortly after completion of the project, the project owner discovered several defects.  Frustrated by the insured’s subsequent inability to repair the defects, the owner commenced suit, alleging various causes of action based on theories of tort and breach of contract.  Amerisure provided a defense to its insured under a reservation of rights.  The matter ultimately resulted in a judgment against the insured for approximately $650,000.  Shortly after judgment was rendered, Amerisure denied a liability to indemnify its insured on the basis that the suit did not allege an occurrence, and that even if it did, the policy’s exclusion applicable to property damage to “your work” barred coverage.  Plaintiffs in the underlying matter, standing in the shoes of the insured, contended that the allegations of faulty workmanship constituted an occurrence and that the exclusion was inapplicable because the property damage alleged was caused by the insured’s subcontractors rather than by work actually performed by the insured. 

The Court looked to its two prior decisions on the issue of what constitutes an occurrence in the context of faulty workmanship claims.  In United States Fid. & Guar. Co. v. Warwick Dev. Co., 446 So. 2d 1021 (Ala. 1984), the Court had held that an underlying claim did not allege an occurrence where the damage alleged was limited solely to faulty workmanship.  By contrast, in Moss v. Champion Ins. Co., 442 So. 2d 26 (Ala. 1983), the Court found an occurrence where the insured’s failure to properly construct a roof allowed for water intrusion to the plaintiff’s home, causing damage to plaintiff’s attic and ceilings.  The Court harmonized these two decisions by explaining that “faulty workmanship itself is not an occurrence but that faulty workmanship may lead to an occurrence if it subjects personal property or other parts of the structure to "continuous or repeated exposure" to some other "general harmful condition" (e.g., the rain in Moss) and, as a result of that exposure, personal property or other parts of the structure are damaged.”

The Court therefore held that to the extent that the underlying suit was limited to allegations of faulty workmanship, there could be no occurrence.  It nevertheless remanded the matter for further findings to determine whether the plaintiffs experienced any subsequent property damage, such as resulting damage to computers or furnishings.  In passing, the Court noted that if plaintiff did experience such property damage, it would necessarily follow that such damage was caused by an occurrence, and that the policy’s “your work” exclusion would not apply because of the exception applicable to work performed by subcontractors.

 

Seventh Circuit Affirms Cost of Capital Improvements Not Covered Under GL Policy

In its recent decision, Continental Cas. Co. v. Sycamore Springs Homeowners Association, 2011 U.S. App. LEXIS 15005 (July 22, 2011), the United States Court of Appeals for the Seventh Circuit, applying Indiana law, had occasion to consider whether an underlying suit demanding that the insured undertake measures to prevent future “property damage” triggered coverage under a general liability policy.

The insured, Courtyard Homes, was the developer of a residential subdivision constructed in a flood plain in Indianapolis, Indiana.  In fact, both Courtyards Homes, and the homeowners’ association, Sycamore Springs, knew of the flood risks associated with the area.  Courtyard Homes addressed this risk by constructing various flood-protection elements such as levees and retention ponds.  It was alleged, however, that Courtyard Homes overdeveloped the property, placing too much strain on these preventative measures, and that as a result, they failed during an extended period of heavy rains.

Sycamore Springs later sued Courtyard Homes, but not for damage resulting from the flooding.  Rather, Sycamore Springs sought relief in the form of requiring Courtyard Homes to construct improved measures to reduce the chances of future flooding.  Courtyard Homes’ carrier, Continental, denied coverage primarily on the basis that “any loss was the expected result of a deliberate reduction in the subdivision's ability to deal with heavy rain or a rising river” and thus did not allege "property damage" arising out of an occurrence.  In the ensuing coverage action, the district court did not reach the issue of whether the underlying suit alleged an occurrence.  Rather, the court found in favor of Continental on the basis that the suit did not allege loss arising out of “property damage,” but instead sought  to prevent future “property damage.”  Costs associated with preventing future, hypothetical “property damage,” held the court, did not fall within the policy’s coverage. 

On appeal, the Seventh Circuit affirmed the lower court’s decision, and in doing so, rejected the insured’s argument that costs of capital improvements can qualify for coverage under a liability policy.  The court reasoned that the moral hazards involved would prevent general liability insurers from writing such coverage:

Protected by a policy covering the costs of improvements, a builder would produce a substandard project and demand that the insurer finish the job; builder and buyers could split the savings. Insurers, recognizing this incentive, would raise the price of their policies so high that no builder planning to do the job right would find the offer attractive. The result would be the collapse of the insurance market. No one would gain, and honest builders would lose because insurance would no longer be available. That's why Continental's policy does not cover the expense of improving the subdivision's flood defenses.

Thus, held the Seventh Circuit, because the underlying suit did not involve any amounts that could be considered covered “property damage,” the lower court’s ruling was proper.  The Seventh Circuit nevertheless considered and rejected Continental’s argument that the underlying matter did not allege an “occurrence,” explaining that the unintended and unanticipated consequence of an intentional choice (i.e., constructing a housing development in a flood zone without proper precautions) can be an accident for the purpose of a liability policy.  Notwithstanding, a general liability policy provides coverage only for “property damage” resulting from such an accident, not for costs associated with preventing future “property damage.”

Eleventh Circuit Holds Repair of Insured’s Work Not Covered Property Damage

In its recent decision Palm Beach Grading, Inc. v. Nautilus Ins. Co., 2011 U.S. App. LEXIS 14576 (11^th Cir. July 14, 2011), the Eleventh Circuit affirmed a holding by the United States District Court for the Southern District of Florida that costs associated with repair of the insured’s own work does not constitute “property damage” under a general liability policy.

The insured, A-1 Underground, had been subcontracted to construct water utilities and sanitary sewer utilities in connection with a larger construction project.  A-1 later abandoned the project, forcing the general contractor, Palm Beach Grading (“PBG”) to hire a second subcontractor to complete the work.  The second subcontractor determined that A-1’s work associated with a sewer line was defective, requiring the subcontractor to dig up and replace the line.  PBG later sued and obtained a judgment against A-1.  PBG then commenced suit against A-1’s general liability carrier, Nautilus, seeking recovery of the repair costs.

The Eleventh Circuit acknowledged that under Florida law, faulty work can constitute an “occurrence.”  The court nevertheless agreed with the lower court that the repair costs associated with A-1’s faulty work did not constitute third-party property damage as required under the policy.  In so holding, the Eleventh Circuit relied on the decisions by the Florida Supreme Court in U.S. Fire Ins. Co. v. J.S.U.B., Inc., 979 So.2d 871 (Fla. 2007) and Auto-Owners Ins. Co. v. Pozzi Window Co., 984 So.2d 1241 (Fla. 2008), in which the courts concluded that a general liability policy only covers the costs of repairing damage resulting from an insured’s defective work, not the cost of repairing the or removing the defective work itself.  Because PGB’s claim was limited to repairing the sewer line, as opposed to damage caused by the sewer line (such as resulting sinkholes or back-ups), the underlying suit did not allege “property damage” triggering coverage under the Nautilus policy.

Sixth Circuit Holds Supplier is a Subcontractor Under Business Risk Exclusion

In its recent decision Mosser Constr. v. Travelers Indem. Co., 2011 FED App. 0481N (6^th Cir. July 14, 2011), the United States Court of Appeals for the Sixth Circuit, applying Ohio law, had occasion to consider what constitutes a “subcontractor” for the purpose of a “your work” exclusion in a general liability policy. 

The insured, Mosser, was a general contractor hired to construct an addition to a waste water facility plant.  As part of its work, Mosser was required to place structural backfill beneath and around the new building.  The contract specifically required that Mosser use backfill meeting the size and grading requirements for AASHTO #57 coarse aggregate.  Mosser contracted with a supplier for the purchase of the required fill, which the supplier happened to have available in stock. The supplier never visited the construction site and, in fact, was not even involved in the delivery of the fill to the site.  The backfill ultimately proved to be defective, resulting in damage to the newly constructed facility.

Mosser’s general liability carrier, Travelers, denied coverage for the resulting property damage claim made against Mosser based on a standard “your work” exclusion applicable to:

l.          Damage To Your Work

"Property damage" to "your work" arising out of it or any part of it and included in the "products-completed operations hazard".

The exclusion, however, is subject to the following standard exception:

This exclusion does not apply if the damaged work or the work out of which the damage arises was performed on your behalf by a subcontractor.

Mosser argued that the exception applied to the exclusion since the supplier of the fill should be considered a subcontractor.  Travelers, on the other hand, argued that subcontractor has a well-understood meaning within the construction industry that is typically limited to contractors that actually perform work on a project.  As such, argued Travelers, a supplier of materials to be used in a construction project cannot qualify as a subcontractor.

Noting that no Ohio court had addressed the definition of subcontractor for the purpose of the “your work” exclusion, the Sixth Circuit looked to case law in other jurisdictions.  The court acknowledged that several courts had concluded that a material supplier can qualify as a subcontractor when that supplier fabricates the purchased material to some degree of customization, or otherwise performs some work on site.  In other words, a supplier must do something more than merely provide standard inventory items. 

In light of this case law, the Sixth Circuit concluded that the undefined term “subcontractor” was ambiguous and therefore must be construed in a manner most favorable to Mosser.  The court, however, refused to draw a bright line, as argued by Mosser, that all suppliers of material are necessarily subcontractors.  For example, explained the court, a hardware store selling standard-inventory nails is not a subcontractor.  Rather, when a supplier does not perform any actual work on site, it will be considered a subcontractor only when it “must manufacture the material according to specifications supplied by the general contractor, and, its materials contract with the general contractor must explicitly incorporate terms from the master contract or otherwise explicitly indicate that the materials at issue are manufactured or supplied specifically for the master contract's project.”

Turning to the specific facts in Mosser, the court concluded that while the supplier happened to have the requested fill in stock, such was a mere coincidence and that the supplier would have had to custom fabricate such fill had it not been in stock.  Just as significant for the court was the fact that the purchase order entered into between Mosser and the supplier specifically referenced the underlying general contract for which the fill would be required.  Thus, “[a]lthough [the supplier] may have produced all or part of the backfill before entering into the purchase order with Mosser, the circumstances of this case are enough to nudge [the supplier] over the line separating mere material suppliers from subcontractors.”

While the Mosser court was careful to avoid the bright-line advocated by the insured, i.e., that all suppliers are subcontractors, the court’s decision nevertheless has the potential to have significant insurance coverage ramifications, both in terms of the business-risk exclusions as well as for additional insured issues.