Privity and Additional Insured Coverage

Larry P. Schiffer and Suman Chakraborty | Squire Patton Boggs | October 5, 2017

When a worker is injured on a construction job and sues the relevant parties, a side battle often ensues over which carrier has the duty to defend and indemnify the owner, general contractor or subcontractor based on the language in the various construction contracts requiring some or all of those parties to be named as additional insureds. When there are multiple subcontracts cascading down

to the injured worker’s employer, determining whether the employer’s policy must defend and indemnify other parties as additional insureds can be confusing. In a recent Summary Order, which does not have precedential effect, the Second Circuit Court of Appeals weighed in on this issue under New York law.

In Cincinnati Ins. Co. v. Harleysville Ins. Co., an employee of a sub-subcontractor was injured and sued the building owner, general contractor and subcontractor. The sub-subcontractor’s construction contract with the subcontractor required the sub-subcontractor to add the subcontractor, general contractor and owner as additional insureds to the sub-subcontractor’s insurance policy. The subcontractor’s carrier sued the sub-subcontractor’s carrier arguing that the latter carrier had to defend and indemnify the additional insureds. The district court granted the subcontractor’s carrier’s summary judgment motion in part by finding that the sub-subcontractor had a duty to defend and indemnify the building owner as an additional insured, but not the general contractor. On appeal, the Second Circuit reversed in part and held that the sub-subcontractor’s carrier had no duty as neither the building owner nor the general contractor were additional insureds under the policy.

According to the court, the sub-subcontractor’s policy had 2 endorsements that addressed additional insureds. The first was the “Privity Endorsement,” which grants additional insured coverage “when you and such person or organization have agreed in writing in a contract or agreement that such person or organization be added as an additional insured on your policy.” The second was the “Declaration Endorsement,” which refers to the declarations section of the policy for a schedule of additional insureds.

In reversing, the court held that the Privity Endorsement did not confer additional insured status on the building owner or general contractor because there was no contractual privity between them and the sub-subcontractor. Simply put, the sub-subcontractor had no direct construction contract with the owner or the general contractor. The court noted that the law in New York was clear on this point and that New York courts had interpreted the identical provision to require contractual privity. The court stated that it did not matter if the sub-subcontractor’s construction contract required the owner and general contractor to be named as additional insureds (this was a matter for breach of contract), that contract could not modify the insurance policy because the Privity Endorsement was clear on its face that the construction contract had to be between the insured and the purported additional insureds. Because the insured had no construction contract with the owner or the general contractor there was no contractual privity and no coverage.

As to the Declaration Endorsement, the court noted that neither party were listed on the schedule as additional insureds. The court also found that a reference to a heading on the Declaration Endorsement that was the same as the Privity Endorsement did not expand the additional insured coverage grant automatically to every party when required in any construction agreement with the insured. Essentially, the court refused to write the Privity Endorsement out of the insurance policy. The court held that the Privity Endorsement modified the automatic status heading language in the declarations, not the other way around. In essence, the court held under New York law that in insurance contracts that require privity for additional insured coverage, the lack of a direct contract between the insured and the party seeking the additional insured coverage precludes extending additional insured coverage.

Risk Management 101: Tailor Your Construction Insurance Requirements to the Discipline so You Don’t Get Taken to the Cleaners

James P. Bobotek | Pillsbury Winthrop Shaw Pittman LLP | October 3, 2017

In the world of construction, whether you’re a lender, owner, contractor or subcontractor, your success hinges largely on risk management. While there’s no substitute for sound business and construction practices (such as proper preconstruction planning, proven construction means and methods, use of experienced personnel, and stringent safety programs), among the most important project risk allocation tools are the contracts governing the various parties’ rights and obligations. Within those contracts, risk is primarily allocated through indemnity and insurance requirement provisions. When preparing insurance requirements for construction-related contracts, it is crucial to ensure these pieces are well-fitted and comfortable, like a good piece of tailoring. This requires the indemnity and risk obligations associated with each project discipline to be clearly identified and addressed.

Design professional contract requirements should include auto and commercial general liability, workers’ compensation/employer’s liability and, most importantly, professional liability coverages. Pay particular attention to the limits of the professional liability coverage; requiring excess limits for this coverage may be appropriate depending on the project’s size. Consider requiring that the coverage be “project specific,” either through a separate project policy or sublimits applicable only to the project. For large projects, a lender may consider requiring, or an owner may consider obtaining, owner’s protective professional insurance coverage, which indemnifies the owner directly for losses arising out of professional negligence of architects/engineers exceeding the limits available under the architects’/engineers’ own professional liability policies.

The entities performing construction work on the project should be required to carry auto and commercial general liability insurance, workers’ compensation/employer’s liability, and an excess liability policy providing coverage over the auto and CGL policies’ limits. Many owners also insist on payment and performance bonds from contractors and/or subcontractors. For those contractors and subcontractors performing any design-build functions, professional liability coverage should also be required. To prevent coverage gaps, contractors’ and subcontractors’ insurance requirements should include pollution liability coverage. If the owner procures the property or builder’s risk coverage, contractors and subcontractors should consider the need for an “installation floater” or similar coverage to protect their equipment and supplies onsite, offsite, and in transit.

While the liability coverage referenced above covers most project accidents resulting in (i) bodily injury, or (ii) damage to property other than what is being constructed, in most cases it does not cover damage to the structure being built. Although it is possible to obtain coverage for damage to construction projects under an owner’s existing property policy, coverage limitations in standard property insurance forms make procurement of a builder’s risk policy desirable in most cases. If a builder’s risk policy is purchased, consideration should be given to whether the owner or the contractor obtains it. This determination is best made on a project-by-project basis, taking into consideration such factors as the type of project (i.e., new construction or renovation of an existing structure); type of contract (cost plus or stipulated sum); financing/lender’s requirements (the owner may want to “bundle” soft cost and loss of income coverage with the builder’s risk policy to avoid claim delays and argument among insurers over coverage); the presence of a master property program (owner or contractor); location of project; the parties’ relative economic leverage to negotiate the most favorable premium and coverage; the contractor’s level of sophistication; and the owner’s desire to participate in project-specific risk management.

Finally, numerous risk management products, including insurance policies and bonds, are required to cover the risks presented by a construction project. To the greatest extent possible, the coverage provided by these policies should fit together. Policy provisions are drafted to create in one policy the exact coverage that was excluded by another policy—just as the pieces of a garment are sewn together without unintended gaps. Have your broker and/or attorney review all of your applicable policies to prevent gaps in coverage. You may need to amend one or more of your policies through endorsements, or purchase additional coverage, to close these gaps. Tailored properly, the project’s insurance program should fit like a well-made suit.

Public-Private Partnerships: Navigating the Ins and Outs of P3s

Marti McCaleb | Schwabe Williamson & Wyatt | October 3, 2017

Earlier this year, the Public-Private Partnership (P3) Committee of the Washington Capital Projects Advisory Review Board (CPARB) submitted draft legislation that would make significant changes to Washington’s current statutory structure for public-private partnerships. A P3 is a contractual relationship between a public agency and a private sector entity. While their use in Washington has historically been limited and fraught with complications, they are successfully used in many other places to complete wide-scale education, transportation, and civic works projects.

Common P3 Mechanisms

Many types of P3s reflect a broad range of approaches to the balance of power between the public and private parties engaged in a project.

Design-Build (DB). Design-build is the most commonly used P3 delivery mechanism. In a DB, the private partner provides both the design and construction of a project for the public owner. The public owner retains control of the assets and is responsible for operation and maintenance, but the private entity takes on much of the risk associated with the construction process.

Design-Build-Operate-Maintain (DBOM). DBOM is a project delivery method in which the public owner enters into a single contract for the design and construction, and the maintenance and/or operation, of a public-private facility for a set period of time. Financing is secured by the public sector, and the public owner retains ownership and significant oversight of the operations through terms defined in the contract.

Design-Build-Finance-Operate-Maintain (DBFOM). In a DBFOM, the public owner enters into a single contract for design, construction, finance, maintenance, and operation of a public-private facility over a contractually defined term. No public funds are appropriated to pay for any part of the services that the private partner provides. Instead, the private entity uses a variety of debt leveraging mechanisms, grant funding, or equity investments to finance the project.

Benefits and Drawbacks of the Public-Private Partnership

Proponents of P3s argue that creating systems to incentivize and leverage private spending on public-benefit projects alleviates cost pressures and premiums associated with public projects—like prevailing wage, environmental and labor regulation, and stringent public bid requirements. Opponents argue that allowing private entities to avoid those requirements provides a form of corporate welfare at the expense of the taxpayers. The proposed legislation attempts to find a balance between cost, speed, and risk-shifting mechanisms while still supporting Washington’s commitments to prevailing wage, labor standards, and public bidding.

Washington’s Proposed Legislation

The draft bill, written by a committee of diverse stakeholders, including representatives of public owners, contractors, trades/labor, academia, and others, is intended to overcome hurdles and make P3 projects more available to public entities on a variety of potential projects, while maintaining open and fair competition and emphasis on Washington’s high labor standards, upholding mandatory procurement and contract considerations, and promoting participation by minority-owned and disadvantaged business interests. The draft bill includes the following key provisions:

  1. Value‐based procurement. To procure a P3 project, the public owner must use either a single-step Request for Proposal or a two-step Request for Qualification/Request for Proposal process.
  2. Express “opt‐in” requirement. Public owners are not prohibited from using other project methods; the P3 statute only applies if the owner expressly chooses to implement a project using these standards.
  3. Contract requirements.Requirements include basic project parameters and technical requirements, maximum term, property interest/ownership, compensation, termination, reporting requirements, payment bonds, usage rights, prevailing wage, disadvantaged business plan, and labor requirements.
  4. Public ownership.The property will remain public and control reverts to the public owner upon expiration or termination of the contract.
  5. Flexible funding and financing. Public owners may combine private, state, federal, or other funding/financing sources.
  6. Requirements for subcontractors, labor, and disadvantaged businesses. Every P3 contract must provide for, and the public owner must ensure that adequate protections are made for, subcontractors, prevailing wage, and participation of small, disadvantaged, and/or minority-owned businesses.
  7. Project review. Each proposed project must be reviewed by a specialized subcommittee of the Project Review Committee to evaluate the proposed public use. The subcommittee will issue a recommendation to CPARB, which will ultimately approve or deny the application.

On the Horizon

The draft legislation that the P3 Committee proposed was approved to move forward for legislative review. Financial impacts, risk of default by public partners, and guarantees that new projects would abide by Washington’s strong protections for payment of contractors, prevailing wage, and minority business participation are all issues that will continue to be refined and advanced over the coming year. For now, everyone involved in the construction industry—owners, developers, designers, architects, and contractors—should pay attention to the conversation that has the potential to substantially change Washington’s landscape for public works projects.

When Your “Private” Project Suddenly Turns into a “Public” Project. Hint: It Doesn’t Necessary Turn on Public Financing or Construction

Garret Murai | California Construction Law Blog | September 27, 2017

In 1931, during the Great Depression, the federal government enacted the Davis-Bacon Act to help workers on federal construction projects. The Davis-Bacon Act, also known as the federal prevailing wage law, sets minimum wages that must be paid to workers on federal construction projects based on local “prevailing” wages. The law was designed to help curb the displacement of families by employers who were recruiting lower-wage workers from outside local areas. Many states, including California, adopted “Little Davis-Bacon” laws applying similar requirements on state and local construction projects.

California’s current prevailing wage law requires that contractors on state and local public works projects pay their employees the general prevailing rate of per diem wages based on the classification or type of work performed by the employee in the locality where the project is located, as well as to hire apprentices enrolled in state-approved apprentice programs and to make monetary contributions for apprenticeship training.

Sometimes, however, it can be difficult to determine whether a project is a public works project or a private works project, even when you intentionally try to structure it as a project in which prevailing wages are not required, as one developer found out in the case of Cinema West, LLC v. Baker, California Court of Appeals for the First District, Case No. A 144265 (June 30, 2017).

Cinema West, LLC v. Baker

The Disposition and Development Agreement

In 2004, the City of Hesperia (City) began acquiring vacant property in its downtown area for the development of a “Civic Plaza,” which was to include a city hall, public library, other governmental buildings and “complimentary retail, restaurant, and entertainment establishments.”

In 2010, the City entered into a disposition and development agreement (DDA) with Cinema West, LLC (Cinema West) to develop a “12-screeen digital cinema immediately west of the Civic Plaza Park.” Under the terms of the DDA:

  1. The City was to convey 54,000 square feet of real property to Cinema West for $102,529;
  2. Cinema West was to construct as 38,000 square foot, 12-screen digital theater on the site which was to be operated for a minimum of ten years; and
  3. The City was to construct a parking lot, water retention system and off-site improvements including curbs, gutters and sidewalks for the theater.

In addition, under the terms of the DDA and other related documents:

  1. The City was to provide an interest-bearing loan to Cinema West in the amount of $1,546,363 equal to the City’s estimated cost to build the parking lot, water retention system and off-site improvements ($1,443,834), in addition to the fair market value of the property conveyed to Cinema West ($102,529) which was forgivable over ten years. This amount was later increased by $250,000 on account of rising steel prices and the City’s adoption of new building codes; and
  2. The was to provide a one-time payment of $102,529 as consideration for the ten-year operating agreement.

The DDA stated that the City was not “providing any financial assistance to [Cinema West] in connection with [Cinema West’s] acquisition of the Site or development of the Project thereon” and that Cinema West “is paying fair market value to acquire the Site and is responsible for paying the full costs of all improvements to be constructed on the Site”

The Department of Industrial Relations Decision and Superior Court Writ Proceeding

In November 2012, as construction of the theater and parking lot were nearing completion, the International Brotherhood of Electrical Workers Local 477 (Union) submitted a request to the Director of the California Department of Industrial Relation (DIR) for public works coverage determination for the project.

In response,Cinema West submitted a letter arguing that the theater was a private project not subject to California’s prevailing wage statutes because: (1) Cinema West purchased the property for fair market value; (2) no public financial assistance was involved; (3) there was “no evidence to suggest that the parking lot was built because it was needed to serve the Project”; (4) their was no “no public funding” associated with the  ten-year “forgivable loan”; and (5) the one-time operating agreement payment was never consummated.

The DIR disagreed. First, although under the DDA Cinema West was to construct the theater and the City was to construct the parking lot, water retention system and off-site improvements, the DIR construed  construction of the theater and construction of the parking lot and related improvements as a “single complete and integrated theatre complex” and thus a “public work” subject to prevailing wages. Second, the DIR construed the City’s ten-year “forgivable loan,” one-time operating agreement payment, and construction of the parking lot and related improvements as “public subsidies” also making the project a “public work” subject to prevailing wages.

In April 2013, Cinema West filed an administrative appeal which was denied by the DIR in June 2013. Thereafter, Cinema West filed a petition for writ of mandate under Code of Civil Procedure section 1085 with the Sonoma County Superior Court to challenge the DIR’s decision. As part of its writ, Cinema West submitted evidence that was not part of the administrative record, including statements in its verified petition and three declarations. At the hearing on Cinema West’s writ, the trial court sustained the DIR’s objections to Cinema West’s extra-record evidence and denied Cinema West’s writ concluding that the evidence “in” the record was undisputed and that based on that evidence alone the project was a public works.

Cinema West appealed.

The Court of Appeals Decision

On appeal, the Court of Appeals noted that “[t]he conditions of employment on construction projects financed in whole or in part by public funds are governed by the prevailing wage law,” that “[t]he overall purpose of the prevailing wage law is to protect and benefit employee on public works projects,” and that the public works statutes are “liberally construed to further its purpose.”

The Court of Appeals further noted that Labor Code section 1720 “broadly” defines “public works” to mean “construction, alteration, demolition, installation, or repair work done under contract and paid for in whole or in part out of public funds” including “work performed during the design and preconstruction phases of construction, including, but not limited to, inspection and land surveying work, and work performed during the post construction phases of construction, including, but not limited to, all cleanup work at the job site.”

Further, explained the Court of Appeals, the term “paid for in whole or in part out of public funds” has been broadly interpreted:

It encompasses both direct and indirect subsidies, including “[t]he payment of money or the equivalent of money by the state or political subdivision directly to or on behalf of the public works contractor, subcontractor, or developer”; “[p]erformance of construction work by the state or political subdivision in execution of the project”; “[t]ransfer by the state or political subdivision of an asset of value for less than fair market price”; “[f]ees, costs, rents, insurance or bond premiums, loans, interest rates, or other obligations that would normally be required in the execution of the contract, that are paid, reduced, charged at less than fair market value, waived, or forgiven by the state or political subdivision”; “money loaned by the state or political subdivision that is to be repaid on a contingent basis”; and “[c]redits that are applied by the state or political subdivision against repayment obligations to the state or political subdivision.” (§ 1720, subd. (b)(1)-(6).) The statute excepts from this otherwise broad definition of public funding “a public subsidy to a private development project that is de minimis in the context of the project.”

Cinema West’s Extra-Record Evidence

Addressing Cinema West’s extra-record evidence first, the Court of Appeals noted that “[i]t is well established that the use of extra-record evidence is limited and generally improper since review is normally confined to the record.” And, here, held the Court:

Cinema West implies that there is an exception to the extra-record evidence rule when the court deems the administrative record inadequate or the agency’s efforts to develop a record wanting, but it cites no authority for this proposition. Nor does it explain what criteria the court should consider in determining the adequacy of such record or efforts. Regardless, Cinema West has failed to demonstrate any inadequacy in the PWL coverage proceedings before the Director or in the record there developed. The coverage determination was initiated by the Union, which submitted documentation pertaining to the Hesperia theater and parking lot development. The documents the Union submitted consisted entirely of public records pertaining to the development. While characterizing the Union’s evidence as “one-sided,” Cinema West does not contend that any of the documents submitted by the Union are not genuine, and the City submitted copies of many of the same documents in response to the Director’s request. It does not suggest any pertinent documents are missing from the record. And contrary to Cinema West’s suggestion that the Union’s proffered evidence was all that was submitted, the record reflects that both the City and Cinema West were provided notice of the proceedings and given the opportunity to submit any documents in their possession bearing on the issues. The Director twice requested documents from the City, indicating her intent to have a complete record.

It was in this context that the trial court found Cinema West had the opportunity, but chose not to, submit any evidence in the initial proceeding or the appeal. Cinema West makes much of the fact that it sought and was denied a hearing on its administrative appeal but, as the trial court observed, a hearing was “not a prerequisite for an interested party to submit evidence.” The trial court’s implied finding that the Director did not preclude Cinema West from submitting evidence and the court’s express finding that Cinema West’s failure to do so was its own choice are supported by substantial evidence.

A Public Works Project Under the Labor Code

Next, addressing Cinema West’s arguments that the project was not a public work subject to the prevailing wage laws, the Court held that the project was a public works for two reasons.

First, the theater and the parking lot and related improvements, while constructed separately by Cinema West and the City, should be considered a single project for the following reasons:

  1. The DDA indicated that the parking lot was directly related to the theater and specifies that “[t]he Parking Lot Improvements will be designed and constructed by [City] as necessary to serve the proposed 12-screen theater with 1,800 seats and any other uses contemplated by [City] . . .”;
  2. Cinema West and the City used the same engineering firm to prepare the plans for the design of both the theater and parking lot;
  3. The DDA provided that following the City’s construction of the parking lot Cinema West was obligated to “maintain the Parking Lot Improvement pursuant to the CC&Rs and the reciprocal access and parking agreement, including the cost of utilities (water and electricity)”; and
  4. The theater and parking lot were built together on the same vacant parcel of land.

Second, responding to Cinema West’s argument that “not a penny of public funds was received by Cinema West in connection with the construction of the Theater,” because it was unable to perform some of the requirements of the operating agreement and therefore did not receive or accept the ten-year “forgivable loan” or the one-time operating agreement payment, the Court of Appeals held:

Even if . . . Cinema West never receives any of the promised payments, the DDA and related agreements call for the loans and one-time payment to be made and the one-time payment is not conditional. We agree with the trial court that allowing a developer to accept public benefits and, if a later determination is made that the project is a public work, disclaim public benefits to avoid paying prevailing wages would seriously undermine the [public works law (PWL)]. It would incentivize gamesmanship on the part of local government bodies and developers whereby projects would be publicly subsidized but constructed without PWL compliance. If an investigation later revealed the violation, the developer could still avoid paying prevailing wages and statutory penalties by repaying or disclaiming the public subsidy. And if the developer chose instead to retain the subsidy because its value exceeded the cost of post hoc PWL compliance and penalties, employees would be worse off because the passage of time and transitory nature of construction work increase the likelihood that some employees could not be found. Such a rule would discourage voluntary compliance and place undue burdens on the Department’s limited enforcement personnel. This cannot have been the Legislature’s intent.

Conclusion

Cinema West is a cautionary reminder for developers and contractors that even if a government entity does not directly construct or finance a project, but merely constructs necessary yet appurtenant parts of a larger project and does not directly finance a project but instead provides conditional loans that may never be received, a project may nevertheless be found to a be a public works project subject to prevailing wages. Cinema West also provides an important procedural reminder, that when submitting evidence in an administrative proceeding, provide all evidence on which you intend to rely on or you may be stuck with the “record” in any subsequent writ or appeal.

Is this Product the Answer to Your Clients’ Complex Construction Needs?

Bethan Moorcraft | Insurance Business Magazine | September 22, 2017

The US construction insurance market is a complex space to compete in. State-specific legislation and various approaches to construction management can sometimes make placing liability and settling litigation a real headache.

But there’s a new product on the block that might just make the lives of brokers in the construction insurance space a tad easier.

Liberty Mutual and Ironshore have introduced an Integrated Primary Wrap Up/Project Specific program offering general liability (GL) and professional liability (PL) protection for medium and large construction projects developed through Design-Build or Integrated Project Delivery (IPD).

The new integrated solution was developed after consultations with US brokerages about challenges in the large construction markets and the difficulties posed by changing approaches to construction management.

Design-Build or Integrated Project Delivery (IPD) blur the traditional lines of responsibility found in the more standard Design-Big-Build approach, allowing contractors and designers to work closely together from the early design stage right the way throughout construction. The more traditional approach would keep the processes separate and the designer would hand blueprints over to a contractor to develop.

“The new integrated solution helps remove the potential gaps in coverage intrinsic to the design-build and integrated project delivery methods,” said Aldo Fucentese, vice president, National Insurance Specialty Construction. “The most challenging aspect of the marketplace was how we could blend GL with PL coverage under one form.

“We solved the problem by developing an endorsement – which is a fully-blown PL form – under a GL form. Blending the two forms together also allowed us to consolidate the claims adjusting process should a claim occur.”

Liberty Mutual is also offering GL and PL clash deductible for additional premium, which is “a truly unique feature,” according to Ben Beauvais, executive vice president, casualty & construction, Ironshore.

The more traditional approaches to construction management provoked a lot of finger-pointing between carriers and denial of fault at the point of claim – something brokers were often left to negotiate for their clients. With this streamlined product, the coverage is “seamless” and there’s only one insurer present to sort things out.
Beauvais added: “The design-builder’s PL exposures are related to the professional services assumed in the agreement with the owner and then subcontracted to design professionals on the project.

“The level of project risk that the design-builder undertakes, according to the contract agreement, may vary from very onerous to fair-and-equitable. The PL coverages and the included risk management services are tailored to provide an integrated solution to design-build contractors’ complex exposures.”

Brokers have given a warm reception to the product so far, according to Fucentese. He said Liberty Mutual’s new-product approach is to consult with the brokerage world, understand broker pain-points and find value-add solutions to address any issues.

“We are very excited about the product. It simplifies the task for the brokers and makes the process of adjusting claims much easier to manage,” he added.