Does a Mediation Trigger the Duty to Defend Under a CGL Insurance Policy?

Joshua Fruchter | Merge Mediation Group | September 4, 2019

Standardized commercial general liability (CGL) insurance policies impose a “duty to defend” that obligates insurers to defend insureds against “suits” seeking damages for claims potentially covered by the policy. The existence of a duty to defend is determined by the allegations in the “suit” filed against the insured.

Does a mediation qualify as a “suit” under a standardized CGL policy? That question was recently litigated in Illinois state court. See Illinois Tool Works, Inc. v. Ace Specialty Ins. Co., 2019 IL App (1st) No. 18-1945 (August 23, 2019). In that case, the insured manufacturer, ITW, operated a facility at a location (referred to as “AUS-OU”) that was later declared a Superfund site by the United States Environmental Protection Agency (EPA) after the discovery of environmental contamination.

In August 2004, another manufacturer notified ITW that it was negotiating with the EPA concerning the payment of cleanup costs related to the AUS-OU site, and claimed that ITW was partially responsible for those costs because manufacturing activities at ITW’s facility had allegedly released hazardous substances. In response, ITW agreed to share in the expense of remediating the AUS-OU site, and entered into a mediation with the EPA and other manufacturers to allocate cleanup costs. ITW notified its insurers about the mediation, and submitted bills for costs incurred, but the insurers did not reimburse ITW for those costs.

Subsequently, ITW was sued for contribution to cleanup costs for an adjacent site (“Site 36”). The insurers funded ITW’s defense of the Site 36 lawsuit.

After the Site 36 lawsuit settled, ITW filed an action against its insurers seeking a declaratory judgment that the insurers had a duty to defend and indemnify it for claims against it regarding both the Site 36 lawsuit and the AUS-OU mediation. The insurers acknowledged that they had a duty to defend ITW in the Site 36 lawsuit, but argued that the same duty did not apply to the AUS-OU mediation because it was not a “suit” under the policies.

The trial court agreed with the insurers that the AUS-OU mediation did not trigger a duty to defend because it was not a “suit” under the policies.

On appeal, ITW abandoned its argument that the mediation qualified as a “suit” under the policies, and instead maintained that the duty to defend triggered by the Site 36 lawsuit extended to the AUS-OU mediation because the contamination at issue in the Site 36 lawsuit and the AUS-OU mediation arose out of the same allegedly hazardous releases. That argument failed, and the appellate court affirmed.

Why did ITW decide, on appeal, not to press its argument below that the mediation qualified as a “suit” under the policies? The appellate court’s decision indicates that the relevant policies were issued to ITW’s predecessor between 1974 and 1985.

As per an August 2002 article published on the International Risk Management Institute, Inc. (IRMI) website by risk management consultant Craig Stanovich, it was only in 1986 that standardized CGL policies began defining the term “suit” to include (i) arbitration proceedings “in which such damages are claimed and to which the insured must submit or does submit with our consent;” and (ii) “any other alternative dispute resolution proceeding in which such damages are claimed and to which the insured submits with our consent.”

While the definition of “suit” in the new standardized CGL policy does not specifically mention mediation, it seems clear that mediation would qualify as an “alternative dispute resolution proceeding.” Importantly, however, the new definition of “suit” obligates the insured to obtain the insurer’s consent to submit to an ADR proceeding before the insurer becomes obligated to defend the proceeding. Accordingly, assuming a mediation qualifies as a “suit” under the policy, an insured would first need to obtain the insurer’s consent to participate in pre-litigation mediation before the insurer would be obligated to cover mediation costs.

At any rate, given that ITW made its insurers aware of the mediation, and they appeared to have consented (or at least not objected), ITW might have prevailed under the newer definition of “suit” that imposes a duty to fund the costs of an “alternative dispute resolution proceeding” to which the insurer consents.

The importance of obtaining the insurer’s consent to ADR is illustrated by a recent California federal court decision. See Harper Constr. Co., Inc. v. Nat’l Union Fire Ins. Co., 377 F. Supp. 3d 1134 (S.D. Cal. 2019). In Harper, the court held that even if an insured’s interaction with the federal government in a construction dispute under the Contract Disputes Act constituted a form a type of ADR proceeding under the new CGL policy, the duty to defend was not triggered because the insurer had never consented to the proceeding.

No CGL Coverage for Building Contractor’s Shoddy Workmanship Causing Damage to the Work Itself

Richard Wolf | Claims Journal | December 6, 2016

In a decision filed November 18, 2016, Arkansas U. S. district judge Susan Webber Wright, the same jurist who in 1998 handed a defeat to Paula Jones in her sexual harassment lawsuit against then President Bill Clinton, dealt this time with a more tame but still important question: Whether a CGL policy issued to a building general contractor covers its liability for defective workmanship causing property damage confined to the contractor’s own work product.

The new decision is titled Auto-Owner’s Insurance Company v. Hambuchen Construction, Inc., and is reported at 2016 U.S. Dist. LEXIS 160364. It answered the question posed in the negative and stands for the proposition that CGL policies insuring a contractor’s liability for property damage caused by an “occurrence”- defined in the policies as an accident – do not cover a contractor’s liability for property damage caused by defective workmanship alone, resulting in injury only to the work product itself. However, the court held, the insurer may still be obligated to indemnify the insured for collateral damage to other property.

Faced with a summary judgment motion challenging coverage by the insurer, Auto-Owner’s Insurance Company, which had issued a CGL policy to Hambuchen Construction, Inc., a contractor hired separately by the Pierce and Lessmann families to build a new residence for each of them, Hambuchen conceded that damage only to its own work product is not an “occurrence” and therefore not covered. Hambuchen argued, however, that the Pierces and the Lessmanns were making claims against Hambuchen for collateral damage to property other than Hambuchen’s work product itself.

The problem for Hambuchen was that the construction project for each of the two families was to build an entire home, so at least regarding the Pierce project, all of the improvements formed part of the work product of Hambuchen, a fact central to the court’s decision. The Pierces’ construction project included construction by Hambuchen of multiple decks on the exterior of the home, the portions of the structure that failed. Thus, in a lawsuit brought by the Pierces against Hambuchen, the Pierces alleged that two years after they moved into their new home, water began pooling on the back deck, water leaks began appearing at various places inside the home, and the basement flooded. Accordingly, the Pierces sought damages for defective workmanship only to Hambuchen ‘s work product, which did not qualify as property damage caused by an “occurrence.”

As for the Lessmanns, following completion of their new home by Hambuchen, they complained that the foundation was unstable and presented a list of other claimed damages resulting from the shifting foundation, including damage to sheet rock and sod. The court said that, although damage to sod “might qualify as collateral damage to other property,” damaged sheet rock resulting from a shifting foundation was “more likely properly classified as damage to the [insured’s] ‘work product’ itself.”

The court, in granting the summary judgment motion, conducted a three part analysis for evaluating coverage under the CGL policy issued to Hambuchen. First, it examined the facts of insured’s third party claims to determine whether the policy’s insuring agreement makes an initial grant of insurance covering them. Next, the court examined the policy’s exclusions to see whether any of them precluded coverage of the two homeowners’ claims against Hambuchen. Finally, the court looked to see whether any exception to an applicable exclusion reinstated coverage for the claims against Hambuchen.

Turning first to the policy’s insuring agreement, the court applied Arkansas law to determine whether the alleged losses resulted from an “occurrence,” defined by the policy as an “accident.” The Arkansas Supreme Court has held in this context that the term “accident” means “an event that takes place without one’s foresight or expectation – an event that proceeds from an unknown cause, or an unusual effect of a known cause and therefore not expected.”

Auto-Owners, the builder’s insurer, argued that its CGL policy provided no possible coverage for the homeowners’ lawsuits, because their claims were that the property damage at issue resulted from defective workmanship, not an unexpected event, and therefore not an “occurrence.” Instead of addressing the insurer’s argument directly, however, the court relied upon the decision Essex Ins. Co. v. Holder (2008) 370 Ark. 465, 540 in which the court held that when faulty workmanship results in damage to the insured’s work product, there is no coverage for that property damage, but the insurer may still be obligated to reimburse the insured for collateral damage to other property, not part of the work product itself. The Holder decision, therefore, did not address the defined meaning of the term “occurrence” set forth in the CGL policy. Instead, it evaluated the type of property damaged as the basis for deciding whether the damage was caused by an “accident.” It held that “defective workmanship standing alone – resulting in damages only to the work product itself – is not an occurrence. . .” (Holder, 370 Ark., p. 540.)

In this respect the decision parted company with other cases’ analyses, keying into the coverage element of “property damage” itself, rather than the nature of the occurrence. Under such analyses, “In general there is no coverage for the cost of removing and replacing defective work or material where the only property ‘damage’ is the defective work itself and no damage has occurred to other property. Such costs are considered economic loss, not ‘physical injury’ to the property.” (California Practice Guide, Insurance Litigation, §7:1426.)

Ironically, as set forth in a footnote in the subject decision, the Auto-Owners policy issued in 2008 preceded the effective date of an Arkansas statute providing that CGL policies sold in Arkansas must define the policy term “occurrence” to include property damage resulting from faulty workmanship.

Absent an exclusion, however, collateral damage to other property nearby was covered by the policy.

The court then proceeded to discuss the coverage exclusions of the policy, since Auto-Owners asserted that, even assuming that coverage was possible under the insuring agreement qualifying as “property damage” caused by “an occurrence”, there still was no coverage. The first exclusion considered was entitled “Damage to Your Work,” which excepted from coverage loss due to property damage to the contractor’s work arising out of it or any part of it and included in the products-completed operations hazard.”

In connection with this exclusion, Hambuchen made two arguments. First it contended that the insurer had failed to present evidence that all of the damages alleged in the owners’ lawsuits, especially the consequential or resultant damage beyond the alleged effective workmanship, fell under the policy’s definition of “your work.” The court examined the definition of “your work” as applied to the homeowners’ claims, and the court noted that the underlying lawsuits, with the possible exception of the cost of sod replacement claimed by the Lessmanns, the homeowner plaintiffs’ claims sought relief for damage to the completed homes, which certainly met the policy’s definition of “your work”, since they were building the homes from scratch. Furthermore, the court noted, “the damage to your work exclusion unambiguously encompassed property damage arising out of Hambuchen’s work, or a part of it. Accordingly the court found that the insurer had carried its burden to show that the property damage claim in the underlying lawsuits fell under the “Damages to your Work” exclusion.

The second Hambuchen argument regarding the “Damages to your Work” exclusion was that the “products-completed operations hazard” operated as an exception to the “your work” exclusion. Hambuchen contended that a products-completed operations hazard provision in a CGL policy is invariably an exception to the business risk exclusions such as “your work” exclusions. But the court rejected this view finding that risk insured by a products hazard and completed operations provision work, once completed and relinquished, will cause damage to property other than to the product or completed work itself. “Here,” said the court, ” the Pierces and Lessmanns seek relief for damage to the product or completed work [of Hambuchen] itself.” Accordingly, the court held that the “Damage to your Work” exclusion precluded coverage for all property damage claimed in the homeowners’ lawsuits, including property damage that comes under the policy’s “products- completed operations hazard” definition.

Because the court found no possibility that the damages alleged in the underlying cases fell within the policy’s coverage, Auto-Owners had no duty to defend or indemnify Hambuchen against the Pierces’ and Lessmanns’ lawsuits.

Finally, as if there were any life left in the contentions of Hambuchen, the Pierces and the Lessmanns (who were themselves allied with Hambuchen as defendants in the coverage litigation) the court examined the defense of late notice to the CGL insurer by Hambuchen of the Lessmanns lawsuit, a condition of coverage strictly enforced in Arkansas. Here the Lessmanns filed suit against Hambuchen in May, 2009, and Auto-Owners learned about the lawsuit six years later, in August, 20015. Since timely notice was as condition proceeding to coverage, the Lessmann lawsuit was outside of coverage for that reason, too.

Based on all the reasons given by the court, but not limiting itself to the individual defenses noted above, the court granted summary judgment in favor of Auto-Owners Insurance Company and against Hambuchen, the Pierces and the Lessmanns.

What Constitutes an “Occurrence” in your CGL Policy?

Matthew M. Brady | Pillsbury Winthrop Shaw Pittman LLP | December 5, 2014

In Cincinnati Ins. Co. v. AMSCO Windows, No. 13-4155, 2014 WL 6679589, at *3 (10th Cir. Nov. 26, 2014), the United States Court of Appeals, Tenth Circuit, held that construction defects brought against a window manufacturer (“AMSCO”) were “occurrences” as defined under the manufacturer’s Commercial General Liability (“CGL”) policies and, therefore, those CGL policies provided coverage for those claims.

In our experience, when courts follow the minority and find that manufacturing or construction defects cannot be an occurrence under a CGL policy, they often rotely apply what they see as precedent, instead of carefully analyzing the policy language and the facts. Here, both the district court and the Tenth Circuit give us a refreshing and thoughtful analysis into this issue. Read about it after the jump.

AMSCO maintained insurance coverage from Cincinnati Insurance Company (“Cincinnati”) under a series of renewable CGL policies (the “Policies”) from 2002 through 2007. Those Policies obligated Cincinnati to:

pay those sums that the insured becomes legally obligated to pay as damages because of “bodily injury” or “property damage” to which this insurance applies. We will have the right and duty to defend any “suit” seeking those damages…. This insurance applies to “bodily injury” and “property damage” only if … [t]he “bodily injury” or “property damage” is caused by an “occurrence” that takes place in the “coverage territory.

In 2010, various Nevada homeowners brought actions against the contractors who built their homes, alleging that defective window products and improper installation caused property damage. The contractors asserted claims against the company who sold AMSCO’s windows and that company in turn brought claims against AMSCO.  Cincinnati refused to defend AMSCO and instead sought a declaration from the district court that it had no duty to defend or indemnify AMSCO against the homeowner claims because, under Utah law, the property damage alleged did not implicate an “occurrence” covered by the Policies. The district court disagreed with Cincinnati and held the insurer owed a duty to defend under the Policies.

The U.S. Court of Appeals affirmed. In reaching this conclusion, the Court interpreted the plain language of the Policies and applied well settled Utah state law regarding what constitutes an “occurrence.” Looking at the plain language of the Policies, the Court highlighted that “occurrence” was defined as:

an accident, including continuous or repeated exposure to substantially the same general harmful conditions.

Cincinnati argued that in claims involving manufacturing defects in windows, there are no circumstances where any resultant damage to the surrounding areas could ever be deemed an “occurrence.” This argument was based on the premise that the resulting damage was “foreseeable” to AMSCO and therefore could not be considered an “accident” within the definition of “occurrence.”

The Court disagreed and clarified that the test for determining whether an event was an “occurrence” under a CGL policy is not whether the result was “foreseeable,” but rather whether it was “intended” or “expected.” In fact, the Utah Supreme Court (in N.M. on behalf of Caleb v. Daniel E.) explained two limited situations where damage to property would be “non-accidental” and therefore not an “occurrence:”

First, harm or damage is not accidental if it is the result of actual design or intended by the insured. Second, harm or damage is not accidental if it is the natural and probable consequence of the insured’s act or should have been expected by the insured. The first category presents a factual question as to what the insured intended. The second category generally presents a legal question as to what the average individual would expect to happen under the circumstances.

These circumstances did not apply. Cincinnati never alleged that the homeowners’ damage was intended or expected by AMSCO. Instead, Cincinnati argued that the damage was the “natural and probable result of the defective manufacture of the windows.” The Court held this to be a foreseeability argument with no bearing on whether the damage alleged was an “occurrence” under the Policies. Cincinnati’s failure to demonstrate that AMSCO actually expected or intended for the damage to result lead to the Court affirming the district court’s holding that Cincinnati had a duty to defend AMSCO.

This decision serves as a reminder to contractors and suppliers alike to assess their respective insurance coverage and confirm what “occurrences” are covered therein.

via What constitutes an “occurrence” in your CGL policy? – Lexology.

More “Texas Justice” For Policyholder On Contractual Liability Exclusion

Nathan Lander | Risk and Recovery: Legal Insights for the Insured | November 4, 2014

On October 29, the Fifth Circuit reversed itself for the second time this year in a case involving the interpretation of a contractual liability exclusion in a CGL policy.  This recent decision by the Fifth Circuit in Crownover v. Mid-Continent Casualty Co., coupled with decisions from the Texas Supreme Court and Fifth Circuit earlier this year in Ewing Constr. Co. v. Amerisure Ins. Co., is of major significance to the construction industry in Texas.  These decisions ensure that the valuable protection that contractors, builders, and their customers depend on from CGL policies is not swallowed up by an overly broad interpretation of a standard exclusion.

Many CGL policies exclude damages “for which the insured is obligated to pay by reason of the assumption of liability in a contract or agreement.”  This standard exclusion has a carve-out, however, for liability “[t]hat the insured would have in the absence of the contract or agreement.”

In most jurisdictions, courts have construed this exclusion as limiting coverage only when the insured has agreed to assume the liability of a third party.  This is also how the average policyholder would generally understand the exclusion.

Earlier this year, however, a pair of Texas federal courts interpreted the exclusion in a much different and broader manner.  In both Ewing and Crownover, the district court held that the exclusion applies anytime “an insured has entered into a contract and, by doing so, has assumed liability for its own performance under the contract.”  So if the contract promises that the contractor will perform work in a certain manner, and the contractor is sued for breaching that warranty, the claim is excluded.  The Fifth Circuit initially affirmed each of these decisions before agreeing in Ewing to certify the proper interpretation of the exclusion to the Texas Supreme Court.

If allowed to stand, these decisions would have been devastating to the construction industry in Texas.  In virtually all construction contracts, the builder or contractor agrees to perform its work in a good and workmanlike manner (or other similar promise).  Interpreting the contractual liability exclusion as barring coverage whenever such a promise is made would have left Texas builders and contractors with little coverage at all.

And the harm from the decisions would not have ended there.  Many contractors do not have the financial resources to pay for damages caused by construction mistakes.  They, and in turn the businesses and homeowners who utilize their services, rely on the availability of insurance to cover mistakes that are made.

Fortunately, the Texas Supreme Court said “not so fast” to the strained and commercially unreasonable interpretation of the exclusion reached by the federal courts.  It held that the exclusion can apply only when a policyholder assumes a liability “that exceeds the liability it would have under general law.”

Contractors are under a common law duty to perform their contracts with skill and care. Thus, the Texas Supreme Court concluded, “a general contractor who agrees to perform its construction work in a good and workmanlike manner, without more, does not enlarge its duty to exercise ordinary care in fulfilling its contract, thus it does not ‘assume liability’ for damages arising out of its defective work so as to trigger the Contractual Liability Exclusion.”

After the Texas Supreme Court issued its decision in Ewing, the Fifth Circuit reversed its earlier decision in that case and held that the policyholder’s claim was not barred by the contractual liability exclusion.

Now, the Fifth Circuit has done the same in Crownover.  Reversing its earlier decision, the Court began by explaining that in Texas, as elsewhere, exclusions must be narrowly construed against the insurer.  The saying “everything is bigger in Texas” does not apply to exclusions.

Applying this well-settled rule for interpreting exclusions, and the Texas Supreme Court’s guidance in Ewing, the Fifth Circuit found the exclusion did not apply to claims against the insured in Crownover for breaching a “duty to repair” warranty in a construction contract.  Under the general law, the policyholder already had a duty to repair work that was not performed in a good and workmanlike manner.  Promising to do so in the contract, thus, did not in any way enlarge the insured’s liability.

Insurers that issue CGL policies to contractors promise to cover them for losses caused by mistakes made in the construction process.  These contractors depend on this liability protection, as do consumers who enlist their services in construction projects.  The fact that a contractor promises when hired to do a good job should not provide a get out of jail free card to its insurer if a construction mistake is later made.  Now that the Crownhover decision has been reversed, along with the Ewing decision, “Texas justice” has been restored on this issue.

via More “Texas Justice” For Policyholder On Contractual Liability Exclusion | Risk and Recovery: Legal Insights for the Insured.

Mind the Details: Make Sure your WRAP Coverage is Done Right

James Vorhis  | Litigation Advocates | October 10, 2014

A client recently asked for advice about insuring their development project with a wrap insurance policy.  As we talked through the pros and cons, I was reminded of the intricacies of wrap insurance products.  Undoubtedly, wrap insurance is a critical risk mitigation tool for many developers, owners, and general contractors of construction projects.  These policies, which are designed to provide coverage to multiple parties performing work on a project, allow parties to control costs, more easily coordinate defense efforts in litigation, and reduce the infighting that complicates so many construction defect lawsuits.

But these policies also present unique and tricky coverage issues.  The language in wrap policies is not uniform, and certain coverage provisions within the policies, such as the enrollment and notice requirements, can vary significantly.  Because of these variations, it is absolutely critical to diligently review your policy.  One of the most common coverage problems occurs when a party seeks coverage for a construction defect lawsuit under a CGL policy with a wrap exclusion.  If a wrap policy was obtained for the project, insurers will often deny coverage based on that exclusion whether it is merited or not.  But like the wrap policies themselves, the language and scope of wrap exclusions can vary greatly from insurer to insurer.  Two cases dealing with these wrap exclusions illustrate that seemingly minor variations in language can make a huge difference in the scope of coverage.

In D.R. Horton Los Angeles Holding Co., Inc. v. American Safety Indemnity Co., 2012 U.S. Dist. LEXIS 1881 (Jan. 5. 2012), a wrap insurance policy was obtained by the plaintiff to cover the work it performed on the project.  One of plaintiff’s subcontractors separately purchased a CGL policy and named plaintiff as an additional insured.  When the plaintiff was later named as a defendant in a construction defect lawsuit related to the work of the subcontractor, plaintiff sought coverage under the CGL policy.  The carrier denied coverage based on a wrap exclusion, and a coverage lawsuit ensued.  On summary judgment, the Court ruled against the carrier, and held that the wrap exclusion, which stated, “This insurance does not apply to any work insured under a consolidated (Wrap up) Insurance Program” did not preclude coverage.  Because the wrap policy covered the work of the plaintiff, and not the subcontractor under whose CGL policy the plaintiff sought coverage, the wrap exclusion did not apply to bar coverage.

Contrast that result with A.W. Interiors, Inc. v. The Travelers Indemnity Co., 2014 U.S. Dist. LEXIS 71065 (D. Col. May 23, 2014).  There, a wrap policy was purchased to cover the work of the general contractor.  The plaintiff subcontractor separately purchased a CGL policy.  After a construction defect lawsuit was filed, coverage was denied by the CGL insurer based on the presence of a wrap exclusion.  This time, the Court granted summary judgment for the carrier because the wrap exclusion barred coverage for “operations performed by you or on your behalf on or from all premises covered under a contractor controlled insurance program or owner controlled insurance program, ‘wrap up’ or other similar insurance program.”  Because this exclusion focused on work performed at any premises for which a wrap policy was in effect, there was no coverage for the subcontractor under the CGL policy for work performed at that premises.

The lesson of these cases is that Insureds who do not understand their policies correctly can easily take themselves out of coverage or find themselves in coverage disputes.  While larger general contractors or developers may be able to absorb the expense of defending a construction defect lawsuit, many smaller subcontractors may literally be forced out of business by a simple misstep.  Wrap policies are important and useful risk mitigation tools, and can cohesively coordinate with CGL coverage.  Nossaman attorneys can assist in critical policy review and help ensure adequate protection is in place.

via Mind the Details: Make Sure your WRAP Coverage is Done Right | Litigation Advocates.