Is Faulty Workmanship an “Occurrence” Under a CGL Policy?

Larry P. Schiffer | Squire Patton Boggs | September 16, 2019

Manufacturers often face multiple lawsuits when their products fail to perform as expected. Sometimes, the cause of the product’s failure is the faulty workmanship of a component manufacturer. When that is the case, the product manufacturer will seek damages from the component manufacturer for the underlying product defect claims. The component manufacturer will then turn to its insurance carriers to cover it for the dispute with the product manufacturer. In a recent case, the Third Circuit Court of Appeals addressed claims by a window component manufacturer against its insurance carriers after the insurance carriers disclaimed coverage for a settlement between the component manufacturer and the product manufacturer.

In Sapa Extrusions, Inc. v. Liberty Mutual Insurance Co., No. 18-2206 (3rd Cir. Sep. 13, 2019), the district court granted summary judgment to the insurance carriers, finding that the product defect claims were not covered under the various CGL policies. The circuit court affirmed in part and vacated in part. The court held that “recovery turns on the language of the specific insurance policies at issue” under Pennsylvania law.

The court first discussed how Pennsylvania law required the strict application of the “four-corners” rule and that if the court determines that there is no duty to defend, then there is no duty to indemnify. The court also discussed in detail how Pennsylvania law requires courts to interpret insurance policies. Here, the court focused on the definition of “occurrence” found in the 28 applicable insurance policies. The court organized the policies into three groups: (a) the “Accident Definition”; (b) the “Expected/Intended Definition”; and (c) the “Injurious Exposure Definition.” The details of this analysis are in the opinion. The basis for the division was the differences in the occurrence wording.

The first definition, which covered 19 of the policies, focused on the term “occurrence” being defined as “an accident, including continuous or repeated exposure to substantially the same general harmful conditions.” Under Pennsylvania law, this definition required fortuity and “faulty workmanship” did not come within that definition. Thus, held the court, the factual allegations of the product manufacturer’s complaint did not amount to an occurrence that could trigger coverage. The allegations of faulty workmanship, said the court, did not amount to an unforeseeable, fortuitous event. Thus, the court affirmed the grant of summary judgment for those 19 policies.

The court vacated the judgment and remanded the remaining 9 policies back to the district court to consider the implications of the latter two occurrence definitions. The differences in the definitions, held the court, were unique and the district court should have considered those policies separately. The court declined to interpret these 9 policies other than to say that the additional language was not mere surplusage and may be considered ambiguous under Pennsylvania law.

The court held that the rule it reemphasized in this opinion was simple: “in Pennsylvania, insurance policies must be interpreted and applied in accordance with their plain language and relevant Pennsylvania law.” The remand, said the court, was to give the district court the opportunity to give the latter two categories more consideration based on the difference in the language so as to determine if coverage is triggered.

Alabama Supreme Court Reverses Determination of Coverage for Faulty Workmanship

Tred R. Eyerly | Insurance Law Hawaii | July 1, 2019

    Although the lower court held that the insured contractor was entitled to coverage and indemnification under a CGL policy despite claims based upon faulty workmanship, the Alabama Supreme Court reversed. Nationwide Mut. Fire Ins. Co. v. David Group, Inc., 2019 Ala. LEXIS 52 (Ala. May 24, 2019).

    The David Group (TDG) specialized in custom-built homes. The Shahs purchased a newly built home from TDG in October 2006. After moving in, the Shahs experienced problems with their new home that TDG was unable to correct. In February 2008, the Shahs sued TDG. The complaint alleged that serious defects existed, resulting in health and safety issues, building code violations, poor workmanship, misuse of construction materials, and disregard of property installation methods. The case went to arbitration and an award of $12,725 was issued to the Shahs.

    Nationwide was TDG’s CGL carrier and initially defended TDG. After Nationwide withdrew its defense, TDG sued seeking a judgment declaring that Nationwide was obligated to defend and indemnify. The trial court denied Nationwide’s motion for summary judgment and issued a partial summary judgment in favor of TDG on the issue of coverage. Nationwide appealed. 

    Nationwide argued that the “defects” alleged by the Shahs and identified by the arbitrator were the result of faulty work performed by TDG. The defects were not “occurrences” under the policy. The court had repeatedly held that faulty workmanship itself was not an occurrence under a CGL policy. Faulty work could lead to an occurrence and trigger coverage under a CGL policy if the work subjected personal property or other parts of the damaged structure to continuous or repeated exposure to some other general harmful condition, and, as a result, personal property or other parts of the structure were damaged. The complaint alleged faulty workmanship, but did not allege additional or resulting damage to their house or to their personal property as a result of the faulty workmanship. 

    Under these circumstances, there was nothing demonstrating that there was property damage or personal injury resulting from an occurrence that triggered coverage under a CGL policy. The trial court’s judgment was reversed.

Builder’s Risk Coverage – Construction Defects

Brian Hearst | Construction Executive | June 15, 2019

COVERAGE FOR LOSS ENSUING FROM FAULTY WORKMANSHIP

Part I tackled the standard builder’s risk exclusion that applies to losses arising from faulty materials or workmanship. Traditionally, carriers do not have an appetite for covering a contractor’s failure to perform their work properly. There is one exception, which is coverage is available for ensuing loss – or the resulting damage to other property from faulty workmanship. 

If the excluded cause of loss (i.e., faulty workmanship) causes resultant damage, the builder’s risk policy will cover the damages to the extent the peril of fire is covered. The ensuing loss exception limits the faulty work exclusion to costs directly related to repairing or replacing the faulty work. 

For example, suppose faulty wiring work leads to a fire which damages part of a structure under construction. The faulty workmanship exclusion would apply to the actual faulty wiring work, but if fire is a covered peril under the policy (this is nearly always the case), the policy would respond to the structure’s fire damage.

Coverage for ensuing loss is either stated as an exception to the faulty workmanship exclusion or by limiting the faulty workmanship exclusion language. Working with a broker to assure a properly written ensuing loss provision is critical.

LEG – LONDON ENGINEERING GROUP EXCLUSIONS

The London Engineering Group serves as a consulting body to various insurance and reinsurance companies, as well as various Lloyds syndicates providing, among others, construction insurance. LEG published three variations of defects exclusions, known as LEG 1, LEG 2 and LEG3, with increasing levels of coverage for defective construction. While initially available through London markets, these endorsements, or similar “cost of making good” endorsements are increasingly available from domestic insurers. 

  • LEG 1. Broad Exclusion serves as a baseline endorsement broadly excluding “loss or damage due to defects of material workmanship, design, plan or specification.” This can also serve to exclude ensuing loss, as mentioned above. 
  • LEG 2. Compromise Exclusion provides coverage for costs to remedy ensuing loss to covered property and costs to remedy damage to property supported by defective property. LEG 2 excludes the costs incurred to remedy a defect immediately before the damage occurred. 
  • LEG 3. Narrow Exclusion is most broad by only limiting the exclusion to costs incurred to improve original materials, workmanship, design, plan or specification. Thus, in addition to the cover provided under LEG 2, LEG 3 will respond to the costs to remedy damage to defective property, costs to put right defective “part, portion or item,” and loss, damage or expenses incurred to access defective parts (rip and tear). 

Under both LEG 2 and LEG 3, an ensuing loss exception is no longer necessary. The policy states that the entire loss will be covered less a specified amount. The loss payable is the total amount of the covered loss minus what it would have cost to replace the faulty work prior to the loss (LEG 2) or the cost to improve the original materials, workmanship or design (LEG 3). 

Any claim under LEG 2 or LEG 3 will only respond if the project suffers damage or destruction. Rectification of a known defect, part or system that has not manifested damage is not an insured loss.

LEG – LOSS EXAMPLE

An HVAC unit placed between floors of a partially completed five story building is being commissioned. A fire occurs and causes $3 million in damage to the HVAC unit and parts of the building surrounding the unit. It is determined insufficient electrical wires were installed. To access and replace the fire-damaged HVAC unit, $400,000 of undamaged property will need to be ripped out to replace the damaged unit. Engineers determine the wiring requires an upgrade at an additional cost of $65,000. A $75,000 policy deductible will apply. LEG response:

  • LEG 1 – Loss is not covered;
  • LEG 2 – Pays $3,000,000 damage to covered property less $65,000 the before-loss cost to replace the inadequate wiring less $75,000 deductible. Final Claim Value is: $2,860,000; or
  • LEG 3 – Pays $3,000,000 damage to covered property plus $400,000 rip and tear costs less $75,000 deductible. Final Claim Value is: $3,325,000.

The language in the builder’s risk policy matters. If a construction loss occurs, it can determine the company’s financial future. An insurance broker can help review, construct and understand policies, ensuring critical loss is a covered matter. 

No Coverage for Faulty Workmanship Based Upon Exclusion for Contractual Assumption of Liability

Tred R. Eyerly | Insurance Law Hawaii | June 5, 2019

    The Supreme Court for West Virginia determined the policy’s contractual assumption exclusion barred coverage for the general contractor based upon claims of faulty workmanship. J.A. St & Assocs. v. Bitco Gen. Ins. Corp., 2019 W. Va. LEXIS 205 (May 1, 2019).

    J.A. Street & Associates, Inc. entered a contract with the developer, Thundering Herd Development, L.L.C., to build a commercial shopping center on seventy-eight acres of land. Street agreed to oversee the site preparation for the development and the construction of many of the buildings. Thundering Herd retained an engineering firm, S&ME, Inc. to do geotechnical exploration and to provide advice regarding land preparation for the shopping center. Thundering Heard also entered an agreement with the Target Corporation to construct a store on a pad to be prepared at the shopping center. 

    Street hired subcontractors to prepare the site by grading the land and installing fill material. A slope was constructed at the rear of the proposed Target site, but it failed, causing a landslide, damage to the pad, and damage to adjacent property owned by a third party. Thundering Heard incurred $721,875 in additional costs to repair this slope, reconstruct the Target site, and compensate the neighbor for the damage to the adjacent property. 

    Another problem arose with the foundation of Shops A when the walls began cracking due to settlement. Remedial action included the installation of pilings under the foundation and grout injection under the slab, as well as repairs of damage to the building. 

    Thundering Heard filed suit against S&ME. The complaint was later amended to add Street as an additional defendant based upon Street’s failure to comply with the construction contracts. resulting in harm to the shopping center due to the landslides.

    Street was insured under several CGL, umbrella and excess policies. Bitco General Insurance Corporation provided a defense to Street. Bitco also filed a declaratory judgment action asking the court to rule that it had no duty to defend or indemnify. Street filed a third-party complaint against all of its insurers who issued CGL, umbrella or excess policies during the period of construction. 

    In ruling on six different summary judgment motions, the circuit court found there was an “occurrence” resulting in “property damage” under the insurers’ policies. However, the contractual liability exclusion precluded coverage under each policy. 

    On appeal, the court found that the installation of fill material, the grading of the land, the construction of the slopes and other site preparation work constituted faulty workmanship and use of materials. Therefore, correction of the site preparation work was not covered under Bitco’s CGL policy. But damages for other injury to property that resulted from the alleged faulty workmanship, such as cracked walls or floors in structures caused by the setting of improper fill material, was covered “property damage.”

    But Bitco’s policies excluded “‘bodily injury’ or ‘property damage’ for which the insured is obligated to pay damages by reason of the assumption of liability in a contract or agreement.” Thundering Herd’s underlying complaint sought to have Street to pay damages by reason of Street’s alleged assumption of liability in contract claims for the recovery of money. Such a claim was not covered by the policies. 

      In addition to the exclusion in Bitco’s policies, the umbrella and excess policies had similar exclusions for the contractual assumption of liability. Therefore, none of the insurers owed a defense to Bitco and the circuit court’s six orders granting summary judgment to the insurers were affirmed. 

PA Superior Court Provides Clarification on Definition of CGL “Occurrence” When Property Damage Is Caused by Faulty Building Conditions

Konrad Krebs and Anthony Miscioscia | White and Williams | July 25, 2019

The standard for an “occurrence” under a commercial general liability (CGL) insurance policy has been addressed on several occasions by Pennsylvania courts when an insured has allegedly performed faulty workmanship on a construction project. Specifically, in Pennsylvania, a claim for damages arising from an insured’s performance of faulty workmanship pursuant to a construction contract, where the only damage is to property supplied by the insured or worked on by the insured, does not constitute an “occurrence” under the standard commercial general liability insurance policy definition. But what about the circumstance when the insured has failed to perform contractual duties where the claim is for property damage to property not supplied by the insured or unrelated to the service the insured contracted to provide? The Pennsylvania Superior Court recently addressed this question in Pennsylvania Manufacturers Indemnity Co. v. Pottstown Industrial Complex LP, No. 3489 EDA 2018, 2019 Pa. Super. 223, 2019 Pa. Super. LEXIS 729* (Pa. Super. 2019).

Pottstown Industrial Complex arose out of an underlying dispute between a landlord and a commercial tenant who had leased space to store its product inventory. The tenant alleged that the landlord was responsible under the lease for keeping the roof “in serviceable condition in repair.” Notwithstanding this responsibility, the tenant alleged that the landlord failed to properly maintain and repair the roof, resulting in leaks and flooding during four separate rainstorms, destroying over $700,000 in inventory. The tenant specifically alleged that the floods were caused by poor caulking of the roof, gaps and separations in the roofing membrane, undersized drain openings, and accumulated debris and clogged drains.

The insurer filed a declaratory judgment action, seeking a determination that there was no coverage under a commercial general liability policy issued to the landlord. Following a motion for judgment on the pleadings, the trial court entered an order in favor of the insurer, holding that allegations of inadequate roof repairs were claims for faulty workmanship and were not covered under Kvaerner Metals Division of Kvaerner U.S., Inc. v. Commercial Union Insurance Co., 908 A.2d 888 (Pa. 2006) and Millers Capital Insurance Co. v. Gambone Brothers Development Co., 941 A.2d 706 (Pa. Super. 2007).

In its opinion, the Superior Court reversed the decision of the trial court, holding that the tenant had alleged a covered “occurrence” under the commercial general liability policy.[1] The Superior Court noted that Kvaerner and Gambone only precluded the finding of an “occurrence” where a claim is for damage to property supplied by the insured, where the only property damage is the product or property that the insured supplied or on which it worked, or where the damages sought are for the insured’s failure to deliver the product or perform the service it contracted to provide. The Superior Court distinguished Pottstown Industrial Complex from Kvaerner and Gambone on the grounds that those cases only alleged damage to the property that the insured had worked on or supplied, while the Pottstown Industrial Complex underlying plaintiffs sought to recover for damage to their own property, stored on the ground of the insured’s facility, rather than damage to the insured’s faulty roof. The Superior Court held that this interpretation of the term “occurrence” was consistent with Kvaerner’s rationale that the term “occurrence” was not to be construed to “convert [a commercial and general liability policy] into a performance bond,” but rather, to provide insurance for the risk of “damage the insured causes to another person’s property.”