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.

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.

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.

 

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.