Defective construction materials have given rise to many complex claims in
recent years. Consider the Sarabond claims, asbestos, and PVC plumbing cases.
More recently, exterior insulation finish system (EFIS) and mold claims have
confounded both insured contractors, and their insurers alike. A myriad of coverage
issues—trigger, existence of property damage, allocation—all swirl around these
claims. However, even the most complex of construction defect claims must be
analyzed according to the traditional elements of a claim: legal obligation,
occurrence, property damage, insured's work exclusion, impaired property exclusion,
etc.
Defective work claims are made even more complex when it is considered that
as to each of these elements, there is a considerable disagreement between insurers
and insureds. This makes every defective workmanship claim, even one that appears
straightforward, hotly contested. The result is that relatively simple claims
continue to cause confusion, resulting in inconsistent opinions among courts,
even those within the same jurisdiction. Particularly, confusion over basic
issues involving occurrences arising out of the performance of defective work
continue to render even the most straightforward claim complex.
Hartrick v Great American Lloyds
An example of a recent case resulting in confusion is Hartrick v Great American Lloyds Ins. Co., 2000
WL 1159603 (Tex App—Houston [1st Dist] Aug. 17, 2000). In that case, the insured
homebuilder, Claremont, built a home in 1991 and sold it to its original owners,
who in turn sold it to Hartrick and Cathey (collectively, "Hartrick") in 1993.
After discovering structural problems and defects in the house's poured slab
foundation, Hartrick sued Claremont, alleging causes of action for negligence,
violation of the Texas Deceptive Trade Practices Act (DTPA), and breach of implied
warranties of good and workmanlike construction and suitability for habitation.
Great American, the insurer, defended Claremont pursuant to a commercial general
liability (CGL) insurance policy issued on the 1993 edition Insurance Services
Office, Inc. (ISO), form. The jury answered "No" to the negligence and DTPA
claims, but "Yes" on the breach of warranty claims, awarding Hartrick $145,000
in damages.
Hartrick obtained a turnover order under Texas procedure requiring Claremont
to assign its rights to its insurance policy to Hartrick. Great American denied
coverage for the defective workmanship verdict based on the definitions of "property
damage" and "occurrence" in its policy. The trial court in the declaratory judgment
action granted Great American's motion for summary judgment and denied Hartrick's
motion. Hartrick appealed.
A "Straightforward" Completed Operations Claim?
In any defective workmanship case the precise nature of the property damage
is critical. In that connection, Hartrick claimed that the foundation of the
house had failed completely because Claremont did not properly prepare the soil
or clear the land. The foundation was of inadequate compressive strength, was
not sufficiently thick, and had no supporting piers. As a result, there was
widespread damage to the home. A key fact, which is lost in the court's opinion,
is that the clearing of the lot and the foundation work—the work that was claimed
to be faulty—was performed by Claremont's subcontractor.
It is difficult not to label this as a "garden variety" completed operations
claim for which a general contractor such as Claremont should have coverage.
This is because of the exception to the "your work" exclusion in Exclusion (l)
of the standard ISO policy. That exclusion states that the insurance does not
apply to property damage arising out of the insured's work or any part of it
and included in the products-completed operations hazard, unless the damaged
work or the work out of which the damage arises was performed on the insured's
behalf by a subcontractor.1 A straightforward
application of the exception to Exclusion (l) should have led to the conclusion
that Hartrick was entitled to coverage for the property damage to the home arising
out of the foundation subcontractor's work. Inexplicably, the Hartrick opinion makes no mention of the exception
to the insured's work exclusion for work performed for the insured by a subcontractor.
No Occurrence?
The court of appeals in Hartrick never reached
the exception to Exclusion (l); rather, it decided the case on the basis of
the definition of "occurrence" in the policy. In other words, it decided that
the insured contractor was not entitled to coverage since there was no occurrence.
In reaching this conclusion, the court borrowed from Mid-Century Ins. Co. v Lindsey, 997 SW2d 953 (Tex 1999), a case involving
injuries to the occupant of a car after a child discharged a shotgun stored
in a gun rack in an adjacent pickup truck. The issue there was whether the discharge
constituted an "accident" for purposes of underinsured motorist benefits under
an automobile policy.
The court held that an injury is accidental if, from the viewpoint of the
insured, it is not the natural and probable consequence of the action or occurrence
which produced the injury. In other words, an injury is accidental if the injury
could not reasonably be anticipated by the insured or would not ordinarily flow
from the action or occurrence that caused the injury.
Based on this definition, the Hartrick court
concluded, "Lack of compliance with implied warranties, i.e., promises implied
as a matter of law ... are not accidental, but result from not doing what one
must do. By not doing what it had to do, Claremont could reasonably anticipate
injury to Hartrick...." The court continued that because Claremont was responsible
for the damages and could reasonably foresee them, it did not become legally
obligated to pay damages because of an accident under the terms of the policy.
Claremont was, therefore, not entitled to indemnity for the judgment entered
against it.
The court reached this decision even though the jury had specifically found
that the breach of warranty was not intentional, reckless, or knowing. The jury
instruction on that issue stated that "knowing" was defined as an "actual awareness
of the conduct constituting a failure to comply with a warranty." The jury did
not agree. Apparently, the insurer managed to convince the court that the breach
of an implied warranty is akin to a misrepresentation, so that as an intentional
tort, misrepresentation cannot constitute an occurrence.
The court relied on cases involving intentional conduct to support its holding,
including the following cases.
- Freedman v Cigna Ins. Co., 976 SW2d 776
(Tex App—Houston [1st Dist] 1998) (intentional misrepresentation)
- State Farm Lloyds v Kessler, 932 SW2d
732 (Tex App—Fort Worth 1996, writ denied)
- Houston Petroleum Co. v Highlands Ins. Co.,
830 SW2d 153 (Tex App—Houston [1st Dist] 1991) (fraudulent representations)
The court also relied on Argonaut Southwest Ins.
Co. v Maupin, 500 SW2d 633 (Tex 1973), a case involving an intentional
trespass by a contractor.
There are two problems with this analysis. First, cases interpreting whether
intentional acts constitute occurrences should not have applied to this claim
in light of the jury's failure to find intentional or knowing conduct on the
part of the insured contractor. Second, under these circumstances, the Hartrick opinion is out of step with the current
statement of Texas law on this issue in Federated Mut.
Ins. Co. v Grapevine Excavation, Inc., 197 F3d 720 (5th Cir 1999).
In that case, the U.S. Fifth Circuit Court of Appeals, applying Texas law,
noted that there are two lines of Texas cases construing the definition of "occurrence."
One line of cases, epitomized by the Argonaut v Maupin case relied on in Hartrick, involves intentional
torts that are not occurrences. The second line of cases involves damage arising
out of alleged negligent conduct that is considered occurrences under Texas
law. Based on the jury's finding that Claremont's breach of warranty was not
accompanied by intentional, reckless, or knowing conduct, the Hartrick opinion more appropriately falls within
the negligent conduct line of cases.
The Hartrick case illustrates the dangers
of relying on an occurrence analysis to determine the existence of insurance
coverage for unintended property damage arising out of an insured contractor's
performance of its contract. The unintended results of breaches of warranty
have traditionally been covered under a liability policy [Bundy
Tubing Co. v Royal Indemnity Co., 298 F2d 151 (6th Cir 1962)]. In contrast,
where a contractor intends to breach its warranty or its contract, the property
damage is not an occurrence [Bituminous Cas. Corp. v
Bartlett, 240 NW2d 310 (Minn 1976) (contractor intentionally installs
chipped and damaged bricks out of plumb, contrary to contract specifications)]. Hartrick did not involve an intentional breach
of warranty or contract.
Back to the Policy
The structure of the CGL policy itself makes it clear that unintended property
damage resulting from a contractor's performance of its contract is a covered
occurrence, unless excluded by the policy. Such exclusions in the policy include
Exclusion j.(5) (insured's operations); j.(6) (faulty workmanship), (l) (insured's
work), and (m) (impaired property). Each of these exclusions would be unnecessary
if an insured contractor's installation of defective work is a per se nonoccurrence.
In fact, many of the construction defect cases cited by the court in Hartrick actually involved the application of
exclusions, including the following.
- Houston Building Services, Inc. v General Fire
& Cas. Co., 799 SW2d 308 (Tex App—Houston [1st Dist] 1990, writ denied)
(insured's operations and faulty workmanship exclusions)
- Dorchester Development Corp. v Safeco Ins. Co.,
737 SW2d 380 (Tex App—Dallas 1987, no writ) (faulty workmanship exclusion,
including extensive discussion of an occurrence of faulty workmanship)
- Gar-Tex Construction Co. v Employers Cas. Co.,
771 SW2d 639 (Tex App—Dallas 1989, writ denied) (faulty workmanship exclusion)
- Employers Cas. Co. v Brown-McKee, 430
SW2d 21 (Tex Civ App—Tyler 1969, writ ref'd n.r.e.) (products and work performed
exclusions)
In each of these cases, the court regarded defective work giving rise to
unintended property damage as an occurrence. Curiously, the Hartrick opinion contains no citation to Mid-United Contractors, Inc. v Providence Lloyds Ins.
Co., 754 SW2d 824 (Tex App—Fort Worth 1988, writ ref'd n.r.e.), a case
in which a Texas court applied the 1973 work performed exclusion, the equivalent
to Exclusion (l) of the current CGL forms and including the subcontractor exception,
to uphold coverage for an insured for property damage arising out of the defective
workmanship of its subcontractor.
Conclusion
The CGL policy recognizes that defective workmanship, under the proper circumstances,
certainly under the facts of Hartrick, constitutes
an occurrence. It is then up to the insurer, or the court, to apply the property
damage exclusions. If the analysis stops at the definition of "occurrence,"
assuming that property damage arising out of defective construction work in
breach of a contract or warranty is naturally foreseeable, and not intended
or unexpected, many claims, including the claim addressed by the court in Hartrick, will be denied.
Certainly, some of those claims, such as those involving damage only to the
insured's own work, may nevertheless be denied based on the exclusions. On the
other hand, claims involving damage to property other than the insured's own
work or defective work by subcontractors may not be excluded. In any case, insured
contractors deserve an analysis of claims that goes beyond an overly broad application
of the definition of "occurrence" and which considers the exclusions in the
policy.