The insured sought business interruption coverage under its policy with Harleysville after a theft loss occurred. This case is Coupled Products, Inc. v. Harleysville Insurance Company, 2011 WL 3101357 (N.D.Ind.).

Coupled Products (CP) designed and manufactured component parts for the auto industry. One of CP's parts was a latch plate that the insured claimed enabled it to produce power steering hose assemblies that met its customers' requirements far more efficiently than its competitors, thus forming the basis of its competitive advantage in the marketplace. Nobel Automotive Ohio was a competitor of CP and leased space in the same building as CP. Nobel engineer Maurer stole various component parts from CP's prototype and testing lab. One week after the theft, one of CP's customers told CP that it was cancelling its contract with CP and awarding the contract for power steering assemblies to Nobel.

CP filed a loss claim with its insurer, Harleysville, alleging a theft loss and a business interruption loss. The insured said that the theft resulted in the loss of its competitive advantage and this constituted a covered business interruption loss under the terms of the policy. The insurer denied coverage, asserting that CP's business was not necessarily wholly or partially interrupted by direct physical loss or damage to covered property. CP then filed a declaratory judgment action against Harleysville.

The parties dispute whether the theft of parts from CP resulted in an interruption of business. The insurer argued that because the theft of a few fungible component parts did not interrupt CP's ability to assemble steering assembly prototypes, the business was not interrupted. The insured countered that complete interruption of its business activities is not required for coverage under the policy. Moreover, the insured said, its business was partially interrupted because the parts stolen were proprietary and the theft deprived CP of its ability to leverage its exclusive, proprietary components and processes, that is, its competitive advantage. CP stated that it could not resume its operations to a similar level of service until it had developed a new proprietary design that its competitors were unable to replicate.

The United States District Court handling this case said it was true that under the terms of the policy, business operations need not be completely suspended to trigger coverage; a partial interruption is sufficient. However, the evidence before the court did not establish that the theft caused even a partial interruption of the business. The undisputed facts before the court established that CP's usual business operations continued unabated after the theft. In fact, the president of CP testified that he had no knowledge of any interruption in the business and that the work at the plant continued unimpeded after the theft.

CP contended that its loss of a competitive advantage constituted an interruption of business sufficient to trigger policy coverage. However, CP cited no case law to support this proposition. The court noted that a survey of relevant case law does demonstrate that the necessary suspension of operations must come, not from a lack of customer demand, but from an inability to meet customer demand. In other words, if the insured is able to fully perform its operations, there is no necessary suspension simply because it does not have as much business as it once did.

The court concluded that the theft of component parts from CP did not result in a business interruption under the policy. The business was not interrupted at all; the facts showed that CP continued to perform its business to the same extent that it did before the theft. And, the loss of a competitive advantage claimed by the insured did not equal business interruption. The court ruled in favor of Harleysville.

Editor's Note: The United States District Court based its ruling in favor of the insurer on the fact that the insured did not actually suffer any business interruption; the insured continued its operations as usual after the theft. As for the insured's assertion that its loss of a competitive advantage equaled business interruption, the court said it was unaware of any precedent in any jurisdiction that supported such a claim. The court said that, to classify the loss of a competitive advantage as a business interruption would require insurers to subsidize insured victims of industrial espionage almost indefinitely—a result plainly contrary to both precedent and the reasonable expectations of the contracting parties.

Legionella Bacteria, the Pollution Exclusion, and a Spa Tub as a Structure

In this declaratory judgment action, the issue was whether the insurer had to indemnify its insured for damages claimed in an underlying wrongful death action. This case is Westport Insurance Corporation v. VN Hotel Group, 2011 WL 4804896 (U.S.D.C., Fla. ).

While Walker was a guest at a hotel owned by VN Hotel, he used the spa tub located in a courtyard located on hotel property but outside of the hotel building. The spa tub contained Legionella bacteria and due to his use of the tub, Walker contracted Legionnaires' disease and died. The widow sued VN Hotel on a wrongful death action and VN forwarded the lawsuit to its insurer, Westport . The underlying claim was settled but the insurer filed a declaratory judgment action to see if it had to indemnify its insured.

The insurer argued that it had no duty to indemnify because coverage was barred by the pollution exclusion. Westport said that Legionella bacteria constitutes a contaminant with the pollution exclusion and so, the Walker lawsuit falls within the pollution exclusion. The court said that it was not unreasonable to classify bacteria a contaminant in the abstract. However, the policy exclusion specifically requires contaminants to be “solid, liquid, gaseous, or thermal”, and Legionella bacteria are living organisms that are not readily classified as solid, liquid, gaseous, or thermal substances.

Westport also asserted there was no coverage due to the fungi or bacteria exclusion that was part of the policy. This exclusion provided that the policy did not apply to: bodily injury that would not have occurred, in whole or in part, but for the actual, alleged, or threatened inhalation of, ingestion of, contact with, exposure to, existence of, or presence of any fungi or bacteria on or within a building or structure. The court decided that the spa tub did not constitute a structure within the meaning of the policy exclusion because the use of the specific word “building” immediately followed by the word “structure” requires that structure be taken in its narrow sense. And, narrowly defined, a structure means an edifice or building of any kind. The court ruled that the fungi or bacteria exclusion did not apply.

In a curious aside, the court noted that even if the fungi or bacteria exclusion did apply, the policy contained an exception to the exclusion that provided that the exclusion did not apply to any fungi or bacteria that are, are on, or are contained in a good or product intended for bodily consumption. The court reasoned that hotel guests bathing in a hot tub consumed water because they entered the tub to satisfy a desire or want and that such consumption was bodily because the utilization in the satisfaction of wants was relating to the body. Therefore, the exception to the exclusion would provide coverage for the claim against the insured anyway.

The court decided that Westport had a duty to indemnify VN Hotel.

Editor's Note: This decision in favor of coverage for the insured is noteworthy for at least two reasons.

The United States District Court ruled that bacteria does not fit into the definition of a pollutant as it appears in the general liability policy. And, the court ruled that a spa tub, strictly defined, is not a structure. This latter finding might be of interest to insurers and insureds that consider things like outdoor swimming pools to be structures that are covered property.

Workers Comp Exclusion in Auto Policy Not Valid

The Supreme Court of Pennsylvania has issued a ruling on the validity of the workers compensation exclusion in the underinsured motorists coverage section of the auto policy. This case is Heller v. Pennsylvania League of Cities and Municipalities, 2011 WL 4953432 ( Pa. ).

Heller was severely injured in an auto accident during the course of his employment as a police officer for Sugarcreek Borough. Workers compensation covered Heller's medical expenses and two-thirds of his salary. Heller recovered the $25,000 policy limit from the tortfeasor's insurance carrier, Allstate Insurance Company, but Heller's losses and damages far exceeded the liability coverage. Accordingly, Heller notified his insurer of a potential underinsured (UIM) claim and sought UIM benefits from the Borough pursuant to a policy issued by the Pennsylvania League of Cities and Municipalities (Penn PRIME), a pooled risk insurance policy. This policy provided UIM coverage up to $100,000 per person or per accident. Penn PRIME denied the claim pursuant to a policy exclusion that states that UIM coverage does not apply to any claim by anyone eligible for workers compensation benefits that are the statutory obligation of the member insured.

Heller filed a declaratory judgment action against Penn PRIME. The trial court ruled in favor of Heller. The appeals court reversed the decision. Then, the case went before the Pennsylvania Supreme Court.

Heller argued that the policy exclusion violates the state motor vehicle financial responsibility law since that law requires that an insurer provide uninsured/underinsured motorists (UM/UIM) coverage unless rejected. Heller also claimed that the appeals court failed to consider the “made whole” doctrine since workers comp provided only a partial benefit and he needed UIM benefits to be made whole for his injuries. Penn PRIME argued that the appeals court correctly found that the exclusion is valid and enforceable since the workers comp exclusion did not conflict with any language in the financial responsibility law. Penn declared that the exclusion supports the dominant policy underlying the financial responsibility law, that is, cost containment. The insurer's position was that, in light of the express public policy allowing an insured not to provide UIM coverage, a provision for such coverage subject to an exception for employees who receive workers compensation comports with public policy. Penn also argued that any UIM benefits recovered by Heller would be subsumed by the subrogation interest of the workers comp carrier and so, Heller cannot legitimately assert that he will not be made whole.

The Supreme Court said that in resolving this issue, it had to consider whether the exclusion expressly violates the financial responsibility law or the state workers comp law. It found no clear violations and so, the court ruled that the workers comp exclusion does not expressly contradict the statutory language of either law. The court next considered the question of whether the exclusion violates public policy. The court agreed with the insurer that the dominant and overarching public policy of the financial responsibility law is one of cost containment; however, the court went on, there are limits. The cost containment objective cannot be mechanically invoked as a justification for every contractual provision that restricts coverage and purportedly lessens the cost of insurance. The broad goal of cost containment cannot alter the fact that an insured is entitled to the coverage for which he contracted and paid. In this instance, the Borough voluntarily elected to purchase UIM coverage and it paid a premium for that coverage in order to provide additional protection for its employees. In effect, Penn PRIME sold the Borough additional coverage that will not attach by virtue of an exclusion; this amounted to illusory coverage which, of course, is not permitted.

In addition to finding the coverage illusory as it applies to Borough employees, the court concluded that the workers comp exclusion in the policy violates the statutory scheme for coordination of benefits evident in the financial responsibility law. A review of the legislative history of the financial responsibility law showed a clear intent to place the burden for the payment of benefits on the tortfeasor or the UM/UIM carrier where a third party causes a work-related injury. Penn PRIME's exclusion reverses this legislative priority by impeding the workers compensation carrier's right of subrogation. The result of the exclusion is to ensure that the burden for the payment of benefits remains on the Borough and the workers comp insurer. Since this frustrates the compensatory scheme established by the legislature, the Supreme Court found that the exclusion violates public policy.

Since the court found that the workers compensation exclusion operates to render the UIM coverage illusory and runs counter to the intended compensatory scheme established by the legislature, the ruling was that the exclusion is void as against public policy. The order of the appeals court was reversed.

Editor's Note: The Pennsylvania Supreme Court used the public policy argument in reference to the financial responsibility law to void the workers comp exclusion in the UIM coverage section of the auto policy. The exclusion did not expressly contradict the statutory language of the financial responsibility law, but it did violate the intent behind that law. The court ruled that the intent of the law was to place the burden of paying for injuries on the tortfeasor or the UM/UIM carrier where a third party caused a work-related injury. The workers comp exclusion thwarted this intent by shifting the burden onto the workers comp carrier and this violated public policy.

The court said that the application of public policy concerns in determining the validity of an insurance exclusion depends on the factual circumstances present in each case. In this instance, the court found those facts.

Faulty Workmanship and the “Occurrence” Question

A judgment creditor brought an action against a contractor's commercial general liability insurer under the state's direct action statute. This was for the satisfaction of a judgment obtained in an underlying tort action for defective construction of a facility. This case is Town & Country Property, LLC v. Amerisure Insurance Company, 2011 WL 5009777 ( Ala. ). Note that this opinion has not been released for publication at the time of this writing.

Town & Country sued Amerisure alleging that the insurer was obligated to pay a $650,100 judgment entered in favor of Town & Country in a separate action against Jones-Williams Construction Company, the insured of Amerisure. Jones-Williams contracted with Town & Country to construct an auto sales and service facility in Alabama. Jones-Williams then entered into contracts with various subcontractors to construct the facility, doing none of the actual construction work itself.

After the construction was completed, and the auto dealership began its operations on the premises, Town & Country discovered various defects in the facility. Town & Country sued Jones-Williams and a verdict was returned in favor of Town & Country. Following the entry of the judgment, Amerisure indicated that it would not indemnify Jones-Williams. Town & Country filed this action against the insurer and the trial court ruled in favor of Amerisure. This appeal followed.

The Supreme Court of Alabama noted that the general liability policy has an exclusion pertaining to damage to the named insured's work and that the exclusion has an exception for work done by a subcontractor. The court also said that before the exclusion or the exception could be considered, it had to be determined if there was an occurrence. The court previously considered cases requiring it to determine whether damage alleged to be the result of faulty workmanship is covered by the CGL policy, and in each case, the decision hinged on the nature of the damage caused by the faulty workmanship.

Building on previous rulings, the court concluded 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 a structure to continuous or repeated exposure to some other general harmful condition, and as a result of that exposure, personal property or other parts of the structure are damaged. Therefore, the court affirmed the judgment of the trial court that the claims of faulty workmanship are not occurrences and are not covered to the extent that the claims are for the costs of repairing or replacing the faulty work itself. The court remanded the case to the trial court so that it may consider arguments from the parties to determine if any of the damages awarded represented compensation for damaged personal property or otherwise nondefective portions of the facility. Those damages would constitute property damage resulting from an occurrence and they would be covered under the terms of the Amerisure policy in light of the fact that all of the construction work in this case was performed by a subcontractor and would thus fall within the subcontractor exception to the exclusion.

Editor's Note: The Alabama Supreme Court declared that the position it affirmed in this ruling is shared by the majority of jurisdictions that have considered the issue. And it is true that a majority of courts have held that property damage to the defective work itself is not an occurrence that is covered by the CGL form. However, this ruling of the court seems to misread the subcontractor's exception in the damage to your work exclusion.

That exception states that the exclusion does not apply if the damaged work or the work out of which the damage arises was performed by a subcontractor. The exclusion does not mention “personal property” or “other nondefective property”. The facts showed that the subcontractors did all of the work and the insured general contractor did none of the actual construction work. Therefore, a correct reading of the exception would mean that, with respect to completed operations, if the named insured becomes liable for damage to work performed by a subcontractor, or for damage to the named insured's own work arising out of a subcontractor's work, the exclusion should not apply to the resulting damage. As an example, if a subcontractor's faulty wiring causes an entire building to burn and the general contractor is sued for the entire loss by the building owner, the general contractor's CGL form should cover his liability for the entire amount of the loss.

This ruling by the Alabama Supreme Court does not seem to follow that example.