FAULTY WORKMANSHIP BARS COVERAGE

Ship builder and insurer

disagree about policy exclusion

While protection is incredibly valuable, it’s worthless if an operation

fails to have standards and controls that provide the best chance to achieve positive results.

By Bruce D. Hicks, CPCU, CLU

The Court Decisions column is a popular part of Rough Notes magazine. One reason for this is that the court room is where the promises made in an insurance contract often become real. All insurance professionals can develop “what if” scenarios, but until those scenarios are tested with an actual loss and a court decision, they remain mental exercises. This column comes from the industry expert contributors to Policy Forms & Manual Analysis (PF&M). This is a knowledge base consisting of more than 15,000 pages of coverage explanations from The Rough Notes Company’s digital solutions. The contributors are going to dig a little deeper into one of those court decisions to identify a coverage problem, provide possible solutions and/or offer broader perspectives. 

It should be an insurance adage that coverage is always a matter of interpretation. Truly contentious disputes revolve around viewing and arguing over the same collection of words assembled in the same order. It may seem reasonable that they, also, would be understood in the same manner. Yet, frequently, that is not the case because the result impacts parties so differently. As William Shakespeare once wrote, “Ay, there’s the rub!”

In VT Halter Marine, Inc. v. Certain Underwriters of Lloyd’s of London, a ship builder and its insurer were at odds. They disagreed over the application of an exclusion. The dispute regarded a request to recover the multi-million dollar expense of removing steel plates that the builder had installed on both a barge and a tug boat that it built for a client.

The insurer denied the claim. The denial was due to the builder’s using an improper die to bend the plates. The use of that die created flanges that were too thin and began cracking after their installation. Specifically, the insurance company deemed the builder’s cost as a direct result of faulty work, an excluded peril.

Most liability policies contain this property damage exclusion for products-completed operations losses. The intent of this exclusion is to make certain that businesses are maintaining acceptable standards of performance, Otherwise, there’s the possibility that an insurance contract is turned into a source to recover for poor training or poor business practices by insureds. Coverage does not exist for property losses to work performed or as a result of the work performed by the insured.

While the builder attempted to make a distinction between faulty work and the expense to repair/replace the plates, a lower and a higher court both ruled that a policy exclusion clearly applied. Therefore, the repair and replacement costs were the sole responsibility of the policyholder.

For the proper operation of liability insurance, this was a win. Commercial liability protection is structured and priced to assist with losses suffered by third parties, not by a first party (in this situation, the shipbuilder).

Consider how quickly the problem was determined and the clarity of the policy language. Given this, what appears to explain the policyholder’s point of view? Was it a sincere belief that it should have been reimbursed by its insurer? Was it shaped by the heavy amount it was forced to handle as an out-of-pocket expense? Smart money should be on the latter.

The actions of the ship builder did not result in financial damage to its client. Perhaps, due to a possible delay in delivering functional vessels, the owners may have had a legitimate cause to seek recovery for loss of use. However, under a liability policy, loss of use is completely contingent upon, first, the occurrence of direct damage. In this particular situation, any such claim could only be made against the ship builder as an out-of-pocket cost.

This situation was one that involved impaired property and, within the world of insurance, there is a substantial difference between it and damaged property. Property is considered to be impaired when it has not been physically damaged but is not usable. Specifically, it can’t be used for its intended purpose or has lost monetary value because it contains a defective product, the work performed on it is defective, or the insured has not fulfilled a contract.