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Risk Analysis Essential In Today's Economy
Sunday, March 10, 2013

It is our firm's privilege to represent a number of prominent contractors and construction industry participants. Because our team has been down in the trenches with our clients since the economic downturn started, we can certainly attest to the fact that the past three years have been difficult at best for the contracting community. Less available work (public and private), razor thin margins, stricter lending and bonding guidelines, and a variety of other factors symptomatic of an anemic economy have all played a role in creating the "survival of the fittest" atmosphere prevailing in the industry today. We counsel our clients that it's more important now than ever before to be acutely aware of their "risk portfolio" if they intend to successfully compete in today's market. As my grandfather used to ask, "Have you closed all the gates?" Central to this evaluation is a thorough assessment of your company's insurance coverage platform.

Any contractor or builder that has recently been faced with a defective construction claim has likely experienced a denial of that claim by its commercial general liability ("CGL") insurance carrier or that of its subcontractor. In fact, much has been written and said in the recent past by the construction law bar regarding the topic of CGL coverage for faulty workmanship as this is a predominant issue facing our industry.

The story usually goes something like this: A residential homebuilder, commercial contractor, or subcontractor is sued by an owner or other party with whom they have contracted for the construction of a residence or commercial project. Typically, the contractor or builder utilized subcontractor labor for the different scopes of work comprising the project and expects to hold the at-fault subcontractor accountable for its defective performance. This is especially true where the faulty workmanship at issue has caused damage to something other than the at-fault subcontractor's own work. The contractor expects that either its own CGL policy, or that of its subcontractor, will provide coverage for the claim. At least that's what was typically thought when the policy was offered for sale by the agent and the premium paid to the carrier, right? Unfortunately, certain insurance carriers don't see it that way.

Over the last decade or so "[c]ontractors' insurers have been financing a national war against property damage coverage-coverage that their underwriters have been promising (and providing in their insurance products) since 1973."[1] The controversy finally made its way to Kentucky when the Kentucky Supreme Court confronted the case of Cincinnati Insurance Company v. Motorist Mutual Insurance Company[2], calling the matter a "'difficult question.'" The case involves a residential homebuilder sued by a disgruntled homeowner claiming that the subject home was poorly constructed. The dispute focused upon the question of whether faulty workmanship, standing alone, constitutes an "occurrence" (as defined in the CGL policy) for coverage purposes.

The Court ultimately determined that faulty workmanship, standing alone, does not amount to an "occurrence" and, therefore, the carrier had no duty to cover the claim. Cincinnati Insurance really does not involve specific allegations of subcontractor negligence and/or coverage under the subcontractor's CGL policy. Regardless, some carriers are using the decision as a basis to deny coverage for claims where a subcontractor is alleged to be at fault for the defective nature of the structure. Some insurers also don't like to acknowledge that the Cincinnati Insurance Court indicated that coverage might in fact exist in those situations where the faulty workmanship caused damage to property other than the contractor's own work. The question becomes what is considered other property? Insurers would argue that other property is something not associated with the structure. For example, a defectively constructed wall panel falls and hits the home next door. The contractor however will claim that if the work of another subcontractor trade is damaged (for example, the brick layers faulty workmanship damages the framing carpenter's completed work) then those damages should also be covered. Cincinnati Insurance didn't definitively resolve the other property side of the equation.

However, the United States District Court for the Western District of Kentucky rendered an unpublished opinion in Global Gear and Machine Co., Inc. v. Capitol Indemnity Corp., 2010 WL 3341464 (W.D.Ky.) which addressed the issue of other property. Global Gear involved allegations of faulty workmanship that damaged portions of a barge vessel other than the gear boxes that Global Gear was contracted to repair. Global Gear sought coverage under its CGL policy not for the faulty workmanship itself, but for the collateral damage to the other property (i.e., the other portions of the barge vessel) which occurred as a result of the faulty workmanship. The Court, while recognizing the rule set forth in Cincinnati Insurance regarding lack of coverage for faulty workmanship, standing alone, determined that when a contractor/subcontractor's negligent workmanship results in damage to other property, there has been an "occurrence." The Court believed this holding to be a natural extension of the Cincinnati Insurance decision.

While the Global Gears' decision is unpublished, it clearly indicates how the courts are leaning with regard to what is considered other property for purposes of coverage under a CGL policy. In fact, our team currently has an active case pending in the United States District Court for the Eastern District of Kentucky that may indeed help to finally resolve the issue for the substantial benefit of the contracting community. However, for now, contractors should closely examine their "risk portfolio" to determine their potential exposure to faulty workmanship claims liability. It is critical to ensure that adequate coverage is in place not just at the contractor level but at the subcontractor level as well. In addition, when and if your company is faced with a claim make certain you have experienced construction litigators at your side. To fall short in this area could mean the significant devaluation or loss of your business.


[1] James Duffy O'Connor, "What Every Construction Lawyer Should Know About CGL Coverage for Defective Construction," The Construction Lawyer, Volume 21, Number 1, Winter 2001, p.15.

[2] 306 S.W.3d 69 (Ky. 2010).

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