1 WHEN IS AN OCCURRENCE NOT AN OCCURRENCE

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WHEN IS AN OCCURRENCE NOT AN OCCURRENCE? Paul Ferrero, Risk Manager Joann M. Lytle, Esq. ICM 013 - April 28, 2015 Information which is copyrighted by and proprietary to Insurance Services Office, Inc. ("ISO Material") is included in this publication. Use of the ISO Material is limited to ISO Participating Insurers and their Authorized Representatives. Use by ISO Participating Insurers is limited to use in those jurisdictions for which the insurer has an appropriate participation with ISO. Use of the ISO Material by Authorized Representatives is limited to use solely on behalf of one or more ISO Participating Insurers. ME 1 19768157

Learning Objectives At the end of this session, you will: • Understand how insurers’ coverage positions can affect your business • Analyze the growing body of case law • Learn about amendments to traditional GL policies can restore coverage 3

Agenda • Overview of Property Damage Coverage in a CGL Policy; The business risk exclusions; The Kvaerner decision and its progeny; – How these decisions have impacted claims determinations; – Legislative responses to Kvaerner; – Policyholder response/Underwriting response 4

CGL Insuring Agreement • Liability policies cover liability arising from “property damage” 5

“Property Damage” 6

The “Occurrence” Requirement • “Property damage” must result from an “occurrence” ** 7

Business Risk Exclusions • “Property damage” to “your work” arising out of it or any part of it and included in the “products-completed operations” hazard • “Impaired property” or property not physically injured arising out of – Defect, deficiency, inadequacy, or dangerous condition in “your product” or “your work”; or – Delay or failure by you or anyone acting on your behalf to perform a contract or agreement • “Property damage” to “your product” arising out of it or any part of it 8

Faulty Workmanship • Most courts hold there is no “occurrence” unless there are consequential damages – Gen. Sec. Indem. Co. of Ariz. v. Mountain States Mut. Cas. Co. , 205 P. 3 d 529 (Co. Ct. App. 2009) (“a claim for damages arising from poor workmanship, standing alone, does not allege an accident that constitutes a covered occurrence”), superseded by statute, Colo. Rev. Stat. Ann. § 13 -20808(1)(b)(III) (2010) 9

Gen. Sec. Indem. Co. of Ariz. v. Mountain States Mut. Cas. Co. (Cont. ) • The Colorado Legislature criticized the court’s holding: “The decision of the Colorado court of appeals in General Security Indemnity Company of Arizona v. Mountain States Mutual Casualty Company, 205 P. 3 d 529 (Colo. App. 2009) does not properly consider a construction professional’s reasonable expectation that an insurer would defend the construction professional against an action or notice of claim contemplated by this part 8. ” 10

Faulty Workmanship (cont. ) • Cincinnati Ins. Co. v. Motorists Mut. Ins. Co. , 306 S. W. 3 d 69 (Ken. 2011) (finding substandard construction, standing alone, not a fortuitous, accidental event) • Cherrington v. Erie Ins. Prop. & Cas. Co. , 745 S. E. 2 d 508, 519 n. 21 (2013) (listing cases finding defective workmanship not an “occurrence”) 11

Kvaerner Metals Division of Kvaerner U. S. , Inc. v. Commercial Union Ins. Co. , 908 A. 2 d 888 (Pa. 2006) • Kvaerner contracted to construct a coke oven battery for Bethlehem Steel • Bethlehem Steel sued Kvaerner alleging the oven was damaged • Kvaerner’s insurer, National Union, argued the suit did not allege an “occurrence” 12

Kvaerner (cont. ) • Policy defined “occurrence” to require an “accident” • Court reviewed dictionary definitions of “accident” – “Unexpected and undesirable event” – “Something that occurs unexpectedly or unintentionally” • Court found the term “unexpected” implied fortuity • Fortuity not present in faulty workmanship claims 13

Expanding Kvaerner • Millers Capital Ins. Co. v. Gambone Bros. Devel. Co. , Inc. , 941 A. 2 d 706 (Pa. Super. Ct. 2007) (water damage to nondefective work product not an “occurrence”) • Bomgardner v. State Farm Fire & Cas. , 2010 WL 3657084, at *4 (E. D. Pa. Sept. 14, 2010) – “In light of Kvaerner. . . [the insured’s] argument that his claim is covered under the. . . policy must fail as a matter of Pennsylvania law. … Claims based on defective workmanship and claims arising out of a breach of contract do not allege an ‘occurrence, ’ and therefore do not trigger coverage under a commercial liability policy…. ” 14

Expanding Kvaerner (cont. ) • Group Builders, Inc. v. Admiral Ins. Co. , 123 Haw. 142 (Haw. 2010) (no “occurrence” when contractor’s work resulted in mold) • Zurich Am. Ins. Co. v. R. M. Shoemaker Co. , 2012 U. S. Dist. LEXIS 35760 (E. D. Pa. Mar. 16, 2012) (“claims for faulty workmanship … do not constitute an ‘occurrence’ … even if there was damage to … property other than the property subject to the faulty workmanship. ”), aff’d, 519 F. App’x 90 (3 d Cir. 2013) – Third Circuit: 15 • “Kvaerner and cases following it make clear that faulty workmanship under a contract is not sufficiently fortuitous to qualify as an ‘occurrence. ’” Id. at 92– 93. • “Faulty workmanship—whether caused by the contractor’s negligence alone or by the contractor’s negligent supervision, which then permitted the willful misconduct of its subcontractors—does not amount to an ‘accident’ or ‘occurrence. ’ Nor does a foreseeable act like the subsequent water infiltration into the structure. ” Id. at 93.

Expanding Kvaerner (Cont. ) • Specialty Surfaces Int’l, Inc. v. Cont’l Cas. Co. , 609 F. 3 d 223, 231 (3 d Cir. 2010) – “In order for a claim to trigger coverage, there must be a causal nexus between the property damage and an ‘occurrence, ’ i. e. , a fortuitous event. Faulty workmanship, even when cast as a negligence claim, does not constitute such an event; nor do natural and foreseeable events like rainfall. ” 16

Product Liability Claims • Nationwide Mut. Ins. Co. v. CPB Int‘l, Inc. , 562 F. 3 d 591 (3 d Cir. 2009) (no “occurrence” where policyholder supplied defective ingredient incorporated into nutritional supplement) • Nat’l Union Fire Ins. Co. v. Puget Plastics Corp. , 649 F. Supp. 2 d 613 (S. D. Tex. 2009) (manufacturing defective water heater components not an “occurrence” even though water leaked into other parts of the water heater and surrounding personal property), aff’d, 454 F. App’x 291 (5 th Cir. 2011) 17

Product Liability Claims (cont. ) • Acceptance Ins. Co. v. Powe Timber Co. , 403 F. Supp. 2 d 552 (S. D. Miss. 2005) (no “occurrence” where lawsuits alleged personal injuries resulted from exposure to hazardous chemicals in wood chips), aff’d, 219 F. App’x 349 (5 th Cir. 2007) – Fifth Circuit: • “there is little question that [the insured] intentionally did not include a warning with the wood chips, although [it] knew the wood had been treated. … Second, because [the insured] knew the wood had been treated with various chemicals, the resulting injuries were within its foresight. Thus, [underlying] plaintiffs’ allegations do not constitute an occurrence under the terms of the insurance policies. ” 18

Product Liability Claims (cont. ) • Victaulic Co. v. Am. Home Assurance Co. , No. RG 12642929 (Cal. Super. Ct. , Alameda Cnty. Jan. 21, 2015) – Victaulic Co. manufactured valves and piping products used in various industrial capacities – Multiple lawsuits alleging damage to third party property resulting from defective pipes – Insurers denied coverage arguing that under PA law, third party property damage arising from faulty workmanship is not an occurrence 19

Victaulic (cont. ) • “The concept of ‘occurrence’ must be construed broadly to reflect the wide variety of circumstances which can result in property damage or bodily injury that an ordinary person would consider ‘accidental, ’ even if the conduct giving rise to the insured’s liability was deliberate or intentional. ” • Insurers’ “unduly limiting” interpretation of occurrence would effectively eliminate coverage for what may have been a central focus of the parties during the underwriting of the policies – product liability lawsuits brought against Victaulic. 20

Victaulic (cont. ) • Victaulic court distinguished Kvaerner – the underlying case involved an alleged breach of contract and no damage to property other than the insured’s own work. – Most other Pennsylvania federal court decisions are distinguishable on grounds that they either did not involve any damage to property other than the insured’s own work or asserted breaches of obligations arising under contract. 21

Clarifying Kvaerner: Indalex • Indalex Inc. v. Nat’l Union Fire Ins. Co. of Pittsburgh, PA, 83 A. 3 d 418 (Pa. Super. Ct. 2013), reargument denied (Feb. 10, 2014), appeal denied, 99 A. 3 d 926 (Pa. 2014) – Policyholders sought coverage under commercial umbrella policy for lawsuits filed by out-of-state home and property owners – Owners alleged policyholders’ windows and doors “were defectively designed or manufactured and resulted in water leakage that caused physical damage, such as mold and cracked walls, in addition to personal injury” – Claims were based on strict liability, negligence, breach of warranty, and breach of contract 22

Indalex (cont. ) • Insurer denied coverage, arguing that, under PA law, damages resulting from alleged design or manufacturing defects do not result from an “occurrence” • Policyholders filed suit, and trial court granted SJ in favor of insurer – Relying on Kvaerner, held claims were based on faulty workmanship and, therefore, did not constitute an “occurrence” under the policies • Policyholders appealed 23

Indalex (cont. ) • Superior Court reversed trial court – Distinguished Kvaerner and similar cases: • “[B]ecause [policyholders] set forth tort claims based on damages to persons or property other than the insured’s product, we cannot conclude that the claims are outside the scope of the coverage. ” – Noted Kvaerner policy’s definition of “occurrence” did not contain the subjective “neither expected nor intended from the standpoint of the Insured” language found in Indalex policy • Court found policyholder arguably did not expect damages such as mold 24

Indalex (cont. ) • PA Supreme Court declined to review Superior Court’s Indalex decision • Implications? – Positive development for policyholders – Arguably limits holding/application of Kvaerner – Clarifies (or does it? ) that insurers must defend policyholders against tort-based claims alleging damage to third-party property resulting from policyholder’s alleged negligent design and/or manufacture of products 25

Post-Indalex • State Farm Fire & Cas. Co. v. Mc. Dermott, 2014 WL 5285335, at *7 (E. D. Pa. Oct. 15, 2014) (“The Pennsylvania Supreme Court has held that faulty workmanship in cases such as these does not constitute ‘accidents’ and are therefore not occurrences under CGL policies. … This is also true of any damage resulting from …faulty workmanship. ”) • State Farm Fire & Cas. Co. v. Brighton Exteriors, Inc. , 2015 WL 894419, at *6 (E. D. Pa. Mar. 3, 2015) (“Based on [Kvaerner and its progeny], the Court concludes that the term ‘occurrence’ does not include claims that arise from faulty workmanship, regardless of whether the claims are phrased as contract or negligence claims. ”) 26

Post-Indalex (cont. ) • Hagel v. Falcone, No. 614 EDA 2014, 2014 WL 8331846 (Pa. Super. Ct. Dec. 23, 2014) – Held no “occurrence” where alleged property damage arose from faulty workmanship • “[I]t is foreseeable that a failure of workmanship that leaves a house’s envelope compromised and, therefore, vulnerable to water penetration, may be damaged thereby. It further is foreseeable that water penetration may damage the home as well as property, and even people, contained within it. Thus, [the insured] was not covered by [the] policy. . ” 27

Hagel (cont. ) • Are bodily injury claims different? “In another case, a distinction between property damage and personal injury might warrant separate analyses of foreseeability as to each. While leakage arising from a poorly installed window plainly is foreseeable, at least one Pennsylvania court has found that personal injury arising from the growth of mold arising from such a leak is not. … We need not address that question in the instant case. ” -- Id. at *13 n. 7 28

Post-Indalex (cont. ) • Westfield Ins. Co. v. Miranda & Hardt Contracting & Bldg. Servs. , L. L. C. , No. CV N 14 C-06 -214 ALR, 2015 WL 1477970 (Del. Super. Mar. 30, 2015) – Policyholder hired to construct home – Six years later, homeowner reports defects in construction – Homeowner files lawsuit against policyholder alleging policyholder, among other things, used inadequate building materials and improperly installed same – Homeowner asserts claims against policyholder for negligence per se, negligence, and fraud 29

Westfield Ins. Co. (cont. ) • Policyholder requested defense and indemnification from CGL insurer; insurer denied coverage and filed DJ action • Parties disputed whether alleged property damage was caused by an “occurrence” – “Occurrence” defined to mean “an accident, including continuous or repeated exposure to substantially the same general harmful conditions” • DE Court, guided by federal case law, held that defective workmanship does not constitute an “occurrence” for which CGL policy grants coverage or triggers insurer’s duty to defend or indemnify policyholder in underlying action 30

Cutting Through the Confusion • Distinguishing Mc. Dermott, Brighton Exteriors, and Hagel from Indalex: – The Court in each case dealt with instances of alleged faulty workmanship, not alleged defective design or manufacture of a product that later caused third-party property damage – Although “water intrusion issues” are mentioned throughout the opinions, the nature and extent of any actual third-party property damage is not described in detail, whereas thirdparty property damage was evident and a focal point in Indalex. 31

When is an Occurrence? • Impact of the Kvaerner/Indalex line of cases in managing property damage claims • Look for the negligence claim – are there allegations of negligent work performance and negligently manufactured products in violation of industry standards? 32

When is an Occurrence? • Impact of the Kvaerner/Indalex line of cases in managing property damage claims • Find the accident in the facts – – unexpected, sudden event – look for the collapse, explosion, or catastrophic failure 33

When is an Occurrence? • Impact of the Kvaerner/Indalex line of cases in managing property damage claims • Look closely at the alleged damages – were they unexpected and not foreseeable? • Carefully follow the development of your property damage claims. 34

Legislative Responses to Kvaerner and its Progeny It’s not simply a Pennsylvania issue

Colorado Code – Section 13 -20 -808 • For the purposes of guiding pending and future actions interpreting GL policies issued to construction professionals, the policy of Colorado is hereby clarified … – In interpreting a liability policy, a court shall presume that the work of a construction professional that results in PD, including damage to the work itself or other work, is an accident unless the PD is intended and expected by the insured. – The insurer bears the burden of proving exclusions, exceptions or limitations on coverage. 36

Colorado Code – Section 13 -20 -808 (cont. ) • Where a policy is ambiguous, a court may consider a construction professional’s “objective , reasonable expectations…” including: – The insured’s objective in purchasing the policy – Whether a construction defect has resulted in BI, PD or loss of use of property – Any non-privileged writing generated, approved, adopted or relied on by the insurer; an insurance rating or policy drafting organization such as ISO, EXCEPT that such writing may not be used to limit coverage beyond what is reasonably inferred from the words in the policy 37

Hawaii • HRS § 431: 1 -217 - Insurance policies issued to construction professionals – For purposes of a liability policy that covers occurrences of damage or injury and that insures a construction professional for liability arising from construction-related work, the meaning of the term “occurrence” shall be construed in accordance with the law as it existed at the time that the insurance policy was issued. – Any provision of an insurance policy issued in violation of this section shall be void and unenforceable as against public policy. 38

Arkansas • A. C. A. § 23 -79 -155 - Commercial general liability insurance • A CGL policy offered for sale in this state shall contain a definition of “occurrence” that includes: *** (2) Property damage or bodily injury resulting from faulty workmanship. • This section is not intended to restrict or limit the nature or types of exclusions from coverage that an insurer may include in a CGL policy. 39

South Carolina 38 -61 -70 Commercial general liability policy; coverage for construction professional doing construction related work; definition of occurrence; application • CGL policies shall contain or be deemed to contain a definition of “occurrence” that includes: *** (2) property damage or bodily injury resulting from faulty workmanship, exclusive of the faulty workmanship itself. • Applies only to a CGL policy that insures a construction professional for liability arising from construction related work. • Applies retroactively and prospectively, in any pending or future dispute over coverage. 40

New Jersey Proposed Legislation • Assemb. 4510, 215 th Leg. (N. J. Nov. 25, 2013) • A CGL shall not be delivered, issued, executed, or renewed in NJ unless the policy contains a definition of occurrence that includes: *** (b) property damage or bodily injury resulting from faulty workmanship. • This act shall not be construed to restrict or limit the nature or types of exclusions from coverage that an insurer includes in a commercial liability insurance policy. • Original bill died in committee, but reintroduced on January 16, 2014. • Referred to the Assembly Financial Institutions and Insurance Committee as bill A 1077 for the 2014 -2015 Session. 41

When is an Occurrence? • Policyholder Response Industry offered no alternative insurance product for product liability coverage – gave us what we had for the past 30 plus years. 42

When is an Occurrence? • Policyholder Response • Endorsements up the tower – what coverage do we have? Are there gaps? • Not surprisingly, underwriters could not agree on the same language to define “occurrence. ” 43

UNDERWRITING RESPONSE • Amended occurrence definition • Most favorite state endorsement • “Deemer” clause 44

AMENDED OCCURRENCE DEFINITION 1. The following is added to section IV. Definitions O. Occurrence, but only for the purpose of determining whether Resulting Property Damage Arising Out Of Your Product is caused by an Occurrence: 4. as respects Resulting Property Damage Arising Out Of Your Product, an act or omission, including all related acts or omissions, which results in Resulting Property Damage Arising Out Of Your Product. 2. The following is added to section IV. Definitions O. Occurrence, but only for the purpose of determining whether Resulting Property Damage Arising Out Of Your Work is caused by an Occurrence: 5. as respects Resulting Property Damage Arising Out Of Your Work, an act or omission, including all related acts or omissions, which results in Resulting Property Damage Arising Out Of Your Work. 45

Definition of “Resulting Property Damage Arising out of Your Product” 3. The following is added to section IV. Definitions: Resulting Property Damage Arising Out Of Your Product means Property Damage that: 1. is neither expected nor intended from the standpoint of the Insured; 2. is to property other than Your Product; and 3. arises out of Your Product or any part of it. 46

Definition of “Resulting Property Damage Arising out of Your Work” Resulting Property Damage Arising Out Of Your Work means Property Damage that: 1. is neither expected nor intended from the standpoint of the Insured; 2. is to property other than Your Work; and 3. arises out of Your Work or any part of it and is included in the Products-Completed Operations Hazard. 47

Most Favorable State Endorsement SECTION VI. CONDITIONS is amended to include the following additional provision: Most Favorable State The law of the state most favorable to the Named Insured shall govern whether Property Damage included within the Products-Completed Operations Hazard is caused by an Occurrence, provided that such state is a part of the United States of America including its territories and possessions; and (1) has a substantial relationship to the Named Insured; or (2) has a substantial relationship to the state in which such claim or Suit is brought; or (3) is the state in which we are incorporated, or we have our principal place of business, or where this insurance contract was delivered to the Named Insured. 48

“DEEMER” CLAUSE The following is added to Paragraph 1. Insuring Agreement under COVERAGE A – BODILY INJURY AND PROPERTY DAMAGE LIABILITY of SECTION I – COVERAGE. Subject to all terms and conditions of the policy but most particularly Section I. 2. Exclusions, a. Expected or Intended Injury, j. Damage to Property, k. Damage To Your Product and l. Damage To Your Work, “property damage” resulting from faulty workmanship shall be deemed to be caused by an “occurrence”. 49

When is an Occurrence Not an Occurrence? 50

Paul Ferrero Risk Manager, Arkema Inc. CONTACT Arkema Inc. 900 First Avenue King of Prussia, PA 19406 610. 205. 7708 paul. ferrero@arkema. com 51 Paul Ferrero is the Risk Manager for Arkema Inc. , a chemical company with its U. S. headquarters in King of Prussia, Pennsylvania. Paul spends his time focusing on managing corporate risks, including his business units’ property loss prevention practices. Paul has experience in longtail claims management and commercial claims as well as performing risk assessments for due diligence projects and site business continuity plan development and management.

Joann M. Lytle Partner, Insurance Coverage Group Mc. Carter & English LLP PRACTICE GROUP Insurance Coverage CONTACT Mellon Bank Center 1735 Market Street Suite 700 Philadelphia, PA 19103 -7501 215. 979. 3878 jlytle@mccarter. com EDUCATION Harvard Law School, J. D. , cum laude, 1990 La Salle University, B. A. , maxima cum laude, 1987 BAR ADMISSIONS Pennsylvania New York U. S. Court of Appeals, Third Circuit U. S. District Court, Eastern District of Pennsylvania U. S. District Court, Middle District of Pennsylvania U. S. District Court, Southern District of New York 52 Joann Lytle helps corporate policyholders maximize their insurance assets and has recovered hundreds of millions of dollars for a wide range of companies, including those in the food services, manufacturing and health care industries. She has handled disputes involving commercial general liability, umbrella liability, errors and omissions liability, directors and officers liability, employment practices liability and cyber liability policies. In addition to representing policyholders in coverage disputes, Joann also provides insurance coverage advice and counseling to her clients on an ongoing basis. Business Insurance Magazine recognized Joann as one of its 2014 “Women to Watch. ” In 2014, she was recognized by Chambers USA as a “Leader in Her Field. ” Joann was also selected as the exclusive Pennsylvania winner of the Lexology Client Choice Award in 2013 and 2014. Joann has also been recognized in Best Lawyers in America since 2008 and was named a Pennsylvania Super Lawyer in 2013 -2015.

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