Construction Defect:

CA Appellate Court Finds Damage From Installation Of Defective Steel Framing Is A Business Risk Not Covered By CGL Policy

A California Appellate Court, applying California law, held that Liberty Surplus Insurance Company (Liberty) had no coverage obligation to a subcontractor who installed defective steel framing in a California apartment complex, because the loss constituted a business risk and was otherwise excluded from coverage under the policy.

General contractor JSM Florentine, LLC (JSM) hired subcontractor Regional Steel Corporation (Regional) to provide reinforced steel for the construction project’s columns, walls and floors. JSM and the structural engineer approved Regional’s shop drawings that used both 90 degree and 135 degree seismic tie hooks in shear walls.  Regional began construction on the project using both types of seismic  hooks.  A City building inspector subsequently issued a correction notice requiring the exclusive use of 135 degree hooks and notified JSM that it must repair that portion of the project that utilized 90 degree hooks.  JSM had to open up numerous locations in the concrete walls to repair and replace the defective hooks.  JSM refused to pay Regional’s invoices and withheld $545,000.

Regional sued JSM for the withheld money; JSM filed a cross-complaint against Regional and others alleging negligence, breach of contract and other claims.  Regional tendered JSM’s cross-complaint to Liberty, who had issued a commercial general liability “wrap policy” that included Regional as an additional insured.  Liberty denied coverage and Regional filed suit.

Liberty asserted that the policy did not cover intangible or economic losses or nonperformance of contractual obligations based on a defective product; damages from the tie hooks did not arise from an “occurrence” because an occurrence could not arise from the deliberate act of an insured; and, even if Regional’s intentional placement of improper 90 degree seismic hooks constituted “property damage,” the impaired property exclusion applied. Regional argued that JSM’s cross-complaint asserted claims for damage to property based on allegations that JSM needed to repair damage caused by opening walls and floors to repair the defect.  Regional also claimed JSM’s cross-complaint alleged damage to “other property,” thereby rendering inapplicable the impaired property exclusion.

The trial court granted summary judgment for Liberty and the Court of Appeals affirmed.  The Court of Appeals acknowledged a split of authority regarding whether construction defects that are incorporated into a whole property constitute property damages for purposes of a CGL policy.  The Court held that, under California law, coverage does not exist where the only property “damage” is the defective construction, and damage to other property has not occurred.  The Court determined that, Regional’s argument notwithstanding, the underlying action did not allege damage to “other property,” other than the parties’ underlying settlement agreement that characterized the loss as affecting “other property,” to which Liberty was not a party and did not concur in its characterization.  Finally, the Court held that the impaired property exclusion barred coverage: “Under that exclusion, there is no coverage for property damage to ‘property that has not been physically injured’ arising out of the Regional’s negligent failure to perform its contractual obligations based on installation of defective tie hooks.”  Regional Steel Corp. v. Liberty Surplus Ins. Corp., No. B245961 (Cal. Ct. App., 2d Dist. June 13, 2014).

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