In brief - Meaning of "physical damage" and "loss of use" are not as obvious as they sound

Project specific insurance packages may include cover for "Property Damage", which will often be defined to mean either "physical damage" or "loss of use". The words can appear in contract works material damage policies or general liability policies. Despite their apparent obviousness, there have been a number of disputes about what these words mean often in respect of quite interesting subject matter.

Physical damage - the famous shellfish case

In Ranicar v Frigmobile Pty Limited [1983] Tas R113, the court held that storing shellfish at a safe-for-domestic-consumption temperature but above a temperature prescribed for export meant that there had been "damage". The court held that "damage" requires:

  • physical alteration in the product
  • impaired value or usefulness of a property

The change in temperature had "undeniably involve[d] a physical change to a substance and... that change had the effect of removing one of the primary qualities which the scallops had - their exportability." (p.117)  

Although the case was a first instance decision, it has been accepted repeatedly by other courts and in the textbooks.

Steel supports damaged by incorrect welding

In Promet Engineering (Singapore) Pte Ltd v Sturge [1997] EWCA Civ 1358, the court held that cracking to the legs of an offshore accommodation platform caused by incorrect welding was not a "defect" but "damage", caused by being subjected to stresses which they were unable to resist due to latent defects, which were wrongly profiled welds and incipient fatigue cracks.

Bacardi Breezers - defective or damaged?

A batch of contaminated alcohol led to the litigation in Messer UK Limited v Thomas Hardy Packaging Limited [2002] EWCA Civ549, where the court had to consider a contractual provision capping compensation in respect of "direct physical damage to property".  

The packaging company acquired carbon dioxide from Messer for mixing with concentrate to make Bacardi Breezers. Messer's carbon dioxide was contaminated with benzene and Bacardi recalled the products, and recovered the costs from the packaging company. The packaging company then sought recovery from Messer.  

The Breezers were not damaged, because the mix of concentrate and water itself ceased to exist (as was always intended) and the finished product came into existence at the moment of creation. What resulted was not damaged concentrate, but a defective new product. Therefore the cap did not apply.  

Interestingly, the cap probably would have applied to a claim for loss of the concentrate itself, but that was far less valuable to Bacardi than the loss of the entire batch of finished product.

Product liability policy does not respond in damaged glass case

Pilkington United Kingdom Ltd v CGU Insurance Plc [2004] EWCA Civ 23 dealt with the installation of damaged glass into a train station. The glass panels were defectively manufactured and fractured after they were installed. The owner of the station put in place safety features and sued the main contractor for the costs. The main contractor sued Pilkington, which supplied the glass.  

Importantly, the glass did not cause damage to any other part of the station. The loss simply related to remedying the consequences of the defective glass. Pilkington's product liability policy insured:  

Loss of or physical damage to physical property not belonging to the Insured... caused by any commodity, article or thing supplied by the Insured.

As the station had not suffered any physical harm and the harmful effect of any later defect or deterioration was contained within the glass, the policy did not respond.

Toppled crane - intended function of a product

Improperly installed connecting dowels led to the toppling of a crane together with its intact concrete base from four reinforced concrete piles in Aspen Insurance UK Limited v Adana Construction Limited [2015] EWCA Civ 176. The relevant insurance policy was somewhat idiosyncratic and the insurer sought a pre-emptive declaration of non-liability before all of the facts had emerged.  

The policy generally excluded cover for "loss of or damage to any superstructure arising from the failure of the Assured's foundation works to perform their intended function". It also excluded from the product liability cover "liability arising in connection with the failure of any Product to fulfil its intended function".  

The dowels connected the crane support to a concrete base. The connecting dowels had not broken, but rather had simply not been installed sufficiently deeply to generate enough friction to resist the compressive and tensile loads of a crane that was too heavy for the base.  

The court found that the crane base (being a concrete block constructed on site) was not a "product". As the dowels had not failed to perform their intended function, the cover could respond to claims by the seriously injured crane operator and other injured parties.  

However, the court concluded that the damage to the crane itself was excluded as it was a superstructure on the base and the damage to the crane arose from the failure of Adana's foundation works to perform their intended function.

"Loss of use" cover may have broader application

Although it may be fairly easy to show that there has been a "loss of use" of physically damaged property, loss of use may not need to be contingent upon physical damage depending on the policy.  

Where owners were not allowed back into their undamaged home as a result of a declaration that the area was dangerous, that loss was not (insured) "physical loss or damage to property" but rather "loss" to the owner: Kraal v The Earthquake Commission [2015] NZCA 13.  

In Technology Holdings Ltd v IAG NZ Ltd and Anor [2008] NZHC 1228, a flood occurred in a basement where EFTPOS terminals were being stored and resulted in humidity levels which were higher than normal (without physical damage to the terminals). The court was asked to consider whether an insurance policy which provided cover for "loss or damage to property" responded after the manufacturer withdrew its warranty and the network operator refused to allow the terminals to be connected to the network.  

Echoing Ranicar, the court held that if sensitive electronic equipment was required to be stored in specific conditions which are not maintained due to an unforseen event and, as a result, the equipment could not be used as intended, then that may constitute damage despite there being no physical alteration or change (even temporarily) to the equipment.  

The growing importance of electrical and electronic components in buildings could lead to more loss of use claims where no obvious physical damage has been incurred.

What happens next?

If more than one policy responds, the contracts works insurers, the general liability insurers and the PI insurers will have an interesting dual insurance argument, but that is the subject of another update.