Law360, New York (February 27, 2014, 2:00 PM ET) -- In Woodward LLC v. Acceptance Indemnity Insurance Co., __ F.3d __, (5th Cir. Feb. 11, 2014), the Fifth Circuit held that the United States District Court for the Southern District of Mississippi erred in holding that an insurer had a duty to defend a contractor named as an additional insured in a subcontractor’s comprehensive general liability policy. The appellate court’s analysis centered on the interpretation of “completed operations” and “ongoing operations.”
The Woodward case involved construction problems at a condominium project in Mississippi. The project was completed in August 2007 and sold in October 2007. Id. at *1. A year later, the purchaser sued the seller, Pass Marianne LLC, and general contractor, Carl E. Woodward LLC, alleging breach of contract and gross negligence. Id. Pass Marianne filed a cross-claim against Woodward alleging faulty construction and damage arising out of the construction. Id. Also at issue was the alleged fault of the concrete subcontractor, DCM Corp. LLC. Id.
Woodward demanded defense and indemnity from DCM’s insurer, Acceptance Indemnity Insurance Co., based on its status as an additional insured under DCM’s policy. Id. Woodward sent Acceptance a copy of the complaint and an engineer’s report commissioned by Pass Marianne, which discussed the nature and effect of the defective work. Acceptance refused to defend, and coverage litigation ensued. Id. The district court held that Acceptance had a duty to defend Woodward. Id. at *2. Acceptance appealed, and Woodward filed a cross-appeal. Id.
The Fifth Circuit, applying Mississippi law, held that, when determining whether an insurer has a duty to defend, courts must overlay the language of the policy with the facts alleged in the complaint. Id. at *3. No duty arises when the alleged conduct falls outside the policy’s coverage. Id.
The court added, however, that, if an insurer’s independent investigation establishes facts that would present a claim “which potentially would be covered under the policy, the insurers must provide a defense until it appears that the facts upon which liability is predicated fall outside the policy’s coverage.” Id. at *4 (quoting Auto. Ins. Co. of Hartford v. Lipscomb, 75 So. 3d 557, 559 (Miss. 2011)).
The Fifth Circuit assumed without deciding that Lipscomb would make the aforementioned report relevant for purposes of determining whether Acceptance had a duty to defend Woodward. Woodward, at *4. The report included conclusions that DCM had failed to comply with the construction drawings and industry standards because, among other things, the atrium and balcony floors were not properly sloped. Id.
The court focused on two provisions within the additional-insured endorsement. The first provided that Woodward was an insured “only with respect to liability arising out of your [DCM’s] ongoing operations performed for that insured.” Id. at *2.
The other provided that the policy “does not apply to ‘bodily injury’ or ‘property damage’ occurring after [all work] to be performed by or on behalf of the additional insured(s) at the site of the covered operations has been completed.” Id. The court noted that these provisions must be given equivalent weight when reading the contract as a whole. Id. at *5.
Because the Mississippi Supreme Court had not addressed the meaning of the phrase “arising out of [an insured’s] ongoing operations,” the Fifth Circuit turned to a recent Mississippi Court of Appeals ruling for guidance. Id. In Noble v. Wellington Associates Inc., (Miss. Ct. App. Nov. 19, 2013), that court interpreted “ongoing operations” to refer to actions “actually in process,” and it held that this phrase could not encompass “completed operations.” Id. at *4.
Noble thus rejected the argument that this phrase was a causal limitation to coverage, rather than temporal, concluding that interpretation would read the word “ongoing” out of the endorsement. Id. at *5. It thus determined that Noble was only an additional insured for liability caused by the subcontractor’s active work on the site and that the endorsement did not cover property damage manifesting itself after the subcontractor stopped working on the site. Id.
The court in Noble relied on a Colorado Court of Appeals ruling, which construed “ongoing operations” and “completed operations” by referring to the dictionary definitions of those terms, and found no coverage where the subcontractor’s work was completed five months before the water intrusion from which damage arose. See Weitz Co. LLC v. Mid-Century Ins. Co., 181 P.3d 309, 315 (Colo. App. 2007).
The Fifth Circuit was persuaded by Noble that, although claims for liability can be brought after ongoing operations are complete, coverage does not exist if the underlying liability is due to the “completed operations.” Woodward, at *7. It noted that Acceptance’s additional-insured endorsement also included a specific exclusion for property damage occurring after all work has been completed. Id.
The court thus interpreted the endorsement as providing coverage for DCM’s ongoing operations, regardless of when the claim is filed, but not for liability arising out of completed operations. Id. It noted that the effect of drawing a contrary conclusion would effectively convert the CGL policy into a performance bond. Id. The court concluded that it was apparent from the underlying complaint that the claims for fraud, defamation and breach of contract (involving the alleged alteration of blueprints to cover up the problem) did not arise out of DCM’s ongoing operations of work for the condominiums. Id.
The court next found that the allegations relating to nonconformance to specifications amounted to a claim of construction defect, and it held that liability for construction defects arises out of a subcontractor’s completed operations. Id. at *8. It reasoned that the alleged breach was that DCM did not build the foundation piers according to plans, which is an allegation that the completed building did not satisfy the terms of the parties’ contractual agreement. Id.
Accordingly, it found that Woodward’s liability did not arise out of DCM’s ongoing operations. The court concluded: “It is true that Woodward's liability for the alleged damage is causally related to DCM's operations. Though a causal relation is required, the policy specifically excludes liability for property damage occurring after all work has been completed. The damage alleged here arose from completed operations.” Id.
At bottom, the Fifth Circuit held: “Even accepting the district court's factual finding that damage had occurred during ongoing operations, the only ‘damage’ supported by allegation is the construction that was not in conformity with plans and specifications.
Liability for such damages arises out of completed operations, for which Woodward was not an additional insured under the policy.” Id. Because the Fifth Circuit found that the claims fell outside the coverage of the additional-insured endorsement, it concluded that Acceptance had no duty to defend Woodward. Id. at *10.
This ruling demonstrates that whether an additional insured is entitled to a defense will depend on the wording of the additional-insured endorsement. Moreover, this ruling — that an insurer can restrict coverage to situations where liability arises out of the insured’s “ongoing operations” and/or by expressly excluding liability for bodily injury or property damage occurring after work to be performed has been completed — holds potential application for both additional insureds and named insureds.
Finally, under Mississippi law, whether an insurer has a duty to defend in a particular case will depend upon the facts alleged in the underlying complaint, and can extend to facts developed by the insurer in an independent investigation. The Woodward ruling suggests, without deciding, that the additional insured’s provision of documentation to the insurer can also be considered.