Although the Pennsylvania Supreme Court declined to review the pro-policyholder decision on insurers’ duty to defend manufacturing claims, the Federal District Court may have left window open to contrary arguments

For years, product manufacturers relied on commercial general liability policies to defend and indemnify them for product liability claims.  Although these policies may exclude coverage for pure economic loss or for damage to the product itself, they insured damages caused to third-party property and for bodily injury.  Then, in the wake of the Pennsylvania Supreme Court’s decision in Kvaerner Metals Division of Kvaerner U.S., Inc. v. Commercial Union Ins. Co., 908 A.2d 888 (Pa. 2006), the landscape changed.  Insurers began denying coverage to Pennsylvania companies – and companies around the country – arguing that a design or manufacturing defect was not an “accident.”  Policyholders who for years had relied on their general liability policies to insure these risks were suddenly faced with carriers quick to deny coverage for damage to third-party property, contending that it was not caused by an occurrence.   Fortunately for companies whose policies are governed by Pennsylvania law, the tide has begun to turn, and product manufacturers may once again be reliably protected by from product liability claims.

What happened?

Last month, in Indalex, Inc. v. National Union Fire Insurance Co. of Pittsburgh, Pa., the Pennsylvania Supreme Court declined to review a pivotal Superior Court decision finding an insurer had a duty to defend policyholder-manufacturers for underlying claims arising from the allegedly defective design or manufacture of the policyholders’ products.  InIndalex, the policyholders sought coverage under a liability policy for lawsuits filed by home and property owners alleging the 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.”  The third parties asserted claims for strict liability, negligence, breach of warranty, and breach of contract. 

The relevant policy provided coverage for an “occurrence,” defined in relevant part as “an accident . . . which results in Property Damage1 neither expected nor intended from the standpoint of the Insured.”  The policy provided coverage for “Bodily Injury and Property Damage occurring away from premises you own or rent and arising out of Your Product or Work Scope,” but excluded coverage for “property damage in your product.”2 The insurer denied coverage, arguing that, under Pennsylvania law, the damages resulting from alleged design or manufacturing defects in the policyholders’ windows and doors did not result from an occurrence.  After the policyholders filed suit, the trial court granted summary judgment in favor of the insurer, holding that the claims were based on faulty workmanship and that such claims did not constitute an “occurrence” under the policies.  The trial court relied on Kvaerner, in which a third party sued a manufacturer of a coke oven battery for breach of warranty and breach of contract, alleging the battery failed to meet construction specifications and that it was damaged.  Importantly, in Kvaerner, the underlying claims alleged only faulty workmanship to the manufacturer’s product and brought claims only for breach of warranty and breach of contract.  The insurer denied coverage, arguing there was no “occurrence” under the policy because even if the battery was damaged by rain, as alleged, there was no “accident” as required by the “occurrence” definition.  The Kvaerner court agreed with the insurer, explaining, “[s]uch claims simply do not present the degree of fortuity contemplated by the ordinary definition of “accident” or its common judicial construction in this context.  To hold otherwise would be to convert a policy for insurance into a performance bond.”

The Superior Court in Indalex reversed the trial court’s grant of summary judgment and distinguished Kvaerner and similar cases, stating “because appellants 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.”  The Superior Court also noted the Kvaerner policy’s definition of “occurrence” did not contain the subjective “neither expected nor intended from the standpoint of the Insured” language found in theIndalex policy.  The Indalex manufacturers, the court found, arguably did not expect damages such as mold.  Finally, the court rejected National Union’s argument that the “gist of the action” doctrine, which prevents plaintiffs from reframing contract claims as tort claims, precluded coverage, noting the Pennsylvania Supreme Court never adopted the doctrine in the context of insurance coverage claims.   Nonetheless, and just last week, the United States District Court for the Eastern District of Pennsylvania, in State Farm Fire & Casualty Insurance Co. v. McDermott, No. 11-5508 (E.D. Pa. Oct. 14, 2014), opined that under Kvaerner and its progeny, improper installation of window and door flashing, which allegedly resulted in a “water intrusion ... issue” was not insured under a general liability policy.  Although facially inconsistent with Indalex, theMcDermott decision actually turns on several distinguishing factors.  First, the Court inMcDermott was dealing with a case of alleged faulty workmanship, not alleged defective design or manufacture of a product that later caused third-party property damage.  Second, although “water intrusion issues” are mentioned in the opinion, the nature and extent of any actual third-party property damage is not described in McDermott, whereas  third-party property damage was evident and a focal point in Indalex.  Last, although theMcDermott court goes out of its way to explain, in a lengthy footnote, that it is not applying the gist of the action doctrine, the end of the opinion suggests that the court actually does just that by sweeping the alleged negligence count into the contract count.  

What does this mean for policyholders?

The Pennsylvania Supreme Court’s refusal to review the Superior Court’s Indalex decision was a very positive development for policyholders.  McDermott, nonetheless, may cause additional confusion in this area, particularly if those seeking to rely on it ignore its context.  When these decisions are read and applied thoughtfully, however, they should provide renewed hope to policyholders that their insurers must defend them against tort-based claims alleging damage to third-party property resulting from the policyholder’s alleged negligent design or manufacture of products.