A recent decision of the Queensland Court of Appeal has served as a timely reminder to insurers and insureds alike of the importance of clear and unambiguous drafting of exclusion clauses, particularly in circumstances where such exclusions are relied upon by insurers to carve out coverage otherwise available under a broadform liability policy.

The insured, Selected Seeds Pty Ltd (Selected) conducted the business of grain and seed merchants. Selected contracted to supply Jarra grass seed to S & K Gargan, which they agreed to grow, harvest and sell back to Selected. In mid 2003, with the agreement of Selected, S & K Gargan supplied some of their seed crop, representing it to be Jarra grass seed, to M Gargan. In October 2004, M Gargan sold a quantity of his seed, represented to be Jarra grass seed, to Landmark Operations Limited (Landmark). In December 2004 Landmark sold a quantity of the seed to Mr and Mrs Shrimp, representing that it was Jarra grass seed. The Shrimps planted the seed on their property between December 2004 and January 2005, intending to grow a Jarra seed crop and hay crop from the seed.

The Shrimps grew only Summer grass, rather than Jarra grass.

None of the parties were aware that the seed Selected supplied to S & K Gargan was not Jarra grass seed but was actually Summer grass seed. The growth of Summer grass as opposed to Jarra grass caused loss to the Shrimps because Jarra grass has a quality that makes it fit for production of commercial grass seed and good quality palatable stock feed. However, Summer grass is fit only for low quality stock feed and is not fit for production of commercial grass seed.

The Shrimps sued Landmark in the Federal Court for damages for breach of contract, misleading and deceptive conduct and negligence (the Federal Court proceedings). Many parties were then joined to the Federal Court proceedings. Relevantly, Landmark joined M Gargan, claiming indemnity and contribution against Mr and Mrs Shrimp's claim. M Gargan in turn joined Selected, claiming an indemnity and contribution.

Selected contributed $150,000 to the settlement of the Shrimps' claim (the Settlement) which Selected's liability insurer, QBE Insurance (Australia) Limited (QBE) agreed was reasonable in the circumstances.

Selected held a Broadform Liability Insurance Policy with QBE (the Policy) under which it sought indemnity for the Settlement and the costs associated with defending the Federal Court proceedings. QBE denied indemnity and Selected commenced proceedings against QBE seeking a declaration of indemnity which was granted by the trial Judge. QBE appealed.

The questions to be determined on appeal included whether Selected's liability for the Settlement fell within the insuring clause (the Insuring Clause Issue) and if so, whether the Efficiency Clause excluded Selected's liability from cover under the Policy (the Exclusion Issue).

The Insuring Clause in the Policy provided coverage for:

"all sums which You become legally liable to pay by way of compensation…in respect of…Property Damage happening during the Period of Insurance and caused by an Occurrence…in connection with Your Business."

Property Damage was relevantly defined as:

"physical damage to or loss or destruction of tangible property including any resulting loss of use of that property."

QBE conceded that the planting of Summer grass seed on the Shrimp's property constituted Property Damage. Finally, an Occurrence was defined to mean an event which results in Property Damage which was neither expected nor intended by Selected.

The resulting issue arising from these terms and their definitions was whether there was an Occurrence which had the causative effect required by the Insuring Clause.

As to the Insuring Clause Issues, QBE argued firstly that the planting of the seed was both the Occurrence and the Property Damage but an Occurrence and Property Damage could not be the same thing under the Policy because an Occurrence is an event which results in Property Damage (the Occurrence Argument). Secondly, QBE argued that the planting of the seed on the Shrimp's property did not cause the legal liability in respect of the Property Damage which arose from the antecedent supply of seed (the Legal Liability Argument). Thirdly, QBE argued that the Occurrence was too far removed from any conduct by Selected to be "in connection with" its business (the Remoteness Argument).

As to the Occurrence Argument, while the Court of Appeal accepted that an Occurrence and Property Damamge could not be the same thing, the Court rejected the second limb of the argument that upon the facts the planting of the seed was the same thing as the Property Damage. In rejecting this argument, the Court of Appeal relied upon the reasoning of the trial judge, noting that QBE's argument blurred the distinction between actions and consequences. The trial judge found that the relevant action was the planting of the seed whereas the consequence of that action was that the Shrimps property was damaged. Upon this basis the Occurrence could not also be the Property Damage. The Court of Appeal also rejected QBE's contention that its construction derived support from the statement of Kirby P in GIO General Limited v Newcastle City Council (the NCC Case).

In agitating the Legal Liability Argument, QBE sought to rely on Sheller J‘s analysis of the Policy in the NCC Case. The Court of Appeal rejected this argument noting that the Policy in the NCC Case leant itself to the construction that the insured's legal liability be "caused by an Occurrence", whereas the Selected Policy only required that the Property Damage (not the legal liability) be caused by an Occurrence. The distinction between the policies in the NCC Case and Selected's case meant that the NCC Case could be distinguished and Sheller J's reasoning did not apply.

As to the Remoteness Argument, again QBE sought to rely on the reasons of Kirby P (with whom Powell JA agreed) in the NCC Case. However, the Court of Appeal did not find that reasoning analogous to Selected's circumstances because selected originally supplied the seed to S & K Gargan in the course of its business as seed and grain merchants. The Court of Appeal found the resulting chain of causation, whereby Selected's seeds were planted, harvested and onsold several times, unremarkable in the context of Selected's business. Accordingly, the Court of Appeal found that the planting of seed on the Shrimp's land was in connection with Selected's business.

As all three of QBE's arguments in respect to the Insuring Clause Issue were rejected, the Court of Appeal found that the Settlement came within the ambit of cover available to Selected under the Insuring Clause.

Notwithstanding the above, the Court of Appeal overturned the trial judge's finding in respect of the Exclusion Issue. In this regard, the relevant clause provided:

"This Policy does not cover any liability arising directly or indirectly from or caused by, contributed to by or arising from:-

1) The failure of any Product to germinate or grow or meet the level of growth or germination warranted or represented by the Insured; or

2) The failure of any Product to correctly fulfil its intended use or function and/or meet the level of performance, quality, fitness or durability warranted or represented by the Insured."

The Efficacy Clause

QBE argued that liability was excluded by the second limb of the Efficacy Clause. The trial judge rejected this argument on the basis that although the seed supplied by Selected was meant to produce Jarra grass and it failed to fulfill this use/function, Selected's liability arose from the planting of the wrong seed, rather than what the Jarra grass seed supplied by Selected failed to do. The Court of Appeal overturned this finding.

On appeal, QBE argued that the Efficacy Clause should be given its broad and literal meaning, particularly because it was a separate endorsement to the standard printed policy wording (which suggested an intention to adapt the standard wording). Selected argued that QBE's construction of the Efficacy Clause would result in the exclusion having too wide an application and the clause should actually operate only to exclude claims where a product fails to perform up to a claimed standard rather than where a contaminated product damages a customer’s property.

Firstly, the Court of Appeal found that no reliance could be placed upon the reasoning in John Wyeth & Bros Ltd v Cigna Insurance Co of Europe SAMD & Ors (the Wyeth Case) (as relied upon by the trial judge) because the terms of the exclusion in the Wyeth Case connoted a much narrower causal relationship than the terms of the Efficacy Clause. The Court of Appeal also found the difference between the nature of the third party claims in the Wyeth Case were significant enough to warrant distinction from Selected's circumstances.

Secondly, the Court of Appeal rejected Selected's argument that QBE's construction of the Efficacy Clause was incorrect because the Policy, by its very nature (broadform liability), was meant to provide broad cover. The Court of Appeal found that this was no justification for moving away from the literal meaning of the Efficacy Clause and the fact that it was expressed in a separate endorsement displayed a clear intention to exclude cover which otherwise fell within the insuring clause and which other exclusions left intact. While the Efficacy Clause did reduce the extent of cover for product liability, it still provided cover for liabilities on various other bases. Therefore, the Policy remained a broadform liability policy.

Finally, the Court of Appeal noted that the principle of contra proferentum did not apply because the language of the Exclusion Clause was clear and unambiguous.

Therefore, the Court of Appeal overturned the finding of the trial judge regarding the construction and applicability of the Efficacy Clause and allowed QBE's appeal. Selected's claim for indemnity was found to be excluded by operation of the Efficacy Clause.

This case provides an important lesson that plain and unambiguous drafting of insurance policies, particularly exclusion clauses, is critical to ensuring that courts will uphold the literal meaning/intention of the policy (and exclusion clauses).

Selected Seeds Pty Ltd v QBEMM Pty Ltd & Anor [2009] QCA 286