Case Brief:  the British Columbia Court of Appeal decision in Progressive Homes Ltd. v. Lombard General Insurance Co., [2009] B.C.J. No. 572 (B.C.C.A.).

Kelly Bradshaw, LL.B.

Introduction

A significant decision awaited by the strata community has been released by the British Columbia Court of Appeal (Progressive Homes Ltd. v. Lombard General Insurance Co., [2009] B.C.J. No. 572) (“Progressive”).

The effect of the Court of Appeal decision basically closes the door on the recovery of damages from general contractors with no attachable assets, even when these contractors were covered by insurance policies.

The bottom line of the Court’s decision is that the defects alleged in cases involving building envelope failures arise from the building envelope components themselves – the failure of integral parts of the structure – caused by shoddy workmanship.  The Court’s decision holds that insurance policies are not intended to cover losses to the insured caused by poor workmanship – unless they contain the clear language necessary to overcome the implied assumption that insurance is designed to transfer fortuitous contingent risk.

The Decision

In Progressive, the general contractor, Progressive Homes Ltd. (“Progressive”), sought an order declaring that Lombard General Insurance Co. (“Lombard”) was under a duty to defend it in relation to four separate actions brought against them and others, after four condominium projects suffered building-envelope failures due to water penetration.

The case turned on whether Progressive could rely on a “subcontractors’ exception” clause in its insurance policies which otherwise excluded coverage for such damage, thereby triggering Lombard’s duty to defend.  Progressive’s position was that defects in part of the condominiums built by subcontractors caused damage to other parts of the buildings and that the definition of accident or occurrence negated an element of suddenness, and the definition made it plain that coverage could extend to property damage occurring over long period of time.

Progressive relied on the Ontario Court of Appeal decision in Bridgewood Building Corp. v. Lombard General Insurance Co. of Canada (2006), 266 DLR (4th) 182 (leave to appeal to SCC refused). In Bridgewood, the Court held that the damage caused by subcontractors was covered under the policies.

Lombard initially defended Progressive, but withdrew, claiming that the damage due to water penetration of the building envelope was not covered under the policies.  Lombard argued that the damages in question were the consequences of poor workmanship, and the policies were not issued to indemnify Progressive for failing to meet its contractual obligations.  It argued the policies covered damage to property caused by an accident or occurrence, which did not include the defective building envelope.

In determining this matter, the Court of Appeal reviewed the relevant parts of the policies, noting that all the policies were occurrence policies.  The Court examined the definition clauses of “accident”, “occurrence” and “property damage”, and looked at the “Your Work” exclusion and “Completed Operations Hazard” clauses.

Decision of Progressive - BC Supreme Court

The decision of the Supreme Court was that coverage had not been triggered under the insurance policies, and Lombard was therefore not under a duty to defend Progressive.  The Judge followed the decisions of Swagger Construction Ltd. v. ING Insurance Company of Canada, [2005] BCSC 1269 and GCAN Insurance Company v. Concord Pacific Group Inc., [2007] BCSC 241.

The Judge at the Supreme Court level found two main principles arising from GCAN and Swagger:

[43]   In sum, GCAN confirms that Swagger stands for two propositions which, I think govern the outcome of the application in the case at bar:

(1) liability insurance policies governing physical injury to tangible property do not contemplate the artificial division of work of the party responsible for that work into component parts for the purpose of establishing resultant damage, unless that is the clear intention of the entirety of the policy;

(2) defective construction is not an “accident” unless there is damage to the property of a third party.

The Judge held that since the entire structure was allegedly defective, it was not open for Progressive to argue that one part of the structure damaged another part.  He stated that the pleadings did not create divisions in the structure, and the Court could not artificially divide the building for insurance coverage purposes.

The Judge also held that the cost to remediate the faulty buildings which failed to keep out the elements did not qualify as an “occurrence” under the policy – it did not constitute an accident.

The Judge ruled that the subcontractor exclusion could only have meaning if the insurance contract provided coverage for the actions of a subcontractor in the first place.  He stated:

[61] Finally, I find that it is improper to look to the exclusions and exceptions to exclusions to find coverage where none exists in the first place.  This is because, as Lombard argues, the operative coverage clause in the insurance contracts acts as a condition precedent to determine coverage.  The exclusion clauses then act to take coverage away where it might otherwise exist. …

The Judge denied Progressive’s application.

Analysis by the Majority (2/3) in the Court of Appeal

Progressive argued on appeal that the claims in respect of rot and deterioration to the building envelope did fall squarely within the language of the policies (see para. 33]:

• The claim for rot and deterioration is in respect of “physical injury to tangible property;”

• The claim for cost of relocation and alternative housing or tenants during remediation work is a claim for “loss of use thereof”;

• The claim that moisture penetration occurred over a number of years is a claim that there was “continuous or repeated exposure to substantially the same general harmful conditions”.

Progressive further argued that the subcontractor exception to the “work performed” or “work product” exclusions, which operate to remove coverage for a contractor’s own work, explicitly allowed coverage for property damage arising from the work performed by subcontractors.

Lombard argued that the pleadings as a whole amounted to claims that Progressive delivered wholly defective buildings, and that the loss alleged was pure economic loss, not damage to property per se.  Lombard stated that to succeed, Progressive had to artificially subdivide the buildings into component parts, to argue that one part caused property damage to another part.  Lombard stated that this was using the “complex-structure theory” that was rejected in prior cases.

Alternatively, Lombard argued that if the loss is property damage, then the policy exclusions applied to prevent coverage.

Principles of Insurance Contract Interpretation

The Court of Appeal reviewed the general principles of insurance contract interpretation.  The main rules, summarized from para 45, being as follows:

(i) that words in the contract be given their ordinary meaning (unless they have acquired a technical meaning within the industry);
(ii) the contract be interpreted in the context of the entire agreement;
(iii) that the objective is to give effect to the parties’ true intentions; and,
(iv) that ambiguities be resolved in favour of the insured (contra proferentem).

At paragraph 48, the Court quoted from C. Brown and J. Menezes, Insurance Law in Canada (2d ed., 1991 at p. 125-6) (cited by Mr. Justice Iacobucci in Non-Marine Underwriters, Lloyd’s of London v. Scalera, [2000] 1 S.C.R. 551):

 Insurance is a mechanism for transferring fortuitous contingent risks.  Losses that are     neither fortuitous nor contingent cannot economically be transferred because the premium would have to be greater than the value of the subject matter in order to provide for marketing and adjusting costs and a profit for the insurer.  It follows, therefore, that even when the literal wording of a policy might appear to cover certain losses, it does not, in fact, do so if (1) the loss is from the inherent nature of the subject matter being insured, or (2) it results from the intentional actions of the insured.

The BC Court of Appeal referred to this economic rationale as the “implied exclusions or assumptions” found in a contract of insurance.

The Court agreed with the principle that coverage provisions should be construed broadly while exclusion provisions should be construed narrowly, and that these clauses must be read together and understood as a whole.

The Complex Structure Theory

The Court of Appeal then went on to examine Lombard’s argument that Progressive was relying on the complex structure theory to find insurance coverage. 

After reviewing the case law dealing with this theory, the Court held that even if the argument was based on the complex structure theory, which Progressive denied, that was not the end of the matter.  The Court highlighted the case law on this point, which is divided on the issue, and held that the determining factor in such cases was the wording of the insurance policy in question:

[67] It follows then, that if the wording of the policy governs, Progressive’s position cannot be rejected out of hand simply because one might argue that it postulates coverage on the basis of “the complex structure theory”. The wording of the policy must be examined to determine whether it covers damage to one part of the building caused by defects in work or products provided by the insured.

The Court then set out Progressive’s position as follows:

[69] Progressive says that the plain meaning of the insuring provisions is to provide coverage for damage to one part of the building caused by a defect in another.  While I agree that the plain meaning of the words of the contract could support this interpretation, such an interpretation flies in the face of the underlying assumption that insurance is designed to provide for fortuitous contingent risk. … The expected consequences of poor workmanship can hardly be classified as fortuitous.  It follows that to establish the policies in question were designed to cover poor workmanship or faulty design, Progressive must demonstrate the policies contain clear language to that effect.

The Court examined the “work performed” exclusions, noting that the Court in Bridgewood understood that the operation of the subcontractors’ exception provided coverage for damage to one part of the building caused by the work of subcontractors.  This argument was based on the concept that if the contract excluded shoddy work of contractors and subcontractors, there wouldn’t be a need for the subcontractor exception.

In Bridgewood, the Ontario Court of Appeal held that the exclusion related to subcontractors would have been redundant if the insurance policy in question did not provide coverage for the faulty work of subcontractors in the first place.  In finding coverage, the Court in Bridgewood relied on the historical evolution of the clauses in issue, and the reasonable expectation of the parties flowing from it.

The BC Court of Appeal distinguished Bridgewood, noting that in this case, there was no evidentiary record of industry practice.  In addition, the Court appeared to accept Lombard’s position that in British Columbia, the fact that the exclusion clause was redundant was not determinative. 

The Court also accepted Lombard’s alternative position that the subcontractor exclusion was not completely redundant, but rather, was a clause of limited application – for example, providing coverage for parts of a building damaged by other distinct parts incorporated into the structure, such as a boiler installed by the subcontractor that subsequently explodes.  In this example, while the project is being built, the Your Work exclusion operates to exclude coverage to damage to the other parts of the building caused by the faulty boiler if it was installed by the Insured or a subcontractor.  But it is not excluded once the project is completed – then the subcontractor exception applies to revive coverage for the subcontractor.

The Court found this point persuasive:

[81] … In my view this is the logical way to interpret the insuring agreement along with this exclusion.  It gives effect to the general principle that insurance is a mechanism for transferring fortuitous contingent risks, while giving life to an exclusion which would otherwise be meaningless.  It also makes some commercial sense.  While the building is under construction the general contractor has the ability to observe the work of the subcontractor and to check obvious problems.  The general contractor cannot be expected to find latent defects which can cause damage after the work is completed.  Thus the insurance provides for accidents which cause damage to the property after the work is done.

Progressive argued that in this regard, therefore, Lombard would have a duty to defend, because the claim against Progressive involves distinct items that have malfunctioned, damaging the structure in which they were incorporated.  The Court of Appeal stated that in this regard, it was necessary to look to the pleadings, and held:

[87]   …the pleader has not identified any interior components of the building such as boilers or electrical wiring that caused damage.  Instead the case against Progressive alleges that the building components themselves were defective.  In essence it is alleged that integral parts of the structure, the roofs and walls, have not functioned properly.

The Court concluded that the damage alleged does not fit within the subcontractors’ exception, and as a result, the policies did not cover the losses.

Opinion of Madam Justice Huddart (Dissent)

The decision of the B.C. Court of Appeal contained a dissenting opinion by Madam Justice Huddart, who would have ordered that the insurer has a duty to defend, and that evidence would have to be called in order to determine if the claims fell within the coverage of the policies.

The dissenting opinion found that property damage resulting from subcontractors’ negligence was an intended effect of the Broad Form Property Damage Endorsement (comparable to that in the Ont. CA decision in Bridgewood).  She states:

[92] The natural consequences of careless conduct will be fortuitous to the victim of that negligence who neither expects nor intends them.  Whether knowledge of careless conduct (or poor workmanship) precludes the triggering of coverage is a question of fact, requiring evidence.  In my view, the damage claims pleaded in the underlying actions give rise to the possibility they may fall within the coverage as I understand it.

[93]  Specifically, placing the claims within the policy wording, the claim for rot and deterioration to building is in respect of “physical injury to tangible property”, the claim for cost of relocation and alternative housing of tenants during remediation work is a claim for “loss of use thereof” and the claim that moisture penetration occurred over a number of years is a claim that there was “continuous or repeated exposure to conditions which result in property damage” or “continuous or repeated exposure to substantially the same general harmful conditions.”

In addition, Madam Justice Huddart finds no basis in the exclusion clauses to exclude coverage of property damage resulting from defective work by subcontractors.  In her view, she stated that it was premature to rule on whether any of damage claims flowing from defects in subcontractors’ work resulted from an accident or occurrence, without hearing evidence.

TABLE - KEY CLAUSES DEFINED

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