When Does an Excluded Loss End and a Covered “Resulting Loss” Begin

When an excluded loss ends and when a covered “resulting loss” begins was the subject of a recent decision in, EMS USA, Inc. v. Travelers Lloyds Ins. Co., 54509 (S.D. Tex. Feb. 28, 2018). This case involved a builder’s risk policy that covered a natural gas pipeline construction job in Texas. The insured, pipeline contractor, drilled a “pilot hole” for the pipeline through a subcontractor. Insured then had to widen the pilot hole to accommodate the pipeline, this operation involved using a reamer attached to a guidewire that directed the operation. When the guidewire broke, the reamer was stuck in the pilot hole and could not be removed, and a new pilot hole had to be excavated.

Travelers denied coverage for the cost of attempting to salvage the first pilot hole, and re-drilling the second, arguing that the loss was not covered because (1) the pilot hole was “land” that was not covered under the policy; (2) the hole had not suffered “direct physical loss or damage” as required by the policy’s coverage grant; and (3) the loss, even if within the grant of coverage, fell under the policy’s exclusion for faulty workmanship. The faulty workmanship exclusion provided that the policy would pay for “resulting loss or damage” caused by a covered cause of loss, but would not pay for the “cost of correcting or making good” the faulty workmanship. Insured argued that while the broken guidewire may have been the result of faulty workmanship, the costs of attempting to salvage the pilot hole, and re-drilling a new one, were covered resulting losses.

In considering the parties’ cross-motions for summary judgment the magistrate judge agreed with insured that the pilot hole, once drilled, ceased to become “land” and could be considered a “structure” covered under the policy. The court also held that the pilot hole, and not merely the broken guidewire had suffered “direct physical loss or damage.” But the court agreed with Travelers as to the application of the faulty workmanship exclusion.  It found insured’s argument “without merit” that the faulty workmanship was the broken guidewire, and everything that followed was covered resulting loss. The magistrate judge recommended that summary judgment be granted for Travelers, and the district court judge adopted the report and recommendation.

The court in EMS adopted a common-sense approach to analyzing whether excluded faulty workmanship resulted in an ensuing loss, it focused on the lack of an event separate and distinct from the malfunctioning construction process itself. As insured’s only damage was the cost of making good the damage caused by faulty workmanship, and not a separate and independent loss, it fell squarely within the ambit of the exclusion, and not within the ensuing loss clause.

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