In a recent decision, Ledcor Construction Limited v. Northbridge Indemnity Insurance Company
), the Alberta Court of Appeal (Court) gave guidance on the scope of defects exclusions in “all-risks” construction insurance policies. The Court established guidelines for determining whether damage during the course of construction is part of the cost of making good poor workmanship and therefore excluded from coverage, or whether it is resulting physical damage and therefore covered under these policies. This ruling gives contractors and insurers a better understanding of the extent of damage excluded by standard defects exclusion language.
Station Lands Ltd. (Station Lands), the owner, retained Ledcor Construction to serve as construction manager and coordinator of the EPCOR tower in Edmonton. Station Lands obtained an “all-risks” insurance policy from Northbridge Indemnity Insurance Co. (Northbridge). The policy provided coverage for all “direct physical loss or damage except as hereinafter provided,” but had certain exclusions, including:
- Section 4 (A)(b) (Exclusion Clause): “The cost of making good faulty workmanship, construction materials or design unless physical damage not otherwise excluded by this policy results, in which event this policy shall insure such resulting damage.”
Near the end of construction, Station Lands retained a cleaning company (Company) to clean the exterior of the building, including the windows. While completing the cleaning, the Company damaged some of the building’s windows and was forced to replace them at considerable expense.
Ledcor Construction sued after Northbridge denied coverage for the damage to the windows based on the Exclusion Clause. The issue before the Court of Queen’s Bench of Alberta, in 2013, was whether the cost of replacing the windows was excluded by the Exclusion Clause. Justice T.D. Clackson found that the scratches to the windows were not excluded by the defects exclusion and that Ledcor Construction was entitled to payment under the policy. Northbridge appealed.
COURT OF APPEAL DECISION
The Court held that the damage was not covered under the policy and that the cost of replacing the damaged windows constituted “making good faulty workmanship”. In reaching this conclusion, the Court explained that the key to determining the boundary between “making good faulty workmanship” and “resultant damages” was “the degree of physical or systemic connectedness” between the work being done, the damage, and the physical object or system being worked on.
The Court considered multiple factors that it determined were relevant to assessing whether damage is resultant or not, such as:
- Whether the damage was a foreseeable consequence of an error in the ordinary incidents of the work
- Whether the damage was within the purview of normal risks of poor workmanship, or whether it was unexpected and fortuitous
- The extent to which the damage was a portion of the project actually being worked on, or whether it was collateral damage to other areas
Applying this to the Company’s work, the Court found that the damage to the windows was not “accidental,” but was caused by the intentional application of scrapers and other materials used while cleaning the windows. Since cleaning the windows was a core part of their job, the damage was not collateral. Thus, the damages were not resultant damage, but rather a result of faulty workmanship and therefore excluded from liability.
The Court also found that “workmanship” does not require the creation of some physical product, but only requires an “application of skill or effort to a task”. Because the policy also excludes “the cost of making good design,” and designing does not create a physical product, the Court concluded that the creation of a physical product was not necessary to be considered “workmanship”. The Company’s cleaning of the windows therefore constituted “workmanship”.
Ledcor provides a measure of clarity in the application of defects exclusion clauses in “all-risks” policies. While there will be a level of unpredictability as to whether exclusion clauses apply to certain damages given the variety of factual scenarios, the factors listed by the Court help identify relevant considerations in assessing whether damage is “resultant” or not. Further, the Court has clarified that a physical product is not needed for the exclusion to be engaged, drastically broadening the scope of these exclusions.
From a risk management perspective, construction firms can take multiple steps to mitigate losses, such as:
- Determining their risk tolerance before purchasing the appropriate insurance (this means weighing the risk of paying for potential uninsured damage with the cost of the insurance)
- Ensuring that the insurance broker or agent understands their risk tolerance and identify coverage that adequately reflects this tolerance
- Discussing premiums, exclusion clauses, and the ability to self-insure when purchasing insurance to ensure that the coverage is appropriate
Insurers, in turn, can be guided by the Ledcor factors in assessing the insured risk and the measure of premiums.
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