Walls Closing in on Your Business? Look to Insurance to Minimize Losses Related to Drywall Imported from China
May 4, 2009
Homeowners across the country have filed class action lawsuits claiming that the drywall in their homes is making them sick and must be replaced. According to the homeowners, the drywall, which was imported from China, contains high levels of methane and sulfur chemicals that are not only dangerous to the homeowners' health, but also corrosive to their appliances. Although the Consumer Product Safety Commission is still investigating the source of the chemicals, plaintiffs allege that the manufacturers used power plant waste material called "fly ash" in manufacturing the drywall. So far, no recalls have been initiated, although U.S. Senators Bill Nelson of Florida and Mary Landrieu of Louisiana are asking for a recall and more testing and investigation.

If successful, the lawsuits could be devastating to the targeted defendants. The demanded repairs are estimated to cost about one third of the value of each affected home. Those repairs would require the defendants to gut all the affected homes and replace every piece of drywall and all damaged wiring, in addition to paying for alternative temporary housing for the plaintiffs. In addition, some homeowners are demanding that defendants pay for "medical monitoring," or repeated doctor's visits and testing to screen for latent health effects. Experts are estimating that at least fifty to sixty thousand homes may be affected.

With contractors, home builders, and suppliers already struggling from the poor housing market, these lawsuits come at a hard time for the construction industry. However, affected companies should be aware that various types of insurance policies could provide coverage for liabilities related to drywall, including products liability lawsuits, shareholder lawsuits, and government investigations. Insurers may resist paying these claims, but policyholders should not rely on their insurers' coverage determinations. Instead, policyholders should carefully evaluate their policies' language and the relevant law to arrive at an independent assessment of coverage. As discussed below, that assessment may demonstrate that coverage does exist, although the policyholder may have to fight to obtain it.

Products Liability Lawsuits and the Pollution Exclusion

If your company is sued in a class action lawsuit alleging property damage and/or bodily injury caused by drywall, Commercial General Liability ("CGL") Insurance may cover your defense costs as well as any amounts your company must pay in damages.

With minor, and often immaterial, differences in the precise language used, CGL policies typically promise that the insurers will "pay on behalf of the insured 'all sums' which the insured shall become legally obligated to pay 'as damages' because of 'bodily injury' or 'property damage'" caused by an unexpected event. This broad language is the source of an insurer's obligation to indemnify policyholders for settlements or judgments in underlying products liability claims.

In addition to the duty to indemnify, CGL policies typically provide that the insurer has "the duty to defend any suit against the insured seeking damages on account of such injury or property damage, even if any of the allegations of the suit are groundless, false or fraudulent." This obligation, often referred to as the "duty to defend," requires insurers to pay for defense costs incurred by policyholders in defending against lawsuits. Given the substantial cost of defending a single product liability lawsuit, not to mention simultaneous class action lawsuits across the country, the defense coverage alone is a highly valuable asset and can often have a more immediate and greater impact on a company's finances than obtaining coverage for a potential judgment or settlement that has not yet occurred.

Both the duty to defend and the duty to indemnify are subject to limitations and exclusions. When the stakes are high, as they are in the case of drywall-related claims, insurers often raise a litany of arguments based on the policy's limitations and exclusions in order to avoid having to provide coverage to their policyholders. In the case of drywall claims, it is widely expected that insurers will rely heavily on the so-called "pollution exclusion" as a defense to coverage. However, policyholders should not accept the insurers' interpretation of the pollution exclusion. In the past, courts have rejected similar attempts by insurers to apply the pollution exclusion outside the context of traditional environmental pollution claims. In accordance with those precedents, defendants in drywall litigation may be covered notwithstanding the presence of a pollution exclusion in their policies.

Although there are variations, the most common version of the pollution exclusion states:

      This policy shall not apply . . . to any liability of any insured arising out of the discharge, dispersal, release or escape of smoke, vapors, soot, fumes, acids, alkalis, toxic chemicals, solids, liquids or gases, waste materials or other irritants, contaminants or pollutants into or upon land, the atmosphere or any watercourse or body of water.


In the past, insurers have pointed to this exclusion when denying coverage for claims alleging property damage and bodily injury from asbestos and lead paint in homes. In the case of drywall claims, the insurers' theory will likely be similar to what the insurers advanced in the asbestos and lead contexts: that the chemicals contained in the drywall are "toxic chemicals" and/or "irritants, contaminants, or pollutants" that are "release[d]" "into the atmosphere" when the chemicals become airborne and before they are inhaled or come into damaging contact with appliances.

A majority of courts, however, have rejected similar arguments in the analogous contexts of asbestos and lead paint. Those courts have found three reasons for doing so: (1) the drafting history of the pollution exclusion indicates that it was not meant to apply outside of the traditional environmental contamination context; (2) the claim has not alleged a "discharge, dispersal, release or escape" of a "pollutant" onto "land, the atmosphere or any watercourse or body of water"; and (3) the language of the pollution exclusion is ambiguous and must be construed in favor of coverage.

First, the pollution exclusion was drafted to limit or restrict coverage for progressive environmental contamination claims. Courts in numerous jurisdictions have noted that the language contained in the pollution exclusion uses terms associated with environmental law and the improper disposal or containment of hazardous waste, and have concluded that the pollution exclusion is therefore not applicable in the context of product liability claims such as those involving lead paint and asbestos. Those courts have noted that a policyholder could have reasonably expected the pollution exclusion to exclude coverage for claims relating to industrial pollution, but not claims relating to the presence of allegedly hazardous materials in a private residence.

Second, asbestos and lead paint claims typically do not fall into the precise language used in the pollution exclusion. Several courts have found that asbestos and lead paint are not "pollutants," as that term is used in the pollution exclusion, because one would not usually associate those materials with the substances that are listed in the exclusion, such as smoke, fumes, or waste, which are typically associated with environmental pollution claims. Other courts have determined that, whether or not the materials are pollutants, their presence in buildings does not constitute a "discharge, dispersal, release or escape," because those words ordinarily imply an active or perceived physical event. They are not understood to apply to the imperceptible deterioration of lead paint or asbestos, which is attributable not to an active physical event, but to an involuntary effect over time. In addition, some courts have held that even if a pollutant was discharged, that discharge was not onto "land, the atmosphere or any watercourse or body of water" if the alleged discharge occurred within the confined space of a building. According to those courts, the term "atmosphere" means the external atmosphere that surrounds the earth, not the air that exists in a building.

Third, some courts have held the pollution exclusion is ambiguous. Exclusions in insurance policies are strictly construed against the insurer, and, if the language of the exclusion is subject to two or more reasonable interpretations, the court must adopt the interpretation that favors coverage. An insurer bears the burden of proving that a particular claim is subject to an exclusion and that the language in that exclusion is unambiguous. This principle exists because insurers typically are the ones who drafted the policies, and it is incumbent upon the drafter to make the terms clear. Based on these principles, some courts interpreting the pollution exclusion in the asbestos and lead paint contexts have determined that the language is ambiguous and have therefore construed it in favor of coverage.

For policyholders seeking insurance coverage for drywall-related claims, the cases addressing coverage for asbestos and lead paint claims could provide substantial support for their coverage position. Just as with asbestos and lead, drywall contamination is not the type of environmental liability the pollution exclusion was designed to exclude. Further, the methane and sulfur chemicals in the imported drywall are not traditional "pollutants." In addition, the alleged "discharge, dispersal, release or escape" of those chemicals did not result from an active physical event, and any release of the chemicals occurred inside the residences, not onto "land, the atmosphere or any watercourse or body of water." Moreover, to prevail on a pollution exclusion defense, the insurer would have to prove that the exclusion unambiguously excludes coverage for the sulfur and methane chemicals alleged to be emanating from imported drywall. If the insurer is unable to do so, the court should find the language ambiguous and interpret it in the policyholder's favor.

There is a substantial body of law to support the position that the pollution exclusion does not preclude coverage for drywall-related claims. Policyholders facing drywall claims should carefully review their policies, as the exact language used can vary from policy to policy. In addition, policyholders should analyze the law in the relevant jurisdiction to determine how the pollution exclusion has been interpreted by the courts. In many cases, this analysis will show that insurers are on less than solid ground if they rely on the pollution exclusion to deny coverage for drywall claims.

Government Investigations and Shareholder Lawsuits

Some members of Congress are already interested in the allegations surrounding imported drywall and the effects on their constituents. If your company is alleged to have engaged in wrongdoing related to importing or using drywall, it is possible you could face government investigations. Key management personnel could be called to testify before Congress, and the government may demand documents and access to your offices and/or construction sites for inspections. In addition, public companies and their directors and officers may face shareholder lawsuits or other efforts to impose civil liability on management.

Companies with potential drywall-related liabilities, as well as their directors and officers, should be cognizant of the scope of their Directors & Officers ("D&O") insurance, as it may be a source of recovery for costs associated with government investigations and shareholder lawsuits. D&O insurance generally provides defense and indemnity for claims made against company officers and directors arising from acts committed in the officers' and directors' official capacities, much the way CGL insurance covers defense and indemnity for actions against the company itself. A typical D&O policy provides two types of coverage that may prove valuable in this context: "Side A Insurance," which insures officers and directors for liabilities they incur as a result of wrongful acts committed in their official capacities, and "Side B Insurance," which insures the policyholder company for liabilities it incurs in indemnifying its directors and officers.

Conclusion

If your company faces potential drywall-related liabilities, you should review your insurance portfolio now. Take this opportunity to read your policies and gain an understanding of the coverage they provide. If your company already has been named as a defendant, notify the company's insurers about the lawsuit immediately. If the insurers deny coverage, or your insurance broker tells you there is no coverage, keep in mind that insurers – and even brokers – often overlook available coverage. You should not blindly accept their assertions about coverage, but instead should test those assertions by carefully examining the policy language and consulting with an attorney experienced in representing policyholders in insurance disputes. In many cases, coverage is available, although it may take a fight to obtain it.

For More Information

Kelley Drye & Warren's Insurance Recovery Group has extensive experience representing commercial policyholders engaged in third-party liability coverage disputes with their insurers. The group has secured coverage on behalf of clients for, among other things, asbestos, lead, environmental, and other mass tort claims; class-action claims; first and third-party property damage claims; directors' and officers' liabilities; and residual value losses.