The Insurance Coverage Law Bulletin®

Volume 10, Number 4 • May 2011 Up Against a Chinese Drywall Developments in the Ongoing Investigation And Coverage Litigation

By John David Dickenson

omeowners from 42 states, the fumes that smell like rotten eggs, and alleg- along with other components that the District of Columbia, American edly causes respiratory health problems. drywall may have corroded. The guidance HSamoa, and Puerto Rico have As a result, state and federal lawmakers relates that completed studies show a clear reported concerns about drywall imported have taken action, and thousands of law- connection between certain Chinese manu- from China and installed in their homes. suits have been filed. This article provides factured drywall and corrosion in homes. These homeowners believe that health an update on the Chinese drywall investi- The CPSC also released a staff report on symptoms and the corrosion of metal gation as well as a summary of significant data from a study by Lawrence Berkeley components in their homes are related insurance coverage decisions to date. National Laboratory that measured chemi- to Chinese drywall. The reports began to cal emissions from samples of drywall arrive in force in 2009 and have triggered Fe d e r a l a n d St a t e Ac t i o n t o Da t e obtained for the CPSC as part of the fed- the largest consumer product investiga- With the majority of the affected homes, eral investigation. The study confirmed the tion in the history of the federal Consumer Florida is at the center of the Chinese drywall presence of hydrogen sulfide in some Chi- Product Safety Commission (“CPSC”). controversy. Three-hundred million pounds nese drywall. Hydrogen sulfide is a poten- Drywall, also known as wallboard or — more than half of the total amount of tially corrosive gas that was suspected of plasterboard, is an essential element in imported Chinese drywall — was imported causing the corrosion associated with Chi- residential construction. Home builders to Florida, enough to build approximately nese drywall. The hydrogen sulfide emis- in the United States historically used 36,000 homes. With the concurrence of the sion rates of certain Chinese drywall sam- domestically produced drywall, composed U.S. Centers for Disease Control and Pre- ples were 100 times greater than the rates primarily from gypsum, a mineral. How- vention (“CDC”), the Florida Department of of drywall samples not produced in China. ever, the housing boom of 2004-2006, and Health (“FDOH”) conducted the first test- According to the interim guidance, the pat- the scramble for materials that followed ing of Chinese drywall in 2009; two Chi- terns of reactive sulfur compounds emitted the 2004-2005 hurricanes, led suppliers to nese manufactured drywall samples from from drywall samples show a clear distinc- import vast amounts of drywall from China Florida houses were selected for analysis. tion between the Chinese drywall samples to keep up with demand. According to the Additionally, four samples of U.S. manu- manufactured in 2005/2006 and non-Chi- CPSC, more than 550 million pounds of factured drywall were tested. The FDOH nese drywall samples. drywall and associated building materials found a corrosive sulfide-based compound “Our investigations now show a clear were imported from China to the United in the Chinese drywall samples. path forward,” said CPSC Chairman Inez States between 2006-2007. According to the Ultimately, an Interagency Drywall Task Tenenbaum. “We have shared with affected investigations, use of Chinese drywall was Force, spearheaded by the CPSC, was families that hydrogen sulfide is causing the widespread, but the vast majority of the established to study homes with Chinese corrosion. Based on the scientific work to product was used in Florida, Louisiana drywall and to investigate claims of prop- date, removing the problem drywall is the and Virginia. erty damage and bodily injury associated best solution currently available to hom- Now, it is estimated that more than with the product. The Interagency Drywall eowners. Our scientific investigation now 60,000 residential units in the southeast- Task Force includes the CPSC as the lead provides a strong foundation for Congress ern United States alone contain Chinese agency, along with the CDC, the U.S. Envi- as they consider their policy options and drywall. Complaints about it have been ronmental Protection Agency (“EPA”), the explore relief for affected homeowners.” numerous. Chinese drywall allegedly cor- U.S. Department of Housing and Urban rodes copper coils and electric wires, emits Development (“HUD”), as well depart- Wh o Is Go i n g t o Pa y ? ments of health from Florida, Louisiana Once it became clear that remediation of John David “J.D.” Dickenson is a senior as- and Virginia, among others. Chinese drywall was necessary, the focus sociate in the West Palm Beach, FL, offices On Friday April 2, 2010, the CPSC and turned to how to pay for it. It has been of Edward Angell Palmer & Dodge LLP. He HUD issued “interim remediation guidance” estimated that Chinese drywall remedia- represents insurers and reinsurers in com- to homeowners impacted by Chinese man- tion efforts could average approximately plex coverage, claims handling and bad ufactured drywall. The two federal agen- $100,000 per home. The Internal Revenue faith litigation, and also provides coverage cies advised homeowners that “problem Service approved a rule in late 2010 that and excess exposure opinions. drywall” should be removed and replaced would permit taxpayers with defective dry- LJN’s The Insurance Coverage Law Bulletin May 2011 wall in their houses to deduct the cost of of these claims. It remains to be seen aging his air conditioning, garage door and repairs and replacement of damaged appli- whether Knauf will expand its remedia- flat-screen televisions. When Ward made ances. Under the new rule, taxpayers can tion program to include more homes, and a claim under his homeowner’s insurance deduct drywall related “casualty losses” perhaps condominium developments. policy, his insurer sought declaratory relief in the year in which the loss occurs, as CPSC Chairman Tenenbaum described as to whether there was coverage. long as those losses are not compensated Knauf’s decision to participate in the On the insurer’s motion for summary by insurance or other sources. This rule, remediation pilot program as a “major judgment, the court found that the dam- of course, primarily benefits homeown- breakthrough.” Tenenbaum also said that ages alleged did constitute a “direct physi- ers who can afford to fund the necessary she believes one particular government- cal loss” within the meaning of the policy. remediation themselves. Obviously, most sponsored Chinese company is resistant However, the court found that the policy’s homeowners are not in a position to con- to cooperating and currently represents an latent defects, faulty materials, corrosion duct such remediation. Thus, the core impediment to international collaboration and pollution exclusion clauses excluded question remains: Who is going to pay? on the issue. She did not name the com- coverage for Ward’s damages. The court While there has been some discussion of pany, but is likely referencing Taishan Gyp- also found that none of the losses quali- potential federal relief, the primary targets sum. Tenenbaum said in January 2011 that fied for coverage under the policy’s ensu- to date have been: 1) the manufacturers, the United States has not been able to per- ing loss provisions. Thus, the court ruled and 2) insurers. These targets have been suade Chinese officials to agree to compen- that the policy did not cover the costs pursued via thousands of state and fed- sate U.S. homeowners for losses associated associated with removing or replacing the eral lawsuits. The federal products liability with Chinese drywall. At a media briefing drywall, or any damages stemming from suits, along with some insurance coverage during a trip to China, Tenenbaum said: the drywall. However, the court would not suits, have been rolled into the Chinese We have not been able to get any of “categorically rule out” that other, as-yet Manufactured Drywall Products Liability the Chinese manufacturers to come unclaimed, losses might be covered. Multi District Litigation (“MDL”) pending in to the table to discuss our scientific Critically, and in reliance in part upon the Eastern District of Louisiana. Still other findings and what, if any, they think Travco, the presiding judge in the Chinese suits are pending in state courts across the their responsibility is to the American drywall MDL granted 10 homeowners’ United States. So far, the results have been homeowner … We are still very hope- insurers’ motions to dismiss. In In re Chi- mixed with respect to the manufacturers, ful that the Chinese companies can nese Manufactured Drywall Prods. Liab. with some progress being made with a come to the table and let us explain Litigation, 2010 U.S. Dist. LEXIS 133497 significant manufacturer. On the insurance what our findings are and see if they (E.D. La. Dec. 16, 2010), the court applied coverage side, some clarity has developed can participate in helping us make our Louisiana substantive law, as the policies with respect to first-party claims. How- homeowners get a remedy in getting were all issued to Louisiana homeowners ever, questions abound, particularly with the Chinese drywall out. on Louisiana properties. Presiding MDL respect to third-party coverages. Thus, while there continues to be prog- Judge Eldon Fallon found that, based upon Knauf Remediation ress with respect to the resolution of Travco, the damages alleged did constitute Pilot Program claims involving Knauf-manufactured dry- a “direct physical loss,” but that the loss was Although the numbers are not yet pre- wall, considerable roadblocks still exist excluded under the policies’ faulty materials cisely known, it is thought that two primary regarding Chinese participation in the and corrosion exclusions. The judge con- manufacturers, Knauf Tianjin and Taishan necessary remediation. The situation con- currently found that latent defect, pollution, Gypsum, produced the bulk of the prob- tinues to evolve. contamination, dampness and temperature lem Chinese drywall used in the United Insurance Coverage Decisions exclusions in some or all of the policies did States between 2004-2007. Knauf is a Ger- The landscape of Chinese drywall related not preclude coverage for the Chinese dry- man company that manufactured drywall in insurance coverage decisions is also con- wall claims. Importantly, the court’s refusal China through a Chinese subsidiary (Knauf tinually evolving. There have been a few to apply the pollution exclusion was based Tianjin) and then imported it to the United important decisions to date in both the first- upon the prevailing Louisiana interpretation States. Taishan Gypsum is reportedly a Chi- party (primarily homeowners) and third- of the pollution exclusion, which limits its nese “state sponsored” drywall manufacturer party (primarily CGL) claims contexts. The application to the industrial environmental with operations in China. Until recently, no focus of the coverage decisions has been in pollution context. manufacturer had formally stepped forward a few key areas. Specifically, decisions to Most of the existing first-party decisions to discuss problems with its product or to date have principally discussed: trigger of have been decided in favor of the insurers, negotiate potential remediation efforts. coverage issues, definition of “occurrence,” and the landscape regarding such claims In a significant development, it was number of “occurrences,” pollution exclu- has begun to be charted. These decisions, announced in October 2010 that Knauf sions, and “business risk” exclusions. This particularly the MDL decision regarding has agreed to pay to repair 300 homes section discusses a few key Chinese drywall the application of the pollution exclusion, in four states in a remediation pilot pro- coverage decisions issued to date. may provide clues regarding how third- gram. Owners of homes in Florida, Loui- First-Party Claims party coverage claims may be decided siana, Alabama and Mississippi with dry- In one of the first drywall coverage deci- going forward. wall manufactured by Knauf are eligible sions, the U.S. District Court for the Eastern Third-Party Claims to participate in the program. Reportedly, District of Virginia found on June 3, 2010 In the first significant Florida coverage a Louisiana-based supplier and several that a homeowner’s policy did not cover decision, Amerisure Mutual Insurance Co. home builders and insurers are contribut- damages associated with Chinese manufac- v. Albanese Popkin The Oaks Development ing to the cost of the repairs. tured drywall. In Travco Insurance Com- Group L.P., 2010 U.S. Dist. LEXIS 125918 According to reports, more than 3,000 pany v. Larry Ward, 715 F. Supp. 2d 699 (Nov. 30, 2010), the U.S. District Court for claims are pending against Knauf. The (E.D. Vir. June 3, 2010), Larry Ward alleged the Southern District of Florida held that the pilot remediation program might provide that the drywall in his Virginia Beach home developer’s insurer had no duty to provide the framework for a larger settlement released sulfuric gases into his home, dam- coverage or a defense for claims related to LJN’s The Insurance Coverage Law Bulletin May 2011

Chinese drywall made against a developer. tuted a “pollutant” as defined by the policy. larly copper, has been confirmed, and the The court ruled that the commercial gen- The court then, pointing to the language emission of corrosive hydrogen sulfide eral liability policies issued to the developer in the exclusion that stated that it only fumes has been established. did not cover the claimed losses because applies to losses arising from the discharge There is less certainty with respect to the damages at issue “manifested” before of pollutants from a site where builder or allegations of bodily injuries associated the developer’s policies were issued. its agents “are performing operations,” with Chinese drywall. The CPSC has stated The coverage dispute arose from the law- opined that the pollution exclusion did not that hydrogen sulfide gases are acidic and, suit that Alan and Annette Goddard filed unambiguously preclude coverage. The in instances of significant exposure, have against the developer, Albanese Popkin. court ultimately concluded that the allega- been known to irritate the eyes and respira- According to court documents, Albanese tions against the builder in the underlying tory tract. Further, the CPSC has stated that Popkin completed construction on the litigation appeared to relate, in part, to a it is “possible that the additive or synergistic Goddards’ Florida home in October 2006. discharge of a pollutant from the alleg- effects of these and other compounds in the The Goddards discovered damage to the air edly defective drywall that occurred and subject homes could cause irritant effects.” conditioning coils in one of their seven air continued to occur long after the builder The CDC, in its role as a member of the handling units and a periodic sulfur odor in had ceased operations at the construction Interagency Drywall Task Force, recently December 2006. Based upon the allegations site. As such, the court was not satisfied released a study targeting 11 deaths that made in the Goddards’ complaint, the court that American Safety had shown that all took place in Florida, Louisiana and Virginia found that the damages related to Chinese claims in the underlying action were clearly about which family members had expressed drywall “manifested” before the applicable excludable, and thus, American Safety had a concern regarding a potential connection policies’ January 2008 effective date. Reaf- a duty to defend and the court denied its with Chinese drywall. The CPSC studies, firming Florida’s adherence to the “manifes- motion to dismiss. released in February 2011, found that expo- tation” trigger doctrine, the court wrote: In a more recent decision, U.S. District sure to Chinese drywall was not believed to Manifestation of the damage is relevant Court Judge K. Michael Moore of the South- be a factor in the 11 deaths. Rather, in all in this context because it establishes ern District of Florida has ruled that a pol- 11 cases, the decedents had significant pre- that the Goddards sustained actual lution exclusion bars coverage for personal existing chronic health conditions before damage before the policy in question injuries and property damages associated their deaths, including cancer, diabetes, and became effective. Therefore, there was with Chinese drywall. In General Fidel- chronic heart disease. While the CPSC con- no “bodily injury” or “property dam- ity Insurance Co. v. Katherine L. Foster et cluded that none of the deaths were associ- age” during the policy period. al., Case No. 09-80743, (S.D. Fla. Mar. 24, ated with exposure to Chinese drywall, the In an unreported decision involving 2011), the court found that the compounds CDC recommended that the CPSC continue third-party coverage, Scottsdale Ins. Co. v. released by the Chinese drywall were “pol- to monitor health reports and involve the American Safety Indemnity Co., Case No. lutants” within the meaning of the policy. CDC when appropriate. 10-0445-WS-N (S.D. Ala. Nov. 10, 2010), The court further found that, under prevail- Thus, the bodily injury investigations the U.S. District Court for the Southern ing Florida law, the application of the pol- are ongoing and no conclusive determina- District of Alabama considered whether lution exclusion is not limited to injury or tions have yet been made regarding the an insurer had an obligation to defend a damage caused by environmental or indus- alleged human health impacts of defec- complaint based upon Chinese drywall trial pollution. The court granted summary tive Chinese drywall. Now that the prop- damages. The insured builder was issued judgment to the insurer, ruling that it has erty damage aspect of Chinese drywall commercial general liability policies by it no duty to defend or indemnify. has been largely confirmed, and as the insurers, Scottsdale and American Safety. The construction of the pollution exclu- recent CPSC reports have demonstrated, The builder sought coverage from its insur- sion will continue to be a critical issue in increased attention will be paid to this ers for allegations brought against it in ongoing third-party Chinese drywall cover- component of Chinese drywall claims two underlying lawsuits pending in Ala- age cases. Different jurisdictions have vastly going forward. bama state court that allegedly arose from different approaches to such exclusions. As One reality is clear: The Chinese drywall property damage caused by defective Chi- the In re Chinese Manufactured Drywall issue continues to develop at a rapid pace nese drywall. Scottsdale agreed to defend Prods. Liab. Litigation first-party decision on numerous fronts. Future announce- the builder against the allegations in the demonstrates, insurers subject to Louisi- ments from the Interagency Drywall Task underlying lawsuits, however, American ana law will have to contend with a more Force will continue to shed light on the Safety declined to participate in the defense restrictive view of the pollution exclusion. viability and potential scope of alleged on the basis that the pollution exclusion In contrast, so far it appears that Florida bodily injury claims. Interested parties can applied to preclude coverage. Scottsdale will continue to take a broader view of the also expect that pressure on the manufac- filed suit, and American Safety filed a 12(b) pollution exclusion, applying it outside of turers will continue and that the pace of (6) motion to dismiss on the basis that it the industrial environmental pollution con- coverage decisions will accelerate. Devel- had no duty to defend or indemnify the text, and specifically to indoor air claims. opments in these areas will further clarify builder in the underlying lawsuits. Accordingly, the law applicable to a partic- how Chinese drywall remediation efforts Specifically, American Safety asserted ular Chinese drywall coverage case, along will be funded going forward. that the absolute pollution exclusion in its with the forum of that dispute, can have a policy precluded coverage for the drywall- potentially dispositive impact on the inter- —❖— related claims, and thus American Safety had pretation of the pollution exclusion. no duty to participate in the defense with Scottsdale. The court, applying Georgia law, Th e Bo d i l y In j u r y Qu e s t i o n Reprinted with permission from the July 2010 edition of but focusing on the language of the pollu- Based upon the investigations to date, it the Law Journal Newsletters. © 2010 ALM Media Properties, LLC. All rights reserved. Further tion exclusion in the American Safety policy, is clear that at least some Chinese manu- duplication without permission is prohibited. For in- first opined that the fumes and off gassing factured drywall causes property damage. formation, contact 877.257.3382 or [email protected]. from the allegedly defective drywall consti- Corrosion to metal components, particu- #055081-05-11-05