Virginia Real Estate, Land Use & Construction Law : Virginia Construction Lawyers & Attorneys : Bean Kinney & Korman Law Firm : VA Real Estate, Land Use & Zoning

A Virginia federal court has ruled that by proactively replacing defective drywall rather than waiting to get sued and found liable, a contractor was left without liability insurance coverage. This decision should send shivers down the spine of not just contractors, but also owners and developers.

The builder, Dragas Management, built 70 houses in the Tidewater Virginia area with Chinese drywall. After it received multiple reports of health symptoms and property damages, Dragas filed claims on multiple liability and umbrella insurance policies. It also stated in writing to the carriers that it was planning on beginning a remediation protocol and forwarded the same to the carriers. Four home owners filed suit against Dragas and later voluntarily dismissed the cases based on the remediation protocol.

Initially, both insurance companies denied coverage and one filed a declaratory judgment suit. Eventually, one carrier agreed to defend Dragas subject to a reservation of rights. Dragas in turn claimed it was entitled to coverage for its remediation costs. The carriers argued that because the liability policies obligated the insurers to pay damages for which the builder became legally obligated to pay, the builder’s voluntary remediation plan was not covered under the policies.

The recent decision is actually round three of this issue in the case. The trial court initially agreed with the insurance carriers and found that Dragas’ complaint seeking coverage failed to state a claim. In round two, Dragas’ amended complaint survived a motion to dismiss by alleging more facts surrounding the threats of litigation by the homeowners as justification for its remediation protocol. Third time being the charm, on summary judgment the court ruled that in fact there was no insurance coverage. The mere threat of litigation did not rise to the level of a “legal obligation to pay”, so there was no insurance coverage. As stated by my good friend Chris Hill at Construction Law Musings, apparently good deeds still go punished.

While this decision may be correct from a strict language reading, the policy and industry implications are just horrible. This result basically states that to keep your insurance coverage intact, you cannot fix the problem, mitigate damages, and remove the condition that may even be creating significant personal injuries to occupants as alleged in these drywall lawsuits. This would seem to be an arena where the General Assembly in Virginia can and should pass a statute that affords some level of cushion to builders for doing the right thing.
 

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There is big news in the world of Chinese drywall litigation.  First, various news sources including the Miami Herald reported a $2.5 million jury verdict on behalf of a homeowner couple against Banner Supply, the supplier of the drywall.  The verdict is reported to include not just loss of use of the home and repair costs, but also stigma damages for loss of value to the property.  The jury may have become inflamed by the supply company's actions after having been informed of complaints.  According to CBS4 in Miami:

According to documents entered into evidence, when Banner Supply notified its Chinese supplier about the complaints, the supplier replaced the distributor's inventory of Chinese-made drywall with American-made drywall. In return, Banner Supply allegedly signed a confidentiality agreement not to say anything about it to the government or its customers.

This verdict is well in excess of the total of the $2.6 million verdict awarded to seven Virginia families by a New Orleans federal judge in April.  In the New Orleans case, Virginia Lawyer's Weekly reported last week that the Chinese drywall manufacturer finally entered an appearance in the New Orleans case ... to file a notice of appeal of the $2.6 million verdict.  We will await the legal arguments with interest, but absent a pretty significant service of process problem, it seems pretty hard to appeal a verdict after the case is over.  That train has seemingly left the station, although there are plenty of other claims pending in the overall class action in New Orleans and elsewhere.  Even an appearance by the Chinese entity may provide some hope of a ability to recover some measure of compensation as opposed to getting a judgment against a judgment-proof entity.

Finding defendants with deep pockets is critical to claimants as the coverage posture on these claims appears quite shaky.  Per Virginia Lawyer's Weekly, a Norfolk federal judge recently ruled that there is no coverage under home owner' policies for such losses.  As we previously discussed, another Norfolk federal judge previously ruled that a builder had failed to state a claim for coverage under its liability policies.  That case is still pending with leave to amend having been granted, pending amended claims having been filed, and the parties still in the briefing stages of another round of motions to dismiss.

These cases continue to attract commentary and interest, and we have commented on them with some frequency.  In the words of one longtime friend and insurance defense/coverage guru I know well, "These case dwarf anything we have seen before in the construction industry products liability arena.  There are literally millions of implicated defendants and parties."  Even with insurance coverage hurdles and questions of collection of judgments abounding, we can expect this topic to continue echoing for years rather than weeks or months.

Image by Matt Callow

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Back on April 14th I blogged about the creation and anticipated operation of the Virginia Defective Drywall Correction and Restoration Assistance Fund (the "DDCRAF") via two new provisions to the Code of Virginia patroned by Delegate Oder this session.  If you read that posting you'll recall that the purpose of the DDCRAF is to create a perpetual, non-reverting fund to facilitate the remediation of property impacted by the use of "Defective Drywall" in residential construction, and I promised to find out whether funding was lined up for the DDCRAF yet.  Delegate Oder's office has been very responsive and helpful in explaining how they envision funding to come through for the DDCRAF.

The bottom line is that there is no dedicated funding for the DDCRAF at this time.  According to Delegate Oder's office, the purpose of the legislation was to "...set up an account where money can be deposited and a process established where money can be distributed to victims of defective drywall... [and] to put Virginia in a position to be able to react immediately if/when funding comes through, either from the Federal Government or from legal settlements."  All said, Delegate Oder's office provided that the DDCRAF was "...modeled after the Brownfield Restoration Fund currently in place in Virginia."

Thus, anticipated funding would potentially come from two sources: the Federal Government and legal settlements.  At the Federal level, the funding for remediation issues is still being pursued by the Congressional Caucus on Contaminated Drywall, and the financial, health and safety impacts are still being managed and investigated by the U.S. Consumer Product Safety Commission, HUD and the EPA.  The concept of using money obtained from legal settlements is that there will need to be an independent place for this money to be deposited and managed.  So for the time being, the availability of funding is in the hands of Congress and Virginia's own Congressman Glenn Nye, chair of the Caucus on Contaminated Drywall, and his colleagues in the caucus, to do something creative this session.

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We've got two new provisions to the Code of Virginia as of this last legislative session which create a perpetual, non-reverting fund to facilitate the remediation of property impacted by the use of "Defective Drywall" in residential construction.  This fund will be administered by the Virginia Resources Authority and the Department of Housing and Community Development ("DHCD"). 

According to the bill's summary, the DHCD will "...develop guidelines for the distribution of loans or grants from the Fund to particular recipients. The grants and loans may be used to pay the reasonable and necessary costs associated with: (i) the remediation of a contaminated property to remove hazardous substances, hazardous wastes, or solid wastes, ( ii) the stabilization or restoration of such structures, or (iii) the demolition and removal of the existing structures or other work necessary to remediate or reuse the real property" due to the effects of "Defective Drywall." Kind of makes you nostalgic for underground storage tanks, doesn't it?

So what is considered "Defective Drywall?"  Well, it's defined at length in the bill's definitions section, so I won't bore you with all the details, but basically it must have been installed during new construction or renovation between 2001 and 2008 and meet the technical requirements of the definition (i.e. sufficient strontium, sulfur or hydrogen sulfide levels, etc.). 

Who can receive loans and/or grants from the fund?  Eligible entities for grants appear to only include local governments (who appear to be able to then use these grants to create incentives for remediation), while loans may also be made to local governments, public authorities, corporations, partnerships, or individuals for the remediation purposes.  The Virginia Resources Authority will get to determine the rates.

So the legislation is in place creating the fund.  What I've learned about government funds though, is that the most important question about any fund is: Is it funded?  Well, I don't know yet.  But I did shoot the bill's patron,  Delegate Oder, an email to see if he could shed any light on how the fund will actually operate for us - we'll let you know when we hear back.

Want to know more about Chinese and other defective drywall from a product liability standpoint?  Check out Tim Hughes' string of posts here.

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I spent this weekend thinking about the significant victory for Virginia home owners in the Chinese drywall litigation that was tried as part of the pending class action in New Orleans.  It may have mattered quite a bit that this ruling was issued in New Orleans as opposed to Virginia. 

I run the risk of delving into legal complexity, but it is necessary here to understand these issues.  We have talked about the economic loss rule several times here, in particular as it relates to products liability cases, and implications of classifying damages in such cases.  Those interested in design and construction issues in Virginia absolutely need to understand the economic loss rule.  The contours of this rule define who can whom and for what.  This rule is heavily briefed, argued, and litigated and can mean the difference between a big payday and a big goose egg.

It is clear in the Chinese drywall case that the home owners purchased a single unitary home from various builders and that one part of the home (the drywall) damaged others (piping, wiring, HVAC, et c).  There is a strong argument these cases fall under the clear mandate of the seminal Virginia case on this topic, Sensenbrenner v. Rust, Orling & Neale.  At least as to the home repair issues, the Sensenbrenner case would potentially eliminate all of the negligence based property damage theories of recovery for home repairs.

The remaining theories of recovery against remote manufacturers would be for breach of UCC warranties.  The next layer of analysis would be to evaluate whether the repair costs claimed are direct damages or whether they were consequential damages requiring privity of contract that are thus barred.  The products cases in Virginia have stuck to the statutory measure of direct damages which is the difference of the value of the product as warranted versus as delivered.

Reading the court's opinion issued last week in the drywall case, the court never discussed any of these issues.  The court discusses Virginia law, property damage, and recoverable measures of damages for property damages at length.  The economic loss rule is never mentioned, nor is the Sensenbrenner case, nor is the UCC line of cases on direct versus consequential damages.  Reviewing the cases and our previous posts, this case may have turned out very differently if tried in a Virginia court.

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As reported today by Virginia Lawyer's Weekly, seven Virginia families were awarded $2.6 million in damages by New Orleans federal Judge Eldon Fallon.  The whopping verdict allowed recovery of extensive damages, but denied recovery due to loss of value stigma damages to the homes in question.  In addition the opinion contains a number of interesting points and wrinkles that are worth highlighting.

1. The case was tried by default against the defendants.  A number of other interested parties initially intervened, then dropped back out of the case.
2. The case issued extensive scientific findings regarding problems with Chinese drywall (pp. 12-16); time will tell how much portability this court's factual findings have, particularly in light of the empty defense table.  The court's opinion suggests there was defense expert information presented for consideration by the intervenors.
3. The plaintiffs were able to convince the court that the drywall caused their home to be classified as a "severe industrial corrosive environment" (pp. 20-21) ... not exactly the place you want to raise your kids!
4. The court found that even in homes with mixed Chinese and non-Chinese drywall, all drywall needed to be removed.  This was both more efficient and eliminated identification problems.
5. Similarly, the court found that all electrical wire, copper piping, HVAC units, and extensive numbers of electrical equipment and appliances needed to be removed and replaced. 
6. Carpet, hardwood flooring, counter-tops, bathroom fixtures, trim, insulation, and cabinets need to be replaced; tile flooring that is damaged during remediation would also need to be replaced.
7. Post remediation, HEPA filtering and independent testing and certification is required.
8. The court calculated the remediation cost average at $86 per square foot.
9. The court analyzed each home owner's situation and awarded damages for repair costs, loss of personal property, economic losses caused by the disruption (such as foreclosure and bankruptcies), alternative living arrangements, and loss of use of the homes and personal property.
10. The court found that stigma loss of value damages were speculative and that the situation was repairable.  As such, the court refused to award damages on this point.

This is a very significant verdict.  It remains to be seen how the plaintiffs will covert this verdict into recovering actual dollars.

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As reported yesterday by Virginia Lawyer's Weekly, a Virginia federal judge has ruled that a builder who remediated 70 homes constructed with Chinese drywall was not entitled to insurance recovery of the remediation costs.  This case is a painful reminder of how even positive, proactive business decisions can translate to tremendous liability risks, particular where interpretation of contracts and insurance occurs under Virginia law.

Judge Rebecca Beach Smith of the US District Court for the Eastern District of Virginia (Norfolk Division) issued the opinion.  Dragas Management Corp. had multiple liability and umbrella policies with Builders Mutual Insurance Company and Firemen's Insurance Company of Washington, D.C.  The underlying liability policies all contained language which obligated the insurers to pay damages which the builder became legally obligated to pay because of bodily injury or property damage.

Dragas received reports of health symptoms and property damage from various owners.  It filed claims on its various insurance policies.  It also indicated in writing it was planning on beginning a remediation plan and tendered the same to the insurers.  Soon after, BMIC flat denied coverage and rapidly filed a declaratory judgment action.  FIC rapidly denied coverage as well.  In June 2009, BMIC sent a new letter agreeing to defend Dragas against drywall related lawsuits subject to a reservation of rights. 

Four home owner complaints were filed against Dragas.  These claims were later voluntarily dismissed because of the Dragas voluntary remediation plan.  Dragas conceded there were no other drywall related cases pending.

The court agreed with the insurance carriers that based on the allegations, Dragas' remediation plan was voluntary and undertaken without legal obligation.  Dragas may have a glimmer of hope in that leave to amend was granted and the opinion emphasized that it failed to allege even specific threats of lawsuits by individual owners or specific demands made by owners prior to remediation.

There are a host of policy and business reasons to encourage parties to proactively respond to complaints and voluntarily remediate problems.  This case stands as a cautionary tale that such plans may run seriously awry when placed into the context of tightly written insurance policies.

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Modular home construction presents significant potential improvements to home construction: significantly reduced construction time; less material waste; and reduced expense.  If not handled appropriately in terms of contracts and risk, modular homes can translate to a gigantic headache for both the designers, contractors, and the owner.

Last Thursday, Lisa Rein of the Washington Post wrote an article on mansions turning to modular construction to reduce time and costs.  The article caught my eye - while I have noticed this trend over the last 5 years or so, it was the first time I saw local mainstream press pick up on this.  My friend Jamie Baker Roskie at the always interesting Land Use Prof Blog picked up on the article and connected the thread towards local codes discouraging use of shipping containers as building materials. 

Adaptive reuse of discarded materials is one of the best ways to improve our economy's sustainability, and using shipping containers for modular construction is really an interesting approach.  Don't believe shipping containers make good construction materials?  Browse through a search of the articles at the highly informative Jetson Green blog that address containers and you will see some remarkable uses of containers, from emergency shelters for recovery in Haiti to very sweet, upscale small footprint breach structures.

Turning from containers to wood based modular construction, count me as a believer that we will see industry move towards more pre-fabricated assemblies to reduce cost and time of construction.  Despite my views on the future, I have particiated in some pretty ugly cases involving modular construction.  Based on the repetitive nature of these problems, I draw some conclusions about risks involving modular home construction that may help put the Washington Post's article into a legal context:

1. Prefabricated assemblies are sales of goods governed by Uniform Commercial Code not construction
2. Sales of goods involve different potential warranty theories and defenses than construction implied warranties
3. Sales of goods potentially have different statutes of limitations
4. While the install time may be shorter, manufacturing and delivery time may be a very different story
5. Most owner/contractor agreements involving modular construction are very weak on defining the remote manufacturer's role and responsibilities
6. Similarly, most owner/contractor agreements poorly define timing expectations until the modular unit is delivered and set on the building pad
7. Simple units seem to do pretty well; however, quality control seems to vary wildly amongst manufacturers and even within specific manufacturers depending on the specifics of a projects and the design complexity
8. As with other manufacturer's warranties, if there are problems, owners and contractors may struggly mightily to get manufacturers to respond appropriately to warranty complaints

This may be coming from the skewed perspective of seeing these projects in litigation, what do you think?  What have you seen?  Finally, how has the economic downturn improved or worsened working with modular manufacturers?

Images by Terretta

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As we watch Chinese drywall litigation erupt nationally, we see the rapid fallout: insurance companies denying coverage; suppliers going bankrupt; homeowners filing suit against all the parties in the food chain.  We have seen this story before.  In Virginia, the applicable could translate to some very harsh results even if owner plaintiffs can prove the drywall was defective and caused damages.

Why is that?  We have learned that Virginia requires a contract to recover "economic losses".  We have also discussed that this requirement extends to products liability cases for recovery of "consequential damages" despite a statute in the Uniform Commercial Code that appears to eliminate lack of privity as a defense.  We now need to see how these definitions play out in actual context.

For home owners, the owner may want to recover the cost of repair to their home associated with defective products.  Virginia courts appear to agree that owners purchase real estate from builder/sellers rather than goods and have no UCC remedies against manufacturers and sellers of goods.  Under the Sensenbrenner case, the owner's remedy for economic repairs sounds in breach of contract against the builder.  If the builder goes bankrupt, the owner may be completely out of luck.  If there are express warranties on products that were assigned to the owner, they may have an express warranty claim; however, it is quite rare that all those t's are actually crossed.

On the builder side, if a builder is sued by the owners, they might try to drag in all the contractors, subcontractors, suppliers and manufacturers to pass through the claimed repairs of the owners.  Virginia again applies conservative principles, even on products cases, and forces people to stick to the chain of privity.  On products cases in particular, in Pulte v. Parex, the Supreme Court of Virginia stated that a builder's attempt to pass through a home owner's damages were consequential damages and, "fit into this definition like a hand in a glove."  The Court applied a conservative analysis in blocking the builder's claims for breach of express and implied warranties, indemnification, and contribution.  (Disclosure - I represented the manufacturer in this case, so if there is any apparent bias here, guilty as charged).

What are the takeaways from this series of cases?

• Construction products liability cases face significant legal hurdles under Virginia law
• The basic requirement for privity of contract appears intact on Virginia products cases relative to attempts to pass through repair cost claims
• You should assume that you need to stick to the chain of privity to recover unless you get lucky
• A bankruptcy can cripple your ability to get to the responsible party

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We have seen waves of claimed problems with construction products over the last several decades: PVC plumbing fixtures and materials; fire retardant treated (FRT) plywood; exterior insulation and finish systems (EIFS).  We are on the front edge of another eruption with Chinese drywall, and indeed we have heard the first rumblings that the drywall problems may extended to materials manufactured in the United States.  It seems like the construction industry has become the Land of Misfit Toys from my favorite old school TV special, Rudolph the Red-Nosed Reindeer.  

Construction products liability cases present a very messy interaction between tort, contract, traditional economic loss principles, and the Uniform Commercial Code (UCC).  We have previously discussed Virginia's economic loss rule which basically provides that in order to recover economic losses, you need to have a contract with the party you are suing.  To understand the interplay, we need to get a little more technical than we usually do here on the blog. 

The UCC states at Section 8.2-318, "Lack of privity ... shall be no defense in any action brought against the manfuacturer or seller of goods to recover damages for breach of warranty, express or implied, or for negligence [.]"  That should end the issue on products cases as the statute is clear, right?

Wrong.  The Supreme Court of Virginia found in the Beard Plumbing case that with regards to claims for consequential damages, the consequential damage statute was more specific and controlled over the general "anti-privity" statute.  The consequential damage allowed recovery of losses known by the seller "at the time of contracting ".  Thus, the court ruled that to recover consequential damages under the UCC, the claimant still has to demonstrate privity of contract despite the UCC anti-privity statute.

Next time, we will talk about what are direct versus consequential damages, in particular as it relates to privity and economic loss.  Teaser: if the plaintiff is stuck with the direct damages as precisely defined in the UCC, the plaintiff is one unhappy camper on a construction case.

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Last week we discussed the first Chinese drywall case going to trial in January involves Virginia plaintiffs.  We have two interesting reports that may constitute both shoes dropping at once.

First, Engineering News Record reported on November 25, 2009 that a federal study, "found 'a strong association' between imported wallboard made in China and metal corrosion in U.S. homes in which the drywall has been installed." (subscription required).  These tests results appear consistent with prior testing finding the presence of corrosive chemicals in the Chinese drywall.  Other experts claim that the chemical levels are too low to cause injuries.  The Proskauer Rose firm has analyzed the federal testing results released by the U.S. Consumer Products Safety Commission (USCPSC) and found that, "Indoor testing ... detected little or no indications of various sulfur compounds[.]"(free sign-up required)

The real potential bombshell is that some homeowners have raised similar complaints of sulfur stench and corrosion, but they have no Chinese drywall ... they have American made drywall.  Scott Wolfson, spokesman for the USCPSC, is quoted in the Washington Post on November 25 as saying, "We are not limited in the scope of our investigation to just Chinese drywall."  One homeowner complaining of problems similar to those alleged in the Chinese drywall cases had testing performed on their drywall which was purely American manufactured.  The tests revealed the drywall was comprised of 50% cellulose.  A report from an MIT professor in the matter indicated that the cellulose compound in the US manufactured drywall was releasing sulfurous gases leading to causing corrosion.  University of Florida tests comparing US and Chinese drywall have found in some instances that US drywall released higher quantities of sulfurous gases than the much derided Chinese drywall.

Where does this leave us?

• Proof of causation of personal injuries on products liability cases is very difficult
• The pending Chinese drywall cases are apt to be hotly contested, but even with proof difficulties, any defendants with means should be scared to death of jury trials
• The focus on Chinese drywall may be obscuring a broader risk in the US manufactured drywall markets that has yet to full materialize

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The first trial in the infamous Chinese drywall litigation will apparently involve seven Virginia homeowners.  The first case is currently set for a bench trial on January 25, 2010. 

We have written several times regarding the Chinese drywall litigation, including several months ago in Mid Atlantic Construction.  While Virginia plaintiffs will apparently occupy the first position on the trial docket, our area in Northern Virginia has thus far been very quiet to silent on this front.  The Tidewater area has been a little different as a supplier there sold a fairly significant quantity of the drywall that was used locally.

The Chinese drywall is just the most recent wave of products liability litigation to erupt across the construction industry.  The past several waves, such as the fire retardant plywood, plumbing material, and EIFS systems litigation, each pointed out that getting around the economic loss rule in Virginia is extremely difficult.  The economic loss rule in Virginia provides that a party suing for "economic losses" is seeking a contractual remedy and must demonstrate privity of contract to recover.

The economic loss rule and its various permutations is one of the most important legal issues in construction litigation in Virginia.  As such, we are going to take the change to explore the economic loss rule and discuss it over several posts moving forward.

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