Desert Mountain v. Liberty Mutual – 8/3/2010

August 26, 2010

Arizona Court of Appeals Division One Holds That Coverage for Sums An Insured Becomes Legally Obligated to Pay as Damages May Be Triggered Even in the Absence of a Civil Lawsuit Against the Insured or a Court Order Requiring the Insured to Make Payment.

In 1995, Desert Mountain hired a third party to construct several hillside homes in north Scottsdale.  Desert Mountain eventually sold the homes to various individuals.  Several years later, Desert Mountain learned that soil settlement had caused cracks and other damages to the homes.  Desert Mountain immediately paid to have the soil issues corrected and the damage repaired.  Desert Mountain then sought reimbursement from its insurer, Liberty Mutual.  When Liberty Mutual denied coverage, Desert Mountain sued, alleging breach of contract and breach of the duty of good faith.  The superior court granted Liberty Mutual’s motion for summary judgment on the bad faith claim and also held that Desert Mountain could only recover the amount it spent to repair the property damage that resulted from the soil settlement.  After a 12-day trial, the jury found in favor of Desert Mountain on its contract claim and awarded $500,000 in damages.  The court granted Desert Mountain its attorneys’ fees and costs and denied Liberty Mutual’s motion for judgment as a matter of law or new trial.  Liberty Mutual appealed and Desert Mountain cross-appealed.

On appeal, the Arizona Court of Appeals upheld the denial of Liberty Mutual’s motion for judgment as a matter of law.  The Court first addressed Liberty Mutual’s contention that it was not required to indemnify Desert Mountain because the homeowners never actually filed suit against Desert Mountain.   Both of the relevant insurance policies contained provisions requiring Liberty Mutual to “pay those sums that the insured becomes legally obligated to pay as damages because of . . . ‘property damage’ to which [the] insurance applies.”  Interpreting these provisions according to their plain and ordinary meaning, the Court concluded that coverage for sums that an insured becomes “legally obligated to pay as damages” may be triggered even in the absence of a civil lawsuit against the insured or a court order requiring the insured to make payment.  The Court therefore held that the homeowners did not need to file suit to give rise to Liberty Mutual’s obligations under the policies.

The Court then discussed whether the breach of contract claim fell within the insuring clause of the policies.  Although several other jurisdictions have held that an insurer’s agreement to cover amounts the insured is “legally obligated to pay as damages” applies only to liability arising out of tort, the Arizona Court of Appeals refused to adopt that position in Arizona.  The Court explained that it was reluctant to adopt a rule barring coverage of contractual liabilities because the policies include various exclusions that apply to certain contractual liabilities but do not flatly bar coverage of all contract claims.  The Court held that the proper inquiry is whether an “occurrence” has caused “property damage,” not whether the ultimate remedy for that claim lies in contract or in tort.

Next, the Court addressed whether Desert Mountain’s claims were excluded by the “Broad Form Property Damage” endorsement.  By its terms, that exclusion applies only to the repair of “that particular part of any property . . . made . . . necessary by reason of faulty workmanship thereon.”  The Court of Appeals concluded that the exclusion, by its express terms, did not bar coverage of damage to non-defective property resulting from the faulty soil compaction.  According to the Court, the exclusion applies only to the repair of the defective workmanship itself.

The Court then addressed Liberty Mutual’s contention that the superior court erred by allowing the jury to award Desert Mountain the attorneys’ fees it incurred in its lawsuit against the third party that built the homes.  Generally speaking, when one party’s breach of contract places the other in a situation that “makes it necessary to incur expense to protect his interest, such costs and expenses, including attorneys’ fees, should be treated as the legal consequences of the original wrongful act and may be recoverable as damages.”  Fairway Builders, Inc. v. Malouf Towers Rental Co., 124 Ariz. 242, 258, 603 P.2d 513, 529 (App. 1979).  In this case, the record contained sufficient evidence from which the jury could have found that Liberty Mutual’s breach of contract made it necessary for Desert Mountain to sue the builder. 

Lastly, the Court addressed Liberty Mutual’s contention that the superior court abused its discretion by finding Desert Mountain was the successful party in the litigation.  Under Arizona law, a party can be the successful party even if it “does not recover the full measure of relief it requests.”  Sanborn v. Brooker & Wake Prop. Mgmt., Inc., 178 Ariz. 425, 430, 874 P.2d 982, 987 (App. 1994).  Here, although Desert Mountain’s case was reduced considerably when the court ruled that it could not recover from Liberty Mutual any amount it already had received in settlements with other parties, that reduction had nothing to do with the merits of the insurer’s substantive defenses to coverage and thus had no bearing upon who was the successful party.  The Court therefore concluded that the superior court did not abuse its discretion in finding Desert Mountain was entitled to its attorneys’ fees and costs as the successful party.

With regard to the cross-appeal, the Court of Appeals upheld the superior court’s partial summary judgment against Desert Mountain.  It is well established in Arizona that faulty workmanship does not constitute an “occurrence” within the meaning of the standard General Commercial Liability insurance policy.  Nevertheless, damage to other property caused by the defect may be recovered.  The Court of Appeals found that the superior court correctly held that the expense of removing or repairing a non-defective property is not an occurrence because it more closely resembles a cost of repairing the defect.  According to the Court, the removal or destruction of non-defective property required to repair poorly compacted soil is not damage caused by the repair of the poorly compacted soil; rather, it is damage caused by the repair of the poorly compacted soil. 

Judge Johnsen authored the opinion; Judges Orozco and Thompson joined.