Texas Supreme Court Limits, and Clarifies, Application of the Contractual Liability Exclusion in CGL Policies

On January 17, 2014, the Texas Supreme Court issued its opinion in Ewing Construction Co., Inc. v. Amerisure Ins. Co., Cause No. 12-0661.  The Court responded to certified questions posed by the U.S. Fifth Circuit Court of Appeals concerning the application of the contractual liability exclusion in CGL insurance policies.  The Court held that when a general contractor enters into a contract in which it agrees to perform its construction work in a good and workmanlike manner, without more specific provisions enlarging that obligation, it does not “assume liability” for damages arising out of its defective work, and the contractual liability exclusion does not apply.

Ewing Construction Company entered into a construction contract with Tuloso-Midway Independent School District (“TMISD”) to act as general contractor for the construction of tennis courts.  Shortly after construction was completed, TMISD noticed crumbling and cracking at the tennis courts, rendering them unusable.  TMISD sued Ewing, asserting causes of action for breach of contract and negligence.  Ewing tendered the defense of the suit to its CGL carrier, Amerisure, which denied coverage.  In the coverage litigation that ensued, Amerisure argued its duty to defend and indemnify was precluded by the contractual liability exclusion.  The federal trial court agreed, and granted Amerisure’s summary judgment, based largely on the Texas Supreme Court’s prior decision in Gilbert Texas Constr., LP v. Underwriters at Lloyds London, 327 S.W.3d 118 (Tex. 2010).  The Fifth Circuit affirmed, then subsequently withdrew its opinion and certified questions to the Texas Supreme Court concerning the application of the exclusion.

In the previous Gilbert case, Gilbert entered into a contract with Dallas Area Rapid Transit Authority (“DART”) to act as general contractor in building a light rail system.  As part of its contract, Gilbert agreed to repair or pay for damage to any property, whether owned by DART or third parties, resulting from (1) a failure to comply with the requirements of the contract, or (2) a failure to exercise reasonable care in performing the work.  Gilbert did not have common law tort liability because of sovereign immunity.  The Texas Supreme Court held that the contractual liability exclusion prevented coverage for Gilbert under the specific facts of that case.

The Ewing Court held that the expanded contractual obligations in Gilbert distinguished that case from the facts of Ewing.  The Court found that TMISD’s allegations that Ewing failed to perform in a good and workmanlike manner (thereby breaching the contract) were substantially the same as its allegations that Ewing negligently performed work under the contract.  The Court concluded that an agreement by a general contractor to perform its work in a good and workmanlike manner, without more, does not enlarge its duty to exercise ordinary care in fulfilling its contract.  As a result, Ewing did not “assume liability” for damages arising out of its defective work as to trigger the contractual liability exclusion.

The Court also addressed two related issues raised in the appellate briefing.  First, the Court emphasized in a footnote that it was not disavowing prior holdings involving the economic loss rule, which dictates that a plaintiff’s action is generally limited to breach of contract when the only loss or damage is to the subject matter of the contract.  Second, the Court addressed an argument posed by Amerisure that if the contractual liability exclusion has no application to the fact pattern presented, then CGL policies effectively become performance bonds for the contractor.  The Court dismissed that argument by pointing out that the CGL policy contains various exclusions for faulty workmanship that may apply to the construction industry.  That explanation ignores the fact that in situations involving the general contractor, such exclusions may have no bearing due to the exception for work performed by subcontractors.

Gilbert case cannot be read as a broad holding that all breach of contract claims are excluded.  Instead, the analysis must focus on the specific obligations imposed by the contract, and whether those obligations expand the insured’s liability beyond basic common law duties.