Law Times

PAGE 10 FOCUS January 12, 2009 • Law Times property and builders risk insur- ance policies, has had a checkered jurisprudential history in Canada. "These exclusions apply not only to machines but to many items used in residential as well as commercial projects, such as scaffolding," says partner Guy Pratte at Borden Ladner Ger- vais LLP's Ottawa office, who with colleagues Richard Shaban and Sharon Vogel convinced the Supreme Court of Canada to re- store a $30-million Ontario Su- perior Court trial judgment in favour of their client, Canadian National Railway, in the recent case of Canadian National Rail- way Co. v. Royal and Sun Alliance Insurance Co. of Canada. The difficulty is that no clear standard had emerged in Can- ada for determining what is a faulty or improper design. One line of authorities suggested that a design was faulty if it failed to work for its intended purpose. Other cases suggested that a design was faulty if it could not cope with all foreseeable risks. Faced with the issue, the Faulty or improper design exclusion has checkered past T BY JULIUS MELNITZER For Law Times he "faulty or improper" design exclusion, com- mon to many all-risk SCC went its own way. The ma- jority ruling in CNR held that the existing lines of precedent were both wrong, and — in a decision more favourable to insureds than either previous line of cases — decided that a design was faulty only if it fell below a "realistic" threshold de- manding no more than that the design comply with a "state-of- the-art" standard. "It used to be the law that in- sured could not succeed against the faulty design clause unless they could show that there were external unpredictable forces at work that caused the failure," Pratte says. "But the unanswered question, at least in the Supreme Court, was whether a machine's failure in normal conditions was ipso facto proof of faulty design. The court held that it was not." Kirk Stevens, a partner at Le- rners LLP's Toronto office who assisted colleague Earl Cherniak and David Liblong of Toronto's Liblong Digambar Professional Corp. in the representation of Royal, says the decision poses a practical problem for insurers. "It's hard for insurers to prove that innovative equipment or structures are not state of the art because they're now cast into the position of establishing a nega- tive," he says. "More importantly, the technology behind innovative projects is frequently proprietary, making it difficult for insurers to find witnesses who will be able to say that something is not state of the art." The upshot, Stevens says, is that CNR throws the risk of in- novation onto the insurer and turns a property policy into something close to a warranty. "If Howard Hughes had got a policy like this for the Spruce Goose, he would have been able to recover against the insurer," the lawyer says. For his part, Pratte points to the nature of the policies, which are called "all-risk" policies. "The policies are so named to ensure that projects aren't inter- rupted by insurance disputes," Pratte says. "What the Supreme Court did was to prohibit in- surers from carving out an ex- clusion that is inconsistent with the overall commercial purpose of the coverage." CNR paid $890,000 for the policy, which covered a huge tunnel-boring machine that was 10 metres in diameter, 85 me- tres long, and was intended to withstand 6,000 metric tonnes of pressure expected during the digging of a tunnel under the St. Clair River between Sarnia, Ont., and Port Huron, Mich. The machine had a unique de- sign consisting of 26 seals intend- ed to prevent excavated mate- rial from reaching and interfering with the main bearing. Because the material had to penetrate all 26 seals for this to happen, engi- neers considered this so unlikely that they dubbed the system as the "Maginot line." But with less than 15 per cent of the tunnel completed, the un- expected happened. Dirt reached the main bearing despite the fact that some of the 26 seals were intact. A 229-day delay costing in excess of $20 million ensued before the boring was completed. When CNR sued, the insur- ers denied coverage on the basis of the faulty design clause. Although CNR succeeded at trial, the On- tario Court of Appeal reversed. The Supreme Court split 4-3 in favour of restoring the trial judgment. Justice Ian Binnie wrote the majority judgment, concurred in by Chief Justice Beverley McLachlin and justices Louis LeBel and Rosalie Abella. "Failure is not the same thing as fault or impropriety," Binnie wrote. "In the interpretation of insurance policies, coverage provisions should be construed broadly and exclusion clauses narrowly." Pratte argued that resort to Trust [ David Payne | innovative designs meant that even experts could not always tell what might go wrong. Bin- nie agreed, noting that a divide necessarily existed "between the current state of engineering art Every time you refer a client to our firm, you're putting your reputation on the line. It's all about trust well placed. standard and omniscience." "Leading experts were en- listed to provide a state-of-the- art machine, but, despite all efforts, there was an inevitable residual risk with the innovative design," he wrote. "The policy did not exclude all loss attrib- utable to 'the design,' but only loss attributable to a 'faulty or improper design.'" Justice Marshall Rothstein, who wrote the reasons for a mi- nority group composed also of justices Marie Deschamps and Louise Charron, would have upheld an existing standard. "Whatever their work meets or does not meet, a design is faulty or improper if it does not work for the purpose for which it was intended," he wrote. To avoid being labelled as faulty, Rothstein opined, a de- sign had to withstand all fore- seeable risks, including "ex- treme examples" of those risks. Stevens says the insurance industry will have to change the wording of the exclusion to avoid its operating as a warranty. "Binnie suggested that insur- ers might try to do just that, and that's something that is likely within lawyers' creative powers," he says. Even so, insured and their counsel should be aware that many all-risk property policies contain a "resultant damage" or "ensuing loss" exception to the faulty design exclusion. Under this exception, coverage may be available if the losses incurred are separate or distinct from the machine or structure LT E.V. Litigation & Financial Services Inc. Elaine G.Vegotsky, CMA, CFE, CFI Assisting you in Litigation & Forensic Accounting, Financial Investigations Suit e 900 4 5 Sheppar d Avenu e East, Willowdale, Ontario M2N 5W9 Telephon e o r Fax (416 ) 930-1370 (905) 731-5812 evlitigation@rogers.com Vlit_LT_Mar17_08.indd 1 Malach + Fidler LLP Mediation & Arbitration Services Wendy Moore Johns | David Tenszen For over 70 years Thomson, Rogers has built a strong, trusting, and collegial relationship with hundreds of lawyers across the province. As a law firm specializing in civil litigation, we have a record of accomplishment second to none. With a group of 30 litigators and a support staff of over 100 people, we have the resources to achieve the best possible result for your client. Moreover, we are exceptionally fair when it comes to referral fees. We welcome the chance to speak or meet with you about any potential referral. We look forward to creating a solid relationship with you that will benefit the clients we serve. THOMSON, ROGERS Barristers and Solicitors 416-868-3100 Toll free 1-888-223-0448 www.thomsonrogers.com YOUR ADVANTAGE, in and out of the courtroom 3/13/08 11:55:47 AM A Fair Settlement Is No Accident Jon Fidler, C.Med. David Dempster 439 University Avenue Suit e 1401 Toronto, Ontario M5 G 1Y8 (416) 598-1667 (416) 598-5222 (fax) Stephen Malach,Q.C. Ivan Luxenberg 30 Wertheim Court Uni t 6 Richmond Hill, Ontario L4 B 1B9 (905) 889-1667 (905) 889-1139 (fax) e-mail: mediation@malach-fidler.com www.malach-fidler.com Untitled-1 1 www.lawtimesnews.com 11/25/08 8:46:47 AM

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