WINTER 2004

I. LEGISLATIVE/REGULATORY UPDATE
Pending Legislation

Assembly Bill 2333 (Dutra), Assembly Bill 2804 (Calderon), and Assembly Bill 2812 (Dutra): Existing law specifies the rights and requirements of a homeowner to bring an action for construction defects, including applicable standards for home construction, the statute of limitations, the burden of proof, the damages recoverable, a detailed prelitigation procedure, and the obligations of the homeowner. AB 2333 and AB 2804 would declare the intent of the Legislature to protect the interests of builders, contractors, subcontractors, laborers, and building purchasers, and to facilitate the expeditious and equitable resolution of construction defect claims and litigation. AB 2333 and AB 2804 have been referred to the Senate Committee on Rules.

AB 2812 would provide that it is the intent of the Legislature to consider whether the existing process for resolution of residential construction defect claims, pursuant to the California Civil Code, could be revised for the mutual benefit of consumers, builders, contractors, building trades, subcontractors, insurers, and others who may be interested in the equitable and expeditious resolution of these controversies. AB 2812 has also been referred to the Senate Committee on Rules.

Senate Bill 1146 (Dunn, with Assembly Member Dutra): Existing law sets forth the defects in residential construction that are actionable and the procedures necessary for bringing an action against a builder or other persons for a defect in residential construction. SB 1146 would require a builder against whom a construction defect claim has been received to offer all other potentially responsible parties a cooperative defense agreement. The bill would specify the required contents and effect of that agreement, and would establish the procedures for potentially responsible parties to enter into the agreement, reject the agreement, or demand binding arbitration. Under specified circumstances, the cooperative defense agreement would supersede any prior agreement for the payment of defense costs or liability in the action and would cause such prior agreement to be void as against public policy and unenforceable. The bill would further require a builder to propose a reallocation of defense costs among the participants to the cooperative defense agreement, which would be subject to objection and a demand for binding arbitration. SB 1146 has been re-referred to the Assembly Committee on Judiciary.

Senate Bill 1833 (Dunn): This bill would provide that it is the intent of the Legislature to enact legislation to provide for the equitable resolution of construction defect claims and litigation and to address the costs of liability insurance for builders, contractors, and subcontractors. SB 1833 is currently in the Assembly.

Senate Bill 1839 (Figueroa): Existing law makes certain indemnity agreements contained in, or affected by, a construction contract void and unenforceable as against public policy to the extent that they purport to indemnify the promisee against liability for damages for death or bodily injury, injury to property, or other loss or expense arising from his or her sole negligence or willful misconduct, or that of his or her agents, servants, or independent contractors, including defects in design provided by those persons, except as specified. Like SB 1833, SB 1839 would provide that it is the intent of the Legislature to enact legislation to provide for the equitable resolution of construction defect claims and litigation and to address the costs of liability insurance for builders, contractors, and subcontractors. SB 1839 is also currently in the Assembly.

Senate Bill 1915 (Figueroa): Existing law generally provides that provisions, clauses, covenants, or agreements regarding construction contracts that purport to indemnify a promisee against liability for damages for death or bodily injury to persons, injury to property, or other loss, damage, or expense arising from the sole negligence or willful misconduct of the promisee or the promisee’s agents, servants, or independent contractors who are directly responsible to the promisee, or for defects in design furnished by those persons, are against public policy and are void and unenforceable, except as specified. Existing law also provides that provisions, clauses, covenants, or agreements relating to construction contracts with a public agency that purport to impose on the contractor, or relieve the public agency from liability for the active negligence of the public agency, are void and unenforceable.

SB 1915 would revise and recast those provisions to, among other things, apply to indemnitees rather than promisees. The bill would also provide that those provisions do not affect the validity of any workers’ compensation insurance. The bill would specify that if a trier of fact determines that the damages are attributable to the indemnitee’s sole negligence or willful misconduct, then the indemnitor is entitled to full reimbursement of the actual costs and attorneys’ fees expended in the course of providing a defense to the indemnitee. The bill would further require an indemnitee who has been afforded a defense by an indemnitor to reimburse the indemnitor a percentage of the costs and fees actually incurred by the indemnitor in that defense, equal to the indemnitee’s percentage of negligence or willful misconduct. The bill would also make related changes and would include a statement of legislative intent. SB 1915 has been re-referred to the Assembly Committee on Judiciary.

II. JUDICIAL UPDATE

General Contractor’s Insurer Held Not Liable for Contribution to Subcontractor’s Insurer Due to Indemnity Provision in Construction Contract

In Hartford Casualty Insurance Company v. Mt. Hawley Insurance Company, a subcontractor, Valley Metal Supply (“Valley Metal”), entered into a subcontract with the general contractor, PCS/Cal-Mor (“PCS”), for work on a construction project. Pursuant to the construction contract, Valley Metal agreed to indemnify PCS for claims and liabilities arising out of Valley Metal’s performance and to obtain a commercial general liability (CGL) policy of insurance listing Valley Metal as the named insured and PCS as an additional insured. PCS also had its own separate CGL policy, designating it as the named insured. While the construction was in progress, one of Valley Metal’s employees was injured and filed suit against PCS. PCS tendered to Valley Metal’s insurer, which provided a defense and settled the case, using its own funds. Valley Metal’s insurer then filed suit against PCS’s insurer, seeking payment of one-half of the defense and settlement expenses. PCS’s insurer asserted that it was not liable for contribution because, under the indemnity provision in the construction contract, PCS was not liable to Valley Metal in any amount.

In finding for PCS’s insurer, the court held that, just as PCS is not liable to Valley Metal under the indemnity provision, so is PCS’s insurer not liable to Valley Metal’s insurer. According to the court, to hold otherwise would negate the indemnity provision in the construction contract, which stated that Valley Metal agreed to indemnify and hold PCS harmless absent PCS’s sole negligence or willful misconduct. PCS had no contractual duty to indemnify Valley Metal, and PCS’s insurer established that PCS was not the sole cause of the employee’s injuries.

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California Supreme Court Reversed Appellate Court Decision Regarding Scope of Mediation Privilege

In Rojas v. Superior Court (Coffin), the California Supreme Court granted review of the Court of Appeal’s decision in order to consider the scope of Evidence Code section 1119(b), which provides: “No writing, as defined in Section 250, that is prepared for the purpose of, in the course of, or pursuant to, a mediation . . . is admissible or subject to discovery . . . .” The Court of Appeal held that derivative materials - amalgamations of factual information and attorney thoughts, impressions, and conclusions - are qualifiedly protected; they are discoverable only upon a showing of good cause, which involves a balancing of the need for the materials and the purposes served by mediation confidentiality.

Under California Evidence Code section 1119, if photographs and written witness statements are prepared for the purposes of, in the course of, or pursuant to, a mediation, then they are not admissible or subject to discovery, and their disclosure shall not be compelled. However, a writing is not protected solely by reason of its introduction or use in a mediation, but is protected only if it was prepared for the purpose of, in the course of, or pursuant to, a mediation. In other words, a party cannot secure protection for a writing simply by using or introducing it in a mediation or even including it as part of a writing that was prepared for the purpose of, in the course of, or pursuant to, a mediation.

Moreover, the fact that witness statements may be protected from discovery does not mean that the facts set forth in those statements are so protected. Because facts known to percipient witnesses constitute evidence otherwise admissible or subject to discovery outside of mediation, those facts do not become inadmissible or protected from disclosure solely by reason of their introduction or use in a mediation through witness statements prepared for the purpose of, in the course of, or pursuant to, the mediation.

In finding that the appellate court erred in holding that so-called derivative material prepared for the purpose of, in the course of, or pursuant to, a mediation could be discoverable upon a showing of good cause, the Supreme Court stated that there was no evidence of a legislative intent supporting a “good cause” exception to the mediation privilege. The legislature expressly enacted exceptions to Evidence Code section 1119’s mediation protection in Evidence Code sections 1122, 1123, and 1124. If exemptions are specified by statute, the court may not imply additional exemptions unless there is a clear legislative intent to the contrary. To carry out the purpose of encouraging mediation by ensuring confidentiality, the California statutory scheme unqualifiedly bars disclosure of specified communications and writings associated with a mediation absent an express statutory exception.

California Supreme Court Denied Review and Decertified Mesa Vista Opinion Regarding Liability of Concrete Manufacturer and Supplier

The California Supreme Court has ordered Mesa Vista South Townhome Association v. California Portland Cement Company decertified for publication. Thus, the case can no longer be cited as law. The California Supreme Court also declined to review the opinion. In Mesa Vista, the appellate court held the concrete manufacturer and supplier liable for negligence in a construction defect action, even though the only damage suffered was submicroscopic damage to the concrete product itself.

California Supreme Court Denied Review and Decertified Opinion that Building Owners Can Recover in Negligence for Faulty Design and Engineering Causing Damage to Only Repaired Portion of Building

The California Supreme Court has also recently denied review of the appellate court’s decision in Shekhter v. Seneca Structural Design, Inc., and decertified the opinion for publication.

Shekhter was a construction defect action arising from allegedly improper repairs performed at a large apartment complex in Granada Hills after the 1994 Northridge earthquake. The owners of the apartment complex, Naum and Margo Shekhter, sued the design and construction companies and individuals allegedly responsible for the faulty repairs. The essence of the Shekhters’ complaint was that the defendants fraudulently, negligently and in breach of contract recommended and used an inadequate redesign plan for the repair and reconstruction of the property. The defendants demurred. In support of the defendants’ demurrers to the Shekhters’ negligence claims, the defendants maintained that the Shekhters failed to allege that “the cracking in the rebuilt and repaired concrete deck, columns or walls” had harmed any part of the complex. The defendants contended that in order for a negligence claim to be permitted, under Aas v. Superior Court, there must be damage to property other than the property repaired, and, in absence of damage to other property, the economic loss rule bars recovery.

In finding that the trial court erred in sustaining the demurrers to the Shekhters’ negligence claims, the Shekhter court determined that the defendants had misconstrued Aas. Requiring damage to property other than the repaired structure would improperly apply principles applicable to defective products to a case premised upon negligent design and engineering. Nothing in Aas requires that result. Aas did not address “liability for construction defects that have caused property damage,” nor did Aas state that property damage caused by a construction defect must occur to property other than the property defectively constructed in order to support a negligence action. Aas merely held that, where a construction defect has not actually caused any property damage, a homeowner may not recover damages in negligence from a contractor or subcontractor. Damages are recoverable for physical injury, but not for the benefit of a contractual bargain (such as the cost of repairing a defective product or compensation for its diminished value).

The Shekhter court further held that, because the case arose from negligent engineering and design services, not from a defective product, the products liability/construction defect cases that require damage to “other” property, and do not permit recovery for damage to the defective product itself, were not applicable. The court saw no basis for concluding that the design and engineering of a post-tension system to reinforce a structure is a “product” which, if it fails, must cause damage to property other than the structure itself in order to support a cause of action for negligence. Rather, the court found the faulty repair plan alleged in the case to be analogous to the negligence in Sabella v. Wisler, where the defendants constructed a house on an improperly compacted lot, which eventually resulted in damage to the house.

Conduct amounting to a breach of contract becomes tortuous when it also violates a duty independent of contract, and such an independent duty is recognized in cases assessing liability for construction defects causing property damage. Therefore, the Shekhter court determined that the Shekhters could recover damages in tort if they were able to prove, among other things, that the defective design resulted in “appreciable, nonspeculative, present” physical damage to the repaired structure. As a now unpublished opinion, however, this case cannot be cited as law.

Design Professionals’ Lien Remedy is Separate and Distinct From Mechanic’s Lien

In D’Orsay International Partners v. Superior Court, the property owner, D’Orsay International Partners (“D’Orsay”), sought the release of a mechanic’s lien filed by Jeffrey Stone dba Summit Builders (“Summit”). D’Orsay had entered into an agreement with Summit, a licensed general contractor, for construction of a hotel/retail development project. Thereafter, Summit provided approximately $850,000 in design related services, both by performing design and planning services, and by hiring design professionals. Construction never commenced, however, due to D’Orsay’s inability to obtain financing for the project. Hence, Summit recorded a mechanic’s lien against D’Orsay’s real property and sought foreclosure of the lien in order to get paid for its work.

The D’Orsay court found that Summit was not entitled to assert a mechanic’s lien against D’Orsay’s real property because, for a mechanic’s lien to attach, there must be “actual visible work on the land or the delivery of construction materials thereto.” It was undisputed that no actual visible work was commenced at the project site and no materials were delivered to the site. Furthermore, the Legislature had eliminated the “owner prevention” exception, as set forth in the In re Morrell’s case, to the general rule that a mechanic’s lien cannot attach until there is actual visible work on the land. The court noted that the Legislature intended for the design professionals’ lien law to be the exclusive lien remedy for design professionals in cases where no actual construction of the planned work of improvement was commenced prior to recordation of the notice of the lien. Summit had not recorded a design professionals’ lien. The court thus held that D’Orsay was entitled to an unconditional grant of its motion to release Summit’s mechanic’s lien.

Successive Homeowners Have Standing to Sue for Construction Defects Existing Prior to Purchase

Siegel v. Anderson Homes, Inc. was a construction defect action brought by subsequent owners of homes built by Anderson Homes, Inc. (“Anderson”), alleging that the homes contained numerous preexisting defects, and structural damage, that they discovered only after having purchased the homes. Anderson moved in limine to exclude all evidence of the defects and the damage on the ground that such had given rise to causes of action in the original owners such that, absent an assignment of rights by the original owners, the subsequent owners each lacked “standing” to bring the action. The trial court, in reliance on Krusi v. S.J. Amoroso Construction Co., had granted the motion and dismissed the complaint.

The appellate court in Siegel concluded that, absent proof that the original owners suffered actual economic injuries as a result of the construction defects (a factual issue properly left for trial), the original owners possessed no causes of action against Anderson that precluded the subsequent owners from maintaining their present claims. Accordingly, the court reversed the trial court’s dismissal of the claims.

The Siegel court determined that, if the discovery of latent defects were relevant only to the commencement of the statute of limitations, and not to accrual of the cause of action, the subsequent owner’s discovery of water damage in his roof and walls would have started the limitation period to run on a cause of action he did not own, but which belonged instead to the original owner of his house. But the original owner, assuming he or she learned of this theoretical windfall within the next three years, would have no cause of action against Anderson as a practical matter and so nothing of value to assign to the subsequent owner, because that owner would have suffered no compensable injury. There would, in effect, be no remedy for the defects in the subsequent owners’ homes. Hence, a cause of action cannot have accrued before there was someone in a position to actually assert it.

Insurer Had Duty to Contribute on Pro Rata Basis to Legal Expenses Incurred in Defending Common Insured

In Travelers Casualty and Surety Company v. Century Surety Company, the appellate court determined whether the defendant insurer had a duty to contribute on a pro rata basis to the litigation and indemnification expenses incurred by the plaintiff insurer in defending a common insured sued in a construction defect lawsuit, even though the defendant insurer’s policy declared it would be excess to other valid and collectible insurance. The case involved an action for declaratory relief and contribution between the two insurers, who provided primary insurance coverage to a common insured, Standard Wood Structures, a framing contractor.

In concluding that the defendant insurer had a duty to contribute on a pro rata basis, and that it would be inequitable to honor the defendant insurer’s excess other insurance clause in this case, the Travelers court, citing to the decisions in Century Surety Co. v. United Pacific Ins. Co. and Fireman’s Fund Ins. Co. v. Maryland Casualty Co., determined that there are exceptions to the rule that an insurer’s coverage terms will be honored if possible. One exception arises where the policies of two or more insurers of a common insured, providing primary coverage for the same risk, contain conflicting “other insurance” clauses. In this circumstance, if one insurer pays more than its share of the loss or defense costs without participation from the other insurer or insurers, a right to contribution arises. “The purpose of this rule of equity is to accomplish substantial justice by equalizing the common burden shared by coinsurers, and to prevent one insurer from profiting at the expense of others.”

In Travelers, the court found that both the plaintiff insurer’s and defendant insurer’s policies covered the same type of loss, but they contained conflicting other insurance clauses. Thus, giving effect to the defendant insurer’s other insurance provision, which is in the nature of an escape clause, would result in imposing on the plaintiff insurer the burden of shouldering that portion of a continuous loss attributable to the time when the defendant was the only liability insurer covering Standard.

Architect’s Claim for Equitable Indemnity Against Building Contractor Requires Predicate Tort

Porterville Unified School District (“the school district”) and BFGC Architects Planners, Inc. (“BFGC”) entered into a contract whereby BFGC agreed to prepare architectural drawings for and supervise construction of a high school. The school district also entered into contracts with Forcum/Mackey Construction Inc. (“Forcum”) and S.C. Anderson, Inc. (“Anderson”) to act as general contractors for the site and construction phases. In its complaint against BFGC for breach of contract and professional negligence, the school district alleged that after construction was completed, Anderson submitted a claim to the school district for more than $11 million, alleging “delays and disruptions stemming from [BFGC’s] defective design.” BFGC filed a cross-complaint against the general contractors, alleging that they were negligent in failing to comply with the terms of their contracts with the school district and that they breached their duties as to the standard of care. BFGC also sought implied equitable indemnity, apportionment of fault/contribution, and declaratory relief for indemnity.

The court in BFGC Architects Planners, Inc. v. Forcum/Mackey Construction, Inc. held that the general contractors’ demurrers were correctly sustained without leave to amend. The negligence cause of action failed because BFGC claimed only purely economic damages. Further, the equitable causes of action were based on the invalid negligence claim and could not stand alone. The doctrine of equitable indemnity applies only among defendants who are jointly and severally liable to the plaintiff. Without any action sounding in tort, there is no basis for a finding of potential joint and several liability on the part of defendants, thereby precluding a claim for equitable indemnity.

Insurer Had Duty to Defend Policyholder Sued for Selling
Substandard Parts to City Water Systems

The Watts Industries, Inc. v. Zurich American Insurance Company case involved an insurer’s duty to defend a policyholder who claimed there was a possibility of coverage in an underlying lawsuit. The policyholders, Watts Industries, Inc. (“Watts”) and James Jones Company (“Jones”), were manufacturers of parts used in municipal water systems. In the underlying suit, various municipalities alleged injury to their water systems and lead contamination of water flowing through the systems, resulting from substandard parts sold by Watts and Jones. During the years in which parts were sold, Watts and Jones held commercial general liability (CGL) policies issued by Zurich American Insurance Company (“Zurich”). In the policies, and subject to various exclusions, Zurich promised to defend and indemnify claims for damages resulting from property damage.

A liability insurer’s broad duty to defend its insured against third party claims arises on tender of defense by the insured, and lasts until the underlying lawsuit is concluded or the insurer shows that there is no potential for coverage. To make this showing of no coverage, the insurer must establish that the third party complaint can by no conceivable theory raise a single issue which would bring it within the policy coverage. The insurer must further prove the applicability of any coverage exclusions.

The Watts court concluded that the municipalities’ allegations of injury to their water in the underlying suits raised a possibility of coverage sufficient to trigger a duty to defend. Under the language of the policies, the allegation of lead contamination of water is sufficient to raise a possibility of coverage, and Zurich failed to show that coverage was impossible. Further, the claim that substandard parts containing hazardous materials were incorporated into the municipalities’ water systems also raised a possibility of covered property damage. Finally, Zurich failed to show that all of the damage was excluded by the impaired property exclusion. The municipalities alleged physical injury to their water systems through the incorporation of Jones’ parts and Zurich failed to prove the absence of such injury. Moreover, Zurich offered no evidence to prove the impossibility of continuing contamination of the water systems even after the replacement of the parts.

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