Update: Defective Chinese Drywall Raises Complex Legal Issues Over Insurance Coverage

(Updated to remove estimated repair costs incorrectly attributed to the National Association of Home Builders in the United States.)Legal experts are warning users and customers with exposure to defective Chinese-made drywall to prepare for potential legal complications regarding insurance coverage.Hong Kong-based Ron Kozlowski, principal and leader of Towers Perrin's property/casualty insurance consulting practice in Southeast Asia, told BestWeek Asia/Pacific that estimated total economic losses of the defective drywall could fall between US$15 billion and US$25 billion — numbers that rival the top 10 most expensive hurricanes in history, excluding Katrina.Potential property damage, injury to users and environmental pollution that may be caused by the defective drywall will trigger more hearings on product liability and coverage lawsuits associated with the product in importing counties, according to legal consultants.During the construction boom years of 2002 to 2007, including reconstruction efforts along the Gulf Coast of the United States following the 2004 and 2005 hurricane seasons, a shortage of domestic drywall forced many builders to purchase and install drywall that was manufactured in China.According to risk management consultant Towers Perrin, between 2004 and 2007, around 500 million pounds of defective Chinese drywall were imported into the United States and installed in about 100,000 homes nationwide.Starting in late 2008, complaints surfaced that the defective drywall produces sulfur-containing gases; can corrode copper piping and wiring and turns the metal black; causes appliances and electronics such as heating, ventilation and air conditioning systems to fail; smells of rotten eggs; and causes illness and physical symptoms like difficulty in breathing and recurrent headaches, said law firm Edwards Angell Palmer & Dodge LLP.Potential LossesKozlowski said the costs of the defective drywall can be separated into five categories, including indemnity related to repairing the house, potential bodily injury from any health effects of the gases being emitted, plaintiffs' lawyer fees, defense lawyers fee and indirect costs.Although the link between defective drywall and adverse health effects may be difficult to establish, Kozlowski believes deficient drywall could still raise the health issue concern among consumers, which may also lead to potential health-related insurance losses.In addition, based on past construction defect experience, the consultant said the defective drywall-related legal fees can be substantial, representing 40% to 50% of the total claim cost. Other indirect fees, such as the loss of use and potential diminution of home value, will most likely be borne by the party found liable for property damage.Lawsuits AriseThese potential losses have prompted litigation and hearings in a number of U.S. states and federal courts, including Florida, Louisiana and Virginia. Hearings are being held to investigate the alleged health and product safety issues associated with Chinese drywall, said John David Dickenson, a lawyer at Edwards Angell.In the lawsuits, plaintiffs include individual homeowners and residents, condominium associations, builders, contractors or subcontractors and others. Defendants are mainly the drywall manufacturers, such as German company Knauf Gips and its Chinese division Knauf Plasterboard Tianjin; Taishan Gypsum Co. and U.S. Gypsum.Claims asserted include negligence, strict liability, breach of contract, breach of warranty, unfair trade practices, as well as consumer fraud, said Edwards Angell in a statement.According to Dickenson, plaintiffs are seeking damages mainly for property damage and bodily injury. These complaints have driven multiple investigations conducted by the U.S. Consumer Product Safety Commission regarding the source, nature and extent of the drywall problem.Dickenson said property damage claims include the cost of testing air; replacement of walls, with an estimated US$100,000 per home average; replacement of corroded pipes, wiring and appliances; loss of use or alternative housing costs; and diminution of property value.Bodily injury claims allege that exposure causes headaches, respiratory problems, burning eyes and fatigue, noted Dickenson.Because the investigations could lead to recalls, demonstrate defects in the product and establish a casual link between defect and bodily injury, Dickenson believes insurance policies could be implicated.Insurance CoverageElaine Johnson James, another lawyer with Edwards Angell, said policies that cover commercial general liability, builders risk and homeowners will have the primary potential risk. Other covers, like environmental or pollution event liability, professional liability, and director's and officer's liability insurance, can also be potentially implicated.James said policyholders who have encountered the drywall problem should pay attention to the policy period that is implicated. Policyholders will also need to be aware of whether there is cover for occurrence or professional services peril; whether the defendant is insured; whether all conditions to coverage are satisfied; whether any policy exclusions apply; and whether the claims the insured is asking its insurer to reimburse are covered damages.Other policy issues include whether there are clauses requiring insurers' prior consent to payments, assumption of obligations and incurred expenses, noted James.In addition, James said that a pollution event exclude under a commercial general liability policy may be a covered event under a pollution liability policy, but the scope of pollution exclusions under CGL and a covered pollution event under an environmental impairment liability policy may not be the same. Policyholders need to study this issue and their coverage in order to identify coverage gaps and ensure they can get the compensated effectively.(By Rebecca Ng, Hong Kong news editor: [email protected])