“Physical Direct Loss” Caselaw and TWIA’s Roofing Memo

For those of you that read something and you think it is dead wrong, do your eyes squint and head start shaking? Mine did when I first read the internal TWIA roofing memo. As I read it, I was thinking:

"Does the TWIA claims executive who wrote this not understand the basic insurance principle of what constitutes a direct physical loss?"

In the post, The TWIA Roof Damage Memo: Checking Basic References to Resolve Adjustment Questions, I showed that the TWIA claims memo is wrong based upon the most basic insurance training available to rookie adjusters. Then, in the post preceding this, Roof Repair Methods Prove TWIA is Wrongly Denying Roof Claims, it was shown how roofers and the manufacturer’s of shingle roofs appreciate the need to repair shingles that have seals which are broken from a hurricane’s high winds and how to fix them. Maybe the TWIA claims executives sitting behind desks in Austin do not know that adhesive seals are a tangible substance or their purpose on roofing shingles. Or, maybe they have been going to HAAG Roofing Seminars and learned a new trick on how to avoid paying for roof shingle damage. HAAG Engineering is good for my business, but not good for policyholders with an insurance claim.

What about the insurance coverage caselaw regarding "direct physical loss?" The case discussions I like best to help those understand "direct physical loss" are Ward Gen. Ins. Services, Inc. v. The Employers Fire Ins. Co., 114 Cal. App. 4th 548, 7 Cal. Rptr. 3d 844 (2003) and Meridian Textiles, Inc. v. Indemnity Insurance Co. of North America, 2008 U.S. Dist. LEXIS 91371, 2008 AMC 1411 (C.D. Cal. 2008).

The facts of Ward involved loss of the insured’s computer data which was mistakenly deleted. The insured filed a claim to recover the cost of recovering the data and the business loss incurred from temporary loss of data. The insurers denied the claim on the ground that the policy required a direct physical loss before there would be coverage. The court held computer data was not a tangible or physical item and a physical loss, which did not happen, was required in order to trigger coverage.

The Court first provided a definition for direct physical loss:

"Neither party submitted any evidence suggesting that the phrase "direct physical loss" has some technical meaning or special meaning given by usage. Accordingly, we interpret these words in their ordinary and popular sense to determine whether they impart a clear and explicit meaning in the context of the losses claimed against the insurance policy. We conclude they do.

The word "physical" is defined, inter alia, as "having material existence" and "perceptible esp. through the senses and subject to the laws of nature." (Merriam-Webster’s Collegiate Dict. (10th ed. 1993) p. 875.) "MATERIAL implies formation out of tangible matter." (Id. at p. 715.) "Tangible" means, inter alia, "capable of being perceived esp. by the sense of touch." (Id. at p. 1200.) Thus, relying on the ordinary and popular sense of the words, we say with confidence that the loss of plaintiff’s database does not qualify as a "direct physical loss," unless the database has a material existence, formed out of tangible matter, and is perceptible to the sense of touch."

The Court then ruled against the policyholder under reasoning that other courts, including one in Texas, disagree:

"…the loss of a database is the loss of organized information, in this case, the loss of client names, addresses, policy renewal dates, etc.

We fail to see how information, qua information, can be said to have a material existence, be formed out of tangible matter, or be perceptible to the sense of touch. To be sure, information is stored in a physical medium, such as a magnetic disc or tape, or even as papers in three-ring binders or a file cabinet, but the information itself remains intangible. Here, the loss suffered by plaintiff was a loss of information, i.e., the sequence of ones and zeroes stored by aligning small domains of magnetic material on the computer’s hard drive in a machine readable manner. Plaintiff did not lose the tangible material of the storage medium. Rather, plaintiff lost the stored information. The sequence of ones and zeros can be altered, rearranged, or erased, without losing or damaging the tangible material of the storage medium."

However, the Court also noted a number of examples of "direct physical loss" that provide coverage:

"…in Hughes v. Potomac Ins. Co. (1962) 199 Cal. App. 2d 239 [18 Cal. Rptr. 650], heavy rains caused the backyard of plaintiff’s insured dwelling to slide into a creek, but the structure of the building itself was not damaged. The court held the first party insurance policy covering physical loss and damage to the "dwelling" covered plaintiff’s loss. This decision does not stand for the proposition that loss of or damage to intangible property can constitute a physical loss. Quite clearly, the loss of the backyard was a physical loss of tangible property. The essential question decided by the Hughes court was whether the insured "dwelling" included the ground under the building.

…in Western Fire Ins. Co. v. First Presbyterian Church (1968) 165 Colo. 34 [437 P.2d 52], gasoline had accumulated in the soil around the insured building, infiltrating and saturating the foundation and making the structure uninhabitable. The court found the loss of use was covered by an insurance policy insuring against the consequential results of a direct physical loss. ( Id. at pp. 38-39.) Again, this case does not stand for the proposition that loss of intangible property can constitute a physical loss. A physical loss occurred when the foundations became saturated with gasoline. The essential question decided by the First Presbyterian court was whether the resultant loss of use could be recovered under the policy.

…in Azalea, Ltd. v. American States Ins. Co. (Fla.Dist.Ct.App. 1995) 656 So. 2d 600, a sewage treatment plant was vandalized by the dumping of an unknown chemical into the system. Inter alia, the chemical destroyed a bacteria colony, which was an integral part of the sewage treatment facility. ( Id. at p. 602.) The court found the loss was covered by a policy insuring against direct physical loss….

…in Retail Systems v. CNA Ins. Companies (Minn.Ct.App. 1991) 469 N.W.2d 735, a third party liability policy covering "physical injury or destruction of tangible property" was held to cover damages for the loss of a computer tape containing the results of a voter survey conducted by a political party. The computer tape, together with the data it contained, was found to be "tangible property," and the measure of recoverable damages was enhanced by the value of the lost data stored on the tape. But the condition of coverage, the loss of tangible property, was plainly satisfied by the loss of the tape…. "

In Meridian Textiles, the Court’s discussion is even more helpful to our roofing situation:

"[t]he requirement that the loss be "physical," given the ordinary definition of that term is widely held to exclude alleged losses that are intangible or incorporeal, and, thereby, to preclude any claim against the property insurer when the insured merely suffers a detrimental impact unaccompanied by a distinct, demonstrable, physical alteration of the property.

10A Couch on Ins. § 148.46 (3d ed. 2005) (citing Commercial Union Ins. Co. v. Sponholz, 866 F.2d 1162 (9th Cir. 1989) (finding that marine insurance policy did not cover defect in title, which did not constitute physical injury)….see e.g., Farmers Ins. Co. v. Trutanich, 123 Ore. App. 6, 8, 858 P.2d 1332 (Or. Ct. App. 1993) (concluding that under Oregon law odor from methamphetamine "cooking" "was ‘physical’ because it damaged the house"); Yale Univ. v. CIGNA Ins. Co., 224 F. Supp. 2d 402, 412-13 (D. Conn. 2002) (concluding that while plaintiff could not seek coverage under an all-risk policy for "mere presence of asbestos-and lead-containing materials in its buildings," it could seek coverage for the "contamination of its buildings by the presence of friable asbestos and non-intact lead-based paint").

For example, in Glens Falls Ins. Co. v. Covert, 526 S.W.2d 222 (1975), the insurance policy provided coverage against "ALL RISKS OF PHYSICAL LOSS OR DAMAGE" to certain vehicle safety stabilizers owned and sold by the insured. Id. The stabilizers fell from a storage area to the floor. Id. However, because the stabilizers were sealed units, they could not be inspected for damage. Id. Thus, it was not known if the stabilizers suffered any physical or internal damage. Id. The manufacturer of the stabilizers withdrew its warranty, and the insured decided not to sell the units, concluding that the units lost their merchantability. Id. In affirming the trial court, the Court of Appeals held that although the insured decided that the units could not be sold without their warranties, "under the clear language of the policy of insurance . . . , that was a type of loss not covered." Id. The court concluded that because "there was no physical loss or damage," the insured could not recover…

Similarly, in Columbiaknit, Inc. v. Affiliated FM Insurance Co., 1999 U.S. Dist. LEXIS 11873 (D. Or. 1999), relied upon by defendant, the court held that under an all-risk insurance policy providing coverage for physical loss or damage, the plaintiff must "show that a physical loss occurred to covered property."….

The court noted that "if an article of retail clothing has an odor strong enough that it must be washed to remove it, (and the garment therefore cannot be sold as new) it has sustained physical damage and would be covered under an ‘all-risk’ property insurance policy."… The court reasoned that on the other hand, a retailer’s "decision not to sell the garment as new, in the absence of distinct and demonstrable physical change to the garment necessitating some remedial action that would preclude honestly marketing as first quality goods, is not a covered loss."… The mere "alteration of property at the microscopic level does not obviate the requirement that physical damage need be distinct and demonstrable." Id. The court thus held that to recover, the plaintiff had to demonstrate that its garments and fabric had been water-soaked, that they had developed an odor, mold, or mildew, or that the goods had been physically changed in such a way that the goods would develop an odor, mold, or mildew." 

From this legal perspective, the substance which makes up the adhesive material on or applied to roofing shingles is tangible. It can be felt, measured, and seen. Roofers tell me that the adhesive property of the "seal" can even be measured. Policyholders will need to prove that the winds and debris carried in the winds from Hurricane Ike caused an alteration to the adhesives which formed seals to the roofing shingles. I suspect that many newer and better maintained roofs suffered less of this damage than older and less maintained roofs and shingles.

Adjusters and policyholders need to understand that finding shingle damage is not done from the ground–unless you do not want to find any damage. You have to closely inspect the shingles. Roofers tell me that one does pull up the shingles with your hand to see if the seal is broken, unlike the directions in the TWIA memo. But, be careful. Inspections can damage the roof; and, possibly damage you, if you fall.

One last warning to all who are not attorneys: do not take this post, or copy it, and start practicing law by arguing what cases mean to the insurance company or TWIA. This warning is especially applicable to public adjusters.

I am off to Rome celebrating my fiftieth birthday. Guest Bloggers will take over for the next two weeks

Ciao.