Among the range of issues addressed by the court was an ensuing loss provision in Five Star Hotels, LLC v. Ins. Co. of Greater New York, 2011 U.S. Dist. LEXIS 31313 (S.D. N.Y. March 24, 2011).
In December 2005, Five Star installed an upgraded automatic sprinkler system in each room of its hotel. On December 24, 2008 two couplings in the sprinkler system on the tenth and eleventh floors of the hotel burst. Before the water flow could be turned off, extensive property damage was caused as the water flowed to the lower floors. An investigation determined the cause of the accident was a rupture caused by freezing of the water within the pipes.
Five Star notified its insurer, Insurance Company of Greater New York (GNY). A reservation of rights letter was issued in January 2009, informing Five Star that a further investigation had to be completed before a coverage determination could be made. Two policy provisions were cited. First, the policy's Protective Safeguards Endorsement required the insured to "maintain" an automatic sprinkler system. Second, the policy excluded faulty, inadequate or defective workmanship or repair. The ensuing loss provision, however, stated if the faulty workmanship resulted in a covered cause of loss, the insurer would pay for the loss caused by that covered cause of loss.
By May 2009, Five Star informed GNY that it was in danger of losing its franchise license and requested a coverage decision by May 25, 2009. GNY responded that it could not complete its coverage determination until more testing was completed on the pipes. In June, Five Star surrendered its franchise license because it was unable totell the franchisor when it could commence reconstruction and reopen the hotel.
Finally, on September 17, 2009, GNY determined that the accident was caused by the freezing expansion of the water inside the pipe system and denied coverage. Five Star sued for breach of the policy and for bad faith.
On cross motions for summary judgment, the court first considered whether Five Star had "maintained" a sprinkler system under the Protective Safeguards Endorsement. GNY argued that by failing to prevent the system from freezing, Five Star breached its obligation to "maintain" the system. Five Star argued it was merely required to keep the sprinkler system in place and not remove or disable it. The policy did not define "maintain." The court found the term susceptible to different meanings and therefore ambiguous. Consequently, the interpretation favoring Five Star was adopted, meaning Five Star's claim was not barred for failure to comply with the Protective Safeguards Endorsement.
Turning to the ensuing loss provision, covered losses under the policy included "leakage from fire extinguishing equipment." Therefore, damage resulting from a frozen and leaking sprinkler system was a covered cause of loss. Because of the ensuing loss provision, the exclusion for faulty design or faulty maintenance did not bar coverage for water damage resulting from the frozen sprinkler system.
Finally, GNY's motion seeking dismissal of the bad faith claim was premature because Five Star was entitled to conduct discovery. The court noted that there was virtually no case law supporting GNY's interpretation of the Protective Safeguards Endorsement or the design defect/faulty maintenance exclusion. Further, there was evidence of significant delays in GNY's investigation.
