Construction / 4 min read
In November 2024, a bankruptcy court dismissed a $1.095 billion subrogation claim against contractors, including Zachry Industrial, Inc. In FLNG Liquefaction, LLC v. Zachry Industrial, Inc. (In re Zachry Industrial, Inc.), the court found that standard waiver of subrogation provisions in the project's EPC Contract, like those found in AIA contracts, barred the owner's insurers from pursuing claims against the contractors—even for damages of this magnitude.
Despite being on appeal, the Zachry case still serves as a stark reminder of how seemingly routine contract provisions can provide critical protection for contractors. Understanding these interpretations is essential in making risk management decisions. Contractors need to focus on key issues surrounding these waiver provisions and how Texas courts have enforced them.
What Property is Protected?
A common dispute in interpreting waiver of subrogation provisions has been whether they only apply to damage to the actual construction work (i.e. the "Work" as defined in AIA contracts) or extend to damage to other property. "Work" is typically defined as the construction and services required by the contract documents, whether completed or in progress. Some courts have limited the waiver to damage to the "Work" itself, reasoning that contractors should remain liable for damage to existing structures or other property not part of their contracted scope. However, Texas courts have rejected this approach. In Trinity Universal Insurance Co. v. Bill Cox Construction, the San Antonio Court of Appeals adopted the "majority approach"—looking not at what property was damaged, but at whether property insurance covered the loss. Under this interpretation, if property insurance pays for the damage, the waiver applies regardless of whether the damaged property was part of the "Work." The Dallas Court of Appeals reinforced this interpretation in Walker Engineering v. Bracebridge Corp., applying the waiver to damage of an existing building even though the owner maintained separate policies for the construction work and the existing structure.
Timing of Insurance Coverage
Another significant issue has been whether these provisions only apply to insurance specifically obtained for the construction project or extend to other property insurance purchased without relation to the construction project. This matters because owners often have pre-existing property insurance that may cover construction losses, rather than obtaining separate builder's risk policies. Texas courts have consistently held that the source or timing of the insurance coverage does not limit the waiver's effectiveness.
In Trinity Universal, the owner purchased property before entering the construction contract. Months into the project, the building undergoing renovation work burned. The owner's insurance sued the contractor under subrogation, but the court found the underlying waiver of subrogation in the owner-contractor agreement applied, even when the only property insurance was for a pre-existing policy not specifically obtained for the project.
Duration of Protection
Perhaps the most significant question for contractors has been whether these provisions continue to provide protection after construction is complete. Some have argued that since the provisions appear in construction contracts, they should only apply during construction. However, in TX C.C., Inc. v. Wilson/Barnes General Contractors, the Dallas Court of Appeals rejected this temporal limitation. The court held that the waiver could apply to losses occurring after construction is complete, even when covered by insurance voluntarily obtained by the owner post-construction. Notably, however, the court observed there were no express temporal limitations placed on the waiver.
The Zachry case was a different story, though the results were the same. The underlying EPC contract in the Zachry case contained a waiver of subrogation provision that started after substantial completion and expired at the end of the "Defect Correction Period", which was set for 18 months. An explosion took place approximately 25 months after substantial completion. Apparently though, the bankruptcy court was persuaded by Zachry's argument that the "Defect Correction Period" was extended through amendments so that the explosion occurred during the waiver period.
TX C.C., Inc. and the Zachry case highlight that when analyzing a waiver of subrogation provision, parties must be careful to know if any temporal limitations exist, and if so, how they may be modified.
Takeaways
The message from Texas courts is clear: properly drafted waiver of subrogation provisions, backed by appropriate insurance coverage, provide powerful protection against subrogation claims throughout and even after the project. The decision in the Zachry case to enforce the waiver despite the magnitude of the loss underscores this protection.
Thus, given Texas courts' broad interpretation of these waiver of subrogation provisions, owners and contractors should carefully consider their risk management strategies. For contractors, these provisions offer substantial protection, but proper implementation is crucial. During contract negotiations, contractors should scrutinize any waiver of subrogation provision to identify any limitations on the waiver's scope. After executing any such agreement, contractors should obtain written confirmation that the necessary property insurance exists. Finally, contractors should be cognizant throughout the project about any conditions that would extend or terminate waiver periods. If done properly, a contractor could find itself avoiding significant liability, as shown in the Zachry case.