BOILER AND MACHINERY INSURANCE - New Appleman on Insurance Law Library Edition, Chapter 51

By Christine S. Davis, Lara D. Cassidy, David C. Mancini

Chapter 51 provides an overview of the key terms, conditions, and insurance coverage issues associated with insurance policies providing coverage for boiler and machinery losses.  The chapter first discusses coverage for boiler and machinery losses under traditional boiler and machinery policies.  It also explains how coverage for boiler and machinery losses may arise under comprehensive all-risk property damage policies.  The chapter outlines coverage disputes that may arise when both a boiler and machinery policy and an all-risk policy may apply to the same loss.  It also addresses questions about how boiler and machinery losses are calculated.

Section 51.01 introduces the concept of boiler and machinery insurance, and provides some historical background on the development of this particular type of coverage in the insurance industry.  In short, boiler and machinery insurance covers the unforeseen breakdown of steam boilers and other heavy machinery (the "accident") involving equipment identified with specificity in the policy (the "covered object").  The breakdown must result from a cause listed in the policy (a "named peril") and must result in direct damage to the equipment.  The breakdown must not result from an excluded cause.

Specialized insurance companies developed boiler and machinery insurance to protect the owners and operators of steam boilers and other heavy machinery from the risk of explosion or other catastrophic breakdown.  Traditional property insurers refused to accept those risks for coverage.  Since their inception, boiler and machinery policies have become standardized, so that similar terms, conditions, and exclusions populate most of them.  Differences are possible, however, so it is essential to review carefully the actual language of the particular policy in dispute for any boiler and machinery loss.

Many commercial all-risk property policies now offer protection against boiler and machinery losses as well.  An all-risk policy may provide coverage broad enough on its face to capture boiler and machinery losses.  Alternatively, insurers may blend the broad property coverage under an all-risk policy with specific boiler and machinery coverage by appending boiler and machinery policy wording by endorsement or by special coverage part.  Where the all-risk policy contains specific language aimed at boiler and machinery losses, that language usually - but not always - controls the adjustment of boiler and machinery claims.

Section 51.02 walks through the considerations that insureds and insurers must take into account in the process of procuring and placing boiler and machinery insurance.  Section 51.02[1][a], for example, discusses the types of machinery and equipment that insureds and insurers may designate as "objects" under a boiler and machinery policy.  The ultimate policy definition that the parties use for the "object" of a policy can dictate how much the insured may recover in repair or replacement costs, and may also be relevant when determining the proximate cause and damages for related coverages, such as claims for loss of business, business interruption damages, or defense and indemnification of third party claims.

Obligations and rights relating to post-occurrence notice, inspections and investigations can be especially important for claims under boiler and machinery policies, where proximate cause frequently involves a complex and detailed technical analysis.  (Section 51.02[3]).  Equipment inspections by the insurer performed during the application process or pre-occurrence during the policy period may impose non-contractual liabilities on the insurer, depending on the unique facts and circumstances, as discussed in Section 51.02[4].

Section 51.03 delves into the key terms and definitions of boiler and machinery policies.  Questions about what perils a policy covers and what objects are insured under a policy are dependent on the specific language of the policy.  In fact, the definition of an "accident" often varies, even if only slightly, from policy to policy.  Thus, the particular language in the specific boiler and machinery policy at issue will control.

Boiler and machinery policies condition coverage on whether an "accident" has taken place.  Section 51.03[2] discusses this requirement.  Modern boiler and machinery policies typically define "accident" to mean "a sudden and accidental breakdown of an 'Object' or part of an 'Object.'  At the time the breakdown occurs, it must manifest itself by physical damage to the 'Object' that necessitates repair or replacement.

Courts generally agree that an "accident" for purposes of boiler and machinery coverage is "an event or happening which is fortuitous and catastrophic . . . a sudden and instant happening rather than a condition which develops and progresses."  Examples of common "accidents" under boiler and machinery policies include generators rupturing, turbines and boilers cracking, transformers malfunctioning, and machinery and equipment exploding, to name just a few.

Section 51.03[3] identifies the types of machinery and other equipment that generally are considered "objects" under boiler and machinery policies.  Covered machinery commonly includes boiler and pressure vessels, generators, turbines, electrical objects, air conditioning and refrigeration units, and elevators, among others.  The policy definition of "objects" dictates the specific machinery that it covers, and usually includes a list of covered equipment.  Despite this specificity, disputes routinely arise over whether a particular piece of equipment is a covered object, and whether a pipe or system attached to a listed object falls within a policy's coverage.  Disputes may also revolve around whether the equipment was "in use" or "connected ready for use" at the time of the accident.  (See Section 51.03[4][e].)

Section 51.03[4] focuses on the requirement under boiler and machinery policies that there is a "sudden and accidental breakdown" of a covered object.  The courts are generally in agreement that the term "sudden" should be interpreted to mean "unforeseen and unexpected."  There is a split in authority as to whether only the breakdown of the covered object must be sudden (unforeseen or unexpected), or whether the cause of the breakdown must be sudden as well.  (Section 51.03[4][b]).

Regardless of which approach is followed, not all breakdowns are "sudden."  Thus, the circumstances surrounding the object's malfunction are crucial to a coverage determination.  For example, a large bulge in a tubular-steel boiler's plates and a separation in one of its seams did not constitute an "accident" when the conditions were only discovered after turning off the boiler for maintenance purposes.  In that case, the evidence only established the boiler's condition; nothing happened unexpectedly or suddenly to indicate an accident.

In addition to being sudden, the breakdown must be "accidental."  (Section 51.03[4][c]).  Although the "accidental" component of the phrase "sudden and accidental breakdown" has been interpreted to mean much the same as "sudden," it also means "unintended."  "Accidental" denotes "an unexpected, undesired and unintended happening or a mishap and as including an event which, according to the common understanding of people in general, would rightly be considered an accident."  Thus, an insured's deliberate and intentional act would not constitute a "sudden and accidental breakdown" under a boiler and machinery policy.

Section 51.03[4][d] examines the policy term "breakdown." A mechanical breakdown is "a failure in the working mechanism of the machinery - a functional defect in the moving parts of the equipment which causes the latter to cease functioning or to function improperly."(1)  The breakdown of the covered object must "manifest itself by physical damage to the 'object' that necessitates repair or replacement."(2)  Breakdowns may result from an internal failure of the object or an external cause.  Furthermore, successive breakdowns may constitute one accident for purposes of boiler and machinery coverage.

Next, boiler and machinery policies provide coverage for the specialized high risks, or "perils," associated with the specific machinery the policy covers.  Perils are the causes of the insured's "accident" - the causes of the sudden and accidental breakdown of the object.  Section 51.03[5] discusses "perils" in detail.

Boiler and machinery policies typically cover insureds for loss relating to such perils as explosions, ruptures of equipment, and fractures or cracks to equipment that result in the machinery's breakdown. Rather than specifying covered perils, modern policies may provide coverage for damage to covered property caused by a covered cause of loss.  In turn, "covered cause of loss" is defined as an "accident" to an object shown in the declarations.  Thus, as long as it is not specifically excluded, a covered peril will be anything that meets the definition of an "accident."

The definition of an accident in boiler and machinery policies also specifies that the sudden and accidental breakdown must "manifest itself by physical damage ... that necessitates repair or replacement."(3) The physical damage to the covered equipment be immediate and visible. Section 51.03[6] discusses the "direct damage" requirement.

Section 51.04 addresses coverage for losses other than property damage under boiler and machinery policies.  Most significantly, Sections 51.04[1][a], [b] and [c] address coverage for loss of business income during the period that equipment covered under a boiler and machinery policy is out of commission.  Indeed, a valuable aspect of boiler and machinery policies is that most of them provide coverage not only for the physical damage to machinery when an accident occurs, but also for an insured's loss of business income associated with that accident.

Key in this regard, an insured can recover business interruption losses only by proving direct physical damage to its machinery.  Furthermore, when a boiler and machinery policy excludes a specific peril, and that peril causes the accident (and the resulting business income loss), an insured may not recover its business interruption expenses.  If there are concurrent causes of damage, and the policy excludes one of the two perils, the extent of coverage for business interruption losses may depend upon the amount of time the covered peril caused the business to be unable to operate normally.

Sections 51.04[2] and [3] discusses recovery of Extra Expenses and Expediting Expenses.  "Extra expenses" are those additional costs an insured might incur to avoid or limit an interruption to its business, whereas "expediting expenses" are additional costs an insured incurs to expedite repairs for its machinery.  A boiler and machinery policy may obligate the insurer to pay one, both, or neither of these categories of costs depending on the specific language of the policy.

The seminal case discussing extra expense and expediting expense provisions held that an insured's temporary replacement of a transformer was not analogous to a "temporary repair" so as to constitute an "expediting expense."  Instead, the temporary replacement was an "extra expense," for which the policy did not provide coverage.  Thus, a policy with an expediting expense provision would cover the additional cost to fly a necessary part for a machine to the insured or to temporarily repair a covered object.  But it would not pay for extraordinary measures to keep the business going in the meantime.

Boiler and machinery policies also may cover an insured's liability to a third party for damages and or bodily injury resulting from an accident, as well as defense costs and supplementary payments for litigation involving a third party.  (See Section 51.04[5].)  Here, as is the case throughout this discussion of boiler and machinery policies, the actual language of the particular policy at issue controls.  Notably, where this obligation does exist, the payment of defense and supplementary costs for an insured typically does not erode a boiler and machinery policy's limit of insurance, as it would many in many comprehensive general liability policies and other types of property and casualty policies.

Finally, in addition to covering direct physical damage to an "object" resulting from an "accident," a boiler and machinery policy may protect its insured from consequential damage, or damage that, while still casually related to the accident, may be viewed as more indirect.  This type of loss may include, for example, loss due to food contamination or spoliation, lost market share, and delay, among others.  As with direct physical damage, a boiler and machinery policy requires that consequential damage be the result of an "accident."

Section 51.05 examines the exclusions and limitations on boiler and machinery coverage.  Boiler and machinery policies expressly exclude coverage for specified types of breakdowns, specified causes of accidents, specified perils, and specified objects.  Thus, even if a breakdown meets a policy's definition of an "Accident," policy exclusions can swallow the coverage.  Indeed, exclusions in boiler and machinery policies can span a wide breadth and have significant coverage implications.  This discussion addresses in detail the scope and prior application of exclusions related to rust and corrosion (see Section 51.05[3][a]), wear and tear (see Section 51.05[3][b]), explosion and fire (see Section 51.05[3][c]), changes mandated by ordinance or law (Section 51.05[3][d]), flood (see Section 51.05[3][e]), and loss of power and other weather-related losses (see Section 51.05[3][f]).

In the context of business interruption losses, a boiler and machinery policy conditions coverage on the insured making reasonable efforts to minimize its loss and resume its normal operations.  Section 51.05[4] outlines the due diligence that an insured must undertake to resume its operations as a predicate to obtaining business-interruption coverage.  Whether an insured has used due diligence to resume operations and when it is back to its normal operations are questions of fact to be determined by a fact finder.

Section 51.06 turns the discussion from boiler and machinery coverage under traditional boiler and machinery policies to coverage under all-risk policies.  All-risk policies cover the insured against "all risks of physical loss or damage" to the insured's real and personal property, except those risks or losses explicitly excluded under the policy.  All-risk policies also may cover the "property of others for which [the Insured] may be liable.  The breadth of all-risk policy coverage in general suggests that it should encompass the risk of loss or damage to the insured's equipment and machinery.

The scope of actual coverage under a particular all-risk policy depends on the policy definitions and exclusions.  Indeed, many commercial property policies have no special wording that identifies them as including boiler and machinery coverage.  They simply provide coverage for physical damage to any of the insured's property not excluded by the terms of the policy.

In some instances the parties will append to an all-risk policy a special coverage part or an endorsement that parallels the language and effect of a stand-alone boiler and machinery policy.  (See Section 51.06[2][b].)  The purpose of the endorsement is to expressly extend policy coverage to "equipment breakdown" or "mechanical failure."  This approach may give the insurer and insured the leeway to apply different limits of liability to the different insured risks, or serve other similar purposes.

Adding boiler and machinery coverage through a special coverage part or endorsement introduces into the all-risk policy the standard boiler and machinery concepts of "object" and "accident" to define the scope of the coverage, along with all of the other terms, conditions, and exclusions this chapter discusses.  Thus, interpreting and applying the key definitions and exclusions of a special boiler and machinery coverage part or endorsement requires following the same guidelines as for traditional boiler and machinery insurance.

Section 51.06[3] highlights some of the difficulties in adjusting boiler and machinery claims under all-risk policies.  The parties' descriptions of the losses at issue and their purported causes may not match up neatly with the ordinary words the policy uses to bring losses within the policy coverage or trigger exclusions.  The insured and insurer, along with their experts, may use nuanced technical terms to describe the machinery breakdown and resulting damage.  Even seemingly straightforward policy terms may be subject to debate when millions of dollars in coverage are on the line.

Section 51.06[4] examines what has become one of the most hotly debated topics in seeking coverage for boiler and machinery losses under all-risk policies:  the fortuity requirement.  In short, the fortuity requirement limits coverage for boiler and machinery losses along the same lines as the "accident" requirement in traditional boiler and machinery policies.  Most courts define the fortuity inquiry as whether the insured knew that that the particular damage for which he seeks coverage would result.  In the boiler and machinery context, this should mean that the insured must not know for certain that his equipment will breakdown and result in damage when he buys an all-risk policy covering that equipment.  In practice, however, the fortuity inquiry often turns on the question of whether the insured had control of or a hand in the process that resulted in the damage.  That is, the question becomes whether the insured expected or intended the cause of the damage. 

Section 51.06[5] in turn discusses the exclusions that may limit coverage for boiler and machinery losses under all-risk polices.  In short, all-risk policies have adopted many of the same exclusions as governed traditional boiler and machinery policies.  Thus, they may not insure against deterioration, depletion, inherent vice or latent defect, rust or corrosion, mold, wet or dry rot, erosion, or wear and tear. Where an all-risk policy contains these exclusions mirroring the exclusions in traditional boiler and machinery policies, the exclusions generally will apply in the all-risk context in the same manner as they do in boiler and machinery policies.

Given the potential overlap of traditional boiler and machinery insurance and commercial property insurance, an insured with both boiler and machinery coverage and an all-risk commercial insurance policy may have the opportunity to pursue coverage for some losses under either or both types of policies.  Section 51.07[1] addresses this quandary, and outlines some of the considerations that may compel an insured to pursue coverage under one policy, as opposed to another.

Sections 51.07[1] and [2] highlight some of the arguments that competing insurers may raise to suggest that another insurer is obligated to pay for the boiler and machinery loss.  The types of arguments that may arise in the insurer-versus-insurer context mirror the legal questions that arise when an insured seeks coverage for a boiler and machinery loss from one or more of its direct insurers.  Thus, the disputes may turn on the proper interpretation and application of the policy language at issue, including the terms "accident," "breakdown," and "peril insured elsewhere."

Section 51.07[3] outlines some express provisions detailing the terms on which two or more insurers with overlapping coverage obligations will share costs for a single indivisible boiler and machinery loss.  The discussion addresses defined cost-sharing agreements (see Section 51.07[3][a]),  "loss adjustment endorsements" (see Section 51.07[3][b]),  and "loan receipt agreements" (see Section 51.07[3][c]).

Section 51.08 addresses the pivotal question of how insureds and insurers will value boiler and machinery losses under their policies.  The proper valuation method is contested as routinely as the definition of "accident" in boiler and machinery cases.  This is particularly true where the purported damages are large.

The language of the insurance policy governs how the insurer will be called upon to respond to boiler and machinery losses.  The policy may provide little guidance, or it may provide a detailed explanation of the approach that will be followed.  Section 51.08[2][a] highlights a very detailed policy provision.

While the approach for calculating damages for boiler and machinery losses may differ from case to case, some points remain constant.  Regardless of the valuation method employed, for example, the insured bears the burden of presenting proof that allows the jury to allocate the amount of the loss caused by the insured peril, as opposed to other causes.  The insured also must establish what portions of a lump settlement agreement pertain to causes of action covered under boiler and machinery coverage. This rule suggests that when the insured fails to apportion settlement amounts, the insurers "are entitled to full credit for the unapportioned settlement amount; otherwise the [insured] would be rewarded for drafting an ambiguous settlement agreement."

Most modern boiler and machinery policies contemplate that the insurer will pay the insured for the costs of repairing or replacing covered property in the event of a covered accident. (See Section 51.08[2][b].)  Where the insured's equipment is the only damaged property, and the equipment can be repaired or replaced with readily available substitute of the same kind and quality, this can be a straightforward inquiry:  how much did it cost to put the insured in the same position as before the accident?  In many cases, however, the insured has obtained coverage on a piece of equipment that defies easy repair or replacement valuation because of its size or unique character.  Similar, the insured may seek to recover for losses beyond the equipment, such as stocks and inventories, that do not lend themselves to an easy calculation on a "replacement cost" basis.  In those circumstances, courts may turn to other methods to calculate losses, including the market value test (see Section 51.08[2][c][i]) or the broad evidence test (see Section 51.08[2][c][ii]).

The calculation of damages associated with business interruption claims arising from boiler and machinery losses depends on the language that the governing policy uses to define the insurer's coverage obligation and the facts of the specific incident for which the insured seeks coverage.  (See Section 51.08[4].)  Many policies base the amount to be paid "upon the net profits that the business would have earned if it had not been interrupted by damage to the plant, together with the fixed charges necessarily incurred during the suspension of the business."  Where the policy calls for a different measure of damages, however, the actual policy language will control.

•  (1) St. Mary's Area Water Auth. v. St. Paul Fire & Marine Ins. Co.,464 F. Supp. 2d 397, 405 (M.D. Pa. 2006), vacated on other grounds, 2007 U.S. Dist. LEXIS 7715 (M.D. Pa., Feb. 2, 2007).

•  (2) Tufo's Wholesale Dairy, Inc. v. CNA Fin. Corp., No. 03 Civ. 10175 (JFK),2005 U.S. Dist. LEXIS 31556 (Dec. 2, 2005).

•  (3) ISO Boiler and Machinery Coverage Form 1990.

Christine Spinella Davis is an attorney in the Legal Claims Department at Government Employees Insurance Company ("GEICO") in Chevy Chase, Maryland.  Ms. Davis handles complex coverage claims and other coverage-related matters at GEICO.  Prior to joining GEICO, Ms. Davis spent over ten years as an attorney in the Insurance Recovery Group at Howrey LLP, where she advised and represented corporate policyholders on a variety of insurance issues, including directors' and officers' claims; errors and omissions; products liability and property damage claims; and business interruption losses.  Ms. Davis graduated magna cum laude from The Catholic University of America's Columbus School of Law, where she was the Senior Note and Comment Editor of The Journal of Contemporary Health and Policy.  Ms. Davis also is a leader in the Tort Trial & Insurance Practice Section of the American Bar Association, and is an upcoming Chair of the Section's Business Litigation Committee.

Lara Degenhart Cassidy is Of Counsel to Perkins Coie in Washington, DC, where she practices in the firm's Insurance Coverage Litigation Group.  She formerly was a Partner in the Insurance Recovery Group at Howrey, LLP.  Ms. Cassidy has twenty years of experience counseling and representing businesses and their owners in insurance-coverage and other complex commercial disputes both in and out of court.  Over her career, Ms. Cassidy has obtained millions of dollars in insurance benefits for businesses facing property damage, equipment breakdown and business interruption claims, as well as environmental liabilities, product-liability claims, regulatory investigations, shareholder class-action litigation, commercial and employment disputes, and bankruptcy proceedings.  Her practice encompasses all phases of client counseling, complex litigation, appellate practice and alternative dispute resolution. 

David C. Mancini is a partner in the Washington, DC office of Seyfarth Shaw LLP and is a member of that firm's Construction, Government Contracts and Commercial Litigation practice groups.  With more than twenty-seven years of experience on legal issues arising out of large industrial, power and commercial projects, he routinely represents corporate policyholders in insurance coverage disputes, including claims for property damage, business interruption losses, errors and omissions, and general liability matters.  Mr. Mancini also is a highly experienced construction and commercial litigator, oftentimes handling complex performance related disputes involving the same type of subject matter covered under boiler and machinery insurance policies.  A graduate of Georgetown University Law Center and the University of Maryland's Smith School of Business, his law practice has taken him to most jurisdictions in the United States and many foreign countries in Europe, the Middle East and the Pacific Rim.

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