Anyone reading this knows that construction defect claims often involve a lot of parties. I was once involved in a California CD case, with so many parties, that when it came time for a mediation in Los Angeles it was necessary to rent the Kodak Theatre to accommodate all of the defense lawyers, coverage lawyers, claims professionals, party representatives and experts. And it’s not surprising that there were so many players. After all the case was about a defective door knob. [That was a joke. But because it is also so believable I thought it best to say so.]

The coverage issues surrounding construction defect can be, in and of themselves, complex and lacking consensus. But there is sometimes another layer of complexity that gets placed on top of an already vexing situation – how to resolve coverage owed to a general contractor when numerous of its subcontractors were obligated to afford it additional insured status. Then consider that some of the subcontractors did not acquire the promised insurance for the GC. And of those who did, they may not have obtained coverage for an equal period of time. This may all be workable when there are only one or two subcontractors sitting at the table next to the general contractor. But what about when there are many more than that – dozens even.

This Gordian Knot was addressed in detail in Travelers Indemnity Co. v. AAA Waterproofing, Inc., No. 10-2826 (D. Colo. Jan. 17, 2014). Given the thoroughness of the opinion it may become one that other courts, confronting this unwieldy situation, choose to follow.

The court in AAA Waterproofing did a good job of taking an obviously complex case and distilling it into simple terms. I’ll try to do the same. A homeowners association filed an action against D.R. Horton, the general contractor for the construction of a residential community, for alleged construction defects. DRH’s contracts with its various subcontractors required each of them to carry a commercial general liability policy naming DRH as an additional insured. Numerous third-party defendants were subcontractors that performed work or their insurers. Travelers insured some of D.R. Horton’s subcontractors.

The construction defect litigation was ultimately settled for $39.5 million. In the course of litigation, DRH incurred approximately $1.2 million in fees and costs. DRH attempted to negotiate with Travelers and other subcontractors’ insurers regarding the extent of their obligations for payment of DRH’s defense. DRH sought to recover the $200,000 deductible that it paid and the amount that DRH’s insurer paid in defense (DRH’s insurer assigned this claim to DRH).

DRH and Travelers settled their claims against each other. The court determined that Travelers’ obligation to defend DRH was joint and several. Thus, at issue was the extent that Travelers was entitled to recover from other subcontractors, and their insurers, for having paid more than its equitable share of DRH’s defense fees and costs in the construction defect litigation.

How to allocate DRH’s defense costs and fees incurred in the construction defect litigation was no small task when you consider that there were 54 subcontractors implicated by DRH in the underlying CD litigation (or their respective insurers), with only 23 subcontractors represented as parties or by their insurers in the allocation case.

The court looked at various approaches to allocation. First, while its discussion was brief, the court rejected allocating by respective liability for the underlying construction defects. The court considered this to be neither a workable nor reliable way to determine each subcontractor’s respective liability given the settlement in the underlying case.

The court also easily rejected a policy limits-based allocation method in this case. “[S]uch a system is not workable in this case, because numerous parties failed to obtain the requisite insurance policies, making them de facto self-insurers without policy limits upon which to base their allocation. The process of determining the allocation for such de facto insurers would require the Court either to adopt an arbitrary policy limit for them, or to hybridize its approach and assign a policy limit based on a time-on-the-risk determination of the scope of its de facto policy.”

Having rejected these approaches the court settled upon an “equal shares” method, concluding that it will result in the most equitable allocation under the circumstances. “While equal shares allocation has been applied in a minority of jurisdictions, the circumstances of this case—in which each subcontractor/insurer had a joint and several duty to provide a complete defense to DRH, and no reliable method exists to tie allocation to liability or policy limits—militates in favor of a holding that those subcontractors/insurers’ responsibility for equitable contribution to DRH’s defense costs should be apportioned evenly.”

Even though the court decided upon “equal shares,” there were still more issues to be addressed. For example, how should shares be assigned? One share per subcontractor or one share per policy? After looking at the competing arguments the court concluded that the most equitable allocation method was to divide the contribution amounts into equal shares per subcontractor. The court found persuasive Travelers’ argument that, “because each subcontractor (or its respective insurer) owed DRH a complete duty to defend only once, a subcontractor that held multiple policies should not be allocated multiple shares.”

Lastly, which subcontractors should be included in the allocation? The court rejected the subcontractors argument that allocation should be applied to all 54 subcontractors implicated by DRH in the construction defect litigation. Instead the court adopted Travelers’s approach that allocation should apply only to the subcontractors who were represented in the case, either directly or through their insurers.

While the court in AAA Waterproofing explained that its decision, to adopt equal shares, was justified by the circumstances of the case, those circumstances are not so unique when it comes to multi-party construction defect litigation -- each subcontractor/insurer has a joint and several duty to provide a complete defense to the general contractor, no reliable method exists to tie allocation to liability or policy limits, some subcontractors did not obtain insurance, some obtained more than others and not all subcontractors are before the court.

Again, given the thoroughness of AAA Waterproofing it may become a case that other courts, confronting this unwieldy cost sharing situation, choose to follow.