Applying Wisconsin law, the United States Court of Appeals for the Seventh Circuit has held that a breach of contract exclusion did not apply to bar coverage for a claim because it had the effect of rendering the insured’s errors and omissions professional liability coverage illusory.  Crum & Forster Specialty Ins. Co. v. DVO, Inc., 2019 WL 4594229 (7th Cir. Sept. 23, 2019).

The insured company designs and builds anaerobic digesters, which use microorganisms to break down biodegradable materials to create biogas.  The company contracted with a dairy farm to design and build an anaerobic digester for the farm.  After the company failed to properly design substantial portions of the equipment and fulfill its obligations under the contract, the farm sued the company.  The company’s E&O insurer denied coverage for the suit, arguing that the policy’s breach of contract exclusion – which applies to claims based upon or arising out of breach of contract – precluded coverage for the claim in its entirety.

In the ensuing coverage action, the company argued that the breach of contract exclusion was so broad that it effectively rendered coverage illusory, and therefore could not preclude a duty to defend.  The trial court rejected this argument, holding that the exclusion did not render coverage illusory because third-party tort claims would not fall within the exclusion.  The appellate court disagreed, however, finding that the breach of contract exclusion “is extremely broad” and necessarily excludes coverage for all claims for professional liability, even those that are brought by third-parties.  In reaching this conclusion, the court emphasized that Wisconsin courts have interpreted the lead in language “arising out of” broadly to reach “any conduct that has a causal relationship between the injury and the event not covered [i.e., breach of contract].”

The appellate court ruled that the exclusion rendered coverage illusory, and as a result, that the policy should be reformed to meet the insured’s reasonable expectations in securing that coverage.  The appellate court remanded the case to the trial court to consider that question.