Judge Paul G. Gardephe of the U.S. District Court for the Southern District of New York decided that two exclusions in the GNY policy issued to Five Star Hotels LLC did not bar coverage for property damage caused when a sprinkler system ruptured and flooded the hotel.
Judge Gardephe also refused to throw out Five Star's bad faith claim against GNY. Five Star sued GNY in 2009 after it lost its Holiday Inn franchise license in the wake of the flood.
Five Star originally sought at least $6 million for property damage and lost profits, but the hotel — which has been closed since the flood — has become a target for thieves and vandals, increasing the damages, said Finley Harckham, a lawyer for the company. The exact amount of damages will now have to be hashed out in court.
In December 2008, two standpipes in the hotel's sprinkler system burst, apparently because of frozen water within the pipes, according to the complaint. Thousands of gallons of water rushed through every floor.
Judge Gardephe's ruling is the second time a federal court has found that a so-called protective safeguards endorsement, which required Five Star to maintain a sprinkler system as a condition for insurance, did not bar coverage. A Virginia court came to the same conclusion in a similar suit over a warehouse fire.
The parties disputed the meaning of the term “maintain” in the endorsement. GNY argued it meant Five Star had an obligation to ensure the sprinkler system was not only functioning, but also to keep water from freezing. Five Star, meanwhile, contended it was only obligated to keep the system in place and not dismantle it. The judge agreed with Five Star.
“The issue of the protective safeguards endorsements seems to be one that insurance companies have recently caught on to, and are trying to use as a grounds for denying coverage, so that is something of a cutting-edge issue,” Harckham said. “They have not had success in the courts.”
GNY also argued that a faulty design or faulty maintenance exclusion barred coverage for the flood, but Judge Gardephe disagreed. Harckham said the law was clear on that exclusion, and that Judge Gardephe's ruling was consistent with previous decisions.
An attorney for GNY was not immediately available for comment Monday.
Five Star contended that GNY's refusal to pay its claim led to a cascade of misfortune for the company. Its bank demanded immediate repayment of about $1.1 million for the entire mortgage on the hotel in the wake of the flood. GNY agreed to pay the bank's claim, but could seek to recover that amount from Five Star, according to the complaint.
Five Star was also sued by ServiceMaster, which performed emergency cleaning and restoration services on the hotel, for $915,000 because Five Star could not pay the company back, according to the complaint.
Five Star is represented by Anderson Kill & Olick PC.
GNY is represented by Speyer & Perlberg LLP.
The case is Five Star Hotels LLC v. Insurance Co. of Greater New York, case number 09-cv-8717, in the U.S. District Court for the Southern District of New York.