Government contractors working on complex shipbuilding projects must carefully navigate insurance clauses that allocate risk between the contractor and the government. The Bath Iron Works case provides important guidance on how boards and courts interpret the “all-risk” insurance provisions commonly found in federal shipbuilding contracts, particularly when determining whether damage stems from defective workmanship or constitutes a fortuitous casualty loss.
Background: Corrosion in the DDG 90 Destroyer
In March 1998, the Navy awarded Bath Iron Works Corporation (BIW) a fixed-price incentive fee contract to construct six DDG 51-class guided missile destroyers, including the DDG 90. The contract contained an “all-risk” insurance clause under which the government assumed risks of loss or damage to vessels during construction, similar to a Marine Builders Risk policy. However, the clause excluded coverage for “defects themselves” in the vessel arising from defective or nonconforming workmanship by the contractor or its subcontractors. The clause also imposed a $50,000 deductible per incident and explicitly excluded delay or disruption costs.
During construction, BIW installed and tested the fuel oil fill and transfer system on the DDG 90. The contract specifications required flushing this system with fuel after hydrostatic testing. However, BIW had amended its internal operating instructions in 1998 to permit flushing with fresh water instead, and the Navy had accepted this procedure on multiple previous vessels without objection.
On September 9, 2002, a BIW employee departed from both the contract specification and the company’s own modified procedures by flushing the system with brackish water from the Kennebec River. This water remained in the pipes for approximately eight months. In April and May 2003, BIW discovered over seventy corrosion-induced holes in the piping.
BIW incurred costs exceeding $1.2 million to investigate, repair, and replace the damaged piping, and submitted an insurance claim to the Navy. The contracting officer denied the claim, characterizing the damage as resulting from defective workmanship excluded under the insurance clause. BIW appealed to the Armed Services Board of Contract Appeals.
The ASBCA Decision: A Broad Interpretation Favoring Coverage
In December 2005, the ASBCA ruled in favor of BIW, awarding an equitable adjustment of approximately $1.13 million after deductions. (See ASBCA No. 54544.)
The Board’s Key Interpretations
The Board analyzed the insurance clause by reference to the 1942 Marine Builders Risk policy, which covered “all risks” including negligence and latent defects, but excluded losses resulting from lack of due diligence. The Board noted that a 1980 modification to the clause added language excluding costs for correcting “defects themselves,” but this modification was intended to bar recovery only for re-performing defective work itself, not for repairing fortuitous casualties resulting from that work. The Board cited 1981 legislation that distinguished between correcting a contractor’s own defects and compensating for casualty losses.
Applying this framework, the Board identified the “defect” as the nonconforming brackish water flush itself. Accordingly, BIW could not recover the costs to re-perform that flush—approximately $64,520 plus associated fees and capital costs. However, the corrosion damage was deemed a separate fortuitous casualty not falling within the defective workmanship exception.
The Board’s Reasoning on Causation
Expert testimony established that multiple factors contributed to the corrosion: BIW’s first use of a land-level transfer facility (which kept the ship level and potentially trapped water), the FOFT system configuration, accelerated construction sequencing, and the brackish water flush. Critically, the Board found the flush “was not necessarily the cause in fact or proximate cause” of the corrosion, since corrosion could occur even with fresh water under similar conditions.
The damage was unforeseeable, unintended, and undetected for seven months, qualifying as fortuitous under insurance principles. The Board distinguished this case from Jacksonville Shipyards, where defective workmanship was the sole, immediate, and obvious cause of damage. Here, multiple factors contributed, and the corrosion remained hidden for an extended period.
The Board also considered the parties’ course of dealing under identical insurance clauses in previous DDG contracts from 1992 to 2000. The Navy had consistently allowed recovery for losses resulting from defective work or negligent actions by contractor employees, while only denying claims for the cost of redoing the defective work itself.
Finally, the Board invoked the insurance law principle that when a casualty results from multiple causes and only one is an excluded risk, coverage still applies under an all-risk policy.
The Federal Circuit’s Narrower Interpretation
On appeal, the Federal Circuit vacated the ASBCA’s decision and remanded for further proceedings in an October 4, 2007, decision. The court identified fundamental errors in the Board’s interpretation of the insurance clause.
The Court’s Analysis of “Defects in the Vessel”
The Federal Circuit held that the Board misidentified what constituted a “defect in the vessel.” The court reasoned that the brackish water flush was not part of the vessel and therefore could not be a defect in the vessel. Rather, the actual defect was the corroded piping itself. The insurance clause excludes coverage for “defects themselves in the vessel” when those defects are “due to” defective or nonconforming workmanship.
The court clarified that the Board had not improperly added a “fortuitous event exception” to the defective workmanship exclusion. All-risk insurance policies inherently apply only to fortuitous or casualty losses. The real question was whether the specific exclusion for defects due to defective or nonconforming workmanship applied to the corroded piping.
Insufficient Findings on Causation
While the Board had determined that the brackish water flush did not conform to contract specifications, it had also found that the flush “was not necessarily the cause in fact or proximate cause of the corrosion.” The Federal Circuit determined it lacked sufficient factual findings to resolve whether the corrosion was “due to” the nonconforming flush as required by the insurance clause exclusion.
The court remanded the case to the ASBCA to determine whether the corrosion was caused by the nonconforming flush. If the answer was yes, BIW would bear the costs of inspecting, repairing, replacing, and renewing the FOFT piping. If not, those costs would fall to the Navy under the all-risk insurance provision.
The court also dismissed BIW’s cross-appeal regarding Contract Disputes Act interest as non-final and moot in light of the vacatur.
Practical Implications for Government Contractors
The Bath Iron Works litigation offers several important lessons for contractors and government agencies navigating insurance clauses in federal construction and shipbuilding contracts.
For Contractors
Document all contributing factors. When damage occurs, thoroughly investigate and document all potential causes, not just the most obvious ones. Expert testimony showing multiple contributing factors can strengthen arguments that damage constitutes a fortuitous casualty rather than a simple defect requiring correction.
Understand the causation standard. The Federal Circuit’s decision emphasizes that coverage turns on whether defects are “due to” nonconforming workmanship. Even acknowledged departures from specifications may not necessarily preclude recovery if other factors substantially contributed to the damage.
Maintain detailed records of past practice. BIW benefited from evidence showing the Navy had consistently allowed similar claims under identical insurance clauses. A demonstrated course of dealing can support coverage arguments.
Distinguish repair from replacement. Recovery may be available for damage caused by defective work even when the cost of correcting the defective work itself is excluded. Understanding this distinction is crucial when preparing claims.
For Government Agencies
Focus on causation analysis. When denying insurance claims, agencies should conduct thorough investigations establishing that defects resulted directly from nonconforming workmanship rather than relying on broad characterizations of contractor negligence or error.
Clarify what constitutes “defects in the vessel.” As the Federal Circuit emphasized, the exclusion targets physical defects in vessel components, not the processes or actions that may have contributed to those defects.
Consider consistency with prior decisions. Inconsistent treatment of similar claims under identical insurance clauses may undermine the government’s position and support contractor arguments for coverage.
The Broader Context of All-Risk Insurance
The Bath Iron Works decisions reinforce fundamental principles of all-risk insurance interpretation. These policies provide broad coverage for fortuitous losses unless specifically excluded. When multiple concurrent causes contribute to damage and only some fall within policy exclusions, coverage generally applies.
However, the Federal Circuit’s decision demonstrates that courts will carefully scrutinize how boards identify the relevant “defect” and whether the exclusionary language properly applies to that defect. Contractors cannot escape responsibility for nonconforming work simply by characterizing the resulting damage as fortuitous. The causation link between the nonconforming work and the ultimate damage remains critical.
Conclusion
The Bath Iron Works case illustrates how different tribunals may reach vastly different conclusions when interpreting identical contract language. The ASBCA’s initial decision favored broad coverage based on the fortuitous nature of the corrosion and the multiple contributing factors. The Federal Circuit took a more restrictive approach, focusing on the specific language excluding defects “due to” nonconforming workmanship and requiring detailed causation findings.
For contractors facing similar disputes, the key takeaway is that success under all-risk insurance clauses depends on establishing both that damage was fortuitous and that any nonconforming workmanship was not the determinative cause. Thorough documentation, expert analysis of multiple contributing factors, and evidence of consistent past practice all strengthen these claims.
The remand left unresolved whether BIW would ultimately recover its costs, but the decisions clarified the analytical framework courts apply when resolving insurance disputes in federal shipbuilding contracts. Understanding this framework is essential for contractors seeking to allocate risk appropriately and maximize recovery when unexpected damage occurs during performance.
At Pannier Law, PC, we help provide specialized government contract support to shipbuilders and ship repair contractors, with deep experience in equitable adjustment requests and claims. Call (310) 971-5093 or visit www.pannierlaw.com.
Disclaimer: This article is for informational purposes only and does not constitute legal advice or create an attorney-client relationship. Consult a qualified attorney for advice specific to your situation.
About the Author: William Pannier, founder of Pannier Law, brings over 20 years of experience as a Government Contracts attorney.