Products Liability Law Daily Texas’s economic loss rule bars tort remedies for damage to a turbine generator
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Thursday, April 9, 2020

Texas’s economic loss rule bars tort remedies for damage to a turbine generator

By Nicholas Kaster, J.D.

The Fifth Circuit noted that the parties to the transaction were sophisticated, commercial actors that negotiated over the allocation of risk.

The U.S. Court of Appeals for the Fifth Circuit has ruled that application of Texas’s "economic loss rule" barred a public utility and its insurer-subrogee from obtaining tort remedies for damage to a turbine generator. The turbine was similar to the many products damaged by component parts that have been covered by the economic loss rule in Texas, the appellate court reasoned. Moreover, the court found that the problem that caused the damage to the turbine was more akin to a failure to meet contractual expectations than a dangerous defect redressable in tort. The Texas Supreme Court would have concluded that the risk suffered here was better addressed in contract than in tort, the Fifth Circuit determined. Consequently, the court of appeals affirmed the ruling by a federal district court in Texas (Golden Spread Electric Coop., Inc. v. Emerson Process Management Power & Water Solutions, Inc., April 8, 2020, Wiener, J.).

Golden Spread Electric Cooperative is a public utility that operates a power generation facility in Texas and that employs several turbine generators, including a generator known as Unit 3. In 2013, Golden Spread asked Emerson Process Management Power & Water Solutions to make a proposal for upgrading Unit 3’s control system. Emerson made a proposal to Golden Spread in early 2014 for the provision of a new, customized control system. The parties completed their contract in March 2014 after specifically negotiating over liability issues. Emerson installed the new control system pursuant to the contract.

Power failure. In March 2015 during testing and commissioning of the new control system, Unit 3 suffered a power failure. The control system’s software had been programmed incorrectly; it issued a stop command to a specific lubricant pump while the turbine was spinning and while no other source of lubricant was available. Golden Spread made a warranty claim to Emerson, which Emerson satisfied by modifying the control system software. Golden Spread returned Unit 3 to service and obtained nearly $8 million from its insurer, Westport Insurance Company.

Lawsuit. Golden Spread then sued Emerson in state court for breach of contract, negligence, and products liability, seeking more than $8 million in damages. Emerson removed the case to federal court on the basis of diversity jurisdiction. Westport intervened as subrogee of Golden Spread. The district court granted summary judgment for Emerson and dismissed all claims against it. The contract claims were dismissed because Golden Spread had not revoked acceptance of the contract, and because Emerson satisfied its sole duty under the contract, to remedy the defective software. The tort claims brought by Golden Spread and Westport (negligence and products liability) were dismissed because the district court ruled that tort remedies were barred by Texas’s economic loss rule.

Economic loss rule. The current appeal ensued. Golden West and Westport contended that the district court erred in dismissing their tort claims, arguing that under Texas law, the damage to Unit 3 constituted "damage to other property" not covered by the economic loss rule.

In adjudicating a claim for which state law provides "the rule of decision," federal courts are to apply the law as interpreted by the state’s highest court. Here, however, the state’s highest court has not ruled on the issue before the court. Thus, the federal court had to use its best judgment and determine how the state’s highest court would resolve it.

Under Texas law, the economic loss rule generally prevents recovery in tort for purely economic damage unaccompanied by injury to persons or property. When a defect in a product deprives a buyer of profits, those are purely economic damages recoverable only in contract. Physical damage is generally recoverable in tort, but a defective product causing damage to itself is not enough—the economic loss rule still limits recovery for such damage to contract. If, however, the defective product damages other property, the economic loss rule does not bar recovery in tort for those damages.

If a product was purchased as a complete whole, damage to that product caused by one of its component parts is considered damage to the product itself—rather than damage to other property—and is limited to recovery in contract by the economic loss rule. The self-damage rule applies both when a component part breaks and prevents the product from functioning properly, and when the component part’s failure causes physical damage to a different component part. Further, the rule applies even when the defective component part was manufactured by an entity other than the entity that assembled the final product.

Here, the appeals court observed, a commercial firm purchased a faulty component part to integrate it with other components with the intent to use, not to resell, the finished unit. The object of the bargain here, or the subject of the contract, was an upgraded, more efficient steam turbine generator. The physical control system itself was a component part of the functioning generator. In that way, the court stated, the integrated Unit 3 was like the many products damaged by component parts that have been covered by the economic loss rule in Texas.

Golden Spread purchased the control system from a different entity than the turbine and in a separate transaction, which weighed against applying the economic loss rule, the court conceded. Nonetheless, Golden Spread’s purchase of the control system was more than just obtaining a replacement part. Emerson offered to target and analyze conditions in Golden Spread’s plant to determine optimal operating conditions and offer tremendous cost savings. In order to accomplish these goals, Emerson provided "detailed project engineering, control strategy implementation, system testing, system startup[,] and ongoing support." Rather than the simple purchase of a physical part, Golden Spread sought, and Emerson provided, the means to achieve an upgraded version of a complex machine, the whole turbine.

Moreover, the court noted, the problem that caused the damage to the turbine was more akin to a failure to meet contractual expectations than a dangerous defect redressable in tort. The control system did not catch fire and damage the turbine. Rather, the control system sent the wrong commands. Improving the commands sent to the turbine was the very purpose of the upgrade contract. The damage was, therefore, foreseeable to the parties, the court stated. As they were contemplating the details of the operation of the integrated turbine and control system to improve the system’s efficiency, it was eminently foreseeable that the control system might send the wrong commands.

For those reasons, the Fifth Circuit believed that the Texas Supreme Court would have concluded that the risk suffered here was better addressed in contract than in tort. The parties were sophisticated, commercial actors that negotiated over the allocation of risk. The court said that it was well established that, under Texas law, a party cannot recover from a seller in tort for damage to the product itself. The facts in this case presented "a much closer issue," the court stated, but the parties themselves were in the best position to understand and allocate the risks of their transaction ahead of time to resolve any ambiguities in the application of that rule to their circumstances.

Accordingly, the Fifth Circuit affirmed the district court’s holding.

The case is No. 19-10238.

Attorneys: Mark R. Pickering (Donato, Minx, Brown & Pool, PC) for Golden Spread Electric Cooperative, Inc. James Donovan Dendinger (Cozen O'Connor, PC) for Westport Insurance Co. James E. Breitenbucher (Fox Rothschild, L.L.P.) for Emerson Process Management Power & Water Solutions, Inc.

Companies: Golden Spread Electric Cooperative, Inc.; Westport Insurance Co.; Emerson Process Management Power & Water Solutions, Inc.

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