Internet Library of Law
and Court Decisions

America Online, Inc. v. St. Paul Mercury Ins. Co.

Court holds that insurer has no duty under a Commercial General Liability Insurance policy to defend AOL against claims that AOL's software caused injury to, and the loss of use of, individuals' computers, and the software, data and systems thereon.  The Court held that the claims of injury to, and loss of use of, software, data and systems did not constitute "property damage" for which AOL was protected under its insurance policy because software, data and systems are not "tangible property" within the meaning of the policy.  The court rested this determination in large part on its finding that such items could not be seen or touched.  As the policy only provided protection for "property damage" to "tangible property", it provided AOL with no protection for injuries to such intangible property.

The court further held that while the lost use of computers would constitute  property damage under AOL's CGL policy, AOL was not covered for such loss as a result of the policy's impaired property exclusion.  Under this exclusion, the defendant insurer is not obligated to provide coverage for liability for property damages caused by a faulty or defective AOL products.  As the claimed injuries were the result of the use of an allegedly faulty AOL software product, coverage for such injuries was excluded by the impaired property exclusion.     Lastly, the court held that coverage for lost use of a user's computer as a result of AOL's "faulty" software was also barred by application of the economic loss rule.  Under this rule, "when a product injures itself because one of its component parts is defective, a purely economic loss results to the owner for which no action in tort lies."

Defendant St. Paul Mercury Insurance Company ("St. Paul") issued a Commercial General Liability Insurance policy ("CGL Policy" or "Policy") which insured AOL against damages it was obligated to pay for covered "property damage."  "Property damage" as defined in the Policy, included "physical damage to tangible property of others, including all resulting loss of use of that property or loss of use of tangible property of others that isn't physically damaged."  However, not all "property damage" was covered under the Policy.  The Policy contained an impaired property exclusion which provided in pertinent part that St. Paul was not obligated to "cover property damage to impaired property, or to property which isn't physically damaged, that results from AOL's faulty or dangerous products...".

A series of lawsuits were commenced against AOL by and on behalf of consumers who had installed AOL 5.0 software on their PCs, which lawsuits were consolidated into a multidistrict litigation.  In the complaint in that proceeding, the plaintiffs alleged that AOL 5.0 harmed and damaged their computers, "causing material instability, [  ] crashing computers and corrupting computer systems and files."  Among other things, the complaint alleged that AOL 5.0 interfered with non-AOL communications software, prevented users from connecting to other ISPs or using non-AOL e-mail programs, altered or added hundreds of files to a user's computer system and was difficult to remove.  The complaint alleged that as a result, consumers lost both data and the use of their machines, with attendant loss of time and money arising therefrom.

When St. Paul refused to pay for the costs of defending AOL in these lawsuits, AOL commenced this action, seeking a declaratory judgment that St. Paul was required to assume such defense costs.  Rejecting AOL's claim, the court held that St. Paul had no such obligation.

The court held that St. Paul was not obligated to defend the claims asserting damage to software, computer data and systems because the same were not "tangible property" within the meaning of the Policy.  The Policy protected AOL from its liability to third parties for losses arising out of "property damage" sustained by such third parties.  "Property damage," however, was defined as "physical damage to tangible property of others...".  As the phrase "tangible property" was not defined in the Policy, the court turned to various dictionary definitions, which defined tangible as "having or possessing physical form.  Capable of being touched and seen …".  Finding that software and data were not capable of either being touched or seen, the court held that they were not tangible property within the meaning of the Policy. Said the Court:

Computer data, software, and systems do not have or possess physical form and are therefore not tangible property as understood by the Policy. ...  Similar to the information written on a notepad, or the ideas recorded on a tape, or the design memorialized in a blueprint, computer data, software and systems are intangible items stored on a tangible vessel - the computer or a disk.

The Court turned next to the consumers' allegations of loss of use of, and harm to, their computers.  Such allegations fell within the scope of "property damage" covered under the Policy.  However, the Policy excluded coverage therefor under the impaired property exclusion.  Under this provision, property damage resulting from AOL's faulty products is not covered by the Policy.  As the consumers were alleging just such injury, AOL had no coverage therefore under its CGL Policy.  Said the Court:

The crux of the MDL Complaint is that the loss of computer use was caused by AOL 5.0, which the complaint consistently alleges is a "faulty or dangerous" product. ...  The plain language of the Policy clearly states the allegations in the MDL complaint are barred from coverage under the impaired property exclusion because AOL's defective product caused the loss of computer use.

The Court held that such loss of use claims were also barred by the economic loss rule.  "When a product 'injures itself' because one of its component parts is defective, a purely economic loss results to the owner for which no action in tort lies."  Such, held the Court, was precisely the case here, where a component part of the consumers' computers, AOL 5.0, allegedly caused injury to other parts of that computer, the software and data resident thereon.  The Court held that:

such damages are not recognized under any tort theory pursuant to the economic loss rule and therefore St. Paul did not have a duty to defend against such claims.