Legal Watch: How Subrogation Can Ruin Your Day

On a recent flight, my seat assignment paired me with a Philadelphia lawyer who specializes in “subrogation,” which permits an insurer to bring a lawsuit against third parties responsible causing the loss. The lawyer told me that he recently scored a significant jury trial victory against an alarm provider in a burglary case involving millions of dollars worth of lost merchandise. He also told me — and here’s the important part — his office often passes on potential subrogation cases against electronic security providers when the security provider’s subscriber contract is well-written, enforceable and includes industry-typical risk allocation clauses, including a waiver of subrogation clause.


Subrogation Example

Here’s an example of a typical subrogation case: An insured suffers a fire loss, and the insurer’s investigators conclude a faulty space heater caused the fire. The insurance company pays on the loss and forwards the loss file to subrogation counsel to pursue a product liability claim against the defective space heater’s manufacturer and retailer. Essentially, the idea is that if the insurer paid the loss, the insurer can step in the shoes of the insured and recover their payment from the party that caused the loss.

For years, insurers and their subrogation counsel looked to include electronic security providers in losses related to fires or burglaries, seeking to recover all or some portion of a loss paid to an insured. To recover, the insurers claimed the electronic security provider did something wrong — designed or installed a fire system inadequately, failed to respond signals, failed to protect the communications lines or some other theory.


A Subrogation Case in the Real World

This brings me to a recent legal opinion enforcing a waiver of subrogation clause in an electronic security subscriber agreement. The case, Abacus Federal Savings Bank v. ADT Security Services, demonstrates how important a well-written subscriber contract really can be.

The case involved two defendants — ADT, which contracted to install a burglar alarm system at the bank, and Diebold, which contracted to install a back-up alarm system at the same bank. Burglars broke into the bank after hours, neither system alerted officials and the burglars made off with millions of dollars of cash and other valuables.

The bank alleged that ADT and Diebold were grossly negligent in the services they provided — gross negligence means a greater deviation from the standard of care than ordinary negligence. It is the mantra of any lawyer seeking to avoid a limitation of liability clause because most states enforce such clauses for ordinary negligence but not for gross negligence.

In Abacus, each provider’s contract included an industry standard limitation of liability clause limiting the providers’ liability to $250. Diebold’s contract also included a clause requiring the bank to maintain insurance covering all losses and to look to that insurance exclusively in a loss. The clause, known as an insuring agreement, was not included in ADT’s contract.

The court refused to enforce the limitation of liability clause and dismiss the claims against ADT and Diebold, concluding the bank may be able to prove that ADT and Diebold were grossly negligent based on the facts alleged in the bank’s complaint. The court explained that gross negligence meant something close to intentional misconduct and noted the bank’s complaint alleged that both providers received a number of signals prior to the burglary and knew — or should have known — that the system did not work properly. Despite refusing to enforce the limitation of liability or exculpatory clauses, the court upheld the insuring agreement in Diebold’s contract, dismissing Diebold from the lawsuit and permitting the bank to continue its claim against ADT alone.

The lessons to be learned from the case? First, well-written contracts may keep you out of a scrape because lawyers who make their living trying to recover damages from alarm companies have learned from experience that well-written industry contracts often bar recovery. Second, a good contract doesn’t rely on one limitation but include several legal defenses to assert in the event of a lawsuit. My form of subscriber agreement, for example, includes 12 or more legal defenses intended to protect security providers.

Make sure your contract includes each of these defenses. It could mean the difference between being tangled up for years in court or a get-out-of-jail-free card.


Eric Pritchard is a Philadelphia Lawyer who spends his workday making the world safe for electronic security providers. He can be reached This column does not constitute legal advice; please contact an attorney with questions.