Can insurance company pursue subrogation when there’s no negligence?

You are correct that normally negligence is necessary to find liability. However, if you own the waterheater (e.g. you own the townhome; you're not renting), then the water heater was under your control. It is possible that negligence could be found from your failure to maintain or even replace it, if maintenance or replacement would have been indicated based on its age. (For example: I replace my water heater every seven years, because modern water heaters typically only last 7 -10 years; when we first bought our house, and did not know to do this. an old heater ruptured and flooded our basement--so now we know that you have to stay on top of the age and condition of the  heater). Negligence can be found from failure to do things that should be done, as well as from an overt or affirmative act.

You may be right and in this case you might not be liable--but the insurer may not be convinced of that. If they think you are liable, they can sue you. You can certainly present the facts as you see them as a defense. However, factual-based defenses will almost never let you dismiss a case--sometimes, you can win at a slightly later stage, called summary judgment, if all the facts support your version, but often, you end up having to go to trial, where the judge and/or jury can weigh the evidence and decide what likely happened. Therefore, if you are sued, bear in mind that you'll definitely have some litigation, and possibly have to go to trial--factor the cost of that into deciding whether to make a settlement offer or not.