If the engine got enough water into it from a headgasket leak/cracked head to cause it to hydrualic then it would be fairly obvious when the cylinder head is removed.

Personnally I would be arming yourself with a complete service history regarding the loss of coolant, be asking to see the MB field manager for your area, asking why if it had that much water in it then why didn't it (or did it?)damage the turbo/other pistons and if you really believe that it's coolant in the engine then consider getting the oil in the sump tested (even at your own cost) to verify that it is indeed coolant and/or have the coolant tested to check for exhaust gases.

This would be a very good place to start as I'm sure you REALLY don't want to be paying for a new engine.

__________________
Alex.

MB Tech
Sydney, Australia
Volvo 122S
W201 190D 2.5 manual
W202 C240
W203 C32