6 Steps to Reduce Contract Risk

Construction is a risky business. Successful contractors can reduce risk to their balance sheet by managing and mitigating their contract risk with their clients and subcontractors.

When you work with a construction specialist, you will have a partner to help you understand and manage risk associated with the construction contracts you sign.

Here are six steps you can take to manage your contract risk:  

1. Before you purchase your insurance policies, have your broker review the contractual insurance requirements from your top five to ten clients. You won’t save any money by purchasing the “cheapest priced insurance policy” if the coverage is not accepted by your biggest clients. Matching your insurance coverage to your clients’ requirements will ensure your ability to bid and obtain jobs.

2. Before bidding work, make sure you meet or exceed the insurance requirements. Your broker can help you review the insurance requirements and advise you if you (a) meet or exceed requirements; (b) need to add additional cost to meet requirements; (c) can’t meet them; or (d) they need clarification. Why spend the time and money bidding work only to be disqualified due to inadequate insurance or to find out the cost to meet insurance requirements eliminates most of your estimated project?

3. Use insurance prequalification language in your bid. You can only price so much contingency in your bid and still get a job in today’s competitive market. With tight margins, you can’t afford any insurance and deductible surprises. Qualifying your bid to limit your liability for Builder Risk deductibles, damage to your work from outside forces (such as earthquake, terrorism or flood) and to limit your responsibility to indemnify other parties such as the architect or engineer.

4. Don’t let your estimators purchase your general liability insurance policy. When you bid projects to owners that elect to use an owner-controlled insurance policy (OCIP), you need to review the terms of the OCIP prior to the bid. We use an OCIP checklist with our clients to evaluate the key OCIP coverage issues before they elect to bid the job. Many of our clients require the CFO or president to sign off on the checklist before estimating the job.

Our clients have been educated with respect to the possible OCIP issues (coverage gaps) that are deal killers due to the fact that the insurance risk is greater than the profit potential in the job. Some of the checklist items are:

• Limits adequate to cover job exposures
• 10-year’s completed operators coverage after substantial completion or certificate of occupancy
• Self Insured Retention (SIR) or deductible is reasonable
• Quality of insurer is A10 or better
• Coverage for warranty work is included in OCIP

5. Transfer risk to your subcontractors by using master subcontract agreements and annual certificates and additional insured endorsements. Many subcontractors start work at the jobsite before signing and returning a subcontract. Many of today’s additional insured endorsements become effective when the contract is executed. The additional insured coverage exposure gap between when a sub starts work and signs your subcontract agreement can be avoided by having your frequently used subcontractors sign a master subcontract agreement. This master agreement should apply to all work performed for you until a job-specific contract is executed.

6. Keep your subcontracts and insurance information forever. If you are sued ten years after your completed work, your attorney will ask you to produce evidence of your insurance coverage, copy of the contract (including scope of work) and any subcontractor’s insurance certificates and additional insurance coverage. Many of our clients use scanning technology to save these records, as they realize insurers and brokers usually (and legally) destroy records five to seven years after they were produced.

By following these six risk management steps, you can avoid surprise costs to your balance sheet and if you educate your insurance underwriter about these risk management techniques, they will probably lower your general liability premium as well.

Construction Business Owner, June 2008