State of the Industry: Construction Insurance and Risk

Several years ago, Donald Rumsfeld took a lot of ribbing in the press—and perhaps rightfully so—for his now famous remark: “There are known knowns; there are things we know we know. We also know there are known unknowns.” But, when applied to construction, an argument could be made that a good contractor anticipates the things they know they don’t know—or, in Rumsfeld slang, the “known unknowns.”

To anticipate changes in the construction insurance market and learn about challenges that might present themselves in the upcoming year, more than 1,000 risk managers, insurance agents, brokers, attorneys and underwriters who specialize in construction insurance and risk management gathered in Orlando last November for the 32nd IRMI Construction Risk Conference.

“With insurance rates and premiums trending higher, contractors are focusing more intensely on ways to control their costs through careful insurance purchasing, safety programs and good claims management,” said IRMI president and CEO and Conference co-chairman Jack Gibson. “The IRMI Conference provides unique opportunities for contractors, their brokers and their underwriters to meet and plan for the coming year.” CBO was in attendance to learn from their insights and talk with leading brokers and underwriters.

Rate Hikes
At the opening ceremony of the IRMI conference, Pat Gallagher, president and CEO of Arthur J. Gallagher & Co., remarked, “If you are here today, you have earned a place at the party.” Indeed, if there’s anything beneficial about a recession, it is that it focuses effort and weeds out the poor performers. On the whole, construction companies today are more competitive, leaner and more efficient than ever before.

Even so, there are challenges on the horizon for contractors and the construction risk management industry as well. Among them: attracting young talent into the business—a key theme from the conference week.

But the top story at IRMI was impending rate hikes. “We are starting to see a firming of the market,” Gallagher said. He cautions that he is not declaring that we are headed into a hard market—just a different market. “In 2012 there’s been a little bit of underwriting pressure; rates look to be increasing slightly,” he said. Other speakers mentioned double-digit increases for property and casualty insurance rates, particularly on property located in catastrophe zones, such as the Gulf Coast.

However, Michael Anderson, managing director and CEO of the U.S. Construction Practice for Marsh, points out that it is dangerous to generalize because the market will look much better for sound financial companies that represent an attractive risk. Still, he acknowledges that companies “with loss exposures in New York and Chicago could be seeing double-digit increases.” In particular, New York Labor Law 240 has been creating unique problems. “Attracting adequate umbrella limits has been a challenge, but we are confident that the marketplace will respond,” Anderson added.

Henry Lombardi, chief global broking officer for Aon added this perspective: “I think that from a geographic standpoint, we definitely see more of a hardening in the New York area, and we do see some transition in the West, which affects more of the residential construction.”

Part of the challenge for western regions is the ongoing confusion surrounding construction defect litigation. “If you look at construction defect, you’ve got a break out of certain states where the highest court has ruled that construction defect is, in fact, an occurrence under the policy all the way to states where lower courts have ruled that construction defect is not an occurrence within the definition of the policy,” Lombardi said.

Emerging Issues
Other discussions centered on how workers’ compensation costs will be affected by the January 2013 changes to the way in which the ERM is calculated. “The NCCI (National Council of Compensation Insurance) is redefining the way experience modifiers are going to be calculated by raising the dollar amount that is going to go into the formula,” Lombardi said. “In some instances, that has the potential to drive the experience mod up.”

However, he acknowledged that in most instances contractors do an admirable job of recognizing the dangers in construction and dealing with those issues by providing safety and strategic planning at the jobsite. As leading contractors understand, safety must not be simply a compliance exercise. “The best in class do not have safety programs—they have safety cultures, and it’s a commitment at the CEO level,” Anderson said.

In addition, contractors continue to be frustrated by the lack of government funds to support infrastructure projects. While many have advocated P3s as a solution, the trend has not really taken hold in the U.S. yet. “A broader trend is gap financing, which we are seeing pop up in Florida and Texas,” Anderson said. Though gap financing is applicable on a much broader basis, it creates challenges for sureties and contractors who need to attract the capital. Some brokerages are putting together boutique private equity firms that are interested in investing in these projects, Anderson added.

The subject of professional liability coverage was also a hot topic at the conference as more contractors continue taking on design build jobs and privatization projects with larger degrees of professional liability exposure. And, increasingly, more owners and GCs are requiring their subcontractors to carry professional liability insurance. “We’ve seen over the past several years that contractors professional liability has expanded in a number of ways. There are more underwriters interested in the line of business, providing capacity and a broadened offer of coverage,” said Barb Graycarek, 2nd vice president of construction product development for Travelers Construction. However, she cautioned that contractors must be wise about choosing insurers and look for those underwriters who have the depth of experience in integrating professional liability and traditional construction claims.

Lastly, CCIPs, or contractor controlled insurance programs, continue to attract more attention, especially on larger projects. “Contractors are looking at the CCIP as a risk management technique to make sure that they get consistent coverage, they get adequate limits and they don’t have to chase subcontractors at the time of a loss to see if their policy is going to respond or not,” Lombardi said. “We’re also seeing more of a trend toward packaging multiple smaller projects into a rolling wrap-up program,” Graycarek added.

There are some considerations for subcontractors in these types of programs: “Sometimes just knowing what the wrap-up general liability coverage is can be hard for the individual subcontractor in the program,” Graycarek said. They need to understand if there are gaps in coverage and whether the program carries enough limits to be shared by all of the contractors insured under the program. “Another critical issue,” Graycarek added, “is whether the wrap-up program covers products and completed operations through the period of the statute of repose.” Finally, it’s important to ensure financial stability of the wrap-up carrier to make sure that, five years down the road, the wrap-up carrier will be there to respond.

How Do Best-in-Class Firms Manage Risk?
As some construction companies begin to see modest growth, they must remember to approach recovery in a smart way. “Organizations may have been downsized, and a quick ramp up creates problems,” Anderson said. It’s important that construction firms plan to grow their business in a way that doesn’t put stress on the organization, he explained.

One way to accomplish smart growth is with a thorough understanding of exposures unique to certain geographic areas and markets. “I think they have to understand the risks that they are entering into. If you don’t do residential work and you start to go into a residential market, there are exposures that you are not used to,” Lombardi advised.

“When growth starts coming back is really when contractors need to think about growing smartly and having a solid insurance partner alongside them,” said Graycarek. She cites the fact that contractors are more commonly leasing equipment than they may have in the past. “They should make sure that their insurance program has adequate limits specifically for leased equipment. It’s also important for them to read the lease agreement to make sure that they are meeting what the equipment owner is requiring of them regarding insurance,” Graycarek said.

While having a dedicated risk management team on staff to advise you on these types of issues is ideal, the reality is that not every firm can afford to have a team solely focused on risk management solutions. Lombardi offered this piece of advice: “Surrounding yourself with good professionals (meaning an insurance company who understands construction), having a broker who understands construction and doesn’t just dabble in it and having people in your organization who work with them on a regular basis will help improve your position when dealing with risk.”

And that’s the true benefit of the IRMI Conference—the chance for contractors to learn and connect with the insurance professionals who live, eat and breathe construction. After all, as Anderson puts it: “Construction is the definitive team sport.”