RISK MANAGEMENT
Complex projects' contract requirements and
shifting carrier appetites can challenge producers
By Donald S. Malecki, CPCU
Whatever the market condition, it is going to be difficult for producers to handle medium to large contractors because of the growing demands being made on them by developers and general contractors who are getting more sophisticated in their demands.
The time has come when producers need to choose whether to stop writing certain classes of business or to continue writing them on a niche basis. One general class of business that comes to mind deals with contracting risks.
Contracting risks can be categorized into two groups. The first consists of artisans, or trade contractors, such as carpenters, electricians, or plumbers who take on small jobs, do not hire subcontractors or sub-subcontractors, have few requests to make others additional insureds and have a relatively low exposure for severe claims.
Most insurers catering to artisans offer--on a limited basis--special package programs consisting of property, inland marine and general liability with some frills in coverages, such as damage to the insured's own work. This kind of business generally has been lucrative to the insurers and less of a problem to producers than larger contracting risks.
The second category of contracting risks consists of the larger firms that, while they may have certain specialties, get involved in complex projects that can best be explained as "mine fields." The contract requirements, where certain insurance requirements need to be fulfilled as a condition precedent to being granted the opportunity to perform the work, are not only complex but also need the attention of the producer to fulfill.
The problem with this second category is that insurers run hot and cold in writing these risks. Currently, during this hard market, some insurers are not very accommodating to the contractors' needs. What insurers are looking for, during this time period at least, are those contractors who are loss control conscious, produce quality work, and have reasonable loss ratios. For some contractors, this would be utopian.
However, the time will pass and the hard market will again give way to fierce competition. Underwriters' tolerance for risk will increase to the point where it will not matter much just how quality-control minded contractors are just as long as there is an opportunity to generate some premium income.
Whatever the market condition, it is still going to be difficult for producers to handle these medium to large contractors because of the growing demands being made on them by developers and general contractors who are getting more sophisticated in their demands. Producers are going to have to start reading contracts, if they have not been doing so in the past. They also are going to have to counsel their insureds on the so-called "land mines" that pepper this entire industry.
Apart from the fact that in both bad and good times, some insurers are not very accommodating to contractors, producers and their contracting clients need to be especially careful with (1) additional insured and certificate issues; (2) the continuous injury trigger exposures; and (3) broad form property damage coverage.
Additional insured and certificate issues
A growing number of contracts to which contractors must agree are specifying the kind of additional insured status that must be provided and confirmed by the certificate of insurance. No longer can someone request to be an additional insured and expect to obtain broad coverage. Those days are gone!
What this means is that someone is going to have to read the clients' contracts and make sure the nature of additional insured status is satisfied. In a growing number of instances, insurers catering to contracting risks are offering blanket additional insured endorsements in order to avoid the time and expense of having to issue separate "scheduled" endorsements for each additional insured.
Producers need to keep in mind that an insurer's blanket additional insured endorsement is issued to accommodate all additional insureds, regardless of the type of status requested. The problem is that the type of additional insured status being requested varies. For example, some may request coverage for the additional insured's sole fault, while others may want coverage against their comparative fault. This means that the blanket additional insured must grant coverage for the highest common denominator--that is, coverage meeting the most stringent but reasonable requirement.
If these blanket endorsements preclude coverage for the negligence of additional insureds, or limit their sole fault coverage to acts involving general supervision, or grant coverage solely while operations are in progress, producers may be courting trouble because the written contracts may require more than what an insurer is willing to provide.
Some enterprising insurers are providing limited additional insured coverage under their blanket endorsements, with the added provision that if certain coverages, such as sole fault of the additional insured and completed operations, are required in writing, coverage will be expanded to meet those additional requirements. These types of endorsements reduce the need for producers to read every contract.
It is a definite plus when some of these better blanket additional insured endorsements are activated the moment a certificate of insurance reflects the certificate holder as an additional insured. This should alleviate the growing problem of forgetting to have an additional insured endorsement issued even though such status is reflected on a certificate. Incidentally, this is one of the leading reasons producers are sued today.
Continuous injury trigger
The second "land mine" has to do with the continuous injury trigger. This subject could be the basis for an entire article unto itself. Briefly, however, standard Insurance Services Office and American Association of Insurance Services commercial general liability (CGL) forms--and some independently filed policies--contain a specific provision in the insuring agreement. This provision describes how the policy will or will not apply if an insured knew prior to the policy period that bodily injury or property damage had occurred in whole or in part.
This policy provision commonly is referred to as the "Montrose exclusion" because its genesis was a court case in California known as Montrose Chemical Company v. Admiral Insurance Co., et al. Several different versions are available from other insurers--some even more drastic in what they exclude than the standard provisions of ISO and the AAIS. In the final analysis, it can best be described as placing a retroactive date on an occurrence policy.
So, if the insurer finds out that bodily injury or property damage had occurred, then any continuation, change or resumption of such injury or damage during or after the policy period will be deemed to have been known prior to the policy period. In such cases, there is no coverage under the current policy. A former policy may apply if the aggregate limit has not been exhausted.
Once contractors understand the impact of this provision, it may be enough to foster the implementation of a more permanent loss control program or it may spell the contractor's demise.
A contractor's demise could come about this way: Assume the contractor is a carpenter who is hired to construct condominiums. The supervisor notices that some of the plywood to be used for roof decking is defective. He does not inform anyone and sometime after the condominiums are constructed and occupied, the roof decks are found to be defective because of resulting property damage. Investigation reveals that the contractor's supervisor knew about the defective plywood but did not report it or reject its use.
If the construction took place during one policy period and the deterioration of plywood and property damage continued over another one or two policy periods, the limits of only one policy apply, and that is the policy that was in force at the time the supervisor knew about the defective plywood. The questions are: Are the limits of one policy period sufficient to handle all of the property damages claimed? What if the applicable aggregate limits of that one policy are reduced and therefore insufficient to cover the damages sought? Does the contractor have sufficient assets to pay for the additional costs not covered by insurance? If not, an alternative is bankruptcy, not an uncommon alternative over the years among many contractors for a variety of reasons.
Broad form property damage coverage
The third "land mine" deals with broad form property damage coverage. This coverage is granted by exception to the Damage to Property exclusion (j) of standard ISO commercial general liability forms. For contracting risks, this coverage is essential for two reasons:
(1) It gives contractors coverage for damage to work while in progress, except for property damage to that particular part of real property on which the contractor is working at the time of an occurrence. Without this coverage grant, the entire damage may be excluded. This was sometimes the case through the application of the care, custody, or control exclusion, although it was somewhat difficult for insurers to deny, particularly in cases where the contractor was not in charge of the entire project.
(2) Once the work has been completed and there are allegations of property damage attributable to the work of subcontractors employed by a general contractor, or work of sub-subcontractors employed by a subcontractor, both the general contractor and the subcontractor obtain other important coverages.
The coverages in question, following completed operations, are (1) damage to the named insured's work (general contractor) arising out of the work of a subcontractor; (or, damage to the subcontractor's work arising out of the work of a sub-subcontractor); (2) damage to the work of the subcontractor who was employed by the general contractor; (or, damage to the work of the sub-subcontractor employed by the subcontractor); and (3) damage to the work of others.
Since 1969, when this broad form property damage coverage for completed operations was first made available by endorsement, it has become a commonly requested coverage. In fact, it was one of the coverages included with the broad form CGL endorsement in 1976, and has been a part of CGL policies since 1986.
The bad news is that beginning with their 2001 liability policy changes, ISO and AAIS are making available two endorsements in order to enable insurers to exclude the completed operations portion of broad form property damage. The rationale for this development is the rash of construction defect claims being made around the United States, particularly regarding the construction of condominium and other habitational structures.
The first such ISO exclusion is titled Exclusion--Damage to Work Performed by Subcontractors On Your Behalf, CG 22 94. This is intended to serve as a blanket exclusion. The second ISO endorsement is Exclusion--Damage to Work Performed by Subcontractors On Your Behalf--Designated Sites or Operations, CG 22 95. As its title connotes, it is intended to be used on a discretionary basis.
Whatever the case may be, producers need to be extremely careful that these exclusions are not applicable when construction contracts require broad form property damage including completed operations. In fact, many such contracts are quite specific about this particular coverage. If a contractor's CGL policy is endorsed with one of these endorsements in situations calling for the coverage, producers may find the repercussions to be more problematic than would be worthwhile in handling contracting risks.
In summary
For contracting risks, other than those written for artisans or smaller trade contractors, producers must assist their clients with construction contracts that, without a doubt, are becoming more complex and demanding. Keep abreast of rapidly changing developments. Locate insurers that are willing to accommodate a producer's book of contracting business. Determine the coverages, forms and endorsements insurers are willing to provide for contractors and whether they will need the highest common denominator of coverage demanded. *
The author
Donald S. Malecki, CPCU, is chairman and CEO of Donald S. Malecki & Associates, Inc. He is a committee member of the International Insurance Section of the Society of CPCU, on the Examination Committee of the American Institute for CPCU, and an active member of the Society of Risk Management Consultants.