Risk Managers' Forum

The sky is falling

Managing the risk of flood in a previously non-flood-prone area

By Sandra L. Medendorp

The sky is falling and the dam is breaking. What do you do when you know serious disaster is coming within a few months?

In the winter of 2008-2009, the Howard Hanson Dam in the state of Washington had become weak and unstable. In order to prevent its failure that winter, the U.S. Army Corps of Engineers released water into the Green River, which resulted in the flooding of areas that were never rated as flood zones. Plans and work were immediately started to prevent recurrence, but investigation showed that repairs could not easily or quickly be made.

Public announcements were many and loud over the ensuing summer months of 2009 stating that the coming winter, with its rains and periodic melting snow pack, would threaten even more severe consequences for a river valley that has become densely populated with residential neighborhoods and hundreds of businesses—including massive shopping areas, industrial, manufacturing, and servicing enterprises. A population of 200,000 was in jeopardy. The river runs through it.

As of February 2010, the water has been contained but with the unusual weather patterns developing, the threat hangs out there as strong as ever.

In this situation and others like it, what should residents and businesses do in the face of impending doom? The first action is to measure the threat. How much damage could be done by inundation of water and how long would it take to remedy? Many home owners and businesses near the Green River have already made the decision that the threat of a flood alone is too great, and they are leaving the valley. For home owners, this is not an easy transition in the current housing market, but some have determined that selling now and relocating is a better option than being flooded and having only the National Flood Insurance Program in compensation.

For businesses, the decision to move might be a little easier, especially if they are tenants. Breaking a lease and moving to a dry location might not be as expensive as it could have been earlier due to the slump in the commercial real estate market. For businesses that own their real estate, avoiding the flood has probably become an untenable option. Real estate moguls are circling, ready to absorb the risk when leveled against the chance that the flood may not occur. What will be prime real estate can be purchased right now for pennies on the dollar. They must believe that the risk is worth the chance of later returns, especially if the level of risk is small when looking at an empty (or leased) concrete building—what can water do to it? So, while some are running to avoid the risk, some are actually moving in to face it.

Would it be possible to transfer the risk to another through a contract? Outside of an insurance contract, it might be possible to lease or rent a building to another party and insist in the lease that the tenant respond to the peril of flood. Is this a reasonable expectation considering that the National Flood Insurance Program is the only coverage now available? The excess market has disappeared, evaporated. Where would the tenant find relief if the owner cannot?

Because of the time frame, it is doubtful that home owners and business owners could accumulate funds to address the risk themselves. They may have already created a “rainy day” fund for severe circumstances, but considering the economy and rate of returns, this was probably not the best use of capital during the past few years.

Finally, the only option may be to reduce the impact of the flood if it comes for the valley folks. What can be accomplished now to prevent the finish of the enterprise, whether it be home or business? Identifying and moving property that is susceptible to water damage, or that is irreplaceable, to another location would be an option, or, simply moving it to the second floor, attic or higher shelves might be another choice. Taking construction measures such as sand bagging to reduce the entrance of water into the building; altering immediate terrain; waterproofing the structure; and raising the building, might all be possibilities. If the rising waters cannot be prevented, reduction of their damage is the best action at this time. The FEMA Web site (www.Fema.gov) has information on planning and preparing.

The role of the insurance professional

As for risk management of this interesting developing event, what can an insurance professional do now to improve the results of the disaster? A mass mailing to all clients is a consideration, reaffirming the news stories and providing the above actions as considerations. The most important message for the insurance professional to deliver now is that flood is not covered in standard policies and some coverage is still available from the National Flood Insurance Program.

For home owners, $250,000 for the structure and $250,000 for the contents may be enough to replace that which can be replaced. However, for businesses, the limits are $500,000 for building and $500,000 for contents, which most likely will not be enough to replace the damaged property. Also, don’t forget to mention the time factor—homes and businesses will not be rebuilt quickly. Look at New Orleans.

Next action on the part of the insurance professional might be to identify every location in the river valley for which they currently provide coverage. Personal phone calls to these insureds would be a value-added service to discuss the individual exposures and options. After all, for example, if a business stores steel, the threat of possible water damage may not be as great as it would be to a food-related business. That is why the personal review would be of such valuable use.

During the course of the conversation, it may be discovered that flood insurance beyond the National Flood Insurance Program level is necessary. At this point in time, there is some excess flood available at a very high cost—minimum of $20,000 per policy and then only for pre-identified flood zones. However, due to the “fluidity” of the flood market, that search and evaluation would have to be made at the time of the discussion. New preliminary flood maps are available on the National Flood Insurance Program Web site, and some underwriters are already underwriting according to these determinations. Underwriters have been requesting elevation certificates on more applications than previously.

Some of the clients may already have purchased flood or DIC (Difference in Conditions) insurance. A careful reading of coverage may be necessary at this time to determine the amount of coverage that will be available if a government entity takes action to release flood waters (also known as governmental action and a possible exclusion for coverage in some policy forms), and if the government decides to alter flood zones based on the current potentials.

What was previously a benign location may be altered to a severe rating. Some DIC policies exclude property in named zones and the property insured may instantly become uninsured when the zoning is changed. An insurance professional should be aware of the policy terms and be ready to counsel insureds on the possibilities. Because DIC policies in the state of Washington have been written in nonadmitted, surplus markets, forms, terms, conditions and exclusions are very inconsistent.

The insurance professional will have two-fold risk management duties: to assist clients with making decisions on how to face the next winter’s threat and also to take responsible action on behalf of their own insurance enterprise to prevent or reduce the consequences when clients do experience disaster and feel inclined to make the cost of the problem an agency responsibility through an errors and omissions claim. Advance notice through mass mailings to all clients and personal phone contact to the most threatened clients should reflect a careful and considerate action on the part of the professional to defend claims based on errors or omissions.

Chicken Little is shouting at us right now, and we have time to act if we move immediately. Careful and thoughtful risk management techniques might help stave off dire consequences.

The author
Sandra L. Medendorp is a Commercial Manager for Redmond General Insurance Agency in Redmond, Washington. She holds the following degrees and designations: MBA, CIC, CRM, CPCU, AU, AIS, AIT, AAM, ARM. She has over 30 years of experience in the insurance industry including jobs with insurance companies, mid-sized agents/brokers, large brokers, and a start-up agency. For more information on risk management or the CRM program, go to www.TheNationalAlliance.com.