Risk Managers’ Forum

By Mark Gaskamp, CIC, CRM, CPCU, ARM, CSP, ALCM, CPSI

SUBCONTRACTOR QUALIFICATION—IT’S ABOUT MORE THAN CHECKING A BOX

Consistency is important, but so is a certain level of flexibility

What makes a good subcontractor or vendor from a risk management standpoint? Whether your client is an owner hiring a new vendor or contractor, or a prime contractor hiring a lower-tiered subcontractor, selecting the right trade is vital to ensure that the project is successful. A key component of this process should be a thorough evaluation from a risk management perspective to minimize the liability exposures and the associated financial consequences. Let’s consider the most important components of this evaluation process and some of the shortfalls that can occur if it is not done properly.

Developing a process to rate the subcontractor’s quality and safety performance after each project can help to determine whether to use the subcontractor on future projects.

The process should begin with an understanding of the logic for evaluating any contractor or vendor being hired to work on your client’s behalf. This sounds simple, but unfortunately many organizations use either internal staff or third-party vendors who are simply checking boxes on a form without truly looking at the risk the subcontractor is creating for the owner or hiring contractor. This can result in a failure to identify certain risks because there is little or no evaluation beyond the form. It can also disqualify a contractor simply because a box is unchecked for an exposure that is not creating any risk for the organization. Having a formal procedure can help ensure consistency, but it is also important to maintain some level of flexibility for the process to be most effective.

Experience and evaluation

One way to look beyond a form is to evaluate experience. A subcontractor’s prior work performance is the best indicator of future performance. If the subcontractor has performed quality work in a safe manner in the past, it likely will continue the next time it is hired. It seems that when something bad happens on a job site, either a construction defect or a serious worker injury, most often the cause is a new subcontractor without any prior work experience.

New subcontractors require extra due diligence. Developing a process to rate the subcontractor’s quality and safety performance after each project can help to determine whether to use the subcontractor on future projects.

Evaluating and checking to see that a subcontractor has a quality assurance program and an effective safety program can go a long way toward achieving an incident-free workplace. Any contractor can hire a consultant or pull a generic off-the-shelf safety program from the internet so it can answer “yes” to the question, “Do you have a safety program?” The quality assurance and safety program must be specific to the exposures and operations and must actually be implemented. This may seem like a difficult task, but by addressing some basic issues your client can determine the effectiveness of a subcontractor’s safety program.

For subcontractors in higher hazard trades, ensure that they have a “competent person” identified per Occupational Safety and Health Administration (OSHA) standards. OSHA requires a specific individual to be identified to address fall protection, scaffolding, excavation work, and other high-hazard job tasks. If the scope of work entails any of these risks, your contractor client should be able to easily identify the “competent person.” If it cannot, the safety program is not actually being implemented.

Check data

Another way to evaluate safety performance is to look at the subcontractor’s injury rates. OSHA requires most contractors to submit data to the Bureau of Labor Statistics (BLS). This data is aggregated and published each year, providing a benchmark by industry for comparison. See the following link for 2017 industry injury data (bit.ly/RN Injuries). This is an excellent tool for comparing injury rates because the rules for reporting are very specific and failure to follow them will result in citations and fines from OSHA.

The two most commonly used benchmarks are the Total Recordable Incident Rate (TRIR), which includes all OSHA recordable incidents, and the Days Away, Restricted or Transferred (DART) Rate, which includes severe injury cases involving time away from work or assignment to alternative duties based on the work restrictions associated with the injury. The TRIR and DART benchmarks are effective tools to evaluate how a subcontractor or vendor compares with its peers.

Lower rates are a good indication of an effective safety program, while rates above the industry average warrant further evaluation of the individual incidents and the overall safety program to determine if there are deficiencies that should be addressed.

Experience Mod Rates

Many owners and general contractors also use the Workers’ Compensation Experience Modification Rate (EMR) as a safety benchmark. This insurance company rating tool calculated by the National Council on Compensation Insurance (NCCI) aggregates claim data by job classification, providing a tool for comparing a subcontractor’s actual payroll and claims relative to the compiled claim data. The average EMR is 1.00; an employer with an EMR less than 1.00 is below average, and any above 1.00 is higher than average.

Although this measurement is an effective way to determine if an organization’s workers compensation claim experience is above or below average relative to the industry, this does not mean it is an accurate benchmark for safety. In fact, the EMR is a poor tool for measuring safety. It has numerous flaws that could inaccurately categorize a contractor as having “poor safety performance.” Unlike the previously mentioned BLS data, the rules for injury reporting vary by state, providing flexibility for claim reporting into the Workers’ Compensation EMR system.

In many states, employers have the option of using deductible programs or paying claims out of pocket (so long as the claim does not involve lost time) rather than having the insurance company pay the claim. Only claims paid by the insurance carrier are included in the data provided to NCCI. Two employers with the exact same worker injuries could have a significant EMR variance simply because of a difference in the method used to pay the claims. Claims in subrogation, fraudulent claims, and claims unrelated to field operations also may adversely affect the EMR calculation.

But wait

Unfortunately, some organizations use a 1.00 EMR as a line in the sand, not allowing a subcontractor to work on their behalf if the EMR is over 1.00, no matter the circumstances. At best this practice is shortsighted, and at worst it is discriminatory against smaller employers that cannot support the same level of claim experience as larger contractors.

Example: An employee is driving her personal vehicle to make a company bank deposit and is rear-ended at a stop sign by an uninsured motorist, causing the employee to suffer a herniated disk and broken vertebrae in her neck. Surgery, treatment, and $100,000 later, the claim is finalized, and the impact on the employer’s EMR is 17 points for three years, pushing the EMR to 1.03.

Another example is an electrical contractor who is working on behalf of a general contractor on a construction job site. An electrician is injured when a general contractor’s employee who is operating a forklift accidentally runs over the electrician’s foot, resulting in crushed bones that require surgery and ultimately $45,000 in workers compensation claim costs. The general contractor required the electrical contractor to provide a waiver of subrogation endorsement that prohibited any recovery of funds for the claim. The claim had an 11-point impact on the electrical contractor’s EMR and pushed the total EMR to 1.05, disqualifying the contractor for future work for the general contractor. Should this kind of incident and calculation really warrant this contractor’s being barred from future work?

The NCCI staff has published numerous articles related to this topic. Kathy Antonello, former chief actuary, stated in a recent NCCI publication: “It’s not appropriate to use E-mods to compare the relative safety of employers.” In addition, several states, most recently Virginia, have restricted the use of the EMR as a safety qualifier.

Proper role

So how should organizations use the EMR? Owners and contractors could learn a lesson from insurance company underwriters (the ones the EMR was designed for in the first place). Underwriters use the EMR as part of the workers compensation rating process, but they also have the discretion to apply a schedule credit or debit factor to the final premium based on overall claim experience and other factors.

Despite a general contractor’s best efforts to hire only the safest and most quality-conscious subcontractors, bad things can still happen. The qualification process must include validation that the subcontractor will be able to pay for damages when something goes wrong and a liability suit arises. Insurance provisions should be clearly spelled out in the subcontract agreement. This will help ensure that coverages are actually triggered at the time of loss. Most waivers of subrogation, additional insured, primary and non-contributory, and notice of cancellation endorsements restrict coverage to those “as required by contract.”

Takeaways

A certificate of insurance with all the coverages in place and with all the boxes checked may not be worth the paper it is printed on at the time of a loss.

Developing and implementing a process to qualify subcontractors and vendors before they begin work on your client’s behalf is an essential part of any risk transfer process. It is important to recognize the value and flaws of each benchmark to ensure that the tool is truly assisting your client in identifying the right organization for the job.

The author

Mark Gaskamp is a senior vice president of Marsh Wortham in Austin, Texas, where he leads the risk management and loss control practice. Before joining Wortham, he served as a risk control specialist and senior underwriter for The St. Paul and Travelers organization. He is a national faculty member of The National Alliance Certified Risk Manager program, has served as an adjunct risk management professor at The University of Texas at Austin, and is a regular presenter at safety and risk management conferences across the country.