Construction Risk

1. Construction Risk Construction Risk, Wrap-ups, and the challenges of the current economy

2. Susan Bryan, AIC, ARMRegional Underwriting ManagerConstruction Specialty ExcessAIG Excess Casualty • Ms. Bryan currently acts as the Regional Underwriting Manager for all excess construction liability coverage for the Western Region at AIG/American Home. This includes underwriting both wrap-up and program coverages for a wide variety of developers, contractors and trade subcontractors involved in all types of construction as well as the development of new products and coverages for those risks. Ms. Bryan spent 13 years as an adjuster handling construction defect, complex coverage and severe exposures in the Construction Defect and Major Case Units at Aetna and Royal Insurance Companies. She also spent four years as an insurance broker specializing in program design and placement construction risks including both renewable programs and wraps, working with all size of accounts and routinely consulting throughout the country. Ms. Bryan is routinely consulted for her expertise in coverage issues and has testified as an expert in coverage litigation and spoken at numerous seminars and conferences throughout the country.

3. Alan H. Packer Newmeyer & Dillion LLP Newmeyer & Dillion, LLP is a California-based law firm provides a full range of litigation and transactional services to businesses and individuals, including home builders, real estate development firms, and others. Alan Packer is a partner in the firm’s expanding Northern California office. He has practiced law in California for over 20 years, most of it representing parties involved in real estate, home building, construction, and insurance matters. Mr. Packer represents home builders, property owners, contractors, and business clients in a broad range of legal matters, including risk management, insurance matters, wrap consultation and documentation, efforts to coutner solicitation of homeowners, subcontract and prime contract documentation, as well as complex litigation matters involving construction projects, product defect claims, construction defect claims, cost recovery actions, additional insured coverage matters, and creative dispute resolution. He also handles mechanic’s lien, stop notice, real estate, and payment and performance bond issues in residential and commercial contexts.

4. Today’s Topics

5. Topics for Today • Analysis of the types of risks particular to the construction industry • & associated legal and underwriting issues • OCIPs, CCIPS, ROCIPS • Brief overview of some of the impacts of current economic conditions on construction

6. Construction Industry Risks

7. Construction Industry Catastrophic Risks • Catastrophic injury potentials • Course of construction / Jobsite injuries • Post Construction/Products Completed Operations Exposures: • Bodily injury arising out of negligent construction • Construction defect Property Damage claims

8. Catastrophic Risk

9. Catastrophic risk potential Course of Construction Hazards • Sources of exposure • Moving parts and activity: • cranes, • heavy machinery, • height exposures, • failures of structural components that can lead to collapse hazards

10. #1 Course of Construction Losses • Personal injury & wrongful death claims • Most commonly onsite construction workers are the injured parties, although sometimes bystanders are also hurt • The construction industry has one of the highest mortality rates of all industries in the US. Workers are in danger from: • Falls, • Electrocution, • Heat-related deaths • Pollutants (asbestos and others) • Lots of other causes • Other losses • Property damage • Business interruption • Delay damages • Multiple bond claims

11. Catastrophic Risk

12. Catastrophic Risk

13. Catastrophic Risk

18. #2 Post Construction Calamities (big and small) create long tail exposures • After Construction is completed, liability exposure for injuries can continue for decades. • For instance, • Builder sued in 2003 for asbestos exposure of a janitor who worked in a high school in the 1950s that the builder built in the 1920s. An 80 year tail! • Contractor sued 15 years after construction when someone fell down a flight of stairs and claimed that the stairs were not built to code.

19. Catastrophic Risk

20. Potentially liable parties Inspectors Retrofit contractors Design professionals Construction managers Original construction (even decades later) Losses potentially insured: Personal injuries Death Property damage to bridge Property damage to vehicles Business interruption losses Replacement costs Multiple bond claims Bridge collapses

21. Catastrophic Risk

22. Catastrophic Risk: pub with no beer* * Australia (as if you had to think about it)

23. Station fire (fireworks/rock band) • Potentially covered losses • Injuries & deaths • Property damage • Business interruption • Rebuild • Band reputation • Potentially liable parties • Band • Promotors • Landlord • Pyrotechnics • Contractors who installed flammable foam • Building contractors

25. Construction Defect Exposures

26. Construction Defect Exposures • #1 issue in the hearts of carriers that causes fear from residential exposures in California • Strict liability • Expansion of residential claims • Attorney solicitation • Continuing exposure issues (Montrose) • Efforts at liability reform (SB 800) • Inherently uneconomic litigation models prior to wraps • Impact of wraps • Potential liabilities • Strict liability, negligence, breach of contract = explained

29. Milstein Shinnick & Ryan Kasdan

30. Sample Complaint

31. Sample Cross-Complaint

32. Sample Cross-Complaint, p. 2

34. The “Montrose” Effect

35. 3. The “Montrose” Effect (cont’d) “Occurrence” typically means an accident, including continuous or repeated exposure to substantially the same general harmful conditions.

36. Wraps and OCIPs

37. What is a “Wrap” Anyway?

38. No, what is a Wrap, really? CIP – Controlled Insurance Program OCIP – Owner CIP CCIP – Contractor CIP Sponsor (owner or contractor) provides insurance to all contractors and subcontractors for the project for general liability (sometimes w/c as well) for the term of construction and beyond into completed operations period

39. What is a wrap? (cont) • Owner or General Contractor will purchase insurance and “enroll” subcontractors into program. All parties who work on contruction will be covered under a single program. • Owner or GC responsible for premium and SIR or deductibles but will spread cost through contract “deducts” and/or indemnity provisions for deductible and/or SIR obligations • Single carrier for all claims will presumably enable ONE lawyer to represent all parties for any claim avoiding the “count the lawyers” game.

40. History of Wrap-Ups • 1940s – Introduced on the U.S. defense plants • 1950s – Applied to other projects (such as Lincoln Tunnel) • 1990s – Significant increase in popularity on commercial and public works projects • Late 1990s – Start of use on residential projects in western United States

41. Benefits of Wraps • Covers all defined project risks under one policy. • In theory, limits the number of parties, attorneys, and claims professionals on any given claim. • Reduces uncertainties arising from subcontractor insolvencies • Reduces uncertainties arising from insurer insolvencies • Reduces uncertainties arising from varying subcontractor insurance (Montrose, residential exclusions, prior work exclusions, etc.)

42. Wraps – Underwriting complications • Underwriting information on insureds • Setting premiums • Differing types of projects • Mixed use vs. conventional projects • Aggregates and limits • SIR’s and deductibles • What happened to the loss history?????

43. Wraps – Legal Considerations • All relevant documents need to be carefully coordinated through legal counsel familiar with wrap issues. • Subcontract indemnity provisions • SIR/deductible provisions • Warranty provisions • Subcontract insurance provisions • Non-wrap exposure insurance and indemnity provisions • Even the wrap policies themselves may require modification based on the program involved. (Not all cookies are from the same mold.)

44. New Wrap Disclosure Obligations • AB 2738 • Also new SIR limitations

45. Defense Costs: Unified Defense is Still a Myth Many older residential wrap-up programs are believed to potentially have inadequate limits as a result of both availability and cost

46. New Wrap Disasters • Example • Builder buys $10,000,000 wrap-up policy covering builder and all trades • Builder and trades build the project and sell it • A few years later, builder goes bankrupt (2008) • The policy has a $1.0 million SIR before any obligation to the subcontractors, who have NO OTHER INSURANCE because their practice policies exclude any project on which a wrap-up policy exists.

47. Defense Costs: Unified Defense is Still a Myth EXAMPLE– Actual wrap policy • Aggregate Limit: $25,000,000 for completed operations • Coverage Territory: All projects in California • Defense Fees: INSIDE limits • Number of Homes Constructed in Coverage Territory: Over 10,000 per year • Coverage per Unit Constructed (actual): $1,750, including defense fees • Coverage per Unit Constructed (actual), assuming 20% litigation: $8,753, including defense fees

48. Covering the gaps in the wraps • Excess and DIC wraps • Current “hot” coverage enhancement • Provides excess wrap coverage to contractors, occasionally without additional premium • Various limitations in varying endorsements • Excess applies only for non-residential projects • Applies only to projects with minimum limits

49. Looking Forward Current Market Conditions

50. So how bad can it really be? • December 2008 statistics: • Sales of new homes dropped by their biggest margin since 1994, falling 14.7% • New home sales (seasonally adjusted rate, homes per year): • December 2008: 331,000 homes. • July 2005: 1.389 million homes • Nationally, spending on home construction fell 27.2% in 2008 • In California –CBIA forecasts that only 63,400 units will be produced in 2009, down from 2008. (Comparison: The low point of the homebuilding recession in the early 1990s was 84,656.)