The construction insurance market is growing increasingly distressed, even within the context of a generally tough insurance environment. Rates were already rising prior to the impact of Covid-19 and are further inflated by the rise of energy and commodity costs and supply chain disruptions arising from the Ukraine/ Russia crisis.
The effect of this hardening market is most often understood in terms of the cost of cover, but this is to consider only one part of the picture. As well as increasing rates, policyholders should expect considerable erosion in the quality and extent of the coverage they buy (often unexplained by either the broker or insurer when the policy is placed or renewed) as well as increased likelihood of eventual claims being disputed.
While these problems are also felt in other sectors, they are particularly acute for construction companies.
- The first is that construction sites have been subject to major operational changes through the lockdown and return to work period, and started to see further process disruptions in the wake of fire safety regulatory changes and new supply chain disruptions arising from the Ukraine/ Russia crisis. This can make it hard to satisfy policy obligations around risk management on site and mid-term disclosure.
- The second, is the way in which commercial contracts create a complex web of liabilities and obligations across contractors, sub-contractors and other elements of the supply chain, often requiring policy wordings to be adapted to ensure there are no gaps.
Understanding the challenges:
1. Significant changes to operations
Businesses’ operational changes in response to Covid-19, Brexit and most recently, to the instabilities caused by the war in Ukraine, have altered their risk profiles. In some cases, these changes will mean that current policies may fail to respond in full in the event of a claim.
- Emergence of new fire regulations
The aftermath of the Grenfell tragedy has led to the emergence of rapid changes forcing the construction companies to quickly adapt their operations to ensure sites and projects are complying with new regulatory measures, in particular, arising from the review of Building Regulations & Fire Safety completed by Dame Judith Hackitt.
- Materials supply shortage
Some firms find themselves in queues for materials. To avoid delays, some are finding that they have to use substitute materials or change to designs, both of which may add risk, in particular where completed under time pressure.
- Labour shortages and cost Increases due to Covid-19
- The reduced labour capacity during the pandemic has struggled to meet accelerated demand for construction work and consequently led to increases in labour costs. This has been exacerbated by increased competition for higher-salary, skilled positions to oversee projects in alignment with increasingly demanding regulations.
- This is also driving higher risk exposure for manual operatives, where the shortage of qualified profiles can translate into reduced or less experienced capacity on site, reducing efficiency and increasing safety and compliance risks.
In addition to insurers’ direct economic losses following the Covid-19 pandemic, estimated by Lloyd’s to top $200bn , the current unfavourable context and its secondary impacts on insurer investment returns and reinsurer appetite, will likely continue and lead to further coverage erosion in the guise of new exclusions, higher deductibles, lower limits and more disputed claims.
All this means changing risk profiles which different business manage in different ways – policyholders should not assume that insurers will guess how they are managing these, and must proactively look to explain such changes (whether or not insurers ask about them), whilst also making sure that policy structure, terms and limits reflect their changed reality. There is also the matter of ensuring compliance with often extensive risk management conditions in construction insurance policies, e.g. around how hot works or other higher risk on-site activities are managed. Having fewer boots on the ground, and less experienced people at that, could mean that compliance becomes more challenging in general.
2. Complex liability environment
- This problem is intensified for those construction projects in which various contractors and subcontractors, each with their own unique risk exposures, have sourced coverage independently – subject to varying terms and obligations.
Managing this mosaic of policies at a time of rapid and ongoing change, represents a particular problem for construction companies of all types. Even when wrap-up policies are employed, such as an OCIP or a CCIP (in which the project sponsor or lead contractor sources the coverage for all participants to align the standard of cover) these arrangements will require all parties to comply with specified operational conditions to ensure reliability of coverage.
- Another unique challenge for the construction sector is that new coverage restriction can suddenly place firms in breach of commercial contracts that form the basis of existing projects. This can expose multiple parties. First, the contractor must ensure the appropriate cover is in place to comply with the insurance requirements contained within the commercial contract, which can be thrown by sudden reductions in limits or removal of cover for specific types of work.
In addition, lead contractors might then expect to subrogate to subcontractors the losses incurred following a claim, but then find that the subcontractor’s coverage does not comply with master policy requirements. This is becoming more of a challenge under current market conditions, where substantial restrictions in cover are commonplace – creeping in through narrower cover triggers and broader exclusions with fewer carve backs. This is not to mention the increasingly hard line taken by insurers on claims, reverting to punitive positions on “standard” clauses such as prior knowledge exclusions, notification breaches, overlapping other insurance clauses, etc.. As a result, contractors might find themselves unable to exercise their subrogation.
Managing multiple overlapping policies while insurers are changing their terms and exclusions on a daily basis is akin to playing a never-ending game of 3-D chess. The sheer complexity of the task means that errors are almost inevitable and, in an increasingly tough claims environment, will lead to more disputes down the line.
Construction firms have traditionally called on their insurance broker to help guide them through these effects of the troubled market, but increasingly may also need independent technical advice in light of such a stark challenge .
What should insurance buyers do?
- Reassess your insurance programme
Review your insurance programmes and develop a clear understanding of the key scenarios you want to be covered and the relevant structures of project and parties involved. All stakeholders must understand what coverage is contractually required for a project, and there should be a means through which they can communicate and collaborate on coverage developments and concerns; this is crucial where coverage changes might place a firm in breach of contract, or where additional disclosure obligations under the policy are likely to be required to maintain cover. Where there are rights of subrogation, we advise that you designate responsibility for overseeing the validity of the underlying policies that are placed.
- Market your risk effectively
This is a new requirement driven by the hard market. This involves improving insurers’ understanding of your exposures and risk management, differentiating them from those of your peers. Developing a bespoke risk prospectus is an effective way of ensuring that insurers will not view your risk as a commodity, nor sell you a standard commoditised policy; This puts you in the best position to achieve improved, reliable coverage at a more competitive rate.
- Ongoing disclosure
The traditional method of completing annual proposal forms to place insurance is increasingly insufficient in this more dynamic challenging environment. First, altered or unusual exposures need to be flagged even where not specifically asked about. Second, almost all policies require you to update insurers during the policy period where material changes occur, something that few companies follow-up on but can often cause a problem if a claim arises in an affected area. This doesn’t need to be impossibly arduous but does need to be considered and built into your insurance model to avoid unwelcome surprises.
If you would like to find out more about what you can do to enhance your chances of securing reliable insurance policies, contact Mactavish and a member of the team will be happy to discuss some of our insights and success stories. You can also access more information on our services for those in the construction sector here.