Marketplace Realities 2017 Deconstructing risk in the construction industry

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1 Marketplace Realities 2017 Deconstructing risk in the construction industry As our Risk Index makes clear, construction industry leaders are concerned about risks at a very high level and addressing them requires a combination of solutions. These include impactful risk management and behavioral strategies, building of strong cultures that focus on risks to the broader business, and ultimately partnerships with strong insurance carriers who understand the industry and bring tailored and competitive products. Deconstructing risk in the construction industry To gain deeper insight into the evolving risk landscape of the construction industry, Willis Towers Watson recently completed a global study to understand the greatest threats facing the industry today and in the future. Our goal was to understand how the various stakeholders in the industry view their risks and to use these findings to build better solutions to help our clients prosper in uncertain and changing environments.

2 The results of the study allowed Willis Towers Watson to group risks into five megatrends. Those megatrends in order of significance are: Respondents told us that the ability to navigate in a time of political uncertainty will be a top priority for construction companies in most parts of the world. In addition, the industry faces structural challenges related to its workforce, particularly in recruiting and managing the next generation of talent. Managing people risks will continue to be difficult, given a physically dispersed, often contract-based labor force. Although the construction industry agrees that technology will be a critical part of the future, it must also cope with the new risks that come from leveraging technology advances. As the Risk Index makes clear, construction industry leaders are concerned about risks at a very high level and addressing them requires a combination of solutions. These include impactful risk management and behavioral strategies, building of strong cultures that focus on risks to the broader business, and ultimately partnerships with strong insurance carriers who understand the industry and bring tailored and competitive products. Willis Towers Watson s 2017 Marketplace Realities for Construction focuses on the current state of insurance solutions and carriers and offers our perspective on capacity, coverage trends, appetite for risk and pricing. Construction risks are complex and interconnected across multiple insurance lines. We therefore, advise our clients to spend significant time understanding the products and the insurance companies that specialize in the industry. This report offers a guide to planning for the next year on market trends and practical approaches to understand what s likely to happen soon. We hope you find this useful and we look forward to discussing its findings in more detail. Please contact your Willis Towers Watson representative who can provide additional perspective on this report. Paul Becker Global Industry Leader, Construction Willis Towers Watson paul.becker@willistowerswatson.com 2 willistowerswatson.com

3 The construction insurance marketplace Expectations for construction risks: rate, terms and conditions The U.S. construction property and casualty market continues to exhibit rate stability. While the market remains soft, a level of underwriting restraint has started to take hold. Much of this is driven by the continued deterioration of the automobile liability market; auto liability often regarded as an add-on in the past has become the tail wagging the dog for the casualty customer. Much of what we stated last year is worth repeating: 1. Underwriters are disciplined in taking a hard look at loss history and safety procedures when reviewing accounts. Contractors who do not manage safety well will find a harder market than industry averages would suggest. 2. While pricing remains soft, markets are looking to decrease their exposures via policy exclusions and limiting endorsements. This is particularly true with some of the newer market entrants and the excess and surplus lines markets. When reviewing quotes both from new or incumbent carriers possible exclusions, such as residential exclusions, broad wrap-up exclusions, anti-stacking endorsements and others must be fully vetted to avoid sacrificing long-term stability for short-term pricing. One final note as we continue to move through The US insurance marketplace continues to expand given the entrance of foreign based firms. It s not uncommon now to see what historically were foreign-based underwriting companies set up shop in the US focusing on lines of business such as builders risk, excess casualty and professional liability, for example. This market expansion is driven by several factors including a change in how/where underwriting access points are most efficient for brokers and buyers. We ll likely continue to see this expansion with the caveat that some lines of business may not be sustainable given the considerable competition which is driving rates down (e.g., builders risk). For now, however, the expansion and competition make it a buyer s market in those coverages. Contractors casualty insurance (general liability, workers compensation, auto liability, umbrella/excess liability coverages) General liability: Rates are stable with increasing emphasis on higher retentions to keep rates level. In discussing General Liability, coverage trends and challenges remain the key issues regarding General Liability coverage; more so than availability, pricing or rates. For example, though known for years, residential risks remain difficult for standard markets to underwrite. Without significant off-set exposures, residential risks are typically underwritten in the Excess & Surplus lines marketplace. Residential risks are also good candidates for GL-only wrap ups where insureds can purchase completed operations coverage for as much as 10 years post-completion. 3 willistowerswatson.com Additional insured endorsements are noteworthy, too, in the current marketplace. Whereas we, historically, could rely upon standard ISO forms, we now see more manuscript endorsements particularly by regional or smaller underwriting companies who may or may not specialize in construction risks. It s important for policyholders and upstream/downstream parties to construction contracts to understand the various additional insured endorsements that support risk transfer via indemnification language in the contracts. Along a similar vein jurisdictional differences in state-by-state interpretations of policy language will impact coverage when work is performed in a location. Among the coverage issues that can vary by state are horizontal exhaustion of liability limits, anti-indemnity statutes, wrap-up exclusions and the definition of occurrence. New exposures, which are not traditionally associated with construction, also present challenges that must be addressed. In particular, the increased use of technology on job-sites presents threats of cyber attack, wearables present privacy threats and the utilization of drones presents aviation risks. A thorough review of policy language, endorsements and exclusions is needed to identify gaps in coverage and determine options. Underwriting rigor remains high on this line of business for construction risks. Underwriters will want to understand not only safety plans and requirements but also QA/QC emphasis. It s not unusual for underwriters to require and review items such as upstream and downstream contracts and, for larger and/or riskier insureds, meet with company owners to understand corporate culture around risk management. Workers compensation: Last year, we identified several trends we expected would lead to a harder market. While that hardening did not materialize in 2016, we still believe these trends are worth repeating and can lead to a harder workers compensation market in the months and year ahead. Prescription drug use and costs are rising. Some carriers have tried to control this by putting limits on opioid usage, but the trends on both usage and costs are rising. Similarly, concern mounts over marijuana as more states decriminalize and/or legalize use. Judicial and legislative decisions are driving costs. For example, NCCI estimates that a recent Florida Supreme Court decision will lead to a 17.1% rate increase in Florida. While other states have also felt rate pressure, election concerns deferred rate increases until after November While the frequency of losses may remain flat, an aging workforce is leading to increased severity of losses. Auto liability: This year will continue to see a correction in the pricing for auto liability that started last year. The rise in claim frequency and severity from distracted driving and deteriorating infrastructures initiated the premium correction in This will continue as underwriters will take a much harder look at fleet safety, driver records and loss control procedures than they have in the past. Insights May

4 operating on their project and is a cost-effective alternative to expensive project-specific policies. Traditional project specific professional liability policies which cover all design risk on the job can still be obtained but typically are not put in place given the cost efficiency of the protective products. Umbrella/excess liability: The market remains robust, with plenty of capacity and pricing pressure from domestic, London and Bermuda markets. There are concerns about such coverage over proper terms and conditions to ensure alignment with primary general liability, auto liability and employers liability coverage. Construction professional indemnity/liability: Construction professional indemnity/liability remains competitive in early 2017, after an eventful 2016, which saw many new carriers enter the market. There are more than a dozen carriers offering primary forms and a number of others which provide either primary or excess coverage. Total U.S. capacity is now in excess of $300 million with an additional $150+ million available in London, Bermuda and other international markets. Contractors Professional: Rates for contractor s annual practice renewals are flat to -5% or greater assuming good loss experience. Many contractors have taken advantage of market conditions and increased limits with favorable terms given the aggressive environment. Coverage terms continue to expand with product enhancements consistent with the evolution of technology, delivery methods and contractual terms and conditions. Notable examples include a few carriers offering defense outside the limit, and even one carrier offering per-project aggregate limts both traditional general liability coverage capabilities. Protective indemnity and rectification coverages are now inclusive in standard forms offered by the key carriers and technology services is now a defined coverage component in the market. Owners Protective Professional: As project values continue to increase ($500M to $1+ billion-dollar projects are common), historical contract requirements developed for smaller sized projects are no longer valid. Construction owners are very focused on risks from professional liability losses arising from construction and design professionals. Many contractors and design professionals do not carry limits which adequately address this risk and as a result owners routinely purchase Owner s Protective Professional Indemnity (OPPI) policies. The marketplace for OPPI has limits above those contractually required of the contractors and design professionals Additional Notable Trends: Residential projects continue to be the loss driver for professional liability insurers. This has created a small market of carriers willing to offer project-specific products to contractors, design professionals and owners. Claims associated with civil engineering, such as firms providing geotechnical and structural professional services are emerging as a significant concern of professional liability insurers. Professional claims in general are on the rise as the products, litigious environment in the U.S., and with the adoption of the product by many more construction firms and owners over the last 15 years. Project-specific policies can now offer 10-year extended reporting periods post-substantial completion of a project. It s unknown what impact these longer coverage periods may have on losses or market stability as losses are not fully known in these long tail placements. In summary, construction professional indemnity/liability is very competitive with a growing product suite and aggressive underwriting is an excellent opportunity for contractors and owners to take advantage of the competition and procure policies with greater limit structures to protect their balance sheets from the complicated claims associated with professional negligence losses. Builders risk and construction property coverage Heading into the third quarter of 2017 (exclusive of wood frame construction) the U.S. property and inland marine market remains soft, due to an abundance of capacity, which stems from domestic carriers continuing to increase their net and treaty capacities, as well as new and formidable international players starting to play domestically. Due to recent frequency and severity of losses at wood frame project sites in the past several months, we have started to experience hardening in this space. In lockstep with continued downward pressure on pricing, carriers are being driven to provide broader coverage. Over the past six months, to remain viable, many carriers have released new master builders risk and project builders risk policy forms. Many of these forms are now automatically including, coverage that had previously been negotiated and provided only via manuscript endorsement (e.g., fungus, pollutant cleanup and removal, contract penalty, etc.). Competitive market conditions are expected to continue well into 2017 and beyond, especially if the Atlantic hurricane season yields little activity. Contractors pollution liability insurance The role of environmental coverage in the construction industry continues to grow as firms look to round out coverage for their 4 willistowerswatson.com

5 individual insurance programs, as well as for project-specific controlled insurance programs. While potential increases in construction redevelopment activity and simultaneous decreases in regulation and enforcement under the Trump administration could change the environmental liability landscape considerably, it is not expected to create significant changes to underwriting appetite across most classes of business. Soft market conditions fueled by more than 40 environmental carriers in this space has inspired some carriers to differentiate themselves by expanding coverage for rectification and mitigation costs and to think more strategically by offering a holistic approach by joining forces with other lines of business when quoting for builders risk, wrap-up or even blanket practice programs. Potential threats to the favorable underwriting conditions in the environmental marketplace include a decrease in appetite by some carriers for habitational exposures as well as redevelopment and M&A activities that may pose longer-term and potential moral hazard exposures associated with known conditions and voluntary testing. Recently, an increase in indoor air quality (IAQ) claim activities arising from mold and Legionella continue to challenge both the construction industry and environmental insurance providers many of whom have introduced per-door/room deductibles to mitigate this exposure. So, while a hardening of the market is not expected in the near future, it is possible that many markets will decrease appetite or employ coverage restrictions (exclusions, sub-limits, increased deductibles) for certain classes of business with these exposures. Former concerns of limited capacity (less than $10M) for some newer carriers have lessened with the expansion of their re-insurance treaties, other potential threats to the favorable underwriting conditions still remain in the environmental marketplace, including a decrease in appetite by some carriers for habitational exposures as well as redevelopment and M&A activities that may pose longerterm and potential moral hazard exposures associated with known conditions and voluntary testing. While general liability-only (GL-only) programs are commonplace for residential construction in particular, for-sale construction isolating the workers compensation from the CIPs is becoming commonplace for commercial construction. Factors driving this shift include coverage consistency, collateral control and policy certainty through the statute of repose. Admitted markets still shy away from for-sale construction risk in their portfolios. Apartments, too, are still a less tolerable risk profile for the admitted marketplace due to the possibility of conversions in future years to condominiums. Large complex projects, such as infrastructure, light rail and heavy civil and commercial construction, still command competitive WC/GL CIP programs from the admitted markets, typically with retentions starting at $250,000 but with upward pressure on retentions. New York remains a unique place for construction risks because of state labor laws. For the most part, projects in the metro area and the five boroughs are underwritten on a project-specific basis, non-cip. These CIPs are typically two-line and afford little true risk transfer. In other words, the retentions are usually close or equal to the limit of liability provided on the general liability line of coverage. Without legislative relief, we see little to no change in how construction insurance is underwritten in New York City. Finally, overall excess pricing for CIPs remains competitive, especially above the lead $25M layer. We do see the need in today s marketplace for arranging the lead $25M with more than one or two carriers. In many cases, carriers will provide ventilation options, meaning they will participate with a smaller limit (e.g., $10M) in the lead $25M and then provide additional capacity above the $25M lead layer. Karen A. Reutter, CPCU, CRIS, ARM Head of North America Construction Broking & Operations Willis Towers Watson karen.reutter@willistowerswatson.com Controlled insurance programs The controlled insurance program (CIP) marketplace continues to be competitive and grow for both mixed-use, multifamily residential, homebuilders and commercial construction. Pricing is stable and capacity is still plentiful given a boost in acquisitions throughout the industry. Regarding residential construction, CIPs are primarily placed in the excess and surplus lines marketplace, as the admitted marketplace is looking to limit most forms of habitational exposure on an aggregate basis. Coverage terms and conditions can vary, and there is greater awareness among project sponsors that specialist brokers and wholesale partners are required to meet the needs of sponsors, general contractors and subcontractors in this space. Copyright 2017 Willis Towers Watson. All rights reserved. WTW-NA willistowerswatson.com 5 willistowerswatson.com