Design & Construct
Historically, contractors have avoided Professional Indemnity insurance by persuading clients that they have no design liability and that design professionals e.g. architects, engineers and the like will have such cover and that this would be sufficient. In recent years though, contractors are increasingly taking on a design liability, either by employing their own in- house professionals or by assuming a liability where they sub contract out the design element.
Starting in the 1960’s with large overseas works the contractor led project has become the most common way of procuring building contracts. The Design Build method now accounts for 75% of all building projects in the UK and offers the client a ‘one stop shop’ for his building. There is no professional body for contractors and insurers attitudes towards this type of risk vary dramatically. At HCCI we write all types of contractors and this brief crib sheet will help when presenting the risk to underwriters.
What do insurers look for?
The size of the firm – One of the major factors that determine insurers’ rating and underwriting criteria is the size of the firm. This can be established by looking at the number of employees and directors as well as the turnover and number and size of contracts in which they are involved.
Qualifications and experience - There is no professional body for contractors. It is for this reason that insurers have to pay careful attention to the qualifications and experience of the principals and staff. If a contractor is offering professional services then insurers will expect to see qualified staff, such as a qualified Architect, Engineer or Surveyor. If there are no qualified staff, then insurers will want to see CV's of those involved in technical work, normally demonstrating at least five years' practical experience, and possibly more depending on the services offered.
Type of work – This is the most important aspect when assessing a risk and is worth looking at in a little more detail:
- Full blown design and build – this is where the contractor does everything using its own employees i.e. all the design work, the supervision of construction and the building work. The professional exposures are the same as a consultant within the construction industry.
- Contingent design and build – This is where the contractor takes on the contractual responsibility for the design but sub contracts out such work to others. The design work would be carried out by firms of architects and engineers who should carry their own professional indemnity. In view of the fact that insurers should be able to recover payments from those professionals who have carried out the negligent work, (any payments made emanating from their negligence) this is regarded as lower risk. It is vital here that the contractor ensures that any consultants it employs carry, and continue to carry, PI insurance.
- Pure contracting – This is where the contractor purely builds from the designs and under the supervision of other professionals who have been appointed directly by the client. This is considered by insurers as low risk work but is not without its dangers. See ‘Hidden Exposures’ below
- Fees – Sometimes a contractor earns fees (as opposed to turnover which is the correct description for the three categories above). They might project manage for other contractors or carry out other professional functions such as design or quantity surveying. These activities would be rated the same as a professional firm carrying them out.
Contract sizes – Clearly the size and scope of a building project is an important consideration for underwriters. Large complex works involving structural engineering are considered higher hazard than lower value ‘standard’ buildings such as houses, offices or shops. In short, big contract values equate(s) to big claims.
Technology - Is the firm using 'cutting edge' technology or standard, tried and tested processes? Tried and tested techniques are seen as lower risk.
Overseas exposure - Does the contractor carry out work for overseas clients? Careful consideration would be paid to such work especially in the US or Canada.
Retroactive exposure - Does the contractor have an exposure to claims arising from past work, whether in the current firm or a former firm?
Environmental exposure - Does the contractor knowingly get involved
in the environmental field such as clearing brown field sites for redevelopment?
Asbestos exposure – Does the contractor get involved in the
identification and removal or handling of asbestos? Often policies exclude or severely
restrict the cover for such work.
Cladding / glazing exposure – Does the contractor get involved in cladding? This is a specialist area and has encountered many problems over the years and so the contractors experience in this field is key.
Claims experience - The claims experience is an important determining factor in the assessment of risk. This information usually reflects the type of work carried out by a practice. It also reflects the quality of the practice's work, staff, internal risk management and experience.
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Design & Construct brochure.
Examples of claims
Design failure - Contractors provided the client with a design and build service in respect of construction of a quarry conveyor belt, capable of carrying tonnes of material. The design of system was subcontracted out to specialists. After catastrophic failure of the conveyor belt machinery, substantial damage was caused. Although the claim was subrogated by PI insurers against specialist designers, the claim was settled against the Contractor for £42,000.
Alleged specification failure - Major fire at Heathrow Terminal 1 emanating from a fast food restaurant caused multi-million pound damage. Insured, one of 13 defendants added as co-defendants by building insurers. One of many allegations involved the inadequate specification of extractor flue that allowed hot gasses to build. Although the contractor was involved in specification, the claim was successfully defended. Costs £50,000.
Design failure - Temperature of new cold storage room at factory consistently too high because of inadequate design. Paid £250,000 plus costs.
Inadequate design - Air extraction and temperature control at restaurant failed to work properly. Restaurant was closed pending repairs. Paid £150,000 plus costs.
Structural design defect - Incorrect structural calculations contributed to total building failure of new car park. Paid £750,000 plus costs.
Negligent project management - Contractor instructed in role of project managers on existing but uncompleted development, problem due to bankruptcy of original contractors. Project involved restarting development, i.e. putting it back on track, utilising previous designs but new professional team. Allegations of negligence concerning duplication of work carried out by original team and additional duplications between new team, Surveyors, Engineers and QS. This led to an over-run on the contract budget. Paid £26,500.
What else you should look for
Level of cover - There are no minimum levels of cover imposed on Contractors by any regulatory authority or professional body. The requirement for cover itself is often client driven; therefore, there is often an attempt by the client to influence the actual scope of cover. It may not always be possible to provide the broadest limits of indemnity and factors such as the contractor's activity and market conditions will influence the overall cover provided. HCCI can offer limits up to £5million both in the aggregate and ‘any one claim’.
Consortia - Most proposal forms have a specific question regarding consortia. These generally occur on bigger jobs, often where a combined tender is put together by more than one design and build team covering all professional and building disciplines. Warning signs include reference to acting as lead contractor. The question is whether or not there is an agreement whereby a separate legal entity is created for one or more jobs, or whether there is a partnership created between two or more of the participating firms (in which case attention needs to be paid as to how it is insured - ask HCCI for advice).
Project partnering - There are now more and more projects that involve project partnering. In respect of this activity, there is just one contract that is signed by all involved in a project. The intention is that everybody communicates more; there is less repetition of work (and less error) and less contractual ambiguity. Experience overseas has suggested that this type of approach does indeed reduce the number of problems. But care must be taken to ensure that this kind of agreement is not drafted in such a way as to inadvertently create some form of single project partnership or to expose anybody to liabilities that rightly belong elsewhere.
Hidden exposures – Frequently contractors who offer no design services at all are being asked to carry professional indemnity. A question they often ask is ‘what risks do I face if I offer no professional services. The answer is that there are some risks:
- Design alterations: any firm involved in building anything will nearly always need to ‘tweak’ the plans a little in order to make them work. You could call this ‘buildability’ and the problem is that a small alteration here could have a larger knock-on effect, on thus causing a real problem later in the job. A real liability can arise if plans are altered.
- Design checking services: often firms, formally or informally, double check designs to ensure they work. Failure to do so can lead to a claim.
- Temporary works: scaffolding, access roads, perimeter fencing, storage facilities are often part and parcel of a contract but are not designed and are left to the contractor. Such works can be expensive and can go wrong leading to further expense and consequential loss.
- Duty to warn: a duty to warn the client of any problems or errors that the contractor might become aware of is sometimes included in the contract. Failure to warn when one is aware could lead to a liability and a claim under a PI policy.
Collateral warranties – Sometimes also called duty of care agreements, these are contractual agreements between parties who otherwise might not be in a contractual arrangement. In the case of a contractor it is unlikely he will have a contractual relationship with the purchaser of the building or the eventual tenant. It is possible that the building is funded by a bank or some other financial institution and again the contractor is unlikely to have a contractual relationship. A Collateral Warranty creates a contractual relationship between the contractor and these parties which reflects the responsibilities that the contractor has to his client. These agreements can also be assigned meaning that their benefits can be passed on from one owner or tenant to the next. Very often they only stop when the limitation period expires and this is likely to be 12 years after the date of practical completion. So now the contractor can be pursued by parties other than his client.
PI Insurers generally take the view that they will accept claims arising from sensibly worded agreements. The British Property Federation (developers' trade association) has agreed standard templates with most construction related professional bodies (RIBA, ACE, RICS included), which most insurers will accept. Insurers regard the acceptance of contractual liability beyond that normally owed by a professional to be beyond the intention of a PI policy. Therefore, unreasonable agreements could have very damaging effects on professionals, leaving them without cover.
Most PI policies address the issue of collateral warranties by clearly setting out
the limits beyond which cover will not apply. This should avoid the need to submit
each and every agreement for sanction by the insurer. Some of the more restricted
policies offer very little cover in connection with this type of agreement, not
even covering the British Property Federation agreements described above.
Of course, the 'claims made' nature of PI policies (see PI demystified brochure)
causes a difficulty here. If a contractor signs up to a collateral warranty having
reassured himself that it is within the scope of his PI cover, what if he later
chooses to (or is obliged to) change insurer? Or what if the insurer changes the
wording? For this reason, you should urge your contractor clients to sign up to
sensible agreements only. This can be very difficult in times of recession in the
construction industry when contractors could be tempted to sign up to very nearly
anything to secure work, regardless of the longer term consequences.
The Housing Grants, Construction and Regeneration Act 1996 - The biggest issue here for PI policies is the introduction of a standardised adjudication process to speed up the resolution of construction industry claims, cutting to a matter of weeks a process that has historically taken years. It is beyond the scope of this commentary to go into detail on the Act but it has had the following major effects:
- Insurers generally require notification of adjudication claims within a day or two. Notification of claims has always been an issue under PI policies, but insurers have not normally taken issue with the Insured over the matter of a day or two unless there has been clear prejudice. With adjudication claims there is little or no room for latitude.
- Insurers will not allow the insured to compromise any right of appeal. They must not enter into any contracts that allow the adjudicator to finally determine a dispute. Most policies incorporate a number of crucial clauses relating to the handling of adjudication claims. As ever, Contractors must read their policy very carefully to ensure that they do not fall foul of any of the requirements, in particular as regards this Act.
Wordings
Normal PI policies are not adequate for Contractors with a design liability. There are a number of reasons for this:
- Activities of a sub contractor may be excluded. i.e. no cover for liability incurred by the Insured arising out of the negligence of its specialist designers, consultants or subcontractors. This is particularly relevant to the Contingent type risks mentioned above.
- They will not indemnify the insured against costs and expenses incurred in respect of action taken to mitigate a loss that otherwise would be subject to a claim under the PI policy.
- They will not always provide cover for the defence of civil or criminal proceedings brought under listed building, building regulation or health and safety legislation.
HCCI have drafted specific contractors wordings that cater for these areas of cover.
The usual cover
The operative clause of a D & C policy is restricted to cover only professional activities and it is important to note that the policy does not cover poor workmanship. Therefore, cover is normally limited to design or specification, feasibility study, technical information calculation, surveying undertaken only by, or under the direction and direct control of, a properly qualified Architect, Engineer or Surveyor. Supervision cover will normally be limited to situations where the insured is not supervising their own, or their sub-contractors' workmen, in their contractor capacity. Other professional activities that are intended to be covered will normally need to be endorsed separately.
Usually the limit of indemnity for Contractors will be 'aggregate' with legal costs inclusive within the limit of indemnity. HCCI are able to offer 'any one claim' limits. The excess will normally apply to insurers' costs and expenses.
The usual exclusions
Design and construct policies demand careful attention to exclusions. Typically, policies will exclude:
- Employers Liability
- Loss or damage to physical property (but loss of documents are covered) unless arising
from a breach of professional duty by the Insured. •
- North American offices and jurisdiction
- Nuclear risks
- Claims and circumstances known at inception of the cover
- Onerous collateral warranties
- Pollution - care must be taken here if the contractor needs or wants environmental claims covered
