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

2. Susan Bryan, AIC, ARM Regional Underwriting Manager Construction Specialty Excess AIG 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 firms 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 mechanics lien, stop notice, real estate, and payment and performance bond issues in residential and commercial contexts.

4. Todays 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

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. Bridge collapses 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

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. #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. Kasdan Milstein Shinnick & Ryan

30. Sample Complaint

31. Sample Cross-Complaint

32. Sample Cross-Complaint, p. 2

34. The Montrose Effect

35. 3. The Montrose Effect (contd) 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 SIRs 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. Many older residential wrap-up programs are believed to potentially have inadequate limits as a result of both availability and cost Defense Costs: Unified Defense is Still a Myth

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. 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 Defense Costs: Unified Defense is Still a Myth

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.)

51. Impact in California alone

52. Some more of the Numbers California builders sold 3,500 units in November 08 California sales were.859% of national sales; historically California made up 12.5% of National sales figures Inventory: 374,000 new (11.4 Months) competing with and extra 1.5M existing and unoccupied units for sale (Nationally)

55. Foreclosure activity

56. Market driven losses - example

57. Abandoned, incomplete structures Safety concerns Attractive nuisance issues CalTrans example Ownership & completion Who is responsible for what after completion Who retains responsibility during recess? What about contractual indemnity and AIs??? Increased homeowner dissatisfaction Translating into more homes in litigation New claims for advertising, sales negligence, predatory lending, etc. Market Driven Losses

58. Impact on Builders & Trades Bankruptcies on the rise Many trade contractors have gone bankrupt or are on the edge of the cliff Some builders have gone under Impact on: SIR payments Premium payments Quality of ongoing warranty reponses – and resulting impact on claims Automatic stay in bankruptcy.

59. Looking towards the future Residential Market Coma: Projected to last at least another 1-2 years Reduced ability to pay for appropriate levels of insurance (not buying umbrellas/excess) SIRs and ability to pay Decreased staff for customer service leading to more claims Evolving impact of legislative, policy, underwriting, and construction practice changes Potential for high volume of coverage litigation under wraps and recent, non- ISO/manuscript policy forms Shifting landscape of insolvencies among builders, subcontractors, insurers Increased product defect litigation Increased bankruptcies Newer technologies Commercial side Credit markets keeping projects on hold More competition squeezes profit margins Residential contractors spreading their wings Uptick in infrastructure from government stimulus

60. Impact of the Green Revolution Solar paneling Insulation Tight buildings – Title 24 and impacts on construction Potential dirty green technologies Advertising claims Definitional problems

61. New Building Products One of the following products really did get marketed: Siding that disintegrates into cottage cheese-like substance Lightweight fake roof shingles with paper inside Exterior stucco made mostly from styrofoam

62. New Building Products New Products – New Problems Weve already seen: EIFS Hardboard siding Shakertown siding Centaur pipe PEX pipes/Kitec fittings Atlas Shingles New ideas sometimes lead to great results. Other times, just new kinds of claims….

63. Impacts from the economy Impacts on construction defect litigation Foreclosures Falling values Bankruptcies of developers, trades Impacts of governmental economic stimulus projects Huge public works dollars Exposure on wraps vs. non-wrap; feasibility of wraps Impacts on insurance market Uncertainty as to construction volume/exposures Return premiums or additional premiums How many homes, roads, bridges are you going to build this year? For some contractors, it depends on the market The pork barrel problem

64. Questions?