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Buckeye Actuarial Continuing Education April 26, 2011.

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Presentation on theme: "Buckeye Actuarial Continuing Education April 26, 2011."— Presentation transcript:

1 Buckeye Actuarial Continuing Education April 26, 2011

2 2 Construction Defect Claim Management and Reserving Presented by: Nathan Voorhis, FCAS, MAAA Robin Leibrock, JD Steven Jokerst, FCAS, MAAA

3 3 What is a Construction Defect Claim? CGL Policy – completed operations Builder, developer, contractor, subcontractor Construction, repair, remodel Residential and commercial buildings Resultant BI or PD, not the work itself Types of defects Faulty design, workmanship or material Roofing, flashing, soil preparation, framing, waterproofing, doors & windows, carpentry C onstruction defect Multiple defendants, defects and policies

4 4 Where is this a Problem? Rapid growth and poor construction Litigious environment and highly organized plaintiff bar Continuous trigger occurrence California and other western states Certain states in northeast and southeast

5 5 Legal Decisions and Statutes (1995) Montrose vs. Admiral – known and progressive loss a covered occurrence (1996) Stonewall Ins. Co. vs. City of Palos Verdes Estates - Montrose applied to CD claims (1997) Calderon Process / (2002) Steinberg Bill – establish procedures for filing CD claim (2001) Presley Homes vs. American States – broad duty to defend California Statute of Limitation and Repose Patent defect – 3 years if reasonably apparent Latent defect – 10 years if not apparent (2004) L-J, Inc. vs. Bituminous F&M – no coverage for your work

6 6 Coverage Endorsements Revise policy language to clearly reflecting intended coverage Occurrence Known or continuous loss (Montrose) exclusion – must first become aware during policy period Prior work exclusion – no coverage for work completed prior to stated date Redefine occurrence Exclusions for specified hazards and operations EIFS, mold, subsidence, imported drywall Roofing, residential construction

7 7 Coverage Endorsements Additional insured endorsement – subcontractor policy covers GC for work performed on his behalf Other insurance endorsement Failure to complete your work Subrogation against third parties Abandoning the project

8 8 CD Claim Adjustment/Adjudication Claim made by owner, developer, builder, general contractor Multiple Tenders Named insured; additional insured Co-carrier for Named Insured Indemnitee Document intensive HO Matrix Notice of Completion dates, Close of Escrow dates Multiple policies, contracts, job and correspondence files Trigger of Coverage

9 9 Liability Claim vs. CD Claim Liability Claim One or few plaintiffs Few defendants Known loss date Few damages / injuries One policy period triggered Shorter Statute of Limitation (BI 1-6 years; PD 1-10 years) Typically the primary focus is on Liability, rather than Coverage or Damages

10 10 Liability Claim vs. CD Claim CD Claim Multiple plaintiffs – sometimes 100s of homeowners Multiple defendants – design professional, developer, general contractor, multiple subcontractors Undetermined loss date Multiple damages Multiple policy periods Longer Statute of Limitation (breach of contract 3-20 years) Typically the primary focus is on Damages and Coverage, rather than Liability

11 11 Contracts, Coverage and Allocation CD claims typically involve multiple contracts (design professional/owner; owner/developer; developer/builder; builder/GC; GC/sub; Sub/sub) The coverage available and priority of coverage must be analyzed for each contract and each policy triggered Allocation of claim costs Defense expenses – each policy is obligated to answer so most courts require cost sharing by equal shares; some courts allow sharing on a prorata basis Loss – time on risk; prorata by limits; combination

12 12 Very long reporting lag – Pure IBNR dominates Not ideal to combine with other book of general liability claims. Even if premises/operations claims are excluded, development pattern is different from typical products/completed operations pattern If construction defect triangles broken out separately, exposure base for Bornhuetter-Ferguson approach is subjective as there is no construction defect premium since triangles broken out by cause of loss. Most companies do not have sufficient accident year data to capture tail. Tail estimation is very subjective. Legislation has calendar year effect, affecting all accident years along a given diagonal. Difficulties with Traditional Actuarial Methods

13 13 General Liability Claim Count Accident Year Reported Development – CD vs NonCD

14 14 General Liability Accident Year Incurred Loss Development – CD vs NonCD

15 15 General Liability Accident Year Paid Loss Development – CD vs NonCD

16 16 Incurred But Not Enough Analysis Case Development Existing Claims Incurred loss development approach organized in a report year format. Significantly reduced tail Must allocate estimated report year IBNR to accident year Can choose among various methods including incurred losses, case reserves, construction contractors premium, or other basis Multiple methods can be used; for simplicity this demonstration uses only an incurred development approach.

17 17 Incurred But Not Enough Analysis Report Year Construction Defect Loss Development

18 18 Incurred But Not Enough Analysis Report Year Summary of IBNE ($ Millions)

19 19 Incurred But Not Enough Analysis Allocation of IBNE to Accident Year ($ Millions)

20 20 Pure Incurred But Not Reported Analysis Accident year analysis of reported claim counts Selected Loss Severity Selected ALAE / Loss Ratio Selected Claims Closed with Pay

21 21 Pure IBNR Analysis Accident Year Claim Count Development

22 22 Pure IBNR Analysis - Summary of IBNR Claim Counts (000s) Accident Year Reported Claim Counts Reported Claim CLDF Ultimate Claim Counts Selected IBNR Claim Counts , , , , , , , , , , , , , , , ,172 1, , ,674 2, , ,014 8, , ,423 10, ,937 8,023 63,392 99,268 35,876

23 23 Pure IBNR Analysis Selected Loss Severity Review past historical average paid loss and/or incurred loss severity ratios Exclude unusual claims or years Incorporate IBNE into incurred severity calculation

24 24 Pure IBNR Analysis Selected ALAE / Loss Ratio Review past paid ALAE to paid loss and/or incurred ALAE to incurred loss ratios Ratios above 100% not uncommon Alternatively, severity analysis separately for ALAE

25 25 Pure IBNR Analysis Selected Claims Closed without Pay Review past claims closed without pay to total closed ratios Ratios above 75% not uncommon; significant variability by policy year

26 26 Pure IBNR Analysis - Summary of IBNR

27 27 Summary of Construction Defect Losses ($ Millions)

28 28 Recent Years Most recent three years or so still very green Possible approaches Hold loss ratio (use earned premium exposure summarizing only construction contractors classes) B/F accident year approach (use earned premium exposure summarizing only construction contractors classes) Same approach as described if large and stable enough book of data

29 29 Q & A

30 Buckeye Actuarial Continuing Education April 26, 2011

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