Transcript Casualty Actuarial Society 2002 Spring Meeting C18: Umbrella Liability Russ Buckley, FCAS, MAAA - American Re-Insurance Company Tom Ghezzi, FCAS, MAAA - Tillinghast-Towers Perrin Dave Westberg.

Casualty Actuarial Society
2002 Spring Meeting
C18: Umbrella Liability
Russ Buckley, FCAS, MAAA - American Re-Insurance
Company
Tom Ghezzi, FCAS, MAAA - Tillinghast-Towers Perrin
Dave Westberg - Towers Perrin Reinsurance
May 20, 2002
San Diego, CA
This session will focus on recent significant
developments in the umbrella market
 Recent experience
 Difficult exposures
 Current state of the market
 Provider perspective
 Buyer perspective
 Professional liability
2
Russ Buckley, FCAS, MAAA
 Started his career at Aetna Life & Casualty
 Transferred to American Re-Insurance in 1989
 Experience includes
 pricing almost all lines of P/C reinsurance
 10 years with Munich American Risk-Partners
 Works with Fortune 1000 risks, government entities,
insurance pools, reciprocals, and other
organizations which retain significant insurance risk
 Currently responsible for American Re’s Direct
Facultative Division
 $1 billion of 2002 written premium
 $500 million of commercial and personal umbrella
 Licensed soccer referee
3
Dave Westberg
 Consultant in Towers Perrin Reinsurance’s
Consultative Placement Division
 20 years of experience
 Risk financing consultant with Watson Wyatt
 Treaty reinsurance broker with BEP
 Underwriter with CIGNA, Allstate, Royal
 Expertise in
 Design and implementation of alternative risk
financing strategies
 Self-insurance and reinsurance
 Captives
 Professional liability exposures
4
Tom Ghezzi, FCAS, MAAA
 Consulting actuary with Tillinghast since 1984
 Areas of expertise include
 Loss reserving and pricing for all types of insurance
entities
 Strategic analyses
 Line of business expertise in
 Medical malpractice
 E&O
 Products liability
 Personal lines
 Past president of CANE
 Proceedings paper on federal income taxes
5
We have split up this presentation as follows
Topic
State of the Market
Difficult exposures
D&O, Fiduciary Liability, E&O
Presenter
Russ
Tom
Dave
Slides
7 -27
28-40
41-69
6
Umbrella coverage characteristics
 Umbrella policy is excess of underlying coverage
 Underlying policies generally include automobile
liability, general liability and employers liability
 Can include other liability exposures
 Underlying limits generally $1 million per occurrence or
higher
 Trend toward $2 million aggregate
 Forms include
 Follow form excess - generally larger risks
 Standard umbrella - generally smaller risks
 Leading writers
 AIG, Chubb, Kemper, Royal, Zurich
7
8
News Headlines – Part 1
Summer of 2001 – CNA posts a $1.47 billion loss
for the first half of the year, which the insurer
said reflected reserve strengthening, an IT
restructuring charge, and realized losses
associated with certain subsidiary operations.
9
News Headlines – Part 2
October 22, 2001 – SAFECO announces a $240
million charge for strengthening of reserves in
the third quarter. Included in this amount is
$90 million for recent developments to prioryear claims for construction-defect claims.
10
News Headlines – Part 3
November, 2001 – Berkshire Hathaway 3rd
quarter report on General Re
“Underreserving occurred principally in the
casualty treaty, commercial umbrella and
casualty individual risk reinsurance lines, and
primarily for accident years from 1998 through
2000.”
11
News Headlines – Part 4
12
13
Loss Ratio
“National” Umbrella Carriers
Estimated Loss Ratios by Accident Year
250%
225%
200%
175%
150%
125%
100%
75%
50%
25%
0%
1997
1998
1999
2000
2001
2002
Accident Year
14
“Regional” Umbrella Carriers
Estimated Loss Ratios by Accident Year
Loss Ratios
100%
80%
60%
40%
20%
0%
1997
1998
1999
2000
2001
2002
Accident Year
15
16
News Headline – Part 5
June 14, 1999 – Business Insurance
Commercial rate cuts slowing, predict that
buyers will see rates leveling off rather than
increasing, according to a Conning & Co.
study.
17
News Headline – Part 6
July 5, 1999 – Business Insurance
Reinsurance rate-cutting less prevalent,
reinsurers are pushing for modest increases,
while retrocessional reinsurance rates are
rising sharply.
“There is a bottoming, and I think we have gotten
there” says one reinsurance executive
18
Commercial Lines – Pricing Trends
 Representative commercial lines pricing
trends
1997 1998 1999 2000 2001 2002 Q1
-5.1%
-3.7%
1.8%
9.9% 14.3%
17.9%
Courtesy of the Travelers website
19
Commercial Umbrella – Pricing Trends
1999
2000
2001
2002
-3.5%
0.8%
9.9% 22.4%
Information provided by Conning and Co.
20
News Headline – Part 7
 Business Insurance – April 22, 2002
CIAB sees rate increases across all lines for
the first quarter of 2002, with the increases in
the range of 10% to 30% for all commercial
lines.
21
News Headline – Part 8
Business Insurance – April 22, 2002 Commercial Umbrella information
Rate Increases
Less than 10%
10% to 30%
30% to 50%
50% to 100%
Greater than 100%
% Respondents
10%
29%
32%
18%
11%
22
Loss Ratio
“National” Umbrella Carriers
Estimated Loss Ratios by Accident Year
250%
225%
200%
175%
150%
125%
100%
75%
50%
25%
0%
1.8%
-3.7%
9.9%
14.3%
-5.1%
1997
1998
1999
2000
2001
17.9%
2002
Accident Year
23
Commercial Auto Loss Trends
Between 1993 and 1999, the average
settlement for commercial auto liability
claims has increased over 200% during
that time period.
- this will have a disproportionate impact
on umbrella insurers and reinsurers, as
the leveraged impact of trend drives more
losses into the higher layers.
24
Limits and Attachment Points
Changes in attachment points vary by
market and type of risk
The amount of limits available from
carriers is greatly reduced from two
years ago
25
Terms and Conditions
Terrorism
Mold
Sexual Misconduct
Construction Defect
Incidental Professional Liability
26
Reinsurance Support
Reinsurers are reducing limits across the board
Some major carriers are having problems
putting together umbrella treaties, or are
doing so with smaller limits
Increased pressure on guidelines for
restrictions on classes, minimum premium
levels and minimum attachment points
27
Several high profile developments have hit umbrella
coverage especially hard and pose significant challenges
 These events/exposures affect underlying policies and
expose the umbrella coverage
 Terrorism
 Construction defect claims
 Toxic mold
28
September 11 terrorist attacks caused virtual elimination
of coverage for terrorist acts
 After September 11, availability of coverage for
terrorist events was almost non-existent
 Some improvement lately
 High rates and narrow terms
 Umbrella policies follow terms/exclusions of underlying
coverage
 Federal legislation
 Possible federal backstop
29
Construction defect claims have had a significant impact
on primary general liability and umbrella coverages
 Claimants include
 Homeowners Associations
 Class actions
 Defendants/Insureds
 Developers
 General contractors
 Additional insureds
 Subcontractors
 Design professionals
30
Construction defect loss exposure was increased
significantly by the Montrose decision in California
 Montrose Chemical Corporation of Califoria v. Admiral
Insurance Company, 10 Cal. 4th 645 (1995)
 Montrose applied the continuous injury trigger to
third party claims
 “Manifestation” vs “Continuous Injury Trigger”
 Manifestation triggers policy in effect at the time the
damage appears
 Continuous injury - triggers all policies in effect
during the time the damage begins to occur and the
time it ceases
 This trigger increases the number of policies exposed,
creating all sorts of unusual difficulties
31
A secondary issue in Montrose was “loss-in-progress” or
“known loss” rule
 This rule provides that a loss that is already known to
an insured at the time a policy coverage starts cannot
be covered by that policy
 Only contingent or unknown events can be insured
 The Court found that since Montrose was not certain of
its legal liability, the loss was contingent
32
Impact of Montrose on construction defect claims
 Which construction defects are “continuous” or
“progressively deteriorating?”
 Defective wiring
 Faulty foundations
 Water leakage
 Dry rot
33
The industry’s response
 Montrose endorsement routinely added to liability
coverages, and therefore to umbrella policies
 Incorporates known loss doctrine into the CGL
policy language
 Loss intended to be covered only by the policy
during which it first became known
34
Actuarial and claim handling issues related to evaluating
construction defect exposure
 There are significant differences in exposure among
different insured types
 General contractors the highest severity, but
relatively lower frequency
 Subcontractors and “artisans” lower severity, but
potentially very high frequency
 Data should be available by insured type
 Definition of accident year is difficult
 Report year data should be used
 Allocated loss adjustment expenses can be significant
 Time on risk
35
A more recent development relates to Stachybotrys
chartarum
 AKA … TOXIC MOLD
 There are over 100,000 known species of mold
 Stachybotrys chartarum is considered to pose the
greatest risk
 May cause physical reactions in some
individuals
36
There have been large losses incurred because of toxic
mold claims
 Several recent multi-million dollar cases
 Texas homeowner - $32 million award (Ballard)
 California homeowner - $18.5 million award
 Florida courthouse - $60 million
 North Carolina motel owner - $6.7 million
 New York community college employee filed suit for
$65 million
 Insurers incurring large losses
 One insurer reported mold-related claims during Q1
2002 jumped to $119m, up from just $7m the year
before.
 Texas homeowners premium indications up 40%
37
Coverage issues - homeowners
 Homeowners forms are emerging that can include a
variety of mold related clauses or endorsements
 Absolute exclusion
 Coverage if a direct result of leaking plumbing,
heating, or other system or domestic appliance
 Coverage only is resulting from a covered peril
 Some states may not allow the exclusions
 There are internal limits
 Mitigation required
38
Coverage issues - CGL
 Current form excludes losses related to “pollutants”
 Mold may not be considered a pollutant
 Endorsements limit coverage
 Similar to homeowners
39
Typical toxic mold claims
 Potential damages
 Investigation and testing








costs
Containment and
remediation expenses
Abatement and mitigation
Loss of use
Relocation expenses
Diminution expenses
Bodily injury
Loss of earnings
Emotional distress
 Potential defendants
 Property owners and





managers
Architects and engineers
Developers
Contractors
 Construction
 HVAC
Construction materials
manufacturers
Testers, remediators, etc.
40
The session description includes Professional Liability
 Not usually part of umbrella coverage
 Errors & omission exclusions for all except
innocuous risk
 However, professional liability coverages are coming
under increasing pressures
 Similar market conditions as faced by umbrella
coverages
 Restrictions in capacity
 Significant price increases
 Coverage restrictions
41
Market update for several significant
Professional Liability exposures
 We will look at
 Directors and Officers (D&O)
 Fiduciary Liability
 Actuarial E&O
42
Directors & Officers Liability
Trends in current D&O market place
 2002 D&O renewals should expect:
 Substantial premium increases
 Restrictions in capacity
 Attachment point increases
 Possible restriction of coverage
44
D & O price increases and coverage availability varies by
type of risk
 “Standard” business rates increasing 50-100%
 “Non-standard” such as aviation, financial institutions,
technology, public health care, etc. up to 300%
increase
 No multi-year agreements or automatic extensions
 Underwriters requiring more detailed exposure
information
 Underwriters concerned about financial restatements
and m&a activity
45
Possible D&O coverage restrictions include
 Security claims co-insurance
 Warranties
 Pending & prior litigation exclusions
 Deletion of retention waivers
 Automatic subsidiary coverage reduced
 Maintenance of insurance clauses
 Reduced discovery periods with higher premiums
46
Class action trends show...
Federal Securities Fraud Class Action Litigation
# Suits Filed Per Year
600
487
500
400
300
200
164
202
236
231
163
188
178
205
211
110
100
0
1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
47
SEC pursuit of financial fraud has intensified
 “Accounting fraud” has become a major factor in many
recent cases with extremely large D&O losses
 100 brought in 2000 alone
 260 investigations currently in progress
 Due to Enron, it is likely that this number will
increase
48
Financial fraud (continued)
 40 investigations target the largest 500 corporations in
the US (8%)
 233 financial restatements in 2000 (twice that in 1997)
 Major SEC investigations include
 Enron, ConAgra Foods, Boeing, Cendant, Xerox,
Oxford Health, Comp USA, Rite Aid, Sunbeam
49
Along with frequency, the size of D&O settlements has
increased dramatically in recent years
 Prior to a couple of years ago
 Difficult to identify any settlement or judgment for
more than $100 million for the “typical” D&O suit
 Even the most difficult to defend cases cost less
than $100 million
 Since mid-1999, severity has increased dramatically
 More than a dozen settlements or verdicts over
$100 million
 One-third of these over $200 million
 Securities class action suits most problematic
50
D & O Market Trends (continued)
The result of all this is that,
“D & O insurance purchasers in 2001 faced the largest
premium increases since the hard D&O market of the
mid-1980’s”
 These trends will continue and likely intensify through
2002.
D&O & Ficuciary Information sources: Aon March 2002 Executive Liability Market
Update & Tilllinghast-Towers Perrin 2001 Directors & Officers Liability Survey
51
Fiduciary Liability
Fiduciary Liability Market Trends
 Enron claim a watershed event
 This claim is not likely in isolation but illustrative of
more to come
 The fiduciary suits against Enron are over losses in the
company-stock portion of their 401(k) plans
 The suits allege the plan trustees breached their
fiduciary duties by continuing to offer company stock,
even after they became aware of serious business
problems that would hurt the stock price
53
Fiduciary liability claim trends
 Not just post-Enron claims environment
 Examples
 Airline pilot retirement plan alleging under-funding of
$1,000,000,000
 Financial services firm - alleged improper use of
employee retirement funds- $26,000,000
 Health care company - alleged improper use of
health care plan funds - $3,000,000
 Consumer goods co-alleged improper investment
management involving company stock $100,000,000
54
Issues to consider with respect to fiduciary liability
 Employee benefit plan asset size (aggregated for all
plans)
 The number of employee benefit plan participants
 Method and form of corporate matching or funding of
asset bearing employee benefit plans such as pension
plans, 401(K) plans, ESOP’s, etc.
 Percentage and amount of plan assets invested in
corporate stock. What is the maximum exposure to
the plan related to a market capitalization drop in
the common stock?;
55
Investments in company stock under greater scrutiny
 Given recent developments like Enron
 Focus that regulators and the plaintiff’s bar now have
on
 employee benefit plans in general and,
 specifically, with respect to 401 (K) and ESOP
investments in company stock,
 the duties of the plan fiduciaries and trustees
responsible for safeguarding those plans will be under
increasing scrutiny and may point toward increased
litigation.
56
Actuarial E & O
Actuarial Liability - We saved the best for last!
 Actuarial liability is traditionally classed as part of
miscellaneous E&O
 Lately, we have been distinguishing ourselves by
emerging with our own unique risk profile
 Liability claims against actuaries have been on the
rise, but the most dramatic change over the past five
years has been in severity
58
Considerations with actuarial liability
 Is actuarial science perfect?
 Some (mostly lawyers) seem to think it should be
 High standard of expectation applied to inexact
science of predicting the future
 Occasionally mistakes are made and real damages
are sustained. These need to be compensated for,
however…...
59
Recently the rules of the game seem to be changing
 For the most part actuarial E&O needed to result in
real, objective damage or loss to sustain a claim
 Inappropriate actuarial appraisal price leads to
wrong sale price in mergers or acquisitions
 Inadequate loss reserves lead to inappropriate
growth or lack of funds to pay claims.
 Incorrect assumptions lead to under-funding of
pension or benefit plan
60
Changing Rules (continued)
 Recent damage theories put forward have tried to
change the standard
 Something went wrong, so everyone involved (or
somebody with “deep pockets”) has to pay
 The basis for some of these claims would not have
been sustained ten years ago
61
A real life example provides some insights
 Public service pension fund
 Contribution calculation assumption error which in
isolation causes lower funding than the correct
assumption would have indicated
 Years pass, interest rate variations from original
assumptions more than offset any potential shortfall
due to the error
 Pension fund in surplus position
 What’s the problem? ...
62
The plaintiff’s damage theory was
 If contributions had been calculated correctly years
ago,
 Pension fund would be in an even greater surplus
position
 Damages to be based on difference between
current surplus and what it could have been.
63
There are varying levels of exposure by type of work
product
 Pension and other benefit consulting
 Reserving and rate making
 Heightened exposure with
 mergers & acquisitions and
 work for companies facing financial difficulties
64
Is it a crisis?
 Actuarial E&O is an emerging class of risk
 E&O premiums have been in the 1% of revenue range
for actuarial firms
 Accountants E&O premiums in double digit territory
65
What can be done about it?
Loss prevention & mitigation
 Consistent application of professional standards
 Clear written contractual engagements
 Rigorous application of peer review guidelines
 New risk management initiatives such as…..
66
Contractual limits of liability in client engagements
 Most major consulting actuarial firms are committed to
implementing or are considering this approach
 Limit of liability is linked to the fee associated with the
work performed
 Contractual limitations of liability are not likely “iron
clad” but they should be effective tools for managing
expectations in many instances
67
We are still in the woods
 It will take some time for limits of liability to be in place
on all business
 There is a lot of potential liability from work already
completed
 Plaintiff lawyers are as bright and busy as ever
68
As actuaries, you must be aware of the:
 Nature of the work
 Expectations of market place
 Appropriate loss prevention and mitigation measures
69
Questions
70
On that note...
Let’s go to the beach!
71