In the fifth of a series of articles, FIDIC president Tony Barry looks at strategies for professional indemnity insurance against the backdrop of much changed professional liability conditions.
Consultant liability management
For consultants, with the increasing scope, nature and duration of liabilities they are carrying, the increasingly rigorous nature of warranties and indemnities are problematical. They have responded by establishing substantial legal capability, risk and liability management capability and rigorous project procedures to limit their practical exposures to risk.
Despite these actions, in jurisdictions where a litigious combative culture is prevalent and where forms of project delivery that force project teams to take very significant risk are prevalent, claims against consultants are commonplace and the cost and terms under which insurance is provided has become more challenging.
The once well-practised approach of clients agreeing to limits of liability, commensurate with the fees paid to the consultant, has become less common and is challenged openly by some, keeping all avenues of loss recovery open to clients.
Role of professional indemnity insurance
For many decades, professional indemnity (PI) insurance provided cover against negligence claims and was considered by many in the industry as a financial resource, one used only in the rarest of circumstances. Firms kept their PI insurance very much in reserve to address the rare failures that did occur. Premiums, deductibles and terms very much reflected the industry’s approach.
PI insurance was there to cover the insured – the consultant – in the event that the consultant was considered and found to be negligent, their actions causative and liable for loss. It was a mechanism through which a firm could provide for such losses and meet the cost of doing so through annual premiums and a modest deductible.
The role, the terms and the cost of PI insurance has changed considerably in recent decades. The cover provided by PI policies has expanded to address breach of contract and warranty claims and false as well as misleading representation claims. At the same time, the scope of liability and limits of cover demanded by clients and accepted by consultants have increased very significantly.
Some clients have framed limits of liability clauses in terms where the limit is qualified to the effect that the limit is adjusted “to the maximum extent to which insurance responds”. In this respect, some clients are seeking to exploit the policy to its fullest capacity on a single project, whereas the consultants procured the policy to cover the whole of its business. This approach by some clients would suggest that they do not see the consultant as the party insured, rather that the policy is an asset for their own commercial use.
Design and Construct Contracts
These trends have occurred at the same time as design and construct contracts have begun to dominate the large infrastructure market, often under contract terms which protect the infrastructure principals from claims by the design and construct contractors. Cutting off avenues of claim against principals has led to a practice in which losses incurred by the design and construct contractors are often pursued and recovered through claims against subcontractors and consultants.
Competitive tendering practices applying downward pressures on contractors’ margins has seen contractors reduce risk contingencies and pricing margins, using provisions in contract pricing for claims against subcontractors and consultants to recover losses from adverse risk outcomes. The risk to consultants has been exacerbated by these circumstances and has impacted the availability and terms under which consultants may procure PI insurance.
The changes have meant that PI insurance is now casually thought of as a facility for the benefit of the design and construct contractors, that the frequency and size of claims have increased and that the basis of claims has broadened. The use of claims alleging false and misleading conduct have increased in some jurisdictions in an attempt to void the effectiveness of limit of liability clauses.
In some circumstances, while terms may have been negotiated with a known and well understood client, the client may novate the consultant’s contract to an unknown or known design and construct contractor, increasing risk exposure very dramatically.
For the consultants, the changes have meant that amount of cover required has increased, deductibles have increased, premiums have increased and the cover on offer reduced. The extent of the impact on individual firms is related to market conditions, nature of the business exposure and their claims history.
It has also impacted the availability of Project Specific PI insurance policies, with reductions in the number of underwriters in the market, the size of cover being reduced and deductibles and premiums increased.
The use of consultants’ PI insurance or Project Specific PI insurance, to enable design and construct contractors to manage their commercial risk, to provide contingency and to recover margin is financially infeasible and unsustainable.
There is little doubt that the larger firms have developed processes and engaged professional staff to manage contractual and other risk exposures, employed staff with major project experience and developed management and control processes to protect themselves against commercially aggressive predatory practices. They are pricing risk into their fees. However, the disputation and claims continue to trouble those working in the design and construct market.
In some markets, the impact has extended well beyond large firms, consequentially impacting smaller firms which in some cases are not operating in the high-risk areas of the market. Some have responded by increasing the deductible sought from underwriters, carrying more risk on their balance sheet, looking for non-traditional insurance products or forming their own captive insurance vehicles.
The impact on the industry appears to have been:
- Higher cost of consulting service provision borne by all participants in the industry
- Greater industry consolidation as smaller firms struggle to obtain PI insurance on reasonable terms
- Suppression of creativity and innovation and more conservative engineering design.
The impact of defending claims on individual consultants, their careers and their families is also very significant and at odds with the health and safety principles practised by many clients organisations, the construction industry and consultants.
A better PI insurance future
It is difficult to see how the consulting and engineering industry can change to improve the liability exposures of consultants and their insurers. There is little doubt that consultants will continue to develop their risk avoidance strategies and project procedures to avoid circumstances which may give rise to claims against them.
However, a number of strategies may have some effect, including:
- Firms being prepared to walk away from the negotiating table on onerous terms and conditions
- Employing negotiators, independent of project staff, to achieve better contractual outcomes
- Consultants refusing to accept onerous terms and warranties in contracts and refusing to accept novation clauses
- The use of integrated projects teams, insured by the design and construct contractor
- Legislative protection by government
- Consultants charging a substantial risk premium where onerous contract terms are being applied to consultancy services.
It is clear that advocacy is required of FIDIC and its member associations to continue to argue for change and to demonstrate the benefits of doing so.
About this series
Infrastructure Global is pleased to have Tony Barry, president of international engineering body FIDIC, write a series of articles looking at the growing problem of professional liability standing in the way of collaborative global infrastructure delivery and what can be done about it.
Tony has over 40 years’ experience in infrastructure design and delivery. He is not a lawyer and does not have any specific contract law training. He has written this series of opinion articles to promote discussion and awareness of the liability issues facing consulting engineers. Please seek specific legal advice if any of the issues described in these articles concern you.