Back in October 2021, Infrastructure Australia issued a report (opens a new window) addressing the broad range of emerging delivery risks facing the pipeline of new infrastructure projects across Australia.
The availability or cost of insurance was identified as a key concern, however, in Lockton’s view, most government agencies have been too slow to react to the changing market and are setting unrealistic insurance expectations, leaving contractors vulnerable.
In 2024, even sophisticated insurance buyers are struggling to find solutions. Applying further pressure, cyber risks are now impacting infrastructure projects and insurance programs.
Contractors can take decisive action to reduce their project risk profile and get better insurance outcomes, despite varying levels of sophistication within government agencies who sit behind each project.
The report, in summary
In 2021, the “availability or cost of insurance” was ranked as the 6th highest risk for contractors and 10th for the government agencies delivering infrastructure projects.
The report highlighted two key areas of concern from an insurance perspective:
1. Extreme weather events that have and continue to impact the cost of Contract Works Insurance (and Delay in Start Up insurance – if required); and
2. Capacity and cost of Professional Indemnity insurance.
At the time, cyber risks were identified as emerging insurable risks for infrastructure projects.
What were some of the driving factors?
It was noted in the report that global insurance capacity for construction risks had reduced by as much as 50%. Additionally, available capacity for Project Specific Professional Indemnity (PSPI) insurance had substantially reduced from as high as $200m, down to $50m per project. [PC1]
Whilst not highlighted in the report, it is worth noting that available limits for some natural catastrophe losses such as flood, cyclone, bushfire and earthquakes are also limited in some jurisdictions across Australia due to regions being more exposed, for example floods and cyclones in the northern Australia.
Where are we now?
Whilst the insurance market for construction risks has largely stabilised in recent years, insurers within the insurance industry remain cautious of the capacity of both contractors and government agencies to manage construction risks.
For instance, contractor solvency, supply chain risks, labour shortages and COVID-19 are recognised by insurers as key construction risks, and, whilst these risks are not directly “insurable risks”, the insurance industry is more keenly attuned to these exposures. This means these risks are now analysed more closely by insurers when determining the capacity, coverage and pricing they are willing to offer particular projects.
Simultaneously, the size and complexity of infrastructure projects being delivered across Australia is increasing, placing even greater pressure on an already stretched global insurance market.
Slow reactions, poor outcomes
Whilst the Infrastructure Australia report is almost three years old, most government agencies have been slow to react to the changing insurance market conditions. In many cases, Lockton has observed insurance requirements during the tender phase of these major infrastructure project that are unrealistic, even though these may have once been achievable.
As a result, in 2024 many risks are being addressed by contractors differently.
Examples of how contractors manage these risks include (but are not limited to):
Changing the proposed risk allocation in the draft contracts.
Arranging Difference in Conditions (DIC) coverage (to cover gaps in government principal-owned insurance programs).
Securing self-insurance (either formally via captives (opens a new window) or informally by balance sheets).
Increasing contingency in their pricing or project schedules.
These choices often create an inconsistent approach to managing project risks, regularly leading to increased project delivery costs and increased balance sheet exposure in an already stretched construction industry. In essence, these strategies are often not consistent with a "best for project" approach or result.
Sophisticated government agencies are feeling the pain
Government agencies (even with sophisticated insurance resources) are struggling to find effective risks transfer mechanisms to address their issues, which are leading to insurance requirements/solutions that are often costly and/or not fit for purpose.
The insurances mandated by government agencies at the tender phase of a project are frequently not capable of being achieved (particularly by the time of contract close) or are quickly identified as not “best for project”.
Moreover, uncertainty around the future availability and cost of insurance for infrastructure projects in and of itself continues to create challenges in identifying and implementing alternative strategies to manage some of the key traditional insurable risks.
As government agencies continue to grapple with these challenges, the industry will continue to see different and often disjointed approaches in managing insurable risk for infrastructure projects across Australia.
How can contractors win?
Instead of simply reviewing the current approach by each government department and/or agency, it is valuable to consider how contractors bidding for these projects can more effectively address these insurable risks during the tender phases of a project.
Three project considerations
Here are three factors that contractors should consider when addressing insurable risks when tendering on infrastructure projects:
1. Identify and quantify all key insurable risks of the project early
Major contractors are typically excellent at identifying critical project risks early in the tender phase of a project, however, traditional insurable risks are often brushed over and/or left until much later in the tender process (presumably on the assumption that these risks are already addressed/covered by insurance).
In the last five years, insurance coverage for some critical construction risks has become more challenging to procure, meaning that insurance for these risks is either no longer available, provides limited protection and/or are arguably cost prohibitive.
Contractors should ideally overlay project-specific risk information with available data in order to more accurately assess the likelihood and consequences of key insurable risks early.
This information will become invaluable as the cost and coverage of the project insurances become clearer during the tender process.
Armed with this information, the contractor will be able to quickly identify actual gaps in the proposed project insurances (as opposed to theoretical or perceived risks) and be able to pivot quickly with alternative solutions and/or strategies.
2. Understand the availability and capacity of the insurance market to cover all key insurable risks of the project
Contractors will often utilise the insurance requirements for the project (specifically the insurance clauses and schedules under the draft contract or project deed) as the starting point to measure all insurable risks of the project.
They will test these requirements against their own corporate insurances and/or other similar project insurances in order to determine whether the proposed insurances are adequate or to ensure that their own corporate insurances comply.
The reality is that these clauses are often drafted by parties with limited knowledge of the specific insurable risks of the project and normally with an incomplete picture or appreciation of the availability of the required insurances in the current insurance market.
Unfortunately, it is from this flawed position that insurance negotiations between the contractor and principal begins.
Alternatively, Lockton recommend that the contractor build the insurance program from the “ground up” using traditional insurance principles based on actual project risks. This “new” program can then be used by your insurance adviser to both test the availability and capacity of the insurance market as well as the appropriateness of the insurance requirements under the contract.
This knowledge will enable both the contractor and principal to focus on key insurable risks and solutions, negotiating meaningful changes to the contract and the insurances ultimately procured for the project. This is what will deliver a “best for project” solution.
3. Consider the appetite and/or ability of the government agency to address some or all of the key insurable risks of the project
Different government agencies across Australia have significantly different approaches to insurable risks and access to advisors and/or solutions that can help support the management of insurable risks for infrastructure projects.
As such, the way in which contractors should approach each project will differ according to the sophistication of the government agency and their insurance advisors and/or solutions that sit behind each project.
For example, some agencies have access to Principal Arranged Insurance (PAI) solutions and insurance advisors that can procure broad protections and high policy limits, whereas others rely purely on contractors to transfer/manage the insurable risks of the project.
The questions that will help inform the contractor’s approach to insurance for each government agency include:
Does the government agency use/have in place a PAI program(s)? Does this project fall under the current PAI program(s) or is a project-specific PAI program(s) proposed? What covers/limitations exist under the PAI program(s)?
If PAI solution(s) exist, are these covered through a state insurance agency (such as VMIA or iCare) and/or will the insurable risks be fully transferred to the insurance market?
Are alternative insurable risk solutions being contemplated/considered?
Who are the insurance (and/or legal) advisors to the project, government agency or state insurance agency? What are their respective roles on the project? What experience do they have? What has been their approach in the past?
Notwithstanding the potential solutions and/or advisors that sit behind a government agency, it is critical that the contractor remains cautious and not makes assumptions about the outcome of insurances for infrastructure projects.
As highlighted earlier, governments are still grappling with how to best address the current insurance challenges on infrastructure projects.
Lockton anticipates that there will be changes to some government agencies’ approach to insurable risks moving forward. It is important that contractors remain attuned and be ready to pivot quickly to meet these changes.
Finally, insurance advisors and brokers need to be more proactive in helping contractors navigate the insurance challenges for major infrastructure projects.
It is not enough nor appropriate to simply provide advice based on how insurable risks for infrastructure projects have been addressed historically. Contractors need construction insurance specialists with an eye on the horizon: someone who will identify emerging insurance market challenges, changes in government approaches and someone with the ability to identify alternative solutions and approaches to risk.
The contents of this publication are provided for general information only. Lockton arranges the insurance and is not the insurer. While the content contributors have taken reasonable care in compiling the information presented, we do not warrant that the information is correct. It is not intended to be interpreted as advice on which you should rely and may not necessarily be suitable for you. You must obtain professional or specialist advice before taking, or refraining from, any action on the basis of the content in this publication.