As an underwriter and a broker specializing in Architects and Engineers (A&E) professional liability (PL) insurance over the last twenty years, I’ve seen design-build (DB) projects succeed and I’ve seen them fail miserably. Most would agree that everyone loses when a project fails miserably. The design team loses. The contractor loses. The owner loses – as do the taxpayers lose on any public project. And, the insurance carriers lose. Given this, it’s reasonable to assert that it’s in absolutely everyone’s best interest to effectively coordinate, collaborate and communicate to ensure a successful DB project. This is no easy task.
A DB project is more likely to be successful when there’s a true partnership among the owner, contractor and design professional. When defensive detailing, requests for information and change orders are reduced, and all parties are fully committed to the process of collaborating to meet the significant challenges of starting a project without a complete set of drawings.
Conversely, the DB delivery method often fails when it’s driven by an unsophisticated owner looking for a faster-quicker-cheaper solution who partners with the design professional on a one-off project with the lowest possible bid contractor.
Because DB projects carry their own inherent risks, it’s important that anyone entering a DB partnership understand what those risks are — and the risk-transfer solutions available. To help explain those risks, I went to some industry experts, including David Hatem, an attorney with the law firm Donovan Hatem with extensive experience managing alternative delivery risk and defending A&E firms against claims on design-build and public-private-partnership (P3) projects.
Hatem, along with a number of other distinguished industry experts, recently edited and co-authored the American Counsel of Engineering Companies’ (ACEC) second edition of Public-Private Partnerships and Design Build. If you’re looking for a comprehensive review of this subject, I recommend that you purchase this book (with all proceeds going to ACEC).
Design risk versus design liability
One reason DB projects are inherently more risky than traditional design-bid-build is because there are more project participants involved, so the lines of responsibility are often blurred. A big concern for the A&E firm is that they can often lose the important and direct link to the project owner, which can stymie effective communications and reduce the A&E’s ability to manage expectations. By increasing the number of project participants with varying roles and responsibilities, the overall risk on DB projects increases and must be managed. When I asked Hatem his view on this issue — specifically, which participants in a design-build project have design risk he offered the following:
To a significant degree, the answer depends upon the contract documents and other relevant factors, including the work product and actual performance of the various project participants. Initially, it is important to distinguish between design risk and design liability. Design risk typically results from some role or responsibility (primary or vicarious) of a project participant on the design-build project. Certainly, design professionals are exposed to design risk but other project participants, including non-registered professionals, such as the owner and contractor, may also be exposed to design risk depending upon their respective roles and responsibilities. Design liability of a project participant results from a particular breach of some legal duty or obligation, whether based on contract, tort (e.g. negligence), breach of implied warranty or fitness for purpose, statutory violations, or a violation of professional registration rules and regulations. All design liability emanates from design risk. However, exposure to design risk does not depend upon a finding of design liability.
Design risk is a much more encompassing and more inclusive characterization than design liability. In design-build, the owner who furnishes to the design-build team conceptual or other design may – depending upon contract terms and other factors – have some degree of design liability but, almost always, has design risk. A contractor who leads the design-build team typically is exposed to both design risk and, in certain circumstances, design liability. The design professional subconsultant to the design-builder, for obvious reasons, has both design risk and potential design liability.
Transferring risk and design-build
When managing design-build risk, it’s critical that each method of risk transfer be carefully considered and executed. While you can — and must — transfer your risk by insurance and contract, it’s impossible to transfer all your risk. You must proactively assume and control your risk, especially on DB projects where there’s inherently more risk than traditional design-bid-build. This heightened risk is illustrated by the fact the average errors and omissions on traditional delivery new construction is around 3% to 6% of construction value – and for DB projects it’s a lot higher (15% to 25%+). This is error and omissions – not change orders! This is because the level of plan development is usually +/-25% at the onset of construction.
This is because the standard of care of the design professional is not perfection – especially on DB projects where you bring a wide range of project participants together to start a project with an incomplete set of drawings and work on a fast-track basis. What is the cost of imperfection? For the DB team that enters into a DB relationship without recognizing the challenges and importance of collaborating and effectively communicating, it can be significant. For the DB team that goes forward without appropriate contingencies in place to cover the 15% to 25%+ in expected error and omissions, it can be devastating. For a great whitepaper on the cost of imperfection, check out Managing Uncertainty and Expectations in Building Design and Construction, published by McGraw Hill Construction in partnership with the AIA Large Firm Roundtable and led by Clark Davis, principal consultant at Cameron MacAllister Group.
On DB projects, design professionals and contractors have both direct and vicarious professional liability risk that should be covered under professional liability insurance. Design professionals will want to make sure their DB contractor partner has appropriate PL insurance in place to help cover this exposure. Owners will often require varying and disparate specifications when it comes to PL insurance and it’s important that the A&E team take responsibility in assessing what their own exposures are and how best to transfer this risk by insurance – regardless of the owner’s specifications.
Owners may or may not, for example, require project-specific professional liability insurance (PSPL) when it should definitely be considered to cover this risk – especially on large DB projects. The coverage advantages of a PSPL versus relying on the individual practice policies of the design team can be significant for any large and/or complex project for all parties, including the owner. A PSPL offers a dedicated limit of guaranteed coverage up to 10 years for the entire design team and, most importantly, provides a joint defense provision that can help efficiently address disputes and reduce delays on the project. In the absence of a PSPL, each design firm on the design team will have to trigger their individual PL practice polices and engage their respective PL practice carriers – along with their legal counsel. This can be inefficient and disruptive to any large project with multiple team members. For more on this subject of PSPL see my blog on insuring single projects.
On the topic of insuring DB projects, Hatem said the following:
Some owners on design-build projects require that the design professionals and contractors all be insured under a single project-specific professional liability insurance policy. This approach generally accomplishes the goal of efficiency in providing coverage for all members of the design-build team who may have some professional liability exposure to the owner (as well as third-parties). Project-specific professional liability insurance policies, however, typically contain an insured v. insured exclusion, which preclude coverage for professional liability claims asserted by one insured against another insured (i.e., claims by the design-builder against the design professional). As such, design professionals would have no coverage for professional liability claims asserted by the design-builder. The latter type of claims represents the most significant professional liability claim risk exposure for design professionals, both in terms of frequency and severity.
An owner’s PL limit requirements may vary greatly on DB projects. For most projects, and subject to due consideration of project-specific risk and related factors, limits between $10 million and $50 million generally are specified and procured. The factors that should influence the specification of coverage limits include:
- Project size, risk and complexity
- Requirements of project funding or financing sources, or project stakeholders
- Available capacity in the insurance market
- Premium cost and who (directly or indirectly) pays the premium
For most design professional firms, reliance upon practice professional liability insurance is not advisable given the significant professional liability risk posed by larger design-build projects. Depending upon a firm’s professional liability claims experience – generally and more particularly on the subject design-build project – coverage and anticipated or required limits may not be available continuously throughout the project. Project-specific professional liability insurance is an effective method to obtain dedicated coverage for particular design-build project liability risk, guaranteed for the duration of the project, with manuscripted coverage that aligns with project-specific risk and typically providing coverage for the entire design professional team.
OPPI/CPPI and PSPL
There’s another insurance product that’s offered as a cheaper alternative to a PSPL that all A&E firms should be wary of: Owners Protective Professional Indemnity (OPPI) and Contractor’s Protective Professional Indemnity (CPPI). Owners and contractors are purchasing this on larger projects to provide coverage in the event the underlying PL coverage of the design team is insufficient.
The OPPI/CPPI can be an important and effective risk transfer mechanism for the owner on large projects; however, it must be recognized that it’s a very different product than a PSPL. It’s often sold as a cheaper alternative to a PSPL when, in fact, there’s little comparison.
I won’t go into all the concerns and considerations I have on this product other than to note that the OPPI/CPPI arguably offers no coverage benefit to the design team. This product can potentially create an exposure to the A&E because it’s excess of the A&Es’ PL practice policies, and the owner cannot trigger this coverage until all (or a significant portion of) the A&Es’ PL practice policies are exhausted.
In addition, there’s no joint defense provision with an OPPI/CPPI – which is a product feature and significant benefit of the PSPL. The OPPI/CPPI carrier gets to sit back and wait until the underlying A&Es’ PL practices policies are exhausted before paying out. How they effectively assume the defense and claims handling from the underlying practice carriers is anyone’s guess.
It’s always a good idea to ask owners if they intend to purchase this coverage and to have an open discussion on the intent of this coverage as well as how it directly or indirectly may impact the design team. It’s also important to have brokers involved who are true specialists in OPPI/CPPI and PSPL products so that everyone fully understands the features and benefits of these products. To purchase these products “off-the shelf,” without tailoring to your specific project and risk management needs is a mistake. It would also be a mistake to allow the owner or contractor’s broker to place a PSPL policy. A PSPL is in the name of the A&E and should therefore be negotiated, placed and managed by the A&E’s broker.
I would also recommend that any OPPI or CPPI placements be placed by a specialist in this product. While my team and I have a lot of experience in placing all A&E products, including PSPL, when it comes to OPPI and CPPI, we work with specialists within our Willis Towers Watson Construction division who have considerable experience in placing this coverage. I’ve been successful in working with project teams to consider these products and (best case scenario) have placed a PSPLs as the underlying limit with the OPPI as excess. This was ideal for all parties in that we were able to limit the liability of the design team to the proceeds of the PSPL, thus not exposing the individual A&E practice policies – and taking full advantage of the joint defense provision of the PSPL. Cost is always a factor when it comes to these project-specific products; however, it would be a real mistake not to seriously consider these products on large DB projects.
I asked Hatem what design professionals should be attentive to when an owner or contractor procures a protective policy (OPPI or CPPI) providing professional liability coverage on a DB project.
Assuming that the design professional is not an insured under the protective policy, there could (based on the terms of the protective policy) be a risk of subrogation claims by the protective insurer against the design professional. In addition, coverage under most protective policies triggers upon proof that an “underlying limit” of professional liability insurance maintained by the design professional has either been paid or otherwise exhausted. In some circumstances, that trigger mechanism may place significant pressure upon the design professional – and its practice insurer – to pay the underlying limit even in such circumstances in which merits do not justify any such payment. Design professional resistance to pay the underlying limit may lead to significant tension within the design-build team, or with the owner.
Design-build exposures and issues to consider
When it comes to transferring risk by contract, the design firm must take extra precautions in terms of contractual risk and recognize the limitations their PL insurance coverage will provide for the heightened risks inherent in DB projects.
Hatem provided the following list of common DB exposures that, despite pressures to expand coverage, PL insurance policies typically will not cover:
- Coverage for liquidated damages incurred by the design professional
- Coverage for contractual quantity overruns and related contractual risk imposed upon the design professional in the absence of any breach of professional duty or professional negligence
- Construction management coverage for the design-builder for claims arising out of the procurement, supervision, coordination and management of trade subcontractors
- Waivers of the insured versus insured exclusion, so as to provide coverage for professional liability claims asserted by the design-builder against design professional subconsultants
- Modification of the common ownership/management (“related entity”) exclusion, so as to provide coverage for professional liability claims made by an entity that shares common ownership/management with an insured
He added, “These types of coverage expansions generally are regarded by the insurance industry as creating significant coverage exposure, as well as posing significant complications in the defense and resolution of professional liability claims.”
Joint venture design-build risks
There are myriad risk transfer considerations when two design firms enter into a joint venture, including how best to allocate risk and obligations under a project-specific policy. This gets a lot more complicated when a joint venture is formed between a contractor and a design firm.
Hatem offered the following on this subject:
There are a host of professional liability risk issues posed by this question. Focusing specifically on the professional liability insurance issues associated with such joint relationships in design-build, the following points come to mind:
- The need (given joint and several liability) for both the contractor and design professional to have and maintain professional liability insurance with adequate limits on a primary basis for their individual and joint professional liability risk exposures, and the need to continuously maintain that coverage through the policy period and for a reasonable (or contractually-required) period thereafter
- The need to align contractual indemnification with the scope of available coverage
- The advisability of obtaining subrogation waivers under available professional liability insurance
- The advisability of procuring project-specific professional liability insurance naming as insureds either or both the contractor and the design professional
- The need to evaluate and potentially seek appropriate modification of the insured versus insured and related entity exclusions under both applicable practice and project-specific policies or, at a minimum, to understand and otherwise manage risk exposure posted by those exclusions
Managing adversarial risk
I wanted to close with an excerpt from chapter four of Public-Private Partnerships and Design Build which is titled, “Design-Build Opportunities and Roles for Consulting Engineers.” Joe O’Carroll of WSP and Don Phillips of Arup, offer some invaluable insight in this chapter and note the following:
The most important point for a consulting engineer in this role to remember is who his or her client is: the design build contractor. The consulting engineer must be committed to meeting the schedule and utilizing as many tools as possible, from face to face meetings, web conferences, and teleconferences, to emails, project websites, etc., to ensure good, recorded and retrievable communications.
Likewise, the contractor has to make the effort to fully understand the design process and its obligations, trust its designer, and allow time in the schedule for the design to take its due course, including allowances for deviations from the initial concepts. The contractor should include the participation of the consulting engineer when making strategic decisions about the project, particularly where it involves modifications to the design concept.
Needless to say, the design-build process is complex, requiring true collaboration from all the team members every step of the way. The A&E firm considering a DB project should implement a rigorous “go no-go” process before entering into a DB relationship, not only to ensure you have the right project team capabilities, insurance and contract in place – but to prepare for and manage a great deal of uncertainty and risk on the fly – to effectively assume and control your risk as best you can.
O’Carroll and Phillips also noted:
…it is not always rosy once the contract is signed and the project is underway. Risks are abundant and relationships can be stressed to the breaking point. Often, situations arise that are beyond the control of the consulting engineer, yet impact them significantly, particularly if insufficient contingency had been built into their, or the contractor’s, bid price.
Adversarial relationships often arise from a situation where an owner or contractor:
- Requests that multiple new alignments or construction approaches and options be evaluated in detail in order to make a valid comparison between them, but provides no additional time or money for the increased scope
- Requests or dictates a design change in order to save time or money (or both) from its perspective, and blames the engineer when things go wrong
- Changes the project scope after the contract is signed, e.g., for a highway a different corridor with different ground conditions and possibly different structures than planned and budgeted for by the engineer
- Places more emphasis on the construction schedule than on the quality of construction, thereby increasing its own risk, but blaming the engineer when things go wrong, e.g., installing instrumentation late or not at all, thereby missing initial ground movements that bring on a ground failure, and the engineer gets the blame
- Does not understand the design process and the importance of continuous approvals as the design progresses
- Does not acknowledge changes in the consulting engineer’s scope, however they originate
- “Directs” the process through multiple persons, which obscures the “new” configuration achieved and consequences
These experts have shared very sage advice based on their personal experiences. It would be a very good idea for anyone entering into a DB project to review this list of possible adversarial flash points and have an open discussion with all parties – owner, contractor and design professional – on how they would respond to and proactively address these situations.
The design professional must take extra precautions and be proactive when it comes to contract negotiations and their insurance coverage options. And, while critical, it’s impossible to transfer all your risk by contract or insurance and the A&E must recognize the importance of assuming and controlling their risks. This begins by working with the right owner and contractor partners.
On the topic of assuming risk, I would advise that the A&E always contractually limit their liability to a reasonable dollar amount, or at the very least to the available proceeds of their insurance at the time of settlement. I would also recommend that the A&E fully insure to this limit of liability, ideally with a project specific policy, especially on larger DB projects. In my view, it’s simply unreasonable for the design firm to put their entire firm at risk on one project – with an incomplete set of drawings – and multiple project participants. Limiting your liability and having the right insurance program in place is of course only one piece of the risk management puzzle. For a DB project to succeed, all parties must effectively collaborate communicate and cooperate in order to manage the unique and complex risks associated with this delivery method.