Construction's Cloudy Outlook

This year expects to see challenges in the housing market, construction industry, and claims. The headwinds are plenty: higher interest rates for construction loans, rising labor and material costs, slowing demand from homebuyers squeezed by more expensive mortgages, and fears of a looming recession as cities continue to recover from the pandemic. All of these factors raise the specter of a widespread housing downturn.

Additionally, natural catastrophes have contributed to a hard insurance market that has resulted in many carriers pulling out of states—California and Florida in particular—making it difficult for homeowners to secure reasonably priced coverage, if they can obtain it at all. Those that work in the construction industry—whether they are builders, claims professionals, legal, or consultants—can expect to see a construction slowdown in the months ahead. Will this result in fewer claims? Time will tell.

Housing Decline and a Challenging Claims Landscape

Signs of a homebuilding decline are already evident. From the start of last year through November 2022, the San Francisco metropolitan area permitted just over 10,000 homes, a 16% decline from the same period in 2021, according to U.S. Census Bureau data. Financing projects have become more expensive as rates for construction loans have jumped to around 6%. According to Bay Area builders, that adds roughly $20,000 to the per-unit cost of large multimillion-dollar developments, a seemingly small amount that can still make all the difference. 

How do the construction headwinds intertwine with claims in the construction industry? Some factors to consider:

• The forced virtualization of work during the pandemic has fueled revolutionary changes in employee expectations and upended many traditional employment models in the claims industry.
• Risk management concerns have grown in light of the new possibilities that long-term illness could plague employees.
• Less experienced workers and inadequate materials will have a negative effect and result in more claims.

Further, supply chain interruption impacts pricing and completion timelines for construction projects. Delays are inevitable. Contractors need to ensure their contracts do not have draconian terms for delays in materials and completion.

What will happen as we navigate through 2023? One of the top industry talking points over the past several years has been the phenomenon of increasing claims costs driven by changing societal factors such as social inflation, third-party litigation financing, the appeal of class action lawsuits, plaintiff tactics like reptile theory, and the growing public distrust of corporations. The number of nuclear verdicts, or claims of more than $10 million, has consistently increased year over year, and this has a trickle-down effect on settlements as defense attorneys look to avoid unpredictable jury awards. The average verdict in the National Law Journal’s Top 100 Verdicts more than tripled from 2015 to 2019, and hit new highs in 2020 and 2021.

As claims worked their way through reopened court systems in 2022, we saw record-breaking litigation outcomes. With 11 nuclear verdicts, including three of more than $100 million in December 2021 alone, this trend continued into 2022. The time from file to trial continues to lengthen with the backlog of cases waiting to be tried, and this trend is expected to carry into 2023 and beyond.

Materials, Labor, and Technology

As we continue to navigate through 2023, we can expect some construction dynamics to move back toward pre-pandemic levels. Inflation has begun to change the supply-demand dynamic—as prices everywhere go up, demand for certain things has begun to fall. Lead times for many materials have fallen back to pre-pandemic levels. Still, construction companies should plan for cost and supply chain volatility as they scope out work in the coming year.
Inflation, material costs, and supply chain issues have also led to the potential for underinsured property. It is important to have an accurate property value to be sure the limits in place on property insurance are sufficient to cover replacement in the event of a loss.

As for the tight labor market, hiring in this marketplace in general is difficult. In the trades, electricians have been unicorns for a while, and that is continuing. Talent retention and workforce development become the keys for success. For companies that struggle to find veteran tradespeople, the next best option is often to hire inexperienced workers. But this creates risks around work output quality, as well as rework costs. As a result, new construction permits and starts for projects will continue to slow and builders will continue to risk quality product due to a labor and materials shortage.

Technology has played a role in helping the industry adapt to change. Mobile construction apps have allowed the industry to continue to grow while keeping workers, clients, and contractors safe. Even before the pandemic, the construction industry began adopting digital tools and apps on the job site. These technologies enabled crews to provide accurate photo documentation to clients, contractors, and inspectors, allowing some aspects of project completion to occur off site.

Now, construction companies see the potential of remote worksites and mobile access to help their bottom line. Many phases of construction can take place remotely, saving time and money for both the builder and the client. The year 2020 made this approach a necessity, and construction companies see that communication, documentation, and other tasks on the job site can occur remotely even as things return to normal. We expect to see more technological advancements that allow work to be done off site, enabling projects to be completed faster than ever.

Managing Claims in a Changed Landscape

For insurers, with the average claim costing more, claims handling teams should improve diligence in the overall claims process—from intake through closure—by monitoring efficiency, reducing waste, and focusing on expenses. Some steps are outlined below:

• Focus on early resolution of claims.
• Stay engaged in the claims process, maintaining open and frequent communication with the claims adjuster.
• Monitor and benchmark adjusting and litigation expenses.
• Use key performance indicators and benchmarking to evaluate claims process efficiency (e.g., closure rates, litigation rates, and reporting lag).
• Look to eliminate wasteful spending where possible, making sure high dollar expenses are necessary [e.g., case management, sub rosa (surveillance), and medical cost containment charges].

For construction companies, a well-developed risk management and insurance strategy is crucial to remaining profitable and resilient. A proper strategy can help reduce claims and save money.  Initial considerations should include:

• Attract qualified workers with benefits that they need most. Workers who receive healthcare, sick days, and paid time off will be more likely to stay the course, knowing that the company supports their health, safety, and well-being.  
• A construction firm’s insurance strategy can no longer solely focus on its own risk. Prequalify your contractors and ensure they share the same values of safety and risk management. Work with an expert to ensure contractors carry all the necessary insurance. Contractors will need to be prepared for significant rate increases, strict underwriting, and, in some cases, less favorable policy terms at their renewal. Having strong relationships with their broker and carrier partners will be key to strategizing their risk retention profile. Consider higher deductible/SIR models, setting up a captive, or looking into parametric insurance.
• Continue to formalize training. Workplace accidents remain a significant concern, but proper training that emphasizes the company’s commitment to protecting the workforce will reduce incidents and improve retention. Make safety a tenet of the organization, and ensure workers understand expectations and commit to maintaining a safe work environment. 

The construction industry will face more changes throughout 2023 and beyond. Focus should continue to be on the economy, the labor market, and supply chains. Better supply chains mean fewer delays. A more skilled workforce means a higher quality product. Contractors need to make sure they are protected through the current economic climate.