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Design and Construction Professional Indemnity

10 April 2018
40 years ago, project works would probably be designed by a consultant, or team of consultants, appointed by a client.  Having completed the design, tender documentation would be issued, and a contractor would be appointed to undertake those works.  This is referred to as the “traditional method”, but it is now unusual for projects to be procured on this basis.

An early form of design and construct procurement was known as ‘turnkey’, where a contractor was engaged to design and build a building or structure, to comply with a client’s specification, with the client receiving the works and ‘turning the key’.

Although this was initially more typical of small standardised building products, this concept (where the contractor is responsible for design and build) is now used almost as standard practice on projects of every size and complexity.

The advantages to a client are the contractual shedding of risk to a contractor, and reducing the number of parties with whom a client must contract.  However, whilst experience of procurement on this basis has generally been to a client’s satisfaction, in some cases it has led to a client receiving a standard of works which is the minimum and arguably only just meets the specification.

From a contractor’s perspective, a common problem is that a complex design only reaches a state of completion after the contractor has been awarded the contract, which means that a conservative tender is wise, but not always possible in a competitive market. The accepted tender may, therefore, not be adequate to cover the completed design.

A further complexity is that works such as foundations, cladding and mechanical services are commonly designed by specialist sub-contractors, often with design being completed after award of the main contract.  Hence, design procurement is an additional programming consideration for the contractor.

Given the large capital sums involved in construction, the contractual consequences of any delay in completion can have significant cost implications for both the main and sub-contractors in terms of site presence prolongation, and also for the client in terms of extended contract management and delayed financial returns from the capital investment. 

Professional indemnity insurance for design and build work

Due to the development of the design and build procurement process, insurance cover for contractors undertaking and having responsibility for design work has developed and flourished.

UK Design and Construction Professional Indemnity policies are written so as to offer contractor policyholders an indemnity against contractual losses which can arise from professional errors in design and specification, and also in some policies from activities such as project management.

These policies are unusual in providing cover not only in respect of a policyholder’s professional liability to third parties, but also in providing an element of first party cover for losses arising from professional errors.  The latter cover is broadly intended to provide cover for losses, generally the cost of repairs, which a third party claimant might incur, were they not alternatively, and economically, incurred by the contractor policyholder.

Over the years, policy wordings have been subject to various changes, particularly on bespoke policies, although seemingly minor changes to wording can have a significant impact on the extent of cover afforded by the policy.

A difficulty for insurers, brokers and policyholders, has been in the identification of the apparently infinite variety of situations which can arise in a construction project and which cause losses potentially falling within the ambit of such policies.

It is of course a disappointment to a policyholder to encounter a situation for which an insurer has not provided cover.  Examples of such situations might, depending upon policy wordings, include the following:-

  • A loss incurred by a contractor arising from a tender deficiency due to a pre-tender design error.
  • A situation where the scope of work required to correct an initially deficient design is no greater than the scope that would have been required had the initial design been satisfactory.
  • A situation where a contractor suffers standing time losses for staff, labour or plant, whilst only a proportion of site resources are required for the rectification of works which are defective due to a deficient design.
  • A contractor’s exposure to the withholding by the client of liquidated damages for delays to completion of the works consequent upon a design error.

Project PI policies

Finally, it is worth mentioning the development of Project PI policies, taken out either by a contractor or client, which provide design and build cover, not only to the benefit of a contractor, but also to other specified parties such as design consultants and sub-contractors.  One intention of such policies is that the risk of a design error by any insured party is carried collectively, via insurance, thereby reducing the risk of adversarial contractual relationships developing to the detriment of a project.

From a risk management perspective, an insurer’s interest can be protected by the introduction of a representative, such as a dual qualified engineer and adjuster, into the project management structure on a periodic basis, such that the insurer is fully aware of project progress and any developing situation which might lead to a policy exposure.  In this way, the insurer effectively becomes a more active participant in the project and potential problems can be identified and addressed at an early stage.

Further Reading