Engineering insurance set for a futuristic upgrade
The growing digitization of economies and subsequent impact on virtually all industries suggests engineering is on the cusp of a tech-driven regime shift.
Historically, engineering insurance, a specialty line, has evolved in response to technological breakthroughs.
Engineering insurance originated in the 19th century to provide protection against property damage resulting from steam boiler explosion/implosion.
Today, the growing digitization of economies and the subsequent impact on virtually all industrial processes suggests that engineering may also be on the cusp of another regime shift — a product of what some label the fourth industrial revolution, or “Industry 4.0.”
Industry 4.0
Construction accounts for approximately half of all engineering insurance premiums. It has a long track record of slow uptake of new technology, reflecting deep-seated technical, institutional and cultural factors.
But there are signs of rising digitazation in parts of the construction sector. As in other industries, start-up companies are an important part of the emerging innovation narrative. According to the market intelligence platform CB Insights, more than 400 ‘constructech’ firms formed between 2009 and 2017, raising $2.9 billion in funding; more than half of this activity occurred in the past three years.
Digital technologies could ultimately lead to significant improvements in efficiency including enhanced monitoring, mitigation and management of engineering-related risks. The adoption of Building Information Modelling (BIM) for example can help reduce potential liability claims on construction projects, including planning and execution risks. Similarly, the use of robotics (for example, the deployment of drones) combined with enhanced data analytics also presents significant potential benefits in terms of safety, accuracy and speed.
Related: New construction technology is an insurance game changer
Covering industry tech changes
Insurers must be alert to how technology effects the nature of existing risks and new ones that emerge, such as cyber. The adoption of high-value electronic and computer equipment in construction and engineering could affect the potential scale of damage in the event of an accident. Likewise, the expansion in scope of insurance to include more financial-related/non-damage risks means that even though the frequency of future losses may be permanently lower, the severity of claims might remain significant.
More broadly, new technologies will challenge re/insurers to develop novel approaches to understanding and evaluating risk. The proliferation of new data will require insurers to adjust their systems and processes to leverage the potential insights they offer. For both unstructured data (such as video footage of construction sites) and structured data (like sensor tracking of machine or building’s performance), insurers must eventually develop new ways to locate, organize, extract and analyse data.
Related: 6 common misconceptions about cybersecurity
Engineering insurance has typically been relatively profitable compared with other specialty lines, which affords insurers some financial bandwidth to cope with the prospective digital transformation among their traditional client base. However, underwriting performance has deteriorated recently, with premium rates declining and claims reportedly rising in some construction sectors due to poor quality control. This underscores the need to juggle crucial product and process innovation with underwriting discipline.
Provided insurers do not overstep the boundaries of insurability, insurance can play a bigger role going forward in risk financing (how much risk is retained by insureds) and risk inter-mediation (how much risk is transferred to parties best able to absorb it). Stronger cooperation between different lines of insurance and different functional areas can widen and deepen the available insurance solutions, including multi-peril covers.
Related: Identifying construction risks
Recent engineering insurance product innovations
Holistic covers
Traditionally, construction project and operational covers have been kept separate due to their distinct risk profiles and coverage requirements. The project phase is often more complex and volatile, due to the longer durations and multi-party involvement.
However, there is growing interest in holistic engineering covers that provide comprehensive protection across the entire life cycle of a project. This may involve combining a number of heterogeneous covers such as Contractors’ All Risks/Erectors’ All Risks, Credit & Surety, Marine, Liability, Advanced Loss of Profits and Delayed Start Up. For example, Swiss Re Corporate Solutions is attempting such an integration via its One Construction initiative.
Parametric triggers
Construction project owners often need to reduce earnings volatility to safeguard debt payment obligations to financiers, especially for projects where revenue generation is highly dependent on say weather conditions. Parametric insurance is available to close emerging protection gaps.
Unlike traditional insurance, parametric instruments use a model to calculate the pay-out of the insurance policy. This enables speedier claims payment, since loss adjusters are not required to assess damage.
Examples of parametric products include:
- Policies that pay out in case traffic volume on a toll road falls short of projections.
- Wind portfolio hedges that pay the client a fixed amount per megawatt-hour for power not generated due to low wind.
- Non-damage weather insurance to indemnify business interruption losses caused by a typhoon warning, even if the typhoon warning later turns out to be a false alarm.
Beyond technological innovation, the outlook for engineering insurance is heavily influenced by prospective growth in the world economy and, in particular, the level and nature of construction activity. After a period of relative stagnation in premiums, the expected acceleration of building investment in advanced and developing markets in the near term should underpin stronger insurance demand and revenues. This reflects the ongoing cyclical upswing in the global economy and underlying structural shifts, such as urbanization, replacement of ageing infrastructure and development of renewable energy sources. There is still however uncertainty about how far some of these factors will translate into a material pick-up in premium growth.
Builder a better tomorrow
Engineering insurance is vital in supporting economic activity. By providing a mechanism for firms to share risks and mitigate fluctuations in their income and expenditures, it facilitates efficient investment in areas that might otherwise not be made. Many large construction and infrastructure projects could not be undertaken without such policies. Equally, the use of key plant and industrial machinery would be severely constrained if operators were unable to protect themselves against losses that arise from circumstances beyond their control.
It is imperative for engineering insurers to continue to evolve and respond to the changing risk and competitive landscape. While the pace of technological change in construction is still likely to be gradual, the direction of travel is clear.
Darren Lee Pain is a senior economist at Swiss Re. The opinions expressed here are the author’s own.
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