Excess and Surplus Insurance: Industry overview and trends to watch

Trends impacting the E&S insurance market

For businesses with difficult or high-risk exposures, the Excess & Surplus (E&S) specialty market is critical, as it provides coverage that traditional insurance markets can’t offer. Businesses that turn to the E&S insurance market include those with unique operations or hard-to-place commercial exposures.

Given the risk profile of businesses that purchase these policies, those utilizing the E&S insurance market are no stranger to disruption. Today, market conditions are not only dictated by claims experienced by insurance carriers, but also by fears over trends pushing claims costs even higher. These trends include, but are not limited to, social inflation, volatility in auto liability, and the COVID-19 pandemic. This article will examine these trends in more detail, arming businesses — and the agents who serve them — with the information they need to respond effectively.

Social inflation

Insurance buyers may have heard the term “social inflation” used by an insurer to explain the factors driving up the cost of coverage in today’s market. In general, social inflation refers to the rising costs of insurance claims that are a result of societal trends.

As the Excess and Surplus insurance market changes, it’s important for businesses to understand what’s currently driving social inflation. Doing so not only provides them with a better understanding of the issues that affect their insurance costs, but it can also help them take proactive steps to protect their business in the face of litigation. Social inflation encompasses the following trends:

Increased litigation

In today’s legal environment, attorneys are more inclined to take a claim to trial than ever before. One reason for this relates to litigation funding, which occurs when a third party finances a lawsuit in exchange for a portion of the settlement. Using this approach, expensive attorney fees are no longer a concern, and more cases are being pursued longer, driving up the cost of litigation. In some instances, cases that may have otherwise been dropped are being pursued. According to experts, the number of litigation funding providers continues to increase and could double in the coming years.¹

Tort reform

Tort reform refers to reforms that are designed to help reduce litigation. Specifically, tort reforms are used to help prevent frivolous lawsuits and preserve laws that prevent abusive practices against businesses.

Many states have enacted tort reforms over the past several decades, leading to fewer claims and to caps on punitive damages. However, in recent years, states have modified tort reforms or challenged them as unconstitutional. Opponents believe tort reforms lower settlements to the point that attorneys are less likely to take on new cases and help victims get justice for their injuries or other damages.

Further complicating matters, tort reform is subject to uncertainty, as it is largely tied to political leanings and the interests of individual states. Should tort reform continue to erode, there could be fewer restrictions on punitive and noneconomic damages, statutes of limitations and contingency fees — all of which can drive up the cost of claims and exacerbate social inflation.

Plaintiff-friendly legal decisions and large jury awards

The overall public sentiment toward large businesses and corporations is deteriorating, and anti-corporate culture is more prevalent than ever. Several factors are contributing to this increasing distrust, including highly publicized issues related to the mishandling of personal data and social campaigns such as the #MeToo movement.²

This has had a considerable impact on how businesses are perceived by a jury in court, and organizations are held to a high standard for issues related to the way they conduct their business. In fact, juries are increasingly likely to sympathize with plaintiffs, especially if a business’s reputation has been tarnished in some way in the past.

Compounding this issue, there’s an increasing public perception that businesses — particularly large, well-funded ones — can afford the cost of any damages. This means juries are likely to have fewer reservations when it comes to prosecuting companies to the fullest extent of the law. Given the way that nuclear verdicts (e.g., multimillion- and multibillion-dollar settlements) have become the new norm, juries are often desensitized to plaintiff awards, making trial defense both costlier and riskier.

Nuclear verdicts

The term “nuclear verdicts” refers to multimillion- and multibillion-dollar settlements, and they’re increasingly common across a variety of industries. For example, in the trucking industry, there were five times the amount of $20 million-plus settlements over the past five years than there were between 2010 and 2014.³ These verdicts generally occur when a jury believes a defendant is willfully or purposely denying any responsibility for an accident.

Due to an uptick in nuclear verdicts, juries are growing desensitized by six-figure or even seven-figure awards, making them less likely to hold back if a company is taken to court. Together, the threat of nuclear verdicts makes trial defense both costlier and riskier, which in turn has decreased insurance carriers’ appetite for risk.

Due to social inflation, litigation has become much more common and costly. As a result, there’s an increased emphasis on claims prevention, especially because just one lawsuit could exhaust a business’s insurance limits.

Volatility in auto liability (increasing medical and vehicle repair costs)

Companies of all kinds rely on safe and functioning vehicles to serve customers and generate profits. As such, commercial auto insurance has become invaluable for any business that operates vehicles as part of its operations. However, exposures related to commercial auto insurance are vast. Several industry changes — along with the frequency and severity of claims — have had a significant impact on carriers across multiple lines of insurance.

The overall cost associated with vehicle collisions has climbed significantly in recent years. While the financial impact of individual collisions can vary based on their severity, steep medical and repair costs continue to drive up the cost of claims overall.

Increasing medical costs

In general, medical costs have been rising steadily for years. In fact, losses for bodily injury liability insurance claims increased by 10% over a five-year period alone.⁴ These increased costs have affected multiple lines of insurance, including commercial auto insurance.

Following an accident, injuries can vary in severity. It’s not uncommon for the injuries of those involved in an accident to require multiple doctor visits or even surgery, which can extend recovery time and influence the cost of claims.

Increasing vehicle repair costs

Technological advancements have made vehicles safer and more efficient. However, as commercial vehicles are outfitted with a variety of sophisticated components (e.g., backup cameras and blind-spot cameras), they are becoming increasingly expensive to repair.

According to a report from AAA, vehicles equipped with driver assistance systems often cost twice as much to repair as those that aren’t. As such, losses associated with a collision are much more substantial, leading to rate increases and creating numerous challenges for insurers.

Natural disasters

As they become increasingly devastating and costly, extreme weather events continue to make headlines. Exacerbating the concern, hurricanes, wildfires, floods and similar events aren’t limited to one geographic area or weather event, impacting businesses across the country. In fact, 2020 is the sixth consecutive year (2015-2020) in which 10 or more billion-dollar weather and climate disaster events have impacted the United States.⁵

Many experts believe severe storms, extreme temperatures, wildfires and flooding are the new norm. As these catastrophes become more frequent, the insurance industry and the economy are likely to struggle to keep up with the losses. This is even more apparent considering that global insured losses from natural disasters totaled $30 billion in the first half of 2020.⁶

In response to these trends, insurance carriers are reducing their capacity and refining their appetite for certain risks. In some cases, insurers are exiting markets for certain industries. This is especially true for particularly high-risk operations with poor loss control practices or those located in natural disaster-prone areas.

COVID-19 pandemic

The coronavirus outbreak has impacted businesses across a variety of industries, forcing them to rethink their daily operations to ensure the safety of their employees and the general public. In fact, procedures related to employee health and safety, leave, housekeeping, remote work and similar workplace policies have all had to evolve as a result of COVID-19. This is particularly true considering that just one misstep could put an employee’s well-being in jeopardy.

But beyond impacting a business’s daily operations, COVID-19 is also creating uncertainty regarding what is and isn’t covered in an insurance policy. What was the intent of coverage? What was contemplated in the insuring agreement? These are important questions when it comes to COVID-19-related risks. And this level of uncertainty impacts a variety of businesses.

For instance, restaurants have had to adapt to provide more outdoor seating, sometimes in nontraditional locations such as parking lots. As a result, businesses and insurers have had to consider how changes to their operations could impact insurance exposures.

Following a COVID-19-related claim, businesses may wrongfully assume that their existing coverage will protect them, but that’s not always the case. While COVID-19 introduces a level of uncertainty when it comes to available insurance protection, there are several precautions that organizations can take to prepare for a claim. To control potential losses, policyholders should:

• Audit existing insurance policies and their provisions to identify potential gaps in coverage
• Review and modify existing contingency plans, estimating the potential impact of a long-term closure
• Identify equipment, services and third parties that are critical for continued operation
• Have a process in place for responding to a loss, which could include:
  • Detailing how the loss occurred and the impact the loss had on their operations
  • Tracking all losses and expenses associated with the claim
  • Highlighting how the claim could impact third parties such as suppliers and consumers

Responding to uncertainty

When it comes to responding to challenges and trends impacting businesses and the insurance market, preparation is key. Businesses should work with their insurance professionals to get ahead of risks and anticipate what the marketplace is going to look like year after year. Additionally, organizations with strong risk management and loss control practices in place are not only likely to see fewer claims, but they will also find themselves more prepared to respond to an incident.