Author: VU Faculty

Almost a year ago, we ran an article called "13 Caveats in Using E&S Markets." While there are issues that agents should be aware of when using E&S markets, in an increasingly hard market, we think it's time we pointed out the many pluses that E&S markets bring to the table. To do that, we polled our faculty and a number of agents and risk managers from around the country and the world.

Note: Portions of this article were originally published in the February 24, 2003 issue of National Underwriter.

The traditional use of excess and surplus lines (E&S) markets has been to place what is considered less desirable or more risky business. That definition has not changed in the new, tougher market we face today.

What has changed is many standard insurers’ definitions of “desirable” and “risky.” More independent agents and brokers are finding that surplus lines carriers are much more eager for their business while standard carriers are finding reasons to avoid it.

Presently, most standard carriers require that a business be operating and have insurance for at least three years and possess a proven track record with few or no losses. Many small business accounts cannot meet these qualifications. Therefore, when they find that they do not qualify for standard markets, it is time to turn to the specialty markets to fill their needs.

Two years ago, these same accounts would have been gladly accepted by almost any standard company. But now they are not ‘desirable.’ There is too much ‘risk’ involved.”

Independent agents and brokers say they are finding that many of the same stringent underwriting criteria applied during previous hard markets are being re-employed by standard markets today. Surplus lines have consequently become a necessity to write almost any account with an unacceptable level of risk that will cause an underwriter to either rate up an account, exclude a vital coverage on an account, or decline to renew or even quote a new account.

Therefore, the E&S market has emerged as a critical industry component. In the ’80s, his agency placed business with a huge stable of standard markets that could handle almost everything they had. Using an E&S market was uncommon—usually for special events cover or certain types of professional liability.

Now the starting point seems to be the E&S markets. 

“In 1983, I could get 20 quotes on a high-rise condo building and have underwriters brawling in the hall in hopes of getting the order,” one agent told me recently. 

“Today I can’t get three.”

The Independent Insurance Agents & Brokers of America (IIABA) has responded by helping agents better understand and use specialty markets by providing them an online gateway to connect member agents with select insurance company partners and a host of specialized insurance products and services with no volume commitments or access fees.

The program handpicks its highly rated insurance partners and provides agents efficient access to underwriting and coverage information, program administrator and insurer credentials, educational tools and policy forms.

Furthermore, IIABA also offers independent agents free access to hundreds of specialty lines through an online specialty insurance network. By calling a toll-free number and using a directory of four-digit access codes for the specialty lines they need, agents and brokers are immediately faxed information about MGAs and underwriters who are ready to help them.

If the current hard market is anything like past cycles, count on the amplified use of E&S markets due to increased demand and the inability of admitted markets to get regulatory approval of coverage reductions or rate increases.

One broker in Fort Lauderdale, Fla., is finding that “most of the surplus lines markets are swamped with submissions and it is difficult to get a quote in a timely manner for your client or prospect.”

He then went on to echo the sentiment of many independent agents and brokers by adding, “I am thankful that they are a market during this difficult time.”

In developing the preceding information, we polled the VU faculty, along with a number of agents and risk managers from around the country and the world. Below are their observations about the value of E&S markets (a long with a few complaints too :-).

The traditional use of the Surplus Lines or Brokerage market has been for use on the less desirable and therefore hard to place and more risky classes of business. That definition hasn't changed in the new, tougher market we face. What has changed is the standard insurance companies' definition of "desirable" and "risky."

No, I'm not going to talk like an old timer and say something like, "In the good old days..." because I started in this business in 1970 and there was a really HARD market going and blowing back then. I know what it was like then, and it seems that many of the same tactics are being newly re-employed by standard markets today. Surplus likes has now become a necessity to write almost any standard account that has a spot of underwriting "Goo" on it. (My definition: "Goo" is anything that will cause an underwriter to either rate up an account, exclude a vital coverage on an account, or decline to renew or to even quote a new account.)

In the present marketplace, most standard carriers require three years in business with insurance and a proven track record of little or no losses via loss runs. Most small business accounts cannot meet those qualifications. Therefore they are covered in "goo." So, when they drop into an agent's lap and ask for coverage, (Oh no, a lap full of goo!) or when an agent asks for their business only to find out that they don't qualify with his standard markets (gooier), he must turn to the brokerage houses to fill those needs. Now, two years ago, these same accounts would have been gladly been accepted by almost any standard company, but now they are not "desirable" (gooie).

The good agency will have already established a good working relationship with several brokers who can help him out. The good agent will always send a faxed or emailed, completed application to the broker and will not ask for ASAP service unless he really needs it, and then only as an exception. The good agent is familiar with the broker's appetite for the risk, the rates and audit procedures and, most importantly, the exclusions and exceptions to standard ISO forms of the carrier/broker. He will sell these idiosyncrasies to the customer, as the needs of the customer dictates. Now that's a mighty fine set of words but what do they mean? Got any goo on 'em pardner?

For instance, there is a crisis of some proportions in my state for small contractors. A major market that had been writing them has pulled out and left many contractors asking we agents for coverage. All standard markets require prior coverage and many will not tolerate a lapse of more than 30 days (no goo on their new accounts). Almost all standard markets will not write a general contractor who subs out more than 50% or 75% of his work. (These are really gooie according to these underwriters!) These are called paper contractors or contract managers. (Gooier contractors?) Some contractors have let their expiration slip up on them and have not sought other coverage in a timely fashion. (Gooiest contractors?) Many subs are now looking for coverage for the first time. (Gooie subs?) The ONLY market for them is surplus lines. (The gooie stoppers?) Ok, OK, I'll stop with the goo now! You have my permission to un-goo the above if you want. (It was fun while it lasted!)

We represent one broker that has a General Liability program for new subs and even paper contractors. They have a specialty application that is simpler and easier than an ACORD Application. They publish their rates (which are reasonably competitive, but usually higher that a standard company's rates) and they pay a reasonable (by today's standards) commission (8-10%). We also have another standard company that will accept the contract manager, home builders, but they have been inundated with so many applications that they have demanded a 30-day underwriting look before they will approve any new business, and they have put all of their agents on a quota system for new business issued in 2003 because they cannot hire and train people to write any more than that volume of new business. Pretty smart on their part, but lousy tactics if you are trying to write a lot of new business an an agent.

We had relied on one broker for "quickie" quotes of small contractors and paper contractors until they started requiring draconian steps to be taken for a general contractor to be covered for work done by a sub. They wanted certificates with additional insured endorsements on them, on file in the general contractor's office, before any work was done by the sub. A noble ideal, yes, but a near impossible task for most contractors who are good about getting things done, and not so good about the paperwork that is needed. They tend to do the paperwork last. The problem was that the broker's policy had a warranty in it that said there was no coverage unless these things were done in a very strict manner. There were no exceptions allowed in the policy/endorsement wording.

Needless to say, we do not write that type of account with that broker any more. We still do business with the broker because they were kind enough to point out to us that it was a bad policy provision. We'd like to think that all brokers would do the same. This just goes to show you that an agent must be very careful of the policy forms and those pesky exclusions and "additional conditions" imposed by some of the surplus lines carriers. Most brokers are good about telling an agent about these items, but some agents may tend to focus on the price and limits of coverage and only read the fine print after a loss has been filed and denied. Then it's time to call his E&O carrier.

The good broker will publish rates for most of the common policies either on the web, in a set of manuals which are distributed to "selected" agents, or which actually appear on a specialty application. A better broker will allow agents to fax completed applications to them and get rate confirmation or a rate quote over the phone back the same day. The best broker, in my opinion, will let the agent rate it and send it in for issue and a binder that same day, as long as it meets certain set guidelines. No binding authority, but as close to it as you can get without actually having it

Good brokers require an agreement that sets the relationship between the broker and the agent on a formal basis and clearly outlines who is responsible for premium payment, audits, claims processing, binder and certificate issuance and commission payment terms. Good brokers will have been around in the business a while and already enjoy a fairly good reputation within the agency community. Good brokers will change underwriting companies and rating structures to keep pace with the growing demands we agents are placing on the surplus lines marketplace. Good brokers will NOT try to go direct to the customer and bypass the agent. Agents have long memories.

From an agent's perspective, a big problem is the Surplus Lines / Managing General Agents not proposing per the application. They do not address the coverage requested, and omitted from their quotation. A big E&O exposure, and must be watched very closely.

Most of the Surplus Lines markets are swamped with submissions and difficult to get a quote in a timely manner for your client or prospect.

I am thankful that they are a market in this difficult time. The standard insurance companies are not doing much to take up the slack.

As a risk manager, my question is: Does the "Standard Market" still exist? With a couple of exceptions, I haven't had a major line of coverage placed with a standard market in many years. Maybe it's just the nature of the companies I have worked for but I don't think so.

When I was an agent in the 80's we placed business with Big Aetna, Little Aetna, Buckeye Union, Cincinnati Insurance, CNA, Commercial Union, Fireman's Fund, Great American, Hartford, Home, IRI, Maryland Casualty, Mission, Royal, St. Paul, Travelers, others I don't remember, and numerous regional insurers. A huge stable of standard markets that could handle almost everything we had. Using an E&S market was an uncommon occurrence, usually Special Events cover or certain types of Professional Liability.

Now the starting point seems to be the E&S markets. In 1983 I could have had 20 quotes on a high rise condo building and underwriters brawling in the hall in hopes of getting the order. Today I can't get 3. As an underwriter in 1974, my personal underwriting authority on the best property was $22,000,000 (in 1974 $'s). You rarely get that capacity today from any market other than one or two, at least on the primary layer.

So what exactly does the so called "Standard Market" actually write?

Welcome to the hard market and the way it, reinsurance, capacity, risk,
underwriting, etc. work. Sometimes it only applies to a type of risk, an
industry, a line of coverage, etc. No different from the stock market. Money
flows to the areas with a better possible return. OR it flows to where the
carrier can transfer risk to a third party. OR it flows to a party that has
sufficient size or volume to quantify risk. OR it flows (if there is a true
underwriter) to the better qualified risks (here you may have a point:-).

But this always happened in a hard Market! But, there are fewer underwriters in the field, now. But, there are fewer carrier management around for the long term. But, But, But........

I remember in 1985-86, no one was writing D&O, or wanted to write utilities.
New companies started when prices when up. I also remember there was only one lead umbrella underwriter and few below 25 million during the same period. I remember in the early 70's only one carrier in the US and maybe the world wrote coverage for pharmaceuticals (maybe I should even say one underwriter)

I even remember when there were only one or two GL forms that did not exclude D&O, EPLI, Pollution, Discrimination, etc. Gee, a small deductible or tabular retro plan was ART!  :-)  I remember when no one would write Hospitals in the 70's and 80's and, if they did, they wrote it at 150% of the aggregate limit and you need to keep in mind that then there were few, if any, general policy aggregate limits like we see now.

Unfortunately, when you look around the carriers, the people that were good
underwriters may now be in the E&S market and have the trust of the companies they deal with (many are standard markets but a different side of the house), or the programs they set up. Unfortunately, in a hard market those wholesalers or E&S markets that did not protect their program with good underwriting are in the same boat as everyone else looking for markets to write their program.

I could go on and on, but to KISS it, nothing has changed, just the emphasis of the market in the times we are in and following similar patterns as the past. Boy, now I really feel old. :-)

I work in an industry that for years has been insured by the E&S/surplus lines market. That industry is Public Housing (i.e., government housing for indigent and disabled individuals). The E&S market plays a vital role that the standard market will not. I believe this is because of misperceptions and bad loss experience by the standard market because it does not have the time to learn the companies they do business with.

When I mention Public Housing to insurers, they perceive crime infested projects in inner cities; the insurers automatically say we won't insure that. Yet most public housing in the USA is a great risk to write if you know the industry. In the industry I work in, decisions to not insure housing authorities is made by staff at insurance home offices which are located in big inner cities where underwriters see and hear horror stories of the local big bad housing authority and they throw out the proverbial baby with the bath water

Yet I can show you thousands of housing developments across the United States that are owned by housing authorities and that people are not afraid to live in. I'm talking about properties that you would not mind living in. I have this reoccurring fantasy of going to an underwriters' convention and showing pictures of beautiful housing in really nice neighborhoods and then revealing who owns those buildings (housing authorities), but we do not need the competition.

The 17 captives insuring housing authorities in the U.S. make an underwriting profit almost every year. When I began managing risk for a large inner city housing authority, during the last hard market, the insurer who had insured the housing authority for 12 years was unaware of the California Tort Claims Act, which is a prerequisite to filing a claim...it contains strict time requirements for filing claims. The in-house adjusters for the incumbent standard market insurer had waived defenses by not knowing the laws and immunities that California public entities enjoy. I eventually insured that housing authority with a Risk Retention Group and saved $300,000 in premium and got better coverages. The Risk Retention Group allowed us to direct and "gate keep" claims filed. The former standard market insurer eventually pulled out of the habitational market and the E&S market began to solicit that Housing Authority's business.

The same goes for the current fear in the market place towards mold. Recently, medical information is being disseminated that mold is not as dangerous as many plaintiff attorneys and the media would like us to believe. Mold is being treated the same as yesterdays highly feared perils of whiplash, power line electromagnetic fields, radon gas, and cancer from cell phone use etc. From time to time the standard market sees a big award and excludes that coverage. The E&S market eventually steps in to cover what the standard market will not.

Does the E&S market have tricks up their sleeves that the standard market does not? I do not think so, but more often than not, the E&S insurers hire underwriters that learn and understand the risk they undertake. It appears to me that the standard market does not have the time to do the same because they allow too many types of risks to come in the door and be insured. Other players taking the risk that standard insurers do not have the time to learn are: Risk Retention Groups, industry captives and self insurance pools.

The difficult part of using the E&S market is that they are not included in Solvency Guarantee funds and there is no standardized policy wording, which makes analysis of different insurer's coverages for a given account more difficult because you will be comparing an "apple with an orange." In the standard market, you compare an "apple with an apple" when looking at coverages.

This is my own perception within my industry and readers should be aware that I have never worked in an underwriting department for an insurer but I have heard many insurers say we do not insure housing authority related properties without even looking at the property or loss runs, yet they write privately owned commercial housing.

WHY does the E&S market (generally) have better underwriters? Is it a vestige of the times when commercial insurance rates were highly regulated in most states, which would slightly diminish the motivation to keep experienced underwriters? After all, it doesn't take much talent to class underwrite or to give almost every risk the maximum credit in a soft market. This would make sense to me as a possible explanation, but I wonder if someone sees other explanations as well. Because if it is simply a result of a commercial lines regulation in the admitted market, it would seem like the gradual deregulation of commercial lines would tend to diminish this effect. That is, might this difference become less apparent in 10 or 15 years?.

Having been on both the Standard and E&S side of the house, it's not that E&S underwriters are smarter. They are simply given the ability to utilize imagination and their own expertise to underwrite and price a potential risk. Generally speaking, the bureaucracy that exists in the standard market arena, with multiple layers of management trying to develop profitable results, has almost eliminated the authority for a line underwriter to make a decision. When the chief underwriting officer mandates a pricing change, for example, by the time this is filtered down to the line underwriter, layer upon layer of underwriting manipulations must be performed before a quote can be released. The easy way is to decline. While staying within a filing is sometimes restrictive and imagination as respects terms and conditions might not be within their filings. The underwriting expertise of most not all of standard market underwriters is atrophying.

In the 70's, the coverage, terms, conditions and exclusions were in the standard forms. It was not very common to negotiate amendments to standard language and I don't recall a single standard exclusion that was routinely attached, although I'm sure some of you other old-timers out there will remind me of at least one.

The policy I found today was written with an E&S carrier and included the following endorsements to the standard form:

•  Exclusion - Designated Professional Services
•  Absolute Exclusion - Asbestos Liability
•  Exclusion - Engineers, Architects, Surveyors or Contractors
   Professional Liability
•  Absolute Pollution Exclusion
•  Exclusion - Employment Related Practices
•  Nuclear Energy Liability Exclusion
•  Exclusion - Earth Movement
•  Exclusion - Construction Management Errors and Omissions
•  Exclusion - Lead Contamination

And if I want coverage for any of the excluded exposures, I need an E&S
market.

The E&S market has greater flexibility in coverage forms and pricing than the standard market as their forms and rates are not necessarily filed for use. Pricing can be less than market or higher, depending on the market conditions and the risk.

I have a seafood processor that the standard markets were unwilling to write, even though they had a filed rate for the class, because they thought that the rate that they were able to charge was less that what they needed to defend claims. This had to go to the E&S market. In other situations, I had an extremely competitive E&S quote for a client, but also a quote from an admitted carrier, I was not able to place coverage with the E&S carrier unless they were providing broader coverage or coverage that was unavailable in the standard marketplace. (The insurance commissioner's attempt to protect the admitted carriers!)

The E&S market does have the ability to think outside of the box as was indicated earlier. Further, there are insurers that are admitted insurers in some venues, but in others venues transact as an E&S carrier because of the volume of business in the particular state does not warrant the expense. In addition, being an admitted carrier may force them into writing their proportional share of pool business and participate in the guaranty fund.

The E&S market, because of their non-filing requirements, allows them to quickly enter into niches in the marketplace to facilitate needs that arise. This was evident with employment practice liability coverage when first written, and food borne illness coverage for restaurants, etc.

Right  before my mother retired after about 35 years as an independent agent, she submitted a "clean" risk on a homeowners to a standard market. It was rejected. She couldn't for the life of her figure out why, so she called the underwriter. He said he declined the risk because the applicant had a 5-ton refrigerating unit on the roof and obviously, the company couldn't accept a risk with that amount of weight on a roof. It just wasn't safe. She had to explain to him (and his supervisor) what "5 ton" meant in this case.

The current standard market is now controlled, like it or not, by the financial people, not the insurance people. They like to think they can design internal controls to reach satisfactory underwriting results. The standard market underwriters of today are not allowed to make real underwriting decisions. They take the data and push it through the computerized filtering system.

E&S underwriters look at the risk, but at other relevant issues also. In most E&S underwriters minds, credibility is probably the most important thing. The London market for years used this standard in addition to other underwriting considerations. It certainly paid off for them.

I once heard of an agent who had a agency made up of junk business. Classes and types of risks most everyone avoided. The secret was that the agent select only the best in these poor classes. The high rates for the good accounts produced real profit

I don't believe that standard markets want to take the time to develop underwriters with the intuitive expertise necessary to be a "real underwriter."

Thanks for bearing with me for a few minutes of nostalgia. I still believe credibility is the most important thing a person in this industry can have along with experience and knowledge.