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As they navigate the underwriting hazards of a young line of insurance--constantly under fire from the latest scientific findings and newly minted government regulations--insurers are slowly but surely pulling back the policy periods for their environmental cover.

While long-term policies can still be found for certain types of coverage within this specialty line of insurance, the days of five-year and even longer policies for run-of-the-mill environmental protection against spills, accidents and third-party liability claims are now a part of ancient history. And risk managers who sealed those lucrative five-year deals that were common back at the turn of the century may be in for a rude surprise when it comes time to renew this year.

Adds Marcel Ricciardelli, senior vice president of the environmental unit at XL Insurance in Exton, Pa., "For ongoing coverage, insurers are pushing it back to three years or even one year; they're not offering 10 years anymore. Insurers are getting smarter about how they manage their business."

Industry experts are generally in agreement with Ricciardelli, that insurers will be sticking to the traditional one-year policy term that accompanies most general commercial liability policies.

"There's a rethinking of the underwriting. It's back to basics," says Jim Cox, managing director of Aon Environmental in New York.

While the factors behind this growing restraint among insurance companies vary, one of the most prominent is simply mounting underwriting losses. The aggressive competition that was a part of the soft market of the late '90s as well as the entry of new players eager to gain a piece of this growing segment of the insurance market frequently led to lax underwriting, industry observers say.

And in a line of insurance that depends on highly trained engineers to assess the danger of pollutants and attorneys well versed in the myriad web of government regulations to assess lurking liabilities, lax underwriting for multi-year policies couldn't help but lead to mounting losses, experts say.

"Insurance and risk-taking is like forecasting the weather. You can be fairly accurate tomorrow that it will rain, but you can't forecast whether it will rain next month," says William McElroy, a vice president at Liberty International Underwriters, a division of Liberty Mutual Group in Boston, Mass.

"That's fundamental. We always thought that too many things could happen to put our capital at risk (on multiyear policies)." For that reason, about 99 percent of Liberty Mutual's environmental business has traditionally been written on an annual basis, adds McElroy.

But it is not only the increasing underwriting losses filtering down to the bottom lines of many insurance companies that have prompted them to revamp their policy terms. Insurers also have learned that the barrage of new scientific findings can suddenly make a tightly written manuscript start to bleed.

"There are always changes in science. And that means scientists can detect contaminants that they couldn't detect before," says Lindene Patton, senior vice president and counsel for Zurich's environmental unit in North America. "Threshold levels and analysis of pollutants advances forward in the industry and you suddenly have emerging exposures that you couldn't anticipate."

An example is the chemical perchlorate, a chemical used in the production of explosives, such as rocket propellants and fireworks. In the late '90s, new technologies allowed environmental scientists to pinpoint harmful levels of the chemical in municipal water supplies across the country--setting up costly liabilities for environmental insurers.

"Science is influencing the underwriting, which is influencing the market," says Patton. She adds that Zurich has traditionally steered away from term limits of more than three years for most environmental risks simply because of the uncertainties of underwriting such complicated hazards.

Mold is another example of how new advancements in science and health standards, along with a growing public awareness of health and changing methods of construction, can create havoc for insurers. While mold has always existed, the environmental claims associated with mold only began rocking the industry since the early part of this decade. "Mold demonstrates how science and culture can change the insurance landscape so quickly," says Ricciardelli of XL Insurance.

And insurers must also be ready for government officials--from senators in Washington, D.C., to city council members in Kansas and California--to drastically revise the liability landscape for environmental risks.

Legislation like the federal Sarbanes-Oxley Act of 2002, aimed at improving the corporate governance and financial reporting practices of public companies, is calling for greater transparency on all fronts. That includes the recognition of a company's environmental liabilities on its financial statements.

All of these evolving conditions--from more stringent financial reporting requirements to maturing scientific techniques to an increasingly active plaintiff's bar--are catching the attention of corporate executives and their board members.

"We're hearing that there is a new level of inquiry (about potential environmental risks) from directors and officers in the last six to nine months," says Patton.

But while senior risk managers and other top managers at the giant Fortune1000 corporations were the early buyers of environmental coverage as it developed several decades ago, managers at small and midsize firms have been less ready to see the need for environmental cover, experts say.

"Many midsize companies have been reluctant to spend the money on this type of insurance because they think they have the necessary coverage in their casualty program," says Karl Russek, senior vice president of environmental risk at ACE USA Group in Philadelphia. "It has sometimes mistakenly been viewed as esoteric and expensive."

He says that a lack of communication between the insurance-buying side of a company and its environmental department--where the health and safety people reside--can sometimes lead to gaps in coverage for potential environmental risks.

Adds Willis' Reynolds: "There's not always the deepest level of awareness of environmental risks." He adds that if a company doesn't manufacture a chemical or handle hazardous waste, the risk manager may not see the need for an environmental policy.

Unlike a large company that will automatically buy a basic stand-alone environmental policy or a small chemical manufacturer that faces obvious potential hazards, some companies with less obvious risks are left with gaps in coverage that could devastate their bottom line.

"There are lots of potential opportunities to create a polluting event," says Liberty Mutual's McElroy.

He noted, for example, that most companies are storing fuel somewhere on site in order to power their machinery or simply meet their electricity needs.

McElroy says he believes more small and midsize companies are taking a look at their environmental insurance needs.

"There's a consistent growth in the awareness of environmental insurance," he adds. "It's part of the general social awareness that is becoming more ingrained in business."

And, McElroy points out, it's not just the legal and financial risks of being saddled with an unexpected chemical spill or a leaking storage tank filled with oil.

"It's also the reputation of your business. A risk like this can affect the position of the company ? the brand," adds McElroy. "Everybody is concerned about these risks. And its encouraging more and more companies to buy this insurance."

PAULA L. GREEN, a staff writer with a New York-based finance magazine, is a frequent contributor to Risk & Insurance®.

April 1, 2005

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