Aon Infrastructure Solutions
Aon Risk Solutions | Construction Services Group
Insurance Considerations for the
Operational Phase of
Public-Private Partnerships
October 2015
Risk. Reinsurance. Human Resources.
Aon Infrastructure Solutions
Aon Risk Solutions | Construction Services Group
The Public-Private Partnership (P3) model includes two primary components that differentiate it
from a more traditional form of procurement. First, P3s include varying degrees of private
project financing for the construction, operations and maintenance of an infrastructure asset.
The element of project financing in P3s brings a layer of due diligence and oversight to the
procurement and design that enhances the risk profile of the project. Further, it creates an
equity component through which the private sector has a financial interest in the success of the
project. The second differentiator of the P3 model is its inclusion of a long-term concession
period, usually thirty years or more, during which the private consortium is responsible for either
operations, maintenance or both. This creates a long term obligation for the private entity and
requires careful consideration of the lifecycle costs of the asset at the design stage, unlike
traditional procurement. It also means that the private sector is responsible for insuring
operational infrastructure assets throughout the duration of the concession period. This creates
a unique asset class and raises several complications with the pricing and placement of
insurance. This paper discusses several unique considerations to P3s and concludes with some
recommendations on how to mitigate risk and achieve an efficient insurance placement during
the long-term operations and maintenance term.
P3s as an Asset Class
Operations and maintenance by definition include substantially different activities than
construction. This difference is further emphasized by the fact that infrastructure can represent
varying types of assets or structures. Operating a hospital is significantly different than operating
a road or public transit system. Traditionally insurers are organized by risk category where
infrastructure would be split across a number of different departments including engineered risk,
mid-sized commercial and large/global risks. This results in P3s falling under several groups
within one insurer and where they are blended with other traditional risks in their category,
losing the distinction of having a more sophisticated approach to risk management.
Sovereign Immunity
Civil infrastructure projects face a separate set of challenges relating to liability insurances,
particularly in the US. Many insurers are wary of the impact that sovereign immunity may have
on underwriting practices. Sovereign immunity is the legal privilege by which the American
federal, state and tribal governments cannot be sued. State and local governments in most
jurisdictions enjoy immunity from some forms of suit. Following the passing of the Federal Tort
Claims Act, each state passed some version of a Tort Claims Act, Government Liability Act or
Court Claims Act. These laws waive sovereign immunity for public entities and employees, with
varying exceptions. Some states retain sovereign immunity for claims arising from: snow or ice
conditions; malfunction, unauthorized removal of traffic or road sign; and other situations. More
than half of all states have regulation limiting the value of a claim that can be brought against
the state. While there are varying levels of protection from liability claims for state and local
governments, these benefits do not extend to the private sector and they remain fully exposed.
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Insurance Pricing Risk
There are two key types of pricing risks to consider in a typical P3 procurement. The first is the
price of insurance throughout the life of the concession period. The second is the pricing
volatility between bid submission and when the first operational insurance policies are placed.
An understanding of how the risks are allocated and how annual service payments are adjusted
is needed to fully understand the depth of these pricing risks.
To date, all P3s procured in the US shift the risk of pricing volatility during the concession period
to the private sector. This approach was also implemented in the recent project closed by
Infrastructure Canada, the New St. Lawrence Bridge Crossing, and is expected to become more
prevalent in the Canadian market. Under this approach, the pricing risk is shifted so that the
private sector is fully responsible for pricing changes within a certain percentage of the
benchmark, after which a cost sharing mechanism begins, known as a premium threshold. The
purpose of a premium threshold is to impel the private sector to actively work to constrain
premium increases because they will be responsible for paying a portion of increased
premiums. However, in reviewing historic market information and comparing it to premium
thresholds seen in a standard P3 agreement, it is clear that there are very few situations in
which cost-sharing would actually occur, leaving the majority of the exposure to changes in the
cost of insurance as the sole responsibility of the private sector, which has no control over
general insurance market fluctuations. For a more detailed analysis of this please refer to the
Aon publication titled, “Operational Insurance Benchmarking and its Role in Public-Private
Partnerships.”
In jurisdictions where insurance pricing risk is not transferred to the private sector during the
concession period, the risk of a change in pricing from bid to binding the first year of operational
insurance may still remain. This risk depends greatly on how the project agreement is written
and is presented in many different forms depending upon which authority or agency is running
the procurement. Some agreements have clearly set provisions for allowing adjustments based
on market rates at the time of binding and costs carried in the submitted financial model. Others
shift the entire risk to the private sector with the view that the cost of insurance is no different
than all of the other operational costs for which they carry the pricing risk. This risk can be
further multiplied by the fact that an error in estimating the cost of insurance for the first year can
carry through for the life of the concession period and depending on the annual adjustment
provisions, an adjustment in a service payment from the authority may not be allowed.
Coverage Structure
Deciding on purchasing project specific insurance or relying on a corporate practice policy for
insurance during O&M is another issue that project bidders face. In the US P3 procuring
authorities are gradually allowing bidding teams the opportunity to use corporate practice
insurance to meet the insurance requirements of the project agreement rather than requiring
Insurance Considerations for the Operational Phase of Public-Private Partnerships
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project-specific insurance. In Canada, project agreements almost always require dedicated,
project specific limits.
Using a corporate practice policy to meet the agreement’s requirements can appear to be
financially beneficial, however, there are a few drawbacks to consider before ultimately
choosing between the two options. First, corporate insurance limits can be eroded by losses on
other projects. This could potentially create non-compliance with the agreement if the policy is
not effectively managed. Second, project specific policies often include coverage for multiple
parties under one policy and providing evidence of corporate policies increases administration
and the likelihood of a gap should a claim arise. Third, lenders often set their own requirements
beyond those set out in the project agreement in which they often insist on project specific
insurance to ensure that their interest is adequately protected. Finally, including additional
assets and operational exposure under a corporate policy can change its rating and premiums
potentially increasing the cost of this insurance.
Control of Procurement
Deciding who is best suited to control the procurement of operational insurance is a multifaceted decision. The lead operational or maintenance contractor and the project sponsor or
lead equity provider are both equally suited to procure operational insurance. Consideration
should be given to the allocation of risks in the contract, but there are several other factors that
are also important: Is there a relationship between the equity provider and contractor and if so,
do they have a standard arrangement for who procures insurance? Is there an anticipated sale
or change in equity structure, and is it perceived to add value to the transaction if the equity
provider controls the insurance? Which party has a larger existing portfolio or greater leverage
in the market for these types of coverages? Whichever way it is decided is best for the project,
the control of procurement should be a thoughtful, conscious decision rather than a result of last
resorts.
Insurer Considerations
As a unique and relatively new asset class in North America, operational P3s present some
challenges to Insurers. Traditionally, infrastructure assets are the responsibility of municipal,
state, provincial or federal governments, and insurance is not always purchased. Governments
often self-insure or, if insurance is obtained, infrastructure is included in a large portfolio on
which a high retention is secured making historic information difficult to piece together.
Additionally, there are relatively few P3s that have been in operation in North America for a
period long enough to provide a claims history, particularly for civil infrastructure projects. This
reduces the willingness of insurers to offer credits and discounts for the additional oversight and
risk management built into P3s.
Lastly, a key component of an insurer’s rates and constraints is their cost of reinsurance which
is reviewed and adjusted annually. This often limits their ability to offer multi-year policies
Insurance Considerations for the Operational Phase of Public-Private Partnerships
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without seeking exceptions from their reinsurers, which can take a significant amount of time, or
requiring an adjustment clause to pass on changes in reinsurance costs.
Recommendations
Insurance for operational assets is quite different than project insurance during the construction
phase and there are several strategies to ensure an efficient and effective insurance placement
is created for the operational phase of a P3.
The first is to engage your risk advisor and broker early in the procurement process for best
advice and guidance on terms in the project agreement and assumptions to include for
operational insurance coverages.
Next, focus on building strategic relationships with insurance market partners and invest time to
help underwriters fully understand the differentiating factors of a P3. This includes consideration
of choice of insurers, strategy around which insurers are approached during the bid stage and
clearly outlining the exposure. Strong relationships can help achieve multi-year agreements and
policies. It can also incent underwriters to create innovations to help tailor coverage to the
unique aspects of a particular project.
Lastly, view your portfolio of P3 assets as a whole and where possible make decisions on a
program basis rather than project by project. Utilizing strong insurer relationships and leverage
from a portfolio of multiple assets builds a strong case for preferred rates and coverage
enhancements. It is also important to consider if it is more beneficial to have the lead
operational or maintenance contractor procure the insurance, or the project sponsor and lead
equity provider. A review of each of their portfolios, market relationships and ability to leverage
other assets should be considered. Viewing assets individually and deciding on a transactional
basis may achieve some initial cost savings, but taking a holistic approach to a portfolio allows
efficiencies to be built that will carry forward over time creating more effective coverage and
reducing the overall cost of risk.
Aon has designed a unique program for operational P3 assets that has achieved many
additional benefits and cost savings. This program is able to place insurance for P3 assets that
are already in operation and assets ready to transition from construction to their first year of
operations. It is currently available to assets located in Canada and in the process of being
expanded globally. In addition, this program can be used to provide benchmarking and
guidance during the bid stage. Please contact your Aon representative or the authors of this
article if you are interested in learning more.
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Aon Risk Solutions | Construction Services Group
Contact Information
Alicia Templeton
Associate
Aon Infrastructure Solutions
Construction Services Group
+1 (604) 443-2511
alicia.templeton@aon.ca
Michael DeLio
Analyst
Aon Infrastructure Solutions
Construction Services Group
+1 (312) 381-3249
michael.delio@aon.com
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Aon Risk Solutions | Construction Services Group
About Aon
Aon plc (NYSE:AON) is the leading global provider of risk management, insurance and reinsurance
brokerage, and human resources solutions and outsourcing services. Through its more than 66,000
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© Aon plc 2015. All rights reserved.
The information contained herein and the statements expressed are of a general nature and are not intended to address the
circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information and use
sources we consider reliable, there can be no guarantee that such information is accurate as of the date it is received or that it will
continue to be accurate in the future. No one should act on such information without appropriate professional advice after a
thorough examination of the particular situation.
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