Greener on the Other Side: A Financial Officer’s Role in Mitigating Risk
May 10, 2013
This article first appeared in the January/February 2013 issues of Building Profits, the official magazine of the Construction Financial Management Association.
Green Building Can Have Your Organization Seeing Red If You’re Not Involved From the Start
As sustainability standards and expectations are heightened across the country, construction firms are increasingly seeking sustainable projects that will either build to Leadership in Energy & Environmental Design (LEED) standards or achieve certification. Participation in green-built projects reflects positively on a firm’s commitment to supporting the environment, opens doors for future green construction opportunities and offers the allure of increased profitability. While the benefits to the environment, community and construction firm are undisputed, there are significant risk exposures lurking just beneath the grass-covered surface. To achieve optimum return on investment, construction firms need to mitigate the inherent risks associated with sustainable building, and CFOs, controllers and financial managers within construction companies have a critical role to play in this endeavor.
The first step in mitigating risk is to understand how the risks emanating from green building differ from those emanating from traditional building. From pollution and environmental hazards associated with brownfield sites to the unique safety considerations surrounding vegetative roofs and the use of untested sustainable materials, it is evident that green-built and LEED-certified projects are fraught with risks that are not usually at issue in traditional projects. By paying careful attention to the additional risks involved in green building, financial officers can help provide stronger assurance that their firm’s investment in a project is protected.
Take a Seat
In order to achieve the best possible ROI on a green building project, financial officers need to be even more involved with the project stakeholders than on a traditional building project. It’s imperative that the financial officer has a seat at the decision-making table. With the right knowledge, financial officers can increase the profitability of a green-built project tremendously while reducing the firm’s exposure to risk – if they are involved in the firm’s planning, bidding, negotiating process as well as the insurance and safety program.
Get a Road Map
Whether the project is being built to achieve LEED certification or to LEED standards, it’s necessary that the financial officer has a clear view of the hurdles on the horizon. Insist on a Design Charrette -an initial collaborative session during which your firm’s contractors and engineers meet with the architect and project owner to discuss potential solutions to the design challenges they foresee. More importantly, it allows everyone who participates to be a mutual author of the project’s plan. The outcome of this session will be your road map to ensure seamless collaboration between your firm and the other parties involved so performance goals are achieved efficiently and your firm is compensated as agreed upon. As a financial manager, if you receive bid documents with no Design Charrette included, consider it a major red flag. The Charrette is critical to identifying the sustainable concepts and strategies as well as aligning your construction firm, the owner and the architect – without it, the contractor is bidding blindly.
If the bid documents don’t include a Charrette, take charge. Although it is atypical for the financial manager to initiate a Charrette, it is a critical first step to ensuring a healthy ROI. As a financial officer, you should feel empowered to immediately facilitate a meeting with the owner and design professionals so that all parties agree on expectations as it relates to the construction firm.
Overall, LEED requirements do bring out the best in integrating the owner, designer and contractor, however you must be diligent in initiating such collaboration early on in the bid process to adequately manage expectations and ensure your firm’s responsibilities.
Mind the Low Bid
When it comes to increasing profits in a LEED-registered project, there are many unforeseen costs not associated with traditional building that are often overlooked. The lowest subcontractor bid can look tempting, but a savvy financial officer must conduct a comprehensive assessment of all the non-traditional costs before accepting such a bid. If a subcontractor’s bid has not accounted for things such as the increased cost of materials, equipment that meets functional performance specifications outlined in the design or the time and cost of performing functional testing on materials and equipment to ensure they will perform as designed, do not accept it, as it will later become a burden to your firm’s profitability.
In addition to accounting for such costs, you must ensure that subcontractors have the necessary experience to meet the demands of the LEED checklist. The last thing you want is an inexperienced subcontractor laying down carpet without first following the appropriate off-gas procedures; an oversight like that could cost you air quality credits that would have been earned otherwise.
Avoid the Blame Game
If not properly managed, green-build projects can be cost prohibitive, but fortunately, special attention to the contract can significantly enhance your firm’s profit margin. In order for the project owner to capitalize on tax credits or other cash-flow opportunities such as surplus energy sell-off or increased occupancy rates, specific performance requirements within the design may be required. Unless these metrics and standards are clearly defined in the contract, the construction firm could be held responsible for not meeting expectations.
A thorough review of the bid documents and agreement on the clarifying particulars are critical from the outset; this should include a detailed assessment of all materials used and contractual obligations for each. With so many new materials being used in green-build projects, from vegetative roof membrane to low-VOC flooring adhesive, it is easy to find your construction firm in the middle of a blame game with the product manufacturer. To avoid this finger-pointing and the resulting claims that could follow, be sure that your contract clearly defines your installation obligations versus product warranties.
Amend Express Warrenties
Standard LEED contract templates will include the terms: “declare,” “affirm” or “certify,” which imply that your construction firm warrants or guarantees that its work will achieve a level of performance (i.e., LEED standard). Since such claims are non-defensible, every General and Professional Liability policy will contain a standard exclusion for Express Warranties/Guarantees, raising concern over insurability of the contract. In order to reduce your firm’s exposure, avoid signing warranties/guarantees in contracts. Instead, have the contract amended to include Rating Satisfaction language that clarifies that your firm will endeavor to design/build to a performance standard. The “endeavor to” language is less stringent.
Adhere to the Timeline
Realization of tax credits and satisfactory completion of LEED documentation often contain a milestone or deadline component. As the financial officer, it is your responsibility to ensure that these milestones are incorporated into your firm’s overall project plan – for example, failure to satisfy application requirements for the Final Credit Certificate prior to its expiration date, such as obtaining a certificate of occupancy, would disqualify the project owner from obtaining the credit. As a result, damage claims against your construction firm for both negligence and breach of contract may be the owner’s only recourse to obtain financial compensation for the lost tax credits.
Not Your Standard Builder’s Risk Policy
With green-built projects, there are several components that need to be addressed within the insurance program, and properly identifying those components and the ways the risks can be mitigated is vital. Although every insurance program is unique, the most common components to be addressed in addition to your standard property and casualty coverages include Builder’s Risk and Professional Liability coverage.
Green construction has created new property exposures that are not adequately covered by a traditional Builder’s Risk policy. In general, there are no standard Builder’s Risk policies in the marketplace, but there are several green construction enhancements that are becoming more popular and readily available.
Some carriers have developed “Green Building Coverage” endorsements, and other carriers have developed a “Green Builder’s Risk” form. These forms and endorsements include coverage for things such as:
- the increased cost of removing debris following a loss to a recycling facility instead of a landfill
- the increased cost to restore indoor air quality following a loss
- the cost to recertify a building to the level it was prior to a loss
- the increased cost of having to purchase electricity from the power grid versus the renewable energy source that has been damaged during the course of construction
Many of the coverages will be provided with a sublimit of insurance, which may be significantly less than your actual exposure, so it is important that these limits be reviewed carefully.
Delay in Completion Coverage
Another Green Building Coverage enhancement available in the marketplace is Delay in Completion coverage. This enhancement provides coverage for the loss of net income due to the delay caused by having to recertify a building’s green status. This enhancement may also cover the loss of energy- generating income or the surplus power that could have been resold to the power grid during the delay period had a loss not occurred.
Professional Liability Coverage
Another vital coverage for any contractor who actually designs green systems is Professional Liability coverage. Your standard General Liability policy only provides coverage for Bodily Injury, Property Damage, Personal and Advertising Injury. General Liability policies do not provide coverage for Economic Losses that could arise out of a Green Building not performing how it was designed to perform. For example, if a contractor makes a design modification to the hot water circulating system, resulting in increased utility and operating expenditures, it could lead to an economic loss type claim. A Professional Liability policy does provide coverage for this type of scenario.
Builder’s Risk and Professional Liability policies are critical components to any sound insurance program for a building contractor. A thorough review of all the terms and conditions of these policies should be performed by your insurance broker prior to beginning construction to ensure that you are appropriately covered. Although these coverages are not unique to Green Construction, there are specific exposures unique to Green Construction that need to be addressed in traditional insurance policies. In addition, consultation with your firm’s insurance broker and legal counsel regarding any specialized indemnification and/or satisfaction of insurance requirements is always encouraged to reduce your firm’s overall liability exposure.
The stringent LEED credit system offers contractors the guidance they need to produce a sustainable facility, but with those credits also come safety concerns that must be addressed in order to avoid costly insurance claims. Be sure to get your insurance broker and safety consultant involved early in the process. By informing them of the green design elements planned for your project, your firm’s safety consultant can provide adequate training, and your firm’s broker can supplement your own training and leverage the resources that your insurance company can bring to the table. In particular, there are four (4) loss control considerations that you should discuss with your insurance broker and safety consultant:
1. Site Selection
To obtain maximum Site Sustainability credits, project owners often seek out locations that have been declared brownfield sites (abandoned or underused industrial and commercial facilities available for reuse) and also sites with consideration to proximity to mass transportation, population density and accommodations for electric vehicles and bicyclists.
The development of brownfields may be complicated by real or perceived environmental contamination. The land is often contaminated by low concentrations of hazardous compounds such as lead, polychlorinated biphenyls (PCBs), mercury, hydrocarbons and asbestos. Additionally, such sites often pose unique pollution exposures created by working near subways, railroads and waterways.
Because site selection hazards are almost always present, construction firms need to evaluate the numerous insurance products available in the current marketplace to address environmental liabilities arising from projects constructed on remediated properties. Various forms of coverage can be pursued to insure against existing and unknown pollution conditions as well as pollution conditions arising out of the construction work being performed. Each of these insurance products deserves consideration depending on the specifics of the work and the selected project site.
2. Material Reuse
Credits are offered for reuse of building materials, which often require some of the materials to be abated of lead paint in the case of reusing steel beams or exposed wooden beams, or stripped of hazardous compounds such as mercury in the case of reused electrical devices. Your insurance broker can advise your firm on best practices and ACGIH & OSHA standards for protecting employees during this phase of construction.
3. Vegetative Roofing
Vegetative roofs are an ideal way to maximize LEED credits for reducing heat island effects, utilizing maximum green space and capturing and reusing rain water. However, vegetative roofs also present a unique condition for worker-fall protection during construction. The lack of exposed concrete and steel on a rooftop creates new challenges in providing construction workers with fall-arrest anchor points, as well as falling-object protection for those below.
4. Indoor Air Quality (IAQ) Control
During the final phases of construction and just prior to occupancy, the U.S. Green Building Council (USGBC) and Sheet Metal and Air Conditioning Contractors’ National Association (SMACNA) place minimum expectations for continuous air exchanges. This challenge creates new demands of ventilation during final construction activities, such as painting, drywall and plastering, floor and carpet installation and waterproofing. While such activities may not have posed concern under traditional building conditions, the progressive LEED requirements for ventilation may now present your firm with a new series of occupational health concerns.
5.Trust a Green Team
It’s true what they say: it’s not always greener on the other side. Green-built and LEED-certified projects can have your company seeing red if you don’t take the precautions necessary to mitigate risk. While the additional work to satisfy the requirements of a sustainable project may at first be daunting, the ultimate rewards can be considerable. It is vital that the financial officer for the construction firm be actively involved in both the planning and bidding process and in the insurance/safety program.
A thorough review of the contract and incorporation of the aforementioned items within your project management system can reduce your liability exposures considerably. And consultation with your insurance broker and legal counsel regarding any specialized indemnification and/or satisfaction of insurance requirements is always encouraged to reduce your overall liability exposure.
Brokers who understand the risks associated with green-built construction are better equipped to structure the insurance coverages for these projects. As one example, Builder’s Risk policies do not automatically cover some of the unique aspects of a LEED project, such as the loss of earnings from an inability to achieve energy credits or sell off surplus energy due to a loss or the additional soft costs associated with rebuilding to LEED standards. Keeping your broker informed on the extent of these projects will result in a more comprehensive insurance program to address these green-specific exposures.
Carl Bloomfield, AAI
Managing Director, Vice Presidentcbloomfield@grahamco.com
The Graham Building
Philadelphia, PA, 19102
James P. Marquet
The Graham Building
Philadelphia, PA, 19102