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CASUALTY LOSS RESERVE SEMINAR SESSION 2 SEPTEMBER 10, 2001

CASUALTY LOSS RESERVE SEMINAR SESSION 2 SEPTEMBER 10, 2001. CONTRACT SURETY CASE RESERVES STEPHEN J. TRECKER SENIOR VICE PRESIDENT XL SURETY PHILADELPHIA, PA. CLAIMS PROCESS. Investigation of the Financial Condition of the Principal Reasons to Investigate

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CASUALTY LOSS RESERVE SEMINAR SESSION 2 SEPTEMBER 10, 2001

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  1. CASUALTY LOSS RESERVE SEMINARSESSION 2SEPTEMBER 10, 2001 • CONTRACT SURETY CASE RESERVES • STEPHEN J. TRECKER • SENIOR VICE PRESIDENT • XL SURETY • PHILADELPHIA, PA

  2. CLAIMS PROCESS • Investigation of the Financial Condition of the Principal • Reasons to Investigate • Claims Made Against the Bonds by the Beneficiaries of the Bonds • Requests for Financial Assistance • Requests from Underwriting

  3. CLAIMS PROCESS • Investigation of Surety’s Liabilities Under Bonds • Performance Bonds • ”Excess” Completion Cost • Delay Damages (Actual & LD’s) • Marginal Legal, Architectural and Engineering Fees • Labor and Material Payment Bonds • Replace Lien Rights on Public Projects • Indemnify Subcontractors, Suppliers, Laborers • Delay Damages

  4. CLAIMS PROCESS • Methods of Satisfying Performance Bond Obligations • Financing - Infuse Capital to Avert a Default • Takeover - Become the Contractor of Record • Tender - Arrange for Others to Complete • Owner Completion - Allow Owner to Complete • Deny Liability - Litigate

  5. CLAIMS PROCESS • Labor and Material Payment Bond Claims • Subcontractors, Suppliers, Laborers, Unions • Delay Damages • Claim for Extra Work • Pay if Paid • Ratification

  6. CLAIMS PROCESS • Investigation Summary • Amount of Money Left in Contracts • The Estimated Cost to Complete the Work • The Amount of Unpaid Subcontractors and Suppliers • Quality of Work • Condition of Books and Records • Salvage Possibilities

  7. CLAIMS PROCESS • Basic Case Reserve Calculation • Contract 1Contract 2 • Original Contract Price $1,000,000 $2,000,000 • Approved Change Orders $125,000 $100,000 • Revised Contract Price $1,125,000 $2,100,000 • Paid by Obligee to Principal $625,000 $500,000 • Contract Balance $500,000 $1,600,000 • Cost to Complete the Work $700,000$1,300,000 • ($200,000)$300,000 • Labor and Material Payment • Bond Claims $175,000 $100,000 • Surplus/Deficit ($375,000) $200,000 • Contingency %

  8. CONTRACT SURETY RESERVES ISSUES • Accuracy - Adequate and Not Redundant • Gross or Net - Contract Balances and Cash Collateral • Date of Loss - Insolvency of Principal

  9. ACCURACY OF RESERVES • Completion Method Issues • Financing • Cost to Complete is Principal’s Optimistic Estimate • Variable Home Office and Field Overhead • Employee Morale • Managerial/Technical Weaknesses • Ability and Willingness of Obligee to Pay • Timing Differences in Cash Flow

  10. ACCURACY OF RESERVES • Takeover • Must Collect the CB’s • Ability to Pay • Bond Penalty • Tender • Clean, Pay Net Damages • Owner Completion • Clean, but Lose Control, Pay Net • Deny Liability • Litigation • ALAE • Owner Damages

  11. ACCURACY OF RESERVES • Contract Payment Methods • Unit Price Contracts • Quantities are Only Estimated Until Final Completion • Excavation Contracts - Cubic Yards • Sewer & Water Pipe - Linear Feet • Over/Under Runs Not Known Until Final Completion and Measurement • Cost + Fixed Fee or % • Final Cost is Not Known Until Final Completion • Stairstepping as Costs Increase

  12. ACCURACY OF RESERVES • Cost + Fixed Fee with GMP • GMP Moves with Remedial Work • GMP Close to Fixed Price • Fixed Price • Remedial or Corrective Work is Cost + • Successive Defaults

  13. ACCURACY OF RESERVES • Quality of Principal’s Work • Construction Defects • Patent • Latent • Not Included in Completion Price • May Require other Work to be Torn Out and Re-Done • Time Sensitive (Delay Damages)

  14. ACCURACY OF RESERVES • Integrity of the Principal • Access to Book and Records • Access to Key Project People • Candor of Management and Technical People • Admission of Errors and Problems • Fraudulent Transfers

  15. ACCURACY OF RESERVES • Bankruptcy • Time - Automatic Stay • Trustee Fighting for CB’s • Assumption/Rejection of Contracts • Fraudulent Transfers

  16. ACCURACY OF RESERVES • Condition of Books & Records • A/P Posting • Accurate Updated Cost Records • Legitimate Back Charges (A/P Reduced)? • Held Checks (A/P and Cash Reduced)? • Change Orders Only in System if Approved

  17. ACCURACY OF RESERVES • Size of Contractor • Geographical Diversification of Contracts • Complexity of Work • Number of Contracts in Process • Overhead

  18. GROSS OR NET • Contract Balances • Collateral • Completion Options • Cash Flow • Negative Reserves • RCP $1,000,000 • Paid by Obligee to Principal $700,000 • Contract Balance $300,000 • Cost to Complete $500,000 • $200,000 • Labor and Material Payment Bond Claims $150,000 • Net Reserve $350,000

  19. DATE OF LOSS ISSUES • Loss is Not Fortuitous • Risk is Insolvency • Claim File Opened Before Date of Loss • Reserve Date • When is Principal Solvent • Systems Problems, Effective Date and Expiration Date of the Bond

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