Insurance Provisions and Risk Transfer
Most organizations rely to some degree on third parties to provide goods or services. Contractors will frequently use sub-contractors on a project. In some cases, those sub-contractors further sub-contract creating third and fourth level supplier relationships. Product manufacturers often incorporate components supplied by third parties. Retailers almost always depend on third parties to provide the goods sold. Even professionals utilize third parties for some functions. Using third parties can provide significant flexibility and efficiency but when an organization relies on third parties, the organization is exposed to risk and potential liability based upon the actions of those third parties.
Protecting Your Organization
While an organization facing potential liability based upon the actions of a third-party may have recourse or protection from that party through indemnification or hold harmless obligations in contracts or laws, relying solely on that risk transfer technique depends on the third-parties ability to provide that protection. Therefore, requiring the third-party to obtain and maintain appropriate insurance that protects the organization is a critical risk mitigation tool.
- Do you know which third-parties are required to have insurance coverage sufficient to protect your organization?
- Do you have a standard insurance requirement that should be included in all third-party contracts?
- Do you know which contracts deviate from the standard requirement and are you comfortable with the risk associated with those contracts?
Fulfilling Your Promises
As a supplier of goods or services, your customers may require you to obtain and maintain certain specific insurance coverage and to include them as an additional insured for liability arising out of the goods or services you provide. In entering contracts, you may attempt to negotiate consistent, uniform insurance requirements but in the end, you will make business decisions on what coverage you are willing to obtain and maintain to acquire or keep a customer. As a practical matter, the desire for contracting consistency may be trumped by the desire for customers.
- Do you have a clear and complete understanding of the coverage, including type and limits that you agreed to maintain to protect your customers?
- Are you confident that you have all the coverage you promised to provide?
- Do you know what coverages can be eliminated or reduced if contracts expire?
Insurance Provisions
Depending upon the preference of a drafter, the same risk can be addressed in a contract using a wide range of language. This variation is particularly true when it comes to the risk covered by insurance. Some contracts are silent on the subject relying on each party to determine what insurance to maintain. Depending upon the requirements in your insurance policies, silence on the subject may impact your ability to use your coverage to fulfill any obligation to defend or indemnify your business partner.
Unilateral or Mutual
Insurance provisions can be unilateral requiring only one party to obtain, maintain or extend coverage. Alternatively, insurance provisions can be mutual requiring both parties to obtain, maintain and extend coverage.
General or Specific
Insurance provisions may require parties to generally maintain sufficient insurance to meet obligations. This approach provides parties with wide discretion but increases the potential for dispute over what coverage is sufficient or customary. On the other hand, contracts may be very specific about the type of coverage, terms and limits that must be maintained. This specificity provides the desired risk transfer only if parties fully comply. A failure to comply discovered only after a claim arises is likely discovered too late to obtain the promised coverage.
Duration, Notice, Documentation
Insurance provisions can also include requirements that a party maintain certain types of coverage for a specific period even after the contract expires. Some provisions require parties to provide notice of non-renewal, changes, or cancellation. Provisions may also require parties to provide documentation confirming the coverage is in force and contains or eliminates certain provisions.
Your portfolio of contracts may contain variations on insurance provisions creating a challenge to be confident you are protected or in compliance and fully understand the latent risks in contracts. Time consuming and inefficient manual reviews using spreadsheets to track and analyze results can help answer these questions. Fortunately, advances in technology including Generative Pretrained Transformers (GPT); Natural Language Processing (NLP) and Artificial Intelligence (AI) provide an efficient and accurate alternative to the manual review and tracking.
Using technology to accurately and efficiently Identify provisions in a portfolio of contracts that create risk outside your tolerance range is a significant step but identification must be coupled with specific actions to mitigate that risk. What actions or alternatives are available if an insurance provision imposes an obligation that you are not comfortable fulfilling, creates uncertainty through lack of specificity or deviates from your desired risk transfer strategy? Technology can offer recommendations on those actions and provide insights on successful execution.
Procurement leaders must be aware of and embrace the new solutions that GPT, NLP and AI bring to identifying, evaluating, and mitigating contract risk.
Leave a Reply