INSURANCE FRAMEWORK OF LARGE SCALE CONSTRUCTION
PROJECT IN CHINA
Yan LU
Project Management Research Institute, Southeast University, Nanjing, China
Abstract: Large scale construction project, especially infrastructure project, needs a great deal of
money from a billion to a few billion. And according to relative regulations in “Insurance Law of People's Republic of China”, insurance companies in China can’t cover large scale construction projects completely and need reinsurance from international reinsurance market. After 9.11 incident, insurance ratio of construction project increased quickly in international insurance and reinsurance market. So according to situation of insurance market nowadays, two kinds of insurance framework of large scale construction project, including traditional and new, are introduced and analyzed in this paper. And a case of nuclear power plant in China is used to explain advantage of new kind of insurance framework for large scale construction project.
Keyword: large scale construction project; insurance; framework；Contractors All Risks and
Erection All Risks（CAR&EAR）
1 Introduction
Large scale construction project, especially infrastructure project, needs a great deal of money from a billion to a few billions. After 9.11 incident, insurance ratio of large scale construction project increased quickly in international insurance and reinsurance market. And according to relative regulations in “Insurance Law of People's Republic of China” (ILPRC for short), insurance companies of China are incapable of taking on insurance works of large scale construction projects completely and need reinsurance from international reinsurance market. Under this situation, insurance ratio of traditional insurance framework used in China nowadays also increased quickly. So new insurance framework of large scale construction projects need to be used to reduce insurance premium in China nowadays. In this paper, traditional insurance framework and new one is introduced and compared with, and an example of new insurance framework is introduced.
2 Insurance and Reinsurance Market
2.1 Insurance Market
Investment number of large scale construction projects is very large, so objects of insurance of large scale construction projects are large amounts. Article100 of ILPRC regulates that “The liability undertaken by an insurance company for a risk unit, namely, the maximum loss caused by one insured risk, shall not exceed 10 percent of the total of the actual capital fund plus public accumulation fund. The part in excess of the amount shall be re-insured.” (ILPRC, 2002)
Presently, 90% of insurance market in China is shared by PICC, CPIC (China Pacific Insurance Ltd) and PAC (PING AN of China), especially Contractors All Risks and Erection All Risks (CAR&EAR), almost all of the insurance market is shared by these three companies (Long 2005). In these three companies, net retained losses of PICC for one insured risk is 1.8 billion RMB, net retained losses of CPIC for one insured risk is 0.31 billion RMB and net retained losses of PAC for one insured risk is 0.166 billion RMB. So under condition of coinsurance by these three companies, the whole net retained losses for one insured risk is 2.276 billion RMB. That is to say, for one large scale construction project which investment is 5 billion RMB, the whole net retained losses for it is 2.276 billion RMB, and another 2.724 billion RMB needs to be reinsured (Lu 2006).
Compared with other nations or regions, insurance ratio of large scale construction projects in China is lower and conditions of accepting insurance are better than outside China. In China, insurance premium of CAR&EAR for construction projects is only 429.2 billion RMB, which is only 2.22% of property insurance
premium in 2001 (Insurance Surveillance and Management Council 2002). Insurance market of construction projects, especially large scale construction projects, attracts insurance companies greatly. Now some insurance companies in China sometimes decrease insurance ratio for CAR&EAR of large scale construction projects in order to share more part of insurance market. Under this condition, if insurance framework of large scale construction projects can be arranged reasonably, lower premium can be obtained and risks of large scale construction projects can be transferred better.
2.2 Reinsurance Market
Reinsurance market is composed mostly by international companies out of China. At present, reinsurance companies that can insure CAR&EAR are about 6 companies that are Muniche Reinsurance, Swiss Reinsurance, Scor, Cologne Reinsurance, and so on. Reinsurance company in China is only China Reinsurance Company. After 9.11 incident, insurance ratio of construction project increased quickly in international insurance and reinsurance market, and insurance ratio of construction project is much higher than in China. Insurance ratio and deductibles of large scale construction projects in international insurance and reinsurance market can be 50% or 200% higher than that in China (Chen 2005).
Reinsurance market can cover large number of insurance object, but insurance ratio of international reinsurance companies is according to insurance condition and risks transferred. Reinsurance market is a mature developed market and reinsurance companies in it will not decrease premium just for occupy more insurance market. If according to traditional insurance framework, international reinsurance companies will accept insurance by proportion, that is to say, international reinsurance companies will insure one large scale project with other insurance companies in China under the same condition, and indemnity will be assumed by them according to their proportion when insured losses happen. Under this condition, insurance ratio will be led by international reinsurance companies. Because of high ratio of reinsurance market, high premium will be gotten. If new insurance framework is used, insurance object such as one large scale project is divided to several levels, and international reinsurance companies can choose to accept to cover losses of one or two levels, which is attractive to international reinsurance companies so that insurance ratio can be lower under same condition as traditional framework is used.
3 Traditional Insurance Framework
In China, coinsurance is usually used for CAR&EAR of large scale construction projects. Coinsurance is traditional which means that two or more than two insurance companies insuring one project under the same condition, in which one is primary insurer, others are coinsurers (Qiao 2003). This traditional framework is usually taken on by insurance companies in China.
Coinsurance can be two kinds as following:
(1) For full coverage, the insured signs insurance contracts with two or more than two insurance companies for one object of insurance under the same insurance condition. When insured losses happen, indemnity is assumed by all insurance companies according to its proportion as shown in figure 1. In figure 1, the insured should sign insurance contracts with four insurance companies in China, in which one is primary insurer and other three are coinsurers under the same insurance condition. If losses happen, after affirmed by public surveying and assessment organization on claims, the insured need to contact with primary insurer for compensation and primary insurer will contact with coinsurers then for compensation according to their proportion.
(2)For non-full coverage, the part of non-full coverage is shown to be covered by the insured. So this kind of coinsurance can be considered that the construction project is coinsured by the insured and insurance companies. When losses happen, losses of non-covered part should be cover by the insured and other losses covered should compensated by insurance companies according to their proportion as shown in figure 2. In figure 2, the insured should sign insurance contracts with three insurance companies in China, in which one is primary insurer and other two are coinsurers under the same insurance condition. If losses happen, after affirmed by public surveying and assessment organization on claims, losses of non-covered part should be
cover by the insured and losses of covered part should be cover by insurers. The insured only need to contact with primary insurer for compensation and primary insurer will contact with other two coinsurers for compensation according to their proportion.
Primary insurer in China Coinsurer in China Coinsurer in China Coinsurer in China Primary insurer in China Coinsurer in China Coinsurer in China Coverd by insured
Figure1 Traditional Insurance Framework Figure 2 Traditional Insurance Framework (full coverage) (non-full coverage)
In traditional insurance framework, the insured only contacts with primary insurer in China, reinsurance is arranged wholly by primary insurer or coinsurer through contract reinsurance or facultative reinsurance (Zhao 2003).
Because of easy manipulation, traditional insurance framework is used broadly in China nowadays. The insured of large scale construction projects in China and insurance companies in China is used to operate traditional insurance framework now.
4 New Insurance Framework
New insurance framework (as shown in figure3-1 and 3-2) arranges insurance of large scale construction projects by separating it to several levels, insurance companies in China can insure the principal level and take part in other levels according to corresponding proportion and international marketable qualification, and international reinsurance companies can take part in levels that they are interested in. Generally speaking, international insurance and reinsurance can accept large number insurance, but because of higher ratio, good insurance framework should be designed to attract international reinsurance companies and increase competition of them to have enough ensure and reasonable premium.
In figure 3-1, part a1~a2（a2＞a1≥0）is retention of the insured, in figure 3-2, part b1~b2（b2＞b1≥0）is
retention of the insured, that is to say, when losses in insurance range happen but its numerical number is between a1 and a2 or b1 and b2, losses should be taken on by the insured. a1 (or b1) can be zero, and when a1 (or
b1)＞0, that means losses in insurance range and its numerical number is between 0 and a1（or 0 and b1）
have been shift to other parties taking part in the same large scale construction project. For example, when the insured is owner, the insured can shift losses in insurance range and its numerical number is between 0 and a1
（or 0 and b1）to contractors through some condition in construction contracts.
In figure 3-1, for insurance companies in the principal level, a2 means its deductibles and a3 means its
limitation, that is to say, insurance companies in the principal level only answer for losses in insurance range and its numerical number is between a2 and a3. For insurance companies and reinsurance companies in the top
level, a3 means their deductibles and a4 means their limitation, that is to say, insurance companies and
reinsurance companies in the top level only answer for losses in insurance range and its numerical number is between a3 and a4. By this way, risks and losses in different level can be divided to different insurance and
reinsurance companies, even insured. So in figure 3-1, insurance company A covers losses in insurance range and its numerical number is between a2 and a3, insurance company B and reinsurance company C answer for
losses in insurance range and its numerical number is between a3 and a4. For insurance company B and
reinsurance company C, when losses happen, they should compensate the insured according to their proportion singed in insurance contract. It’s the same way in figure 3-2（b5＞b4＞b3＞b2＞b1≥0）. In figure
3-2, insurance company A covers losses in insurance range and its numerical number is between b2 and b3,
reinsurance company C answers for losses in insurance range and its numerical number is between b4 and b5.
a1 b1
b2 Deductibles of insured
Principal level_ insurance company A (China) Insurance company B (China) Reinsurance company C (International) a2 a3 a4 b5 Deductibles of insured Principal level_ insurance company A
b3
Insurance company B (China) Reinsurance company C (International)
b4
Figure 3-1 New Insurance Framework Figure 3-2 New Insurance Framework
5 Analyses between Traditional & New Insurance Framework
Using new insurance framework, the insured maybe should contact with insurance companies in China and reinsurance companies outside China. Sop relative to traditional insurance framework, new insurance framework manipulates more complexly for the insured, but it’s more suitable to insurance and reinsurance market nowadays. In new insurance framework, insurance companies in China can take on risks and losses that have high probability and low numerical number. And insurance and reinsurance companies international can take on risks and losses that have low probability and high numerical number. So risks of large scale construction projects can be assigned and transferred reasonably by new insurance framework.
At present, insurance ratio of international insurance and reinsurance market is much higher than that in China, and according to relative regulations in ILPRC and limited cover of insurance companies in China, CAR&EAR of large scale construction projects need international reinsurance companies to take part in. So reinsurance ratio will touch insurance ratio of CAR&EAR of large scale construction projects directly. Advantage of new insurance framework is to reduce premium mainly. Now supposing insurance ratio of international insurance market is 200% as it in China, if new insurance framework is used, that is to say, one large scale construction project as insurance object is divided to different levels, then premium reduced compared with traditional insurance framework can be shown in table 1 (Lu 2006).
Table 1 Premium Comparing Table between Traditional Insurance Framework and New One Limitation of the principal level
（if limitation=1.5billion RMB） Reduced premium/premium of traditional framework 5 million RMB 5% - 10% 10 million RMB 10% - 15% 25 million RMB 12.5% -17.5% 50 million RMB 20% -25% 100 million RMB 27.5% -32.5%
ps：Limitation of the principal level is equal to a3 or b3 in figure 3, and limitation is equal to a4 or b5 in figure 3.
In table 1, supposing limitation (a4 or b5 in figure 3-1 or 3-2) is equal to 1.5 billion RMB, limitation of the
principal level (a3 or b3 in figure 3-1 or 3-2) is equal to 5 million RMB, 10 million RMB, 25 million RMB, 50
million RMB and 100 million RMB separately, and then premium reduced divided by premium of traditional framework under the same insurance condition will be 5%-10%, 10%-15%, 12.5%-17.5%, 20%-25% and 27.5% -32.5% accordingly. It can see that according with increasing of limitation of the principal level, premium reduced by new insurance framework will increase from 5% to 32.5%. And if increasing limitation
which is 1.5 billion RMB, premium reduced by new insurance framework can also increase more.
So under the same insurance condition and same coverage, new insurance framework can make premium about 30% lower than traditional insurance framework for CAR&EAR of large scale construction project. And more investment the large scale construction project has, premium can be reduced more evidently by new insurance framework.
Compared with traditional insurance framework and new one, it can show commonly that traditional insurance framework operates easier but cost more premium than new one, and new insurance framework operates more complex but cost less premium than traditional one. But if good designed, new insurance framework can also be easily operated as shown in the following example.
6 Example
One nuclear power plant in China adopt insurance framework as shown in figure 4 which is new insurance framework. It can seen that deductibles of this project is 1.6 million RMB, that is to say, losses less than 1.6 million are taken on by the insured. In this project, the insured is the owner, and losses less than 1.6 million RMB at last is transferred to contractors by construction contracts (Lu 2006).
Insurance company A covers losses from 1.6 million RMB to 40 million RMB, and from 40million to 10billion, insurance company A is primary insurer and cover 60% of that level , in which 40% by himself and other 20% by international reinsurance companies (insurance company A takes in insurance fee from these reinsurance companies). Insurance company B and C in China cover other 40% from 40million to 10billion RMB.
Deductibles of Insured
Principal level: insurance company A (China) Insurance company A (China) 1.6 Million 0 40 Million 10 Billion Insurance company B (China) Insurance company C (China) Re-insurance company (Internati onal) Unit:_
Figure 4 Insurance Framework of One Nuclear Power Plant in China
Under this insurance framework, if losses more than 1.6 million RMB happened, the insured only need to contact with company A for compensation. Concretely, after affirmed by public surveying and assessment organization on claims, if losses is between 1.6 million to 40 million, it should be compensated by insurance company A, if losses is between 40million to 10billion, losses under 40 million is compensated by insurance company A, losses up than 40 million is compensated by insurance company A at first, then insurance company A would find reinsurance companies, insurance company B and C for compensation according to their proportion.
In this project, insurance framework is not only easy to manipulate but also can reduce premium. The insured only needs to contact with insurance company A, so this new insurance framework is as easy as, or ever easier than traditional insurance one. This shows that if good arranged, new insurance framework also can be easily done.
This new insurance framework obtained good results in this nuclear power plant. And new insurance framework is used during next construction period of this nuclear power plant.
7 Conclusions
relative to traditional one. In international insurance and reinsurance market, new insurance framework is widely used now.
For different kinds of large scale construction projects, different insurance framework should be used according to its risk and insurance ratio given by insurance companies inside and outside China. New insurance framework is recommended to be used for reducing premium especially in China nowadays. But new insurance framework should be designed to easily operated, otherwise it will be complex for the insured to operate and can’t be popularized in China.
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