Asbestos Costs Rise For Defendants, Insurers

Asbestos costs are a problem even in broader contexts. Tillinghasts recently released study of U.S. Tort Costs (2002) found that nearly 20 percent of the increase in 2001 was attributable to asbestos litigation.

In the past few years, plaintiff claim filings have surged, settlement values have escalated, numerous defendants have sought bankruptcy protection, remaining solvent defendants have faced increased pressure to foot the bill, and new peripheral defendants have been drawn into the litigation.

Insurers have responded to the deterioration in the overall asbestos litigation environment with increasing levels of asbestos reserves. Changes in insurers reserve estimate changes are driven primarily by:

Insurers recognition that the recent increases in both filing levels and average settlement values are likely to be a new plateau rather than a transient spike for many of their policyholders, resulting in potential liabilities being recorded against previously untouched policies;
Increasing numbers of new, peripheral defendants (policyholders with un-eroded limits) being brought into the asbestos litigation morass;
More aggressive attempts by some policyholder defendants to access their non-products coverage; and
Better identification of exposed policies, which were written decades ago, and often have not been summarized into a readily accessible electronic format.

Because of changes to the asbestos litigation environment, the estimation parameters (and the resulting projections) used in quantifying asbestos liabilities have changed significantly.

When using benchmark measures, such as market share, survival ratios or aggregate development techniques, the standards have changed. For example, the "universe" of insured liabilities used in market share techniques has increased to reflect the deterioration in the litigation environment, and survival ratio standards now reflect the potential ultimate liability of the industry rather than just a comparison to peers.

Ground-up exposure-based modeling is clearly the most thorough form of analysis for asbestos liabilities, since it explicitly considers the experience of individual defendants and the exact insurance coverage extended to them. However, the modeling requires a great deal more than an insurers claim and policy listings.

Basically, analyzing the ground-up exposure means identifying the underlying insureds that will present claims, projecting the ultimate liabilities for each, allocating the losses to year, and comparing them to all identified coverage that is available to respond to the claims.

So beyond looking at claims and policy listings, insurers have to make judgments about how many more claims will be made against known defendants, how many new defendants will be brought into the litigation, and, of course, how much each of those types of claims will cost.

Until recently, many insurers tended to use historical averages to estimate the number of future claims per year, for example the average of the past five years. However, because of the rapid increase in annual claim filings, the five-year average tends to be much lower than the current years filing rate for many defendants. Thus, the use of longer-term historical average filing rates can depress the estimates of future costs, relative to estimates that would be produced using the current years experience.

Similar arguments apply to average claim costs and the annual number of newly reported defendants.

Another factor in the increasing reserve estimates is the movement from products towards non-products claims. Such claims are not new. Premises claims have been made for years by energy companies and other firms with high temperature operations.

However, as defendants exhaust their products aggregate limits, those defendants who have a basis for doing so can gain additional coverage by re-classifying appropriate claims as premises or operations related.

The operations claims arise primarily from installation subsidiaries. Operations claims also are not new, but have a higher profile with recent litigation and settlements, and the ultimate liability for insurers is extremely uncertain.

While appropriate consideration of the expanding defendant list and non-products claims is important, our experience indicates that a significant portion of the recent round of reserve increases relates to increasing reserves for large, known defendants. The increases have been driven by two factors: increases in defendant level losses and identification of additional insurance coverage to respond to the losses by insurers or policyholders.

As discussed previously, ultimate loss estimates have increased significantly for many defendants due to the changes in the asbestos litigation environment. These changes include increases in claim filings as well as increases to the average settlement values across all disease types, with defendants accessing higher layers of coverage than initially contemplated.

The second portion of this increase relates not to the litigation environment, but to better coverage identification. As defendant losses increase, the policyholders search for ways to shift the costs to their insurers. Additionally, as insurers perform exposure-based modeling exercises, they often conduct comprehensive reviews of policy records for large defendants, resulting in more identified policies, and thus a higher recognized exposure for some insureds.

The changes to the litigation environment make the use of exposure-based analysis even more important, since not every insurer will see a proportional increase. For example, an insurer with significant unreserved limits on major traditional defendants is likely to require a larger increase. In contrast, an insurer with exposure to smaller peripheral defendants may see many more of its policyholders named in asbestos suits, but a smaller indicated reserve increase.

Such distinctions become apparent under the lens of an exposure-based analysis, but can easily be missed by an aggregate (less-detailed) approach.

Beyond the carried reserves and the underlying methodology, industry analysts are placing additional emphasis on improved disclosure. After recent analyst teleconferences, aggregate techniques applied to Note 29 figures are no longer sufficient. The industry is being held to a higher standard regarding the disclosure of asbestos liabilities.

Many recent disclosures have provided details regarding:

The number of Wellington defendants insured, and whether they are reserved to limits. (Wellington defendants are 34 early, major defendants who signed the Wellington Agreement and created the Asbestos Claims Facility as a way to resolve claims outside of the tort system, reducing legal costs and ending many disputes regarding insurance coverage);
The remaining unexhausted limits for large traditional defendants; the distribution of current reserves by group (large versus peripheral); and
The size of the provision for incurred but not reported (IBNR) losses.

Ground-up exposure-based modeling exercises are rigorous, intensive exercises for insurers that require significant time and resources. The predictive value of these exercises can be enhanced through a few important areas:

Realistic evaluation of the insureds ultimate losses, reflecting both the increased level of filings and the higher settlement values;
Comprehensive search for exposed policies, including the higher layers and later years which might not have been initially expected to respond to these claims;
Consideration of policyholders ability to access additional coverage beyond the traditional products limits via premises and operations coverage; and
Reasonable provision for IBNR losses reflecting future development on identified risks, along with future reporting from as-yet unidentified exposures.

While the estimation of asbestos liabilities is no simple task, several projection methods have been formulated and utilized. Top-down methods or industry rules of thumb such as survival ratios, aggregate development and market share techniques often cannot adequately measure the true underlying exposure. These approaches can serve as useful benchmarks, but are highly sensitive to insurers settlement and reserving philosophies, and can easily be distorted or misinterpreted without an adequate understanding of the nature of the underlying business.

Exposure-based modeling, on the other hand, by definition incorporates the underlying claim potential and coverage information at the insured level. This process, supplemented with a reasonable provision for IBNR to reflect unidentified exposure, can provide a better estimate of an insurers ultimate asbestos liabilities.

The insights gained from this process can be invaluable, equipping the insurer with the information needed to better manage its exposure and respond to external audiences.

Jenni Biggs is a principal of Tillinghast-Towers Perrin in the St. Louis office, while Mike Angelina is a principal in the firms Philadelphia office.

Reproduced from National Underwriter Edition, March 24, 2003. Copyright 2003 by The National Underwriter Company in the serial publication. All rights reserved. Copyright in this article as an independent work may be held by the author.